Turkey - Turkiye Elektrik Iletim As - Third Phase Energy Community of South East Europe Program

Documentof The World Bank FOR OFFICIAL USEONLY ReportNo: 34909-TU PROJECTAPPRAISAL DOCUMENT ONA PROPOSEDLOAN INTHEAMOUNTOFEURO 125MILLION TO TURKIYE ELEKTRIK ILETIMAS (TEIAS) WITH THE GUARANTEE OF THE REPUBLIC OF TURKEY INSUPPORTOFTHESECONDTEIASPROJECTUNDERTHETHIRDPHASE OF THE US$l,000 MILLION ENERGY COMMUNITY OF SOUTH EAST EUROPE(ADAPTABLEPROGRAMLOAN) PROGRAM February24,2006 InfrastructureDepartment EuropeandCentralAsia Region This document has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may not otherwise be disclosedwithout World Bank authorization.  CURRENCY EQUIVALENTS (Exchange Rate Effective {December IO, 2005)) Currency Unit = New Turkish Lira (YTL) YTL 1.35 = US$1 US$1.20 = E U R I FISCAL YEAR January 1 - December31 ABBREVIATIONS AND ACRONYMS APL Adaptable ProgramLoan EBRD EuropeanBankfor Reconstructionand Development EC EuropeanCommission ECSEE Energy Community of South East Europe EIB European InvestmentBank EMP Environmental Management Plan EMRA Energy Market RegulatoryAuthority ERP EnterpriseResourcePlanning (A business software application) ERR Economic Rateof Return ESW Economicand Sector Work EU European Union EUAS Electricity Generation Corporation ETSO EuropeanTransmission System OperatorsGroup FEAP Frameworkfor EnvironmentalAssessment Procedures FI FinancialIntermediary IBRD InternationalBankfor Reconstructionand Development IDA International DevelopmentAssociation KfW Kreditanstalt fur Wiederaufbau (Germany) LAMF Land Acquisition Management Framework MENR Ministry of Energy and Natural Resources NTGP NationalTransmissionGrid Project (Loan) OP Operational Policy PCU Project Coordination Unit SEE South East Europe SETS0 South Eastern EuropeanTransmission System Operators Task Force SPO State PlanningOrganization SUDEL Regional Group for Coordination of Electricity Transmission in the Southeast European InterconnectedSystem TEDAS Turkish Electricity DistributionCorp TEIAS Turkish ElectricityTransmission Corp TETAS Turkish ElectricityTrading and ContractingCorp TSO Transmission System Operator UCTE Unionfor the Coordination of Transmissionof Electricityin Europe USAID United StatesAgency for InternationalDevelopment Vice President: Shigeo Katsu Country ManagerlDirector: Andrew N. Vorkink Sector Manager: Sumter Lee Travers Task Team Leader: RanjitJ. Lamech  TURKEY EnergyCommunity of South East Europe APL 3 Project CONTENTS Page A. STRATEGIC CONTEXT AND RATIONALE ............................................................... 1 1. Country and sector issues .............................................................................................. 1 2. Rationale for Bank involvement..................................................................................... 4 3. Higher level objectives to which the project contributes ............................................ 5 B. PROJECT DESCRIPTION ............................................................................................. 6 I. Lending instrument .......................................................................................................... 6 2. Program objective and phases ...................................................................................... 6 3. Project development objective and key indicators...................................................... 7 4. Project components ......................................................................................................... 7 5. Lessons learned and reflected in the project design .................................................. 8 6. Alternatives considered and reasons for rejection...................................................... 9 C. IMPLEMENTATlON ......................................................................................................... 9 1.Partnership arrangements .............................................................................................. 9 2. Institutional and implementation arrangements ........................................................ 10 3. Monitoring and evaluation of outcomes/results......................................................... 10 4. Sustainability................................................................................................................... 11 5.Critical risks and possible controversial aspects....................................................... 11 6. Loadcredit conditions and covenants ........................................................................ 13 D. APPRAISAL SUMMARY .............................................................................................. 14 1. Economic and financial analyses ................................................................................ 14 2. Technical ......................................................................................................................... 15 3. Fiduciary.......................................................................................................................... 17 4. Social................................................................................................................................ 18 5. Environment.................................................................................................................... 19 6. Safeguard policies.......................................................................................................... 20 7. Policy Exceptions and Readiness ............................................................................... 21  Annex 1: Program and Sector Background ...................................................................... 22 Annex 2: Major Related Projects Financed by the Bank andlor other Agencies ....34 Annex 3: Results Framework and Monitoring .................................................................. 37 Annex 4: Detailed Project Description ............................................................................... 39 Annex 5: Project Costs ........................................................................................................... 46 Annex 6: Implementation Arrangements ........................................................................... 47 Annex 7: Financial Management and Disbursement Arrangements ......................... 48 Annex 8: ProcurementArrangements ................................................................................ 57 Annex 9: Economic and Financial Analysis ..................................................................... 61 Annex IO: Safeguard Policy Issues .................................................................................... 73 Annex 11:Project Preparation and Supervision ............................................................. 76 Annex 12: Documents in the Project File .......................................................................... 77 Annex 13: Statement of Loans and Credits ...................................................................... 78 Annex 14: Country at a Glance ............................................................................................ 81 Annex 15: Maps ........................................................................................................................ 83 MAPS IBRD 34466/IBRD 34467  FOROFFICIAL USE ONLY TURKEY ENERGY COMMUNITY OF SOUTH EASTEUROPEAPL 3 PROJECT PROJECTAPPRAISALDOCUMENT EUROPEAND CENTRALASIA ECSIE Source Local Foreign Total BORROWER 11.70 13.OO 24.70 INTERNATIONALBANK FOR 0.00 125.00 125.OO RECONSTRUCTIONAND DEVELOPMENT Total (excludingVAT): 11.70 138.00 149.70 Borrower: TEIAS (TurkishElectricityTransmissionCorporation) InonuBulvariNo: 27 Bahcelievler Ankara Turkey Tel: (90-312) 222-9283 Fax:(90-3 12) 222-8160 Responsible Agency: TEIAS (TurkishElectricityTransmissionCorporation) -The Borrower Cumulative I I I I I I I I 0.00 21.67 43.33 75.00 109.17 125.00 Proiect implementation period: Start July 3, 2006 End: December 3 1, 2010 Expected e:fectiveness date: June 5,2006 Expected closing date: June 30, 2011 30,201  Does the project depart from the CAS in content or other significant respects? Re$ PAD A.3 [ ]Yes [XINO Does the project require any exceptions from Bank policies? [ ]Yes [XINO Re$ PAD D.7 Have these been approved by Bank management? ]Yes [ IN0 I s approval for any policy exception sought from the Board? [ ]Yes IN0 Does the project include any critical risks rated "substantial" or "high"? Re$ PAD C.5 [XIYes [ ] N o Does the project meet the Regionalcriteria for readiness for implementation? Ref: PAD D.7 [XIYes [ ] N o ProjectDevelopmentObjective Re$ PAD B.2, TechnicalAnnex 3 The development objective o fTurkey ECSEE-APL3 is to increase the safety, reliability, efficiency, and capacity o f the bulkpower transmission system inTurkey and to improve market access for consumers and suppliers o f electricity. ProjectDescription Re$ PAD B.3.a, TechnicalAnnex 4 The project has two components: Component 1 - Transmission Network Strengthening: Construction o fnew GIS substations and a new 380 kV underground cable to strengthen the transmission networks inIstanbuland Izmir. Component 2 - Urban Transmission Network Upgrading: Construction o f underground cables to replace existing 154 kV overhead transmission lines indensely populated areas o fIstanbul and Izmir . Which safeguard policies are triggered, ifany? Re$ PAD0.6, TechnicalAnnex 10 Environmental Assessment (OP/BP/GP 4.0 1) InvoluntaryResettlement (OP/BP 4.12) Significant, nonstandard conditions, if any, for: Re$ PAD C.7 BoardPresentation: None Loadcredit Effectiveness: None Covenants applicableto project implementation: Financial Covenants (See Annex 9 for details): (a) Self financingratio greater than or equal to 35%; (b) Debt service coverage ratio greater than or equal to 1.5; and (c) Current ratio greater than or equal to 1.O. Other Covenants: (a) Implementationo f Framework for Environment Assessment Procedures (agreed under APL2) and Land Acquisition Management Framework (dated January 18,2006). (b) TEIAS will undertake necessary actions to enable the external auditors to express an audit opinion on the financial statements for the fiscal year ending on December 31,2006. (c) TEIAS will have the ERP installedand functional by December 31,2007. (d) TEIAS will maintain a financial management system acceptable to the Bank. The project financial statements will be audited by independent auditors acceptable to the Bank and on terms o freference acceptable to the Bank. TEIAS financial statements will be audited by independent auditors acceptable to the bank in accordance with IFRS and ISA. The annual audited statements and audit report o f TEIAS and the Project will be providedto the Bank within six months o f the end o f each fiscal year.  A. STRATEGIC CONTEXT AND RATIONALE I,Countryandsectorissues The Energy Community of SouthEastEurope(ECSEE) andthe Athens Process The countries o f South East Europe (SEE) including Turkey have recognized that energy supply security and reliability can be enhanced by regional cooperation. Specifically, they have recognized that isolated national markets are less efficient in addressing demand and supply imbalances which are emerging. Within the region, the power supply situation is projectedto tighten significantly inthe coming years with capacity additions in excess o f 25,000 MW needed to meet demand over the next decade, and plant rehabilitation in the order o f 12,000 to 15,000 MW. ' In addition, investments will be needed in associated transmission and distribution network upgrades and expansion. In2002, to pavetheway for anefficient regionalresponse to the emerging supply constraints andsupply security concerns, the governments o f SEE and the European Commission (EC) signed inAthens, Greece, a Memorandum o f Understanding on the Regional Electricity Market in South East Europe and its Integration into the European Union Internal Electricity Market. This document i s referred to as the Athens Memorandum 2002. With the inclusion o f natural gas, a more detailed version o f the memorandum was signed, which is referred to as the Athens Memorandum 2003, and supersedes the 2002 document. The signatories expressed their intent in formalizing their commitments therein. The regional market development process i s referred to as the Athens Process. Following negotiations that began in July 2004, the Treaty establishing the Energy Community (the Treaty) was signed on October 25, 2005 which formalizes the arrangements under the Athens Memorandum. Owing to reservations with specific provisions discussed below, Turkey did not sign this Treaty, but remains a key participant in the Athens Process with the aim o f resolving their reservations with the Treaty within the scope o f the recently initiatednegotiations on the adoption and implementation of the Acquis Communautaire. Annex 1 provides a detailed discussion o f the ECSEE framework and processes. The World Bank's ECSEE-APL Program Loan approved by the Board in January 2005, allows tailored financial support to be provided to the regional member countries (including Kosovo) to enable them to develop their power systems and meet the regional market integration targets under the Athens Process. Turkey participated in the Program through the ECSEE-APL2 loan approved by the Board on March 14, 2005, meeting the original eligibility conditions o f establishing and operationalizing an electricity sector regulator and a transmission system operator. Turkey and the ECSEETreaty Turkey remains committed to the goals and principles o f the Athens Process and continues implementation o f the key provisions of the Athens Process as discussed in section A.2. However, Turkey did not sign the Treaty at this stage owing to concerns emanating from the fact that several issues inthe Treaty are also key aspects of the Energy and Environment Chapters ofthe Acquis, which Turkey hopes to negotiate separately as part o f its negotiations for accession to the EU (The EU decided on October 3, 2005 to begin discussions with Turkey in this regard). The main areas where Turkey has reservations at this stage, and which Turkey i s planning to discuss with the EU as part o f its accession negotiations, are: 'Review of power demand and supply in South East Europe, Working Paper No. 17, World Bank, October 2003 and separate Bank staffestimates for Turkey. 1  (a) The Acquis onEnvironment: Turkey has reservations with Article 12, Article 15 and Article 16 o f the Treaty regarding the Acquis on environment. These articles require implementation o f the several environment Directives in a timetable that may be at variance with the forthcoming negotiations o f their own chapter on environment within the accession negotiations. Turkey's view i s that its adherence in this regard would be contingent upon the accession negotiations o f the relevant chapter. Environmental mitigation investment requirements are significant, and will require a much longer timeframe than envisaged inthe Treaty. Further, the EUhas also provided time extensions to other member countries or negotiating parties from meeting environmental requirements for several years, and Turkey should expect to obtain similar time extensions during its negotiations. (b) External energy trade policy: Article 43 of the Treaty permits the Energy Community to potentially regulate import and export o f network energy from and to "third countries" with regard to environmental standards and network safety. Additionally, Article 101 would further require Turkey to take measures to possibly revise aspects o f existing bilateral contracts with third-parties that may be incompatible with the Treaty provisions. Turkey has reservations with these articles on energy trade, since Turkey i s heavily dependent on imports for its oil and gas requirements, and further, given the bilateral nature o f its existing import agreements, it might technically not be possible for Turkey to ensure the amendment o f these agreements to bring about compliance with the Treaty. (c) Timetable for implementation of EC directives: Item2 o f Annex Io f the Treaty requires all Contracting Parties including Turkey to ensure that, all non-household customers are eligible to buy electricity from any supplier from 1 January 2008, and that all customers are eligible fi-om 1 January 2015. Turkey's view i s that there i s a need for a longer transition towards full market opening. Currently, eligible customers represent about 30% o f consumption, which i s much higher than in several ECSEE countries, and second only to Romania. Given these important issues and Turkey's current negotiating status, its position i s unique. Only Croatia among the ECSEE countries has to both negotiate with the EU for membership (Bulgaria and Romania are largely done while the others haven't started) and at the same time sign and ratify the Athens Treaty. Turkey's reservations on these aspects o f the Treaty have been acknowledged by the European Community, and both sides are working to reach a resolution o f these issues in2006. SectorIssues-ProgressinElectricityReformImplementation The Government has embarked upon a comprehensive reform and restructuringprogram o f the electricity sector in order to create a liberalized, efficient and economic sector. This was initiated by the Electricity Market Law (Law No. 4628) promulgated in February 2001. The principles and goals o f the reform program defined by this Law are substantially in line with EC Directives (1996/92/EC and 2003/54/EC) concerning rules for the internal market for electricity. Turkey has completed several major reform actions, such as the restructuring o f the sector, the establishment o f an independent regulatory framework, and introduction o f retail competition. Turkey i s currently preparing for the introduction o f a balancing and settlement system, and i s also about to commence the privatization o f distribution. The progress on these aspects i s discussed inbriefhere, and ingreater detail inAnnex 1. Functional and corporate restructuring of the sector - The electricity sector has been restructured into a generating corporation EUAS, a trading corporation TETAS, a transmission corporation TEIAS, a distribution corporation TEDAS and regional distribution companies (DISCOS). The regional distribution companies are being prepared for privatization. The generation sector is also in the process of being restructured into six separate portfolios of generation assets that will be privatized once distribution i s substantially privatized. EUAS 2  however, will continue to own the large multipurpose hydroelectric projects amounting to about 7,000 MW. See Figure 1.1below on the currently planned transitional sector structure. Independent Regulatory Framework - Pursuant to the Law, Turkey has set up an independent regulatory authority, the Energy Market Regulatory Authority (EMRA) with jurisdiction over electricity, gas and petroleum. EMRA has powers over licensing, tariff setting and customer service issues, and i s currently involved in setting multi-year tariff principles for the distribution business, and a tariff equalization mechanism across regions in order to enable national uniform retail tariffs. Privatization of Distribution and Generation - Turkey's plan i s to privatize its distribution companies inphases over the next two years. The regional companies have been created, and are beingprepared for privatization, which i s expected to commence inmid-2006. Once a substantial part o f the distribution business i s privatized, Turkey plans to privatize a significant portion o f its existing generating assets as well. Retail Competition in Electricity - Consumers whose annual consumption exceeds 6.0 GWh can choose their own supplier - this represents more than 30% o f the total Turkish electricity market. Competitive Market Structure - Market simulations are in progress to introduce a competitive bilateral contract market with a balancingand settlement system. Regional Interconnection Efforts - On September 28, 2005, the technical review to achieve synchronous operation o f the Turkish system with the European system (i.e. UCTE "Union for the Coordination o f Transmission o f Electricity in Europe") was initiated. Although Turkey is physically connected to the European network through Bulgaria and will be connected to Greece shortly (i.e. when the Greeks complete their section o f the interconnection -the Turkish section i s complete) -the system does not operate synchronously. Figure A.l: Transitional ElectricitySector Structure 3  2. Rationale for Bank involvement The ECSEE APL program was approved by the Bank on January 27, 2005 and several loans have been processed since then. It i s a key component o f the Bank's support for the Stability Pact and the working partnership with the European Commission. A regional investment facility for gas, similar to the ECSEE APL for electricity, is alsobeingconsidered. The proposed Turkey ECSEE-APL3 will continue the Bank's on-going support for the implementation o f the internal market and regional integration by financing essential system investments. The Bank has a deep engagement in Turkey's energy sector. There are several projects under supervision, and a number o f projects under preparation (See Annex 2 for details). The Bank i s also providing technical assistance to the Government on electricity issues including establishing a panel o f experts to assist with the reform process. Further, the Bank i s currently supporting Turkey's market implementation and network development initiatives through two ongoing operations: National Transmission Grid Project (NTGP) - supports the preparation o f the balancing market and settlement regulations and the tender specifications for the Market Management System (MMS). Investments include the transmission and network infrastructure, including the Turkey- Greece interconnection. ECSEE-APL2 Project - supports investments in the MMS, regional control centers and associated transmission infrastructure. The ECSEE-APL3 loan to TEIAS will assist TEIAS in : (a) strengthening and expanding the transmission network to reliably meet the growing electricity demand; and (b) upgrading the transmission network in dense urban areas to minimize the risk to public safety posed by urban encroachment on existing overhead lines. Rationalefor supportingTurkey despite non-signing of the Treaty Under the ECSEE APL Program designcountries remain eligible for subsequent loans under the Program as long as the Bank i s satisfied that the countryhorrower meets its key obligations to effectively participate inthe regionalmarket, and meets the following policy triggers: (a) Signs the Treaty establishing the Energy Community (the Treaty)- (trigger applied from January 1, 2006); (b) Ratifies the Treaty- (trigger to be applied from January 1,2007); (c) Establishes distributions system operators (trigger to be applied after 12 months o f the entry into force o f the Treaty, subject to EUderogations, ifany); and (d) Opens its electricity market to non-household customers - (trigger to be applied from January 1, 2008, subject to EUderogations, ifany) Turkey remains committed to, and continues to implement the provisions o f the 2003 Athens Memorandum. The TurkishGovernment and European Community (EC) are working together to resolve the outstanding issues on the Treaty and there i s strong desire on both sides to reach resolution in a short period o f time. Most importantly, Turkey remains a part of the implementation mechanism which comprises regional coordination structures for ECSEE implementation at the political and administrative level. [The implementation mechanism i s described inAnnex 1, Section 1, page 231 It is on the basis of Turkey's continued implementation o f the substantive provisions o f the 2003 Athens Memorandum, the relevant EC Directive (2003/54/EC), its participation in the implementation mechanism, and the expectation that Turkey will sign the Treaty that the Bank should provide support to Turkey under the proposed ECSEE-APL3. It should be stressed that not meeting the trigger for signing the Treaty will not undermine the success and sustainability o f the project, nor the ongoing market integration that Turkey i s actively implementing. 4  As of January 2006, the substantial aspects o f Turkey's Compliance with common rules for the internal market inelectricity per the EC Directive 2003/54/EC and the 2003 Athens Memorandum include: - _ Complete functional and corporate restructuring o f the sector. The integrated utility has been entirely replaced by a distribution company, several generation companies, and a transmission company with both the distribution company and the government owned generation company scheduled to be split up and privatized. An independent Transmission System Operator which i s separate from generation and distribution. An independent Energy Regulatory Authority which is functioning, has its own independent sources o f revenue and has the authority to set retail electricity and gas prices. Eligibility for consumers whose annual consumption exceeds 6.0 GWhwith plans to extend this further (this i s more than 30% o f the total Turkish market). Turkey i s perhaps only second to Romania inthe degree o f market opening amongst all SEE countries. Ongoing development o f an electricity market inTurkey with assistance from the Bank. On going efforts to synchronize with UCTE - On September 28, 2005, a technical study was initiated jointly by TEIAS and UCTE to complete technical assessments to synchronize with SEE network. Construction o f a transmission link to Greece, which will support connection with other ECSEE countries. This link will be completed by June 2006. 3. Higher level objectives to which the project contributes ECSEE i s an integral to the Regional Members' and the European Community's efforts for all states in South East Europe to have access to stable and continuous energy supply which they regard as essential for economic development and social stability. The creation o f an area without internal frontiers for energy contributes to economic and social progress and a high level o f employment as well as balanced and sustainable development. These higher level objectives are expressed inthe Treaty. The Stability Pact has made regional energy cooperation one o f its core objectives in its efforts to strengthenregional cooperation and to foster the conditions for peace, stability and economic growth in the South East Europe. The Stability Pact has characterized ECSEE as a unique political chance for the SEE region, to consolidate reconciliation and provide a power driver towards a more comprehensive economic and political integrationinto the European Union. The ECSEE APL facility i s a key component o f the Bank's support for the Stability Pact and the working partnership with the European Commission. The ECSEE ApL3 project for Turkey i s also part o f the Bank's Country Assistance Strategy (CAS)2 for Turkey which i s driven by Turkey's EUaccession objective. The ECSEE-APL3 project directly supports this objective by financing priority investments that create a stable and safe electricity market inTurkey and the conditions for regional trade. In addition, the project will continue the advisory and investment support for internal market implementation and its integration with the European market. * CountryAssistance StrategyProgressReportfor the PeriodFY2004-2007,ReportNo. 33995-TU, November8,2005 5  B. PROJECT DESCRIPTION 1. Lending instrument ECSEE i s a regional program and the Bank investment support i s being provided on a regional basis usingthe adaptable program lending(APL)instrument. The APL instrument enables the Bank to provide support in a flexible manner -when individual countries have met the policy triggers and when individual projects are ready to receive Bank support. All ECSEE Regional Members might not actually borrow under the APL program. However, countries can rely on the Bank to support them in achieving the goals o f ECSEE if they meet specific eligibility criteria and if they need Bank support. The approved size of the APL lending facility i s US$l,OOO million, o f which EUR 66 million (US$84.3 million equivalent) was approved to Romania under APL1. Under APL2 the following loans were approved: EUR 50.6 million for Turkey; US$27 Million equivalent to Albania; and U S 2 1 to Serbia. Under APL3 a US$25 million loan to Macedonia was approved inJanuary 2006. This Turkey ECSEE-APL3 project would be the second o f an anticipated three ECSEE-APL projects in Turkey - more significantly, it will be the first vertical APL in the program, demonstrating that the program i s working not just across countries but i s also beginning to take deeper roots in borrowing countries. The ECSEE APL i s detailed inAnnex 1(Section 2). 2. Program objective and phases The principalobjectivesof the ECSEEareto: . Create a stable regulatory and market framework capable o f attractinginvestment in gas networks and ... power systems so that all states in the region have access to the stable and continuous energy supply that i s essential for economic development and social stability. Establish an integrated regional market in South East Europe, closely linked to the internal energy market o f the EuropeanUnion, and complying with the rules applicable within the European Union, Enhance the energy security o f South East Europe and the European Unionby providing incentives to connect the Balkans to Caspian, North African and Middle East gas reserves. Improve the environmental situation inrelationto energy inthe region. Banksupport for ECSEEincludes: .. Participation in ECSEE's implementation organization - the Bank i s an observer at the ECSEE Ministerial Council and i s a participant inthe biannual meetings o f the ECSEE Forum. Analytical work including the March 2004 framework paper; the generation investment study (2004) . and the recently initiated regional gas study; and on-going country-level policy dialogue and project work. Regionalinvestment and technical assistance support under the ECSEEAPL Program. The phasing and triggers (presented in Annex 1, Section 2), are directly linked to the market implementation process and utilize both the horizontal and vertical features o f the APL instrument in a regional context. ECSEEAPL programObjective: The development of a jiinctioning regional electricity market in South Eust Europe and its integration into the internal electricity market of the European Union, throzrglz the 6  implementation ofpriority investments supporting electricity market andpower system operations in electricity generation, transmission and distribution and technical assistance for institutionalhystems development andproject preparation and implementation. The ECSEE APL program would be considered successful if the countries in the region achieve their commitments and are able to: (a) develop a functioning electricity market including the agreed market liberalizationtargets; and (b) integrate it into the internal electricity market o f the European Union in accordance with the ECSEE Treaty. T o accomplishthis, the countries will have to continue ongoing restructuring and reform measures, build uptheir institutionsand improvetheir power systems including interconnections so that regional trade can increase. 3. Project development objective and key indicators The development objective o f Turkey ECSEE-APL3 is: To increase the safety, reliability, efficiency and capacity of the bulk power transmission system in Turkey and to improve market accessfor consumers and suppliers of electricity. This objective wouldbe achievedby: (a) strengthening and expanding the transmission network to reliably meet the growing electricity demand; and (b) upgrading the transmission network in dense urban areas to minimize the risk to public safety posed by urban encroachment on existing overhead lines. 4. Project components EligibleECSEE APL ProgramComponents The ECSEE APL program has been designed to support priority investments and technical assistance that will enhance the ability of ECSEE Regional Members to effectively participate inthe regional electricity market. These include: Investments to assist ECSEE Regional Members to meet the UCTE integration requirements. This would include investments innetwork integration, system stability and provision o f ancillary services. Upgrading the capabilities o f regional transmission system operators (TSOs) to assure regional system stability. These include: (a) upgrading infrastructure/systems for electricity market administration; and (b) expanding transmission networks and sub-stations to meet rising demand. Investment to restore operational capacitylflexibility o f critical generation facilities that provide ancillary services to TSOs. These would include governors on power plants that improve the ability to respond to ancillary service requirements. For example, the APLI investment to rehabilitate the Lotm hydropower station in Romania would increase the plant's ability to provide such services to the system operator. Investment in retrofits o f critical generation and/or transmission facilities to assure environmental compliance. Metering and/or telecommunications programs designed to enhance revenue realization and/or coordination and communications capabilities o f distribution utilities so that they can more effectively participate in the regional power market. For example, the Market Management System (MMS) under the Turkey ECSEE-APL2 Project. 7  . Technical assistance, for institutional/systems development and project preparation and implementation, to support ECSEE Regional Members in energy market design and implementation assistance. TurkeyECSEE-APL3ProjectComponents The project will have two components that meet the above noted program eligibility requirements, The objective o f Component 1 i s to improve the reliability and capacity o f the transmission networks thereby strengthening the internal market in Turkey. Component 2 has the objective o f improving the protection o fpublic health and safety, and increasing the transmission system's compliance with relevant regulations in this regard. These investments therefore, are consistent with The Athens Memorandum which state that the safety and security of the electricity systems and the protection o f public health and safety are necessary conditions to promote the functioning o f effective markets. Component 1:TransmissionNetworkStrengthening:This component entails construction of new GIS substations and a new 380 kV underground cable to strengthen the transmission networks in Istanbul and Izmir. The new GIS substations and underground cable will increase the capacity of the transmission networks inthe cities and are necessary to meet the new and growing electricity demand in their local areas. The construction of the GIS substations and the 380 kV underground cable is necessary to strengthen the reliability and capacity of the transmission networks inIstanbul and Izmir and will as a result provide the distribution companies, eligible customers and competing energy producers with adequate and reliable access to the local transmission gnd and the future ECSEE regionalwholesale power markets. Component 2: Urban TransmissionNetworkUpgrading: This component involves construction o f underground cables to replace existing 154 kV overhead transmission lines in densely populated areas o f Istanbul and Izmir. The 154 kV overhead transmission lines proposed for replacement with underground cables have been enveloped in rapid, uncontrolled urban expansion with sections o f the lines virtually passing over roofs o f houses and with right-of-ways entirely lost to encroachment by streets and buildings. The underground cable projects inthe two cities included in Component 2 will have positive impact on the operation o f the transmission networks and will ensure the safety o f the public and reliability o f the energy supply to existing and future consumers. Section D.2 and Annex 4 provide more detail on the components. 5. Lessons learned and reflected in the project design The Turkey ECSEE-APL3 design reflects two main lessons: Regional Markets require Strong NationalMarket Operational Capabilities - lessons from other regional electricity markets elsewhere including NordPool (Finland, Norway and Sweden and part o f Denmark), the Portugal-Spain market, and markets under-development in Central America, Southern Africa and South-East Asia (Mekong region) are that to achieve progressive integration o f energy markets requires close attention to the design and operation o f component national electricity markets - specifically with regard to aspects such as the provision o f ancillary services, balancing and settlement communication, and the administration o f the market. Accordingly the ECSEE-APL3 project will continue the close advisory involvement of the World Bank's Panel o f Experts on the market design and implementation process. While, Turkey's market implementation i s amongst the most advanced in the ECSEE regional group it requires support from the highly experienced market operators to implement its market management systems and to achieve effective operation o fits national market. 8  Political Commitment and adequate financial support are key ingredients o f successful reform programs. ECSEE's development i s premised on the political commitment o f the SEE countries as expressed in the Athens Memorandum and the Treaty, and it i s backed by strong donor involvement. Ongoing reforms in Turkey, though slower than anticipated inparts, and not entirely congruent in others, confirm the country's abiding commitment to the regional initiative. The project builds on the political commitment o f the Turkish Government to integrate with the European network and be an active participant inthe implementation and operation o f ECSEE. 6. Alternatives considered and reasons for rejection The ECSEERegionalAPL The approach o f using o f the Regional APL instrument gives the Bank flexibility to match its commitments to the pace and needs o f its clients. All SEE countries know up-front that they can rely on the Bank to support them in achieving the goals o f the ECSEE. The regional approach o f the ECSEE implementation process, with its regular monitoring and regional benchmarking will provide increased publicity and awareness, peer support, and also peer pressurehcentives for countries to improve performance. The use of the APL instrument also enables the Bank to apply market liberalization targets as triggers in future APL installments as and when such targets are agreed, including derogations and subsequent modifications that may be agreed between the European Commission and ECSEE Regional Members. Turkey ECSEE-APL3 An option considered inTurkey's case was the use o f a stand alone investment loan outside the ECSEE- APL program to finance the proposedinvestments. This approach however, would have sent a negative signal about the Athens process.. Usingthe ECSEE-APL program recognizes the strong commitment and progress that Turkey has made in implementing the Athens Process, and allows Turkey to utilize the inherent flexibility in the design of the ECSEE-APL program instrument to access APL financing for its high-priority investments within a year o f the approval o f Turkey-APL2. This approach also allows the Bank to stay engaged with, and provide support to, Turkey on its implementation o f the EUAcquis on Energy. A separate investment loan may also have been more time-consuming to prepare. C. IMPLEMENTATION 1. Partnership arrangements ECSEE i s a partnership arrangement among the SEE countries and the European Community. These countries have acknowledged that solutions to pressingregional issues based on isolated national markets are neither economic nor desirable as a means to closing investment gaps and emerging demand and supply imbalances. ECSEE i s also a partnership between the SEE countries and multilateral donors, financial institutions and bilateral donors. These include the Bank, the European Bank for Reconstruction and Development (EBRD), the European Investment Bank (EIB), the German Reconstruction Bank (KfW), the United States Agency for International Development (USAID), the Canadian International Development Agency (CIDA), and the Governments o f France, Greece, Italy, and Switzerland. 9  2. Institutional and implementation arrangements ECSEE A comprehensive coordination and implementation mechanism has been established for the development o f ECSEE. The mechanism brings together political and administrative leadership, regulators, transmission system operators and other utilities, the European Community, international financial institutions and bilateral donors in ECSEE's Ministerial Council, Permanent High-level Group, Task Forces, and the Forum. This mechanism i s detailed inAnnex 1, Section 1. Turkey-APL3 The proposedproject will be implemented by TEIAS, a government-owned corporation responsible for the planning, design, development, operation and maintenance o f the transmission network in the country. TEIAS i s also responsible for system and market operation, for implementing and monitoring the balancing market, and for the settlement administration. There i s an existing Project Coordination Unit (PCU) in TEIAS. This PCU has currently . reporting and coordination responsibilities for Bank financed projects including the National Transmission GridProject and ECSEE APL 2. There are 5 main departments that are responsible for procurement and implementation. These departments include: - Transmission Lines Department - All overhead transmission lines, land acquisition and -- environmental issues related to transmission facilities; Sub-station Department -All 154kV and 380 kV substations and undergroundcables; Operations and Maintenance Department - Metering; maintenance equipment (e.g. thermal - cameras; back-up mobile transformers); Communication, Automation and Data processing Department- Implementation o f ERP ; - . Market and Financial Settlement Department - Market management system, market rules, implementation o f the transitional market; The Financial and Accounting Department i s responsible for financial and disbursementreporting to the PCU, the timely completion o f audits, and in implementing the Action Plan to address issues related to achieving a comprehensive audit opinion on TEIAS. 3. Monitoring and evaluation of outcomeslresults At the regional level, the ECSEE APL program i s included in the established mechanism for ECSEE coordination - Ministerial Council, Permanent High-level Group, Task Forces, and the Forum (Annex 1, Section 1). The project will benefit from this elaborate, active and well-functioning mechanism for coordination, monitoring and evaluation. Turkey-ProjectandMarketImplementation As part o f the proposed ECSEE-APL 3 project, the Bank will continue to monitor the indicators established under the on-going NTGP and ECSEE-APL2 Project the Bank monitors: Transmissionnetwork capacity expansion and project implementation; Market implementation - definition o f market and settlement rules; procurement and implementation o f market management infrastructure; degree o f market opening; and Structural and corporate unbundlingo f the power sector. The key performance indicators that would be used to monitor the fulfillment o f the development objectives o f the ECSEE- APL 3 project are described inAnnex 3. 10  4. Sustainability The ECSEE market vision and sustainability are discussed in Annex 1, in terms o f ECSEE market participants, market sophistication, competition and integration with the European Union internal energy market. Turkey andECSEE The proposed and on-going projects within the ECSEE APL framework are sustainable along the following dimensions as notedbelow: Transmission tariffs are set on a basis that ensures that they are adequate to fund the operation o f the transmission systemand systemexpansion to meet rising demand. Physical interconnections exist between Turkey and the rest o f ECSEE through lines to Bulgaria, and the Turkish side o f the Greek interconnection i s completed (funded by the National Transmission Grid Project). Preparations for synchronous operations with the European network are on-track with the initiation by UCTE o f the requisite technical studies in September 2005. Internal market development in Turkey i s progressing with the initiation o f market trials and the planned shift to cash-settlement inFebruary 2006. Market opening extends to more than 30% o f demand in Turkey covering consumer whose annual consumption exceeds 6.0 GWh. Transmission capacity expansion and system upgrades are keepingpace with demand growth. 5. Critical risks and possible controversial aspects ECSEERisks andPotentialControversialAspects ECSEE has been developed and i s being implemented through a comprehensive coordination and implementation mechanism. It has gone through extensive discussion and debate. The Bank's work in the ECSEE context, published in the March 2004 framework paper highlighted risks and risk mitigation measures. The key risks and possible controversies include: . Paceof Market Opening-It is expectedthat all the countries inthe Energy Community will not be able to open their own internal markets and achieve cross-border trading between eligible consumers at the same pace. To manage this risk a gradual approach to market opening and a voluntary approach to trading have been suggested. Customers in individual countries need not and are not expected to move at the same pace. Nevertheless the pace o f liberalization, although gradual, may trigger controversy. However, ifneeded, adjustments and derogations to enable reasonable transition periods are considered feasible in accordance with the practice o f the European Commission. Potential Disputes on New Generation Investment - Potential controversies can be occasionally expected in the development o f new generation capacity due to differences between sizes o f markets and investment requirements o f various countries (for example Turkey's investment requirement i s bigger than the rest o f the regions combined). Also, individual countries may propose projects that are not necessarily optimal choices inthe regional context, in terms of size, fuel choice, location or commissioning schedule. ECSEE implementation mechanism provides a number of venues to discuss and resolve such issues, including the Ministerial Council as the final step. The Bank-administered generation investment study, which has recently been completed and disseminated, helps to identify the highest priority regional projects, inpart facilitating the resolutiono f potential disputes. 11  Affordability of ImplementingEU EnvironmentalLegislation - Another potential area for controversy, also mainly in the area o f power generation, i s the progressive upgrading and implementation o f environmental legislation in countries that do not have short-term prospects of EU accession. The Regional Members are to progressively align their environmental standards and the countries are expected to make best efforts to accede to the Kyoto Protocol. The potential controversy i s not about the desirability o f these objectives but their affordability- thisi s an area where the region will require assistance from the international community. It i s estimated that it will cost Romania about US$ 2.0 billion to meet the EU requirements taking into account the derogations that have already been granted by the EC. Turkey i s expected to need about US$ 1.5 billion to meet SO2standards inits existing large thermal plants. Notwithstandingthese risks, specific APL investment projects are expected to use proven designs and are not expected to contain any particularrisks or controversial aspects. This i s the case with Turkey-APL3 which provides for the expansion o f the Turkishtransmission system with the environmental, health and safety aspects minimized through construction o f underground cables. Turkey-APL3 Specific risks in the case o f the Turkey ECSEE-APL3 project include the following: Delays by Municipalitiesinissuanceof permitsfor constructiodinstallation work: All the underground cable projects, and perhaps some sub-stations as well, will require rights-of-way and construction permits from the municipalities where the lines and sub-stations are located. Delays in obtaining these pennits/clearances on time by the contractors could delay implementation. TEIAS has confirmed that they would obtain the necessary permits before the construction contracts are awarded. Given that the projects bring direct benefits to the municipalities it i s also expected that the process will be relatively smooth. RiskRating-Low TEIAS ImplementationCapacity: TEIAS has over the last 2 years begun scaling up its investment program after several years o f implementing a greatly reduced program. In addition to implementing a larger investmentprogram, several o f TEIAS' staff are working on new systems and procedures that are part of the market implementation activities. With a de-facto restriction on hiringnew staff, TEIAS' implementationcapacity is likely to be stretched, although in the critical area o f land acquisition, the Government allowed TEIAS to hire additional staff, resulting in significant improvements in this aspect. This implementation risk i s mitigated to some extent by utilizing supply and installation (S&I) contracts and the experience TEIAS has gained in the implementation o f similar projects. RiskRating-Modest Non-paymentof electricitybills: TEIAS' collection efficiency from EUAS has traditionally been unsatisfactory, and though it has improved during the last two years, it i s still considered a moderate-to-high risk. As discussed in Annex 9, the problem o f non-payment o f bills starts at TEDAS, which i s not able to collect all its bills, primarily from municipalities and other government agencies. This problem of non-payment then percolates up the chain o f energy SEES. While TEIAS has managed to finance all its investments and meet its operating and debt servicing requirements so far, a decline incollection efficiency from its current level o f 86% inthe future could result ina cash constraint. RiskRating-High 12  6. Loanlcredit conditions and covenants As detailed in Annex 1, Section 2, the ECSEE APL is directly linked to the countries' commitments under ECSEE. No other triggers would be applied (including non-compliance with undertahngs under ongoing national projects as long as they do not directly affect countries' participation in ECSEE). Triggers would not be applied to loandcredits already approved. APL projects will have financial targets for utilities, financial management covenants and undertakings about safeguards, such as the implementationo f environmental management plans. As discussed above, Turkey has not signed the Treaty, a key eligibility condition for continuingto access ECSEE APL financing. The Bank has however, agreed to process Turkey-APL3 because o f Turkey's continuing commitment to the principles o f the Athens Memorandum. Turkey has already started the liberalization o f its electricity market and it i s expected that it will continue to deepen the market opening ahead o f several European Union members - Turkey's current level o f retail market opening i s about 30%. Turkey has encouraged the development o f private generation and about 55% o f generation i s producedbyprivate power plants with some o f these plants selling directly to private customers. Turkey-APL3 Covenants There are no conditions for negotiations, Boardpresentation or effectiveness. TEIAS will be requiredto meet the following covenants: I. FinancialCovenants(SeeAnnex9fordetails): (a) Self financing ratio greater than or equal to 35%; (b) Debt service coverage ratio greater than or equal to 1.5; and (c) Current ratio greater than or equal to 1.O. 11. Other Covenants: Implementation o f Framework for Environment Assessment Procedures (agreed under APL2 on September 12, 2004) and Land Acquisition Management Framework (dated January 18,2006). TEIAS will undertake necessary actions to enable the external auditors to express an audit opinion on the financial statements for the fiscal year ending on December 31,2006. TEIAS will have the Enterprise Resource Planning Program (ERP) installed and functional by December 31,2007. TEIAS will maintainrecords and a financial management system acceptable to the Bank. The project financial statements will be audited by independent auditors acceptable to the Bank and on terms o freference acceptable to the Bank. TEIAS financial statements will be audited by independent auditors acceptable to the Bank in accordance with IFRS and ISA. The annual audited statements and audit report o f TEIAS and the Project will be provided to the Bank within six months o fthe end o f each fiscal year. 13  D. APPRAISAL SUMMARY 1. Economic and financial analyses Economic Analysis (Detailed inAnnex 9) An Economic Analysis of the Turkey APL 3 Project was undertaken using two different approaches. First an economic analysis was undertaken of TEIAS' entire investment program o f which this APL is part. Based on the anticipated increase in electricity transmitted as a result of this program and usingthe tariff charged by TEIAS as a conservative estimate of the value o f the transmission service, the economic rate o f return (ERR) on the investment program i s 18% in real terms in the government's base demand growth case (about 8.3% growth per year). In the low demand case, (6.3% per year), the ERR for the transmission investment program i s 12%. In addition, ERRSfor individual components of the project have been calculated. The expansion o f existing sub-stations and construction o f new sub-stations i s necessitated in order to serve additional load. The benefits o f this component have been quantified at the cost o f adding new generation, based on the assumption that the alternative to expanding or building the substations to meet this load would be to provide local generating capacity. The cost o f providing local peaking capacity using a single cycle gas turbine was calculated as 5.9 U S centskwh (as the next best alternative) compared with an incremental cost of about 4.9 U S centskwh for electricity supplied from the substations. The ERR o f the substation component based on this quantification varies from about 13-20% depending on the substation. If the benefits from the substation component are valued at the cost o f unserved energy, assuming that in the absence o f this investment, the additional load growth would not be served, then the payback for the substations would be well under one year (assuming that the cost o f unserved electricity i s about 38.5 Euro centskwh as recently estimated by a Bank consultant for the ECSEEregion). The construction o f the Yildiztepe - Davutpasa 380 kV cable i s necessitated in order to comply with the "N-1" transmission planning criterion in that specific area. This cable will provide a second grid connection for the new 380 kV Davutpasa substation in Istanbul, in addition to the Ikitelli-Davutpasa cable - the new substation and the cable are being financed by the Bank. By 2010, the peak load at the substation i s forecasted to be 725 MW, o f which 580 MW will be supplied by the Ikitelli-Davutpasa cable. Ifthis cable were to fail, the 154 KV lines supplyingthe Davutpasa area will not be able to supply the additional electricity, thereby leading to energy interruptions for consumers, estimated at 350 MW. The Yildiztepe-Davutpasa cable i s therefore essential for reliability o f supply inthis area. The international average3 o f outage per kilometer on a 380 kV cable i s estimated at about 3.4 hours per year, which results in an average outage for the Ikitelli-Davutpasa cable o f 30 hours per year. Considering the average cost o f unserved energy to customers o f 38.5 Euro centsikwh, the ERR on the Yildiztepe-Davutpasa 380 kV cable i s about 21% inreal terms. The benefits o f the conversion o f overhead transmission lines to underground cables are significant in terms o f improved public safety and compliance with environmental regulations -these benefits however, are hard to quantify in economic terns. Please refer to Section D.2 below and Annexes 4 and 10 for a detailed discussion o f the main health and safety benefits o f this component. Overview of Potential for Undergrounding the ElectricityNetworks in Europe, February 2003 - Reportpreparedby ICF Consulting for the European Commission. 14  FinancialAnalysis (Details inAnnex 9, Section 2) TEIAS' transmission charges (ifpaid in full by EUAS and TEDAS) are adequate to recover all its normal operating and non-operating costs. As a result, TEIAS i s performing reasonably well in terms o f its profitability. The capital structure o f TEIAS has also improved over the past years, indicating more room for taking on more debt. Looking forward, TEIAS i s expected to continue to do reasonably well as no unexpected rise in costs are foreseen, and TEIAS will be able to carry out its investment program, including the ECSEE-APL3 investments, without a major increase in tariffs. TEIAS plans to invest about US$ 1.2 billion over the next five years, and financial projections show that TEIAS has sufficient capacity to borrow for these investment levels. The main risk that faces TEIAS will continue to be its collection efficiency from EUAS, and ultimately the collections by the Turlush Distribution Corporation (TEDAS), from final electricity consumers. TEIAS received only about 60% o f what it was owed in FY 2003, and was in danger o f defaulting on its debt servicing, but managed to meet its obligations after TEDAS received additional support from the Government allowing it to pay TETAS and TETAS to pay TEIAS. However, this situation has substantially improved in2005 and the collection efficiency improved to 86%. Despite improvement in the collection efficiency inrecent years, the problem o f accumulated receivables and payment delays by governmental entities, especially municipalities, remains. TEDAS' outstanding receivables from central and local government agencies stood at US$ 1.75 billion in 2005, or about 47% o f total receivables. The Government's power sector strategy i s premised on restructuring and privatization o f TEDAS, inter alia as a fundamental solution to the sector's bill collection problems. The Government i s also evaluating options to solve the problem o f the outstanding receivables from government agencies, and for improving payment o f bills on an ongoing basis. The Bank has also been involved inthis discussion with the Government through its policy dialog on the reformprogram. 2. Technical Component1:TransmissionNetworkStrengthening This component comprises the three new GIS substations and a new 380 kV underground cable to strengthen the transmission networks in Istanbul and Izmir. The new GIS substations will increase the transmission capacity to meet the electricity demand growth in urban centers o f Istanbul and Izmir. The underground cable will enhance supply reliability for an important load center inIstanbul. (a) Alsancak 154 GIS Substation will add 200 MVA of capacity inIzmir and be connected to the - Bornova and Hilal 154 kV substations that are presently loaded at more than 90% o f their 340 MVA ratedcapacity. The load inthe areas served by these substations is expected to increase by 141MW by 2008. Expansiono f the Bornova and Hilal substations is not feasible owing to space constraints. (b) Ayrilikcesme 154 kV GIS Substation-will be on the Anatolian side o f Istanbul and is required to meet the electricity demand o f the new Bosphorus Subway mass transit project, and the expected 225 MW o f new load inthe area. Aynlikcesme substation will be connected to Selimiye and Goztepe 154 kV substations which are loaded at more than 70% o f their 280 MVA capacity, and which cannot be expanded to meet demand growth. (c) Yenikapi154 kV GIS Substation will be located on the Thracian side o f Istanbul and provide - 350 MVA o f capacity to meet the electricity demand o f the new Bosphorus Subway mass transit project, and commercial and residential load growth. The new substation will be connected to 15  Veliefendi and Aksaray 154 kV substations which are moderately loaded at more than 55% of their 500 MVA capacity. By 2008 a new load of about 275 MW will be added inthe local area exceeding the MVA capacity o f the two substations. (d) Yildiztepe Davutpasa 380 kVUndergroundCable-i s necessary to increase the reliability o f - the network interconnection o f the new 380 KV Davutpasa4 substation in Istanbul. The Yildiztepe-Davutpasa connection i s needed to meet the n-1 transmission reliability criterion - without the cable the 154 kV line in the Davutpasa area would become overloaded and load interruption would become necessary. An overhead line i s not possible as this i s a dense urban area with no space for an adequate right-of-way. Component2: UrbanTransmissionNetworkUpgrading This component implements underground cables to replace existing 154 kV overhead transmission lines in densely populated areas of Istanbul and Izmir. The 154 kV overhead transmission lines that will be replaced with underground cables have been enveloped in rapid, uncontrolled urban expansion with sections o f the lines passing over roofs o f houses and with the right-of-ways entirely lost to encroachment by streets andbuildings. Underground Cable Project Selection Process The Transmission Grids Operation and Maintenance Department o f TEIAS General Directorate and the Regional Transmission Construction and Operation Group Directorates of TEIAS in Istanbul and Izmir have carried out feasibility studies to identify urgent and high priority overhead high voltage transmission lines in the settlement areas o f the two cities that need to be converted to underground cables. Table D.l shows the eight 154 kV high voltage overhead transmission lines that were selected. The table summarizes the number o fbuildings that are violating the regulationclearance requirements (4 meters) and the right-of-way encroachments. Detailed discussion o f the main features andjustification for each overhead line replacement i s inAnnex 4. Table D.l 154 kV Overhead Transmission Lines to be Replaced by Underground Cables Line Name Location Year Section to be Number of Right of Way Encroachment replacedby Buildings UG cables Violating Clearance requirement (a) Davutpasa-Bagcilar Istanbul 1966 4446 meter 47 Fully encroachedby urbanization. Pylons impedetraffic (b) Atisalani-Bagcilar Istanbul 1966 4117 meter 36 Fully encroached by urbanization. (c) hnraniye-Vanikby I Istanbul 1 1952 I 5611 meter I l3 forgullyareas. I Fully encroached by urbanization except Istanbul 1973 6253 meter 1 Fully encroachedby 1982 part. Rapidgrowth in remainder. Two pylonsare locatedin close vicinity of a primary school. (e) Bornova - University lzmir 1957 7881 meter NotAvailable Pylons of the line are in close vicinity of a rehabilitationcenter, MedicalFaculty of the University,the garden of the primary school, and student dormitory. Traffic on The substation and its 380 k V cable connection to the 380 K V Ikitelli substation are currently being constructedand financed by the Bank's National Grid Transmission Project loan to TEIAS. The construction of Davutpasa 380 kV substation will be completedin 2007 to meet the growing demand inthe area. 16  Line Name Location Year Sectionto be Number of Rightof Way Encroachment replacedby Buildings UG cables Violating Clearance 1 1 requirement a busy road is impaired. r 1 1 1 (f) Bornova-Morsan lzmir 1957 5956 meter Not Available Pylons cross areas of an existing ~ ~ ~ universitycampus-these areas are plannedfor development by the university. (9) Bozyaka-Karabaglar lzrnir 1976 2318meter 1 Fully encroachedby urbanization. Pylons ~ impedetraffic and are located in gardens of buildings. lzrnir 1976 7552 meter 16 Fully encroachedby urbanization.Pylons impede traffic. The investment projects financed by this ECSEE - APL3 Turkey loan will increase the safety, reliability and capacity o f the local transmission networks and will improve the access to these networks by energy market participants. 3. Fiduciary FinancialManagementAssessment An assessment o f the financial management arrangements for the project was undertaken in December 2005. TEIAS has financial management arrangements acceptable to the Bank and these systems will be relied upon for project financial management purposes. However, the main systemwill be supplemented by excel sheets for project reporting and monitoring on a foreign currency basis. A summary o f the financial management assessment i s presented below. Current financial management arrangements for the project satisfy the Bank's minimumrequirements. A series o f actions and steps have been agreed that would enable the external auditors to provide an audit opinion on TEIAS financial statements for the fiscal year ending on December 31, 2006. Detailed assessments and the actionplan are presentedinAnnex 7. I OVERALL FM RATING I Satisfactory I I 17  Procurement 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 the provisions stipulated in the Legal Agreement. For each contract to be financed by the Loan, the different procurement methods, the need for prequalification, estimated costs, prior review requirements, and time frame are agreed between the Borrower and the Bank project team in the Procurement Plan in Annex 8. The Procurement Plan will be updated at least annually or as required to reflect the actual project implementationneeds and improvements ininstitutional capacity. 4. Social ECSEEAPL The ECSEE program's overall social impact is positive. The common objective o f the parties adhering to the Athens Memorandum i s to stimulate economic growth and investment in South East Europe by improving the availability, efficiency and reliability o f network energy sources at reasonable cost. The Treaty states that the Regional Members and the Commission are determined to achieve economic and social progress and a highlevel o f employment as well as balanced and sustainable development through the creation o f an area without internal frontiers for energy. All SEE counties have the prospect of EUmembership. The Stability Pact has characterizedECSEE as a unique political chance for the SEE region, to consolidate reconciliation and provide a power driver towards a more comprehensive economic and political integration into the European Union. The overall social impact o f improving power supply; mitigating environmental impacts o f the power sector; supporting growth, investment and employment; and facilitating EUaccession i s positive. All countries inthe SEE region are implementing reforms intheir energy and power sectors, which may inter alia involve tariff adjustments towards full cost recovery and financial discipline including bill collection. This raises the issue of social protection, to ensure that low-income households have access to electricity. ECSEE does not contain additional financial targets or conditions, but reinforces these ongoing national efforts. The Treaty calls for the provision o f electricity to all citizens at a reasonable price level that nevertheless allows for adequate cost recovery and reinvestment. Turkey-APL3 Turkey-APL3 will have a significant positive impact, primarily through the improved safety o f the transmission system inthe urban areas and the removal o f unsightlypylons from dense urban environments. The rights o f way o f the transmission lines have been fully encroached by unregulated urban growth in six o f the eight lines to be replaced by underground cables. The other two lines, both carried by the same pylons, constrain urban development and effective utilization o f a major university campus. The overhead transmission lines are perceived by the public to pose significant public safety risks in terms o f line failures and traffic hazards. In many places, vertical encroachment has created obvious hazardous conditions; in others, the actual threat i s less obvious. Their removal i s thus, expected to be welcomed by citizens o f the two cities. In addition to improving safety, the investments will also improve the reliability of the electricity network, providing increasedbenefits to customers. These impacts may be less obvious to customers, as the effects ofmost line failures are bufferedby other elements o fthe grid. The project will not require the acquisition o f any private land or relocation o f people. The rights o f way for the underground cables will be obtained from the municipalities; no private land will be affected. Land for the substations will be transferred to TEIAS from Turkish State Railways, TEDAS and the Metropolitan Municipality o f Istanbul, respectively. Part o f the site currently under consideration by the Municipality for transfer to TEIAS i s usedby a petrol station, LPG deposit and kiosk. The exact status o f these facilities i s subject to clarification by authorities, as i s the process through which the Municipality 18  will reclaim the site, demolish structures and remove underground storage tanks prior to the transfer. Before the Bank will agree to fund the substation on that site or another, the Municipality, through TEIAS, will need to provide documentation satisfactory to the Bank demonstrating that current land users are compensated according to standards established in OP/BP 4.12. The Land Acquisition Management Framework (LAMF) used for APL 2 has been revised to reflect the above agreement. The LAMF indicates how TEIAS will handle potential land acquisition issues and thus takes care o f any unforeseen land acquisition. It i s also consistent with TEIAS' existing policy for land acquisition based on the Expropriation L a w (No. 2942) which involves payment o f market prices for the land acquired and allows the land owner to go to court if they are not satisfied with the amount paid. This framework document was disclosed as part o f APL3 disclosures. 5. Environment ECSEEAPL ProgramThe ECSEE program's overall environmental impact is positive. ECSEE accelerates the introduction o f EU-compatible environmental legslation and standards in the SEE region. Two specific requirements are particularly noteworthy: (a) new generation plants starting to operate after the Treaty i s in effect have to comply with the relevant EC standards, except where specific derogations have been provided; and (b) all Regional Members are expected to accede to the Kyoto Protocol within one year o f the Treaty's effectiveness. The APL program i s a potential source o f assistance to assist countries in meeting these requirements, for example through financing the rehabilitation and upgrading of power generation facilities to improve their operational and environmental performance. Turkey-APL3 Inaccordance with World Bank environmental policies and procedures (OP/BP/GP 4.0 1 Environmental Assessment) the project has been assigned "Category B" for Environmental Assessment. Under the APL2 project, TEIAS had prepared an Environmental Management Framework (EMF) acceptable to the World Bank indicating how it will review and address the environmental impacts o f its investments. The Task Team revisited this framework document and considered it to be appropriate to utilize for the APL3 project as well. The APL2 project has had a very positive environmental impact, by ensuring better compliance of the transmission system with Turkish environmental and safety regulations. New substations and transmission lines financed under APL3 would have a minor impact, which will be adequately addressed through environmental management plans (Ems). Primary environmental issues are associated with project construction and include: noise, dust, interruption o f traffic and management of waste/excavated materials. Since Turkey has a long and rich cultural history, there i s always the possibility o f uncovering ancient artifactdrelics o f cultural significance with any excavation activity. In such an instance, Turkish chance find procedures5will be followed. Subproject sites in the vicinity o f known structures o f cultural significance will consider the procedures specified by Turhsh law (Protection o f Cultural and Natural Assets: No. 2863 revised as Law No. 5226). During operation the primary issue i s public exposure to electric and magnetic fields. Polychlorinated biphenyls (PCBs) are banned in Turkey and will be prohibited from any equipment purchases under the current project (primarily the substation components). All environmental issues are easily mitigated through good engineering construction practices and design to internationally accepted standards (e.g. buryingo f cable to proper depths to assure compliance with standards for surface values o f electric magnetic fields). As part of APL3 appraisal, the Task Team reviewed the Borrowers' compliance with environmental assessment procedures under APL2 defined in the EMF Document described above. In particular, the Task Team reviewed: (a) incorporation o f EMP requirements in the contractor bid documents, (b) procedures and documentation for consultation, (c) procedures and documentation for disclosure, and (d) Work will be stopped, regional office o f the Ministry o f Culture and Tourism informed, and work will only continue after their official approval to proceed. Inthe interim, no found items are to be removed from the project site. 19  technical quality o f the EMPs. This review demonstrated that TEIAS has ensured satisfactory preparation o f EMPs, with appropriate consultations and disclosures. These EMPs are also included in the bidding documents, thus ensuring that the contractors are responsible for implementing them. Under APL2, TEIAS regional technical staff were provided copies of the EMPs which they utilized to regularly monitor implementation. Currently, there are six technical staff, all engineers, in the TEIAS Environmental Department. They are all located at TEIAS headquarters in Ankara. As mentioned above, environmental management at the regional level i s implemented by technical staff in the TEIAS regional offices. Under APL3, it i s the plan o f TEIAS'to situate an environmental person in several or all o f their nineteen regional offices and ensure adequate training o f this personnel. 6. Safeguard policies Safeguard PoliciesTriggered by the Project Yes No Environmental Assessment (OPIBPIGP 4.01) [XI [I Natural Habitats (OP/BP 4.04) [I [XI Pest Management (OP 4.09) [I [XI Cultural Property (OPN 11.03, being revised as OP 4.11) XI [I Involuntary Resettlement (OPIBP 4.12) [XI [I Indigenous Peoples (OD 4.20, being revised as OP 4.10) [I [XI Forests (OPIBP 4.36) Safety of Dams (OPIBP 4.37) Projects in Disputed Areas (OPIBPIGP 7.60)' Projects on International Waterways (OPIBPIGP 7.50) Ixl The overall classification of the APL program i s FI. However, APL3 has a category-B rating and EMPs have beenprepared for most o f the project components in accordance with the procedures specified inthe EMFDocument. However, EMPs for some substations havenot yet beenpreparedbecause specific sites have not yet been finalized. Therefore, the EMF and a Land Acquisition Management Framework (LAMF)prepared under APL2 will be utilized for substations and other APL3 investments that may not be fully identified at the time the project becomes effective. As mentioned above, the EMF and LAMF specify safeguard procedures to be followed by TEIAS, for public consultation and disclosure o f safeguard documentation (EMPs, RAPS,etc). TEIAS has prepared a revised LAMF (now called the TEZAS Operational Procedures Document for Land Acquisition and Expropriation in World Bank Financed Projects) to completely address issues related to the documentation TEIAS will obtain and provide to the Bank to demonstrate that private users of land at the proposed substation sites are compensated fully inaccordancewith OP/BP 4.12. * By supporting theproposed project, the Bank does not intend to prejudice thefinal determination of the parties' claims on the disputed areas. 20  As an integral element of project supervision, the Bank will review bid documents and environmental monitoring reports to insure environmental management procedures are properly being implemented. 7. Policy Exceptions and Readiness There are no policy exceptions. 21  Annex 1:Program and Sector Background TURKEY: Energy Community of South East Europe APL 3 Project This Annex has three main sections: 1. The Energy Community of South East Europe (ECSEE) - Describes the background and evolution o f the ECSEE since its inception, and the status of its agreements and implementation arrangements. 2. TheWorld Bank's ECSEE-APL Program-Describes the adaptable program loan approved by the World Bank in January 2005 to support countries in meeting obligations and upgradingtheir power systems to effectively participate inthe regional market. This section reviews the status o f the ECSEE-APL program. 3. Turkey Country and Sector Issues - Describes the context under which power sector reforms were initiated inTurkey in2001, the progress made thus far and the key issues facing the sector 1. The Energy Community of South East Europe (ECSEE) The countries o f South East Europe have recognized that their energy supply security and reliability can be enhanced by regional cooperation. Specifically, they recognize that isolatednational markets are less efficient in addressing demand and supply imbalances. Within the region, the power supply situation i s projected to tighten significantly in the coming years with capacity additions in excess o f 25,000 MW needed to meet demand over the next decade, and plant rehabilitation in the order o f 12,000 to 15,000 MW6. In addition, investments will be needed in associated transmission and distribution network upgrades and expansion. In2002, to pave the way for an efficient regionalresponse to the emerging supply constraints and supply security concerns, the governments o f SEE and the European Commission (EC) signed inAthens, Greece, a Memorandum o f Understanding on the Regional Electricity Market in South East Europe and its Integration into the European Union Internal Electricity Market. This document i s referred to as the Athens Memorandum 2002. With the inclusion of natural gas, a more detailed version o f the memorandum was signed, which i s referred to as the Athens Memorandum 2003, and supersedes the 2002 document. The signatories expressed their intent in formalizing their commitments therein. The regionalmarket development process i s referred to as the Athens Process. ECSEE Objectives: The key objectives o f the Energy Community o f South East Europe (ECSEE) are to: Create a stable regulatory and market framework capable o f attracting investment to the region in gas . networks and power system so that all states in the region have access to the stable and continuous energy supply that i s essential for economic development and social stability; Establish an integrated regional market in South East Europe, closely linked to the internal energy market o f the European Union, and fully complying with the rules applicable within the European Union; 6 Review of power demand and supply in South East Europe, Working Paper No. 17, World Bank, October 2003 and separateBank staffestimates for Turkey. 22  . Enhance the energy security o f supply o f South East Europe and the European Union by providing . incentives to connect the Balkans to Caspian, Middle Eastern and North Afncan gas reserves and to exploit indigenousreserves o f fossil fuels; Improve the environmental situation inrelation to energy inthe region. Partiesinvolvedinthe Athens Processinclude: 0 The European Community; 0 Adhering Parties are Albania, Bosnia and Herzegovina, Bulgaria, Croatia, Macedonia, Romania, Serbia and Montenegro, and Turkey. 0 The United Nations Interim Administration in Kosovo, pursuant to the United Nations Security Council Resolution 1244. 0 The Adhering Parties and the United Nations Interim Administration in Kosovo together are ECSEE's RegionalMembers (also referred to as the ContractingParties). 0 EU Member States Austria, Greece, Hungary, Italy, and Slovenia are participants. Any other EUMember States can also request to become participants. 0 Neighboringnon-EUMember States can request to participate as observers. Currently, Moldova i s participating as an observer. The Treaty establishingthe EnergyCommunity (theTreaty) The Council o f the European Union authorized the European Commission inJune 2004 to open negotiations on behalf o fthe European Union, with SEE countries. The negotiations started in July 2004. ECSEE's Ministerial Council concluded on December 13, 2004 that there was broad agreement on the substance o f the Treaty and directed their negotiators to conclude remaining details as soon as possible. The Treaty was consequently signed on October 23, 2005 by ECSEE's Regional Members (with the exception o f Turkey) and the European Community. The current time-table calls for the ratification o f the Treaty by end-2006. The Treaty i s proposed to become effective when the European Union and a majority o f the Regional Members have ratified it. This schedule i s reflected in the proposed vertical triggers o f the ECSEE APL, with 6-month contingency provisions: signing by end-2005 and ratification by end-2006 (Section 2). Upon accession to the EU, Regional Members (signatories o f the Treaty) will automatically cease to be Regional Members and become participants. As members o f the European Union, participants are required to meet more demanding electricity market liberalization targets than those set for ECSEE but they will remain eligible to borrow under the ECSEE APL facility. Turkey'sreservationson the Treaty Turkey remains committed to the goals and principles o f the Athens Process and continues implementation o f the key provisions o f the Athens Process as discussed in section A.2. However, Turkey did not sign the Treaty because o f reservations about some o f the Treaty provisions that could not be resolved in time for the signing. With the EU decision o f October 3, 2005 to begin negotiations with Turkey for full accession, reservations on the Treaty now become intertwinedwith the negotiations on the adoption and implementation o f the Acquis Cornmunautaire. Turkey's principal reservations on the Treaty pertain to the following aspects: (a) TheAcquis on Environment: Turkey has reservations with Article 12, Article 15 and Article 16 o f the Treaty regarding the Acquis on environment. These articles require implementation of the several Environment Directives in a timetable that may not be at variance with the forthcoming negotiations o f their own chapter on environment within the accession negotiations. Turkey's view i s that its adherence in this regard would be contingent upon the accession negotiations o f the relevant chapter. Environmental mitigation investment requirements are significant, and will require a much longer timeframe than envisaged in the Treaty. Further, the EU has also provided derogations to other member countries or 23  negotiating parties from meeting environmental requirements for several years, and Turkey should expect to obtain similar derogations duringits negotiations. (b) External energy trade policy: Article 43 o f the Treaty permits the Energy Community to potentially regulate import and export o f network energy from and to "third countries" with regard to environmental standards and network safety. Additionally, Article 101would further require Turkey to take measures to possibly revise aspects o f existing bilateral contracts with third-parties that may be incompatible with the Treaty provisions. Turkey has reservations with these articles on energy trade, since Turkey is heavily dependent on imports for its oil and gas requirements, and further, given the bilateral nature o f its import agreements, it might technically not be possible for Turkey to ensure the amendment o f these agreements to bring about compliance with the Treaty. (c) Timetable for implementationof EC directives: Item2 o f Annex Io f the Treaty requires all Contracting Parties including Turkey to ensure that, all non-household customers are eligible to buy from any supplier starting January 1, 2008, and that all customers become eligible from January 1, 2015. Turkey's view i s that there i s a need for a longer transition towards full market opening. Currently, eligible customers are about 30% o f consumption, which i s much higher than inseveral ECSEEmember countries. Given these important issues and Turkey's current negotiating status, its position i s unique. Only Croatia among the ECSEE countries has to both negotiate with the EU for membership (Bulgaria and Romania are largely done while the others haven't started) and at the same time sign and ratify the Athens Treaty and fortunately for Croatia it does not have the first two issues mentioned above. Because o f this unique situation, Turkey's reservations on these aspects o f the Treaty have been acknowledged by the European Community, and both sides are working to reach a resolution over these issues in a short period o ftime. ECSEE ImplementationMechanism A comprehensive coordination and implementation mechanism has been established that brings together political and administrative leadership, regulators, transmission system operators and other utilities, the European Commission, international financial institutions and bilateral donors: ECSEE's MinisterialCouncilmeetingtakes place biannually with the participation o f the Ministers incharge ofEnergy ofthe participatingcountries andthe Commissioner for Energy andTransport of the European Commission. The Council takes strategic decisions and gives guidance to ECSEE and, where necessary, formally reviews the conclusions o f other ECSEE bodiedmeetings including the Forum. Once the ECSEE Treaty i s in effect, the Council will report annually on ECSEE's activities to the European Parliament and to the Parliaments o f ECSEE's RegionalMembers. ECSEE's Permanent High Level Group i s composed o f representatives o f the Ministries in charge o f Energy o f the countries and the European Community. The group meets, when necessary, on the initiative o f the Commission and the Presidency in Office, in order to prepare the agenda for the Ministerial Council and to ensure the follow-up o f its decisions. Two Task Forces have been established for ECSEE preparatory work and day-to-day coordination and cooperation: (1) the SEE Energy Regulators Task Force, which works closely with the Council o f European Energy Regulators (CEER); and (2) the SEE Transmission System Operators Task Force (SETSO), which interacts with the European Transmission System Operators Group (ETSO) and the Regional Group for Coordination o f Electricity Transmission in the Southeast European Interconnected System (SUDEL). The ECSEEElectricityForummeets at least twice yearly. The Forumcomprises representativeso f the governments, regulators and transmission system operators o f the countries, CEER, SETSO, ETSO, SUDEL, producing companies, consumers, the European Commission, the Stability Pact, and donors including the Bank. Donors are members o f the ECSEE Electricity Forum and usually the donor agencies also meet separately in connection with the Forum meetings. The Stability Pact assigned the role o f 24  coordinating the donors to the European Commission in 2001. The Commission retains the overall co-ordination, setting political/technical goals and organizing donors. The Commission was funding an Athens Process secretariat, based in Athens, to support the process, inter alia, benchmarking and monitoring it. The Ministerial Council, the Permanent High Level Group and the Forum have been in existence since 2003 and are formally recognized inthe ECSEETreaty. The Treaty establishes a RegulatoryBoard and a Secretariat: (a) The Regulatory Board would be an advisory body that monitors the implementation o f all statutory, technical and regulatory rules. The Regulatory Board would be composed o f one representative o f the energy regulators o f the Regional Members. The European Commission would represent the European Union. (b) The Secretariat would monitor ECSEE's development and review the implementation and functioning o f the energy market. The Secretariat would assist the Council, the Permanent HighLevel Group, the Forumand the RegulatoryBoard. ECSEE Market Vision and Sustainability The current situation and the key dimensions o f the short- and long-term vision for a sustainable regional electricity market can be briefly outlined as follows: ECSEE Participants: The main utilities inthe region are already engaged inpower trading, which provides the basis for further development. The next steps will be bilateral contracts involving unbundled utilities and large customers; followed by expanding trade as electricity markets in each country are further opened and additional customers become eligible and start exercising the freedom to choose their electricity supplier. Market Sophistication: Some o f the countries are already developing day-ahead markets (operated by market operators) and real-time balancingmechanisms (operated by systemoperators). Over time such markets and mechanisms will become increasingly standard; and further sophistication will be developed, including intra-day and real-time balancing markets and financial instruments (possibly starting with a contract exchange). Competition: Current utility-to-utility contracts and other exchanges are typically cooperative and competition i s not their key objective. As industry unbundling deepens and in line with market opening across the region, contracting and trading will become increasingly competitive. However, transmission system operators will continue to coordinate on a cooperative basis, as members o f SETS0 and inthe framework o fthe UCTE. Integration of ECSEE into the European Union Internal Energy Market: Except for Turkey all countries o f the SEE operate synchronously as a part o f the main European power system administered by UCTE. Turkey has one asynchronous interconnection with Bulgaria and has completed the line to the Greek border (Greece i s expected to complete its section o f the interconnection in 2006). The studies for the interconnection o f Turkey to the UCTE are well advanced. Additional transmission links to the EU countries will be developed. They include a second connection between Romania and Hungary (with EBRD financing for implementation), and second connections between Serbia and Hungary and Croatia and Hungary, and a connection between Croatia and Italy/Slovenia (the last three interconnections are candidates for financing under the ECSEE APL). Through integration the countries o f the region secure access to major trading partners and important import sources to meet possible electricity shortfalls and requirements for emergency support. This highlights the electricity/economy dimension in ECSEE's integration into the EuropeanUnion internal energy market. 25  2. The World Bank ECSEE APL Program The Use of Adaptable Program Lending(APL) for ECSEE The key policy and institutional elements for an APL program have been defined and established. ECSEE i s a regional program, with strong country commitment and with well-established coordination mechanisms at the highest political level, also at the level o f regulators and transmission companies in the region, as well as among donors supporting the program, plus the ECSEE Electricity Forum which brings them all together with other stakeholders. ECSEE i s a regional program and the Bank investment support i s being provided using the APL instrument, horizontally on a regional basis (to support up to eight countries and Kosovo) and vertically (each country can in principle receive support from more than one APL installment over the APL program period). An APL enables the Bank to provide regional financial support to a regional program, yet financing would be tailored to the needs o f individual countries to help themmeet their commitments to ECSEE. APLl presented the ECSEE program and the first country project in Romania that the Bank would finance. APLl was presentedto the Board on January 27,2005 -the Board approves all first-phase APLs under regular procedures. The approval o f subsequent APL phases was delegated to the President to be exercised by the Regional Vice Presidents under the oversight of the Managing Director. Subsequent country projects would be processed each at its own pace and when ready, each P A D would be submitted for approval by the Vice President,Europe and Central Asia Region. Each PAD would be circulated to the Board for information after Management approves the follow-on operation inprinciple. Management approval becomes effective 10 working days thereafter, unless at least three Executive Directors request a regular Board discussion during the 10-day time period. Each country/project could proceed at its own pace and not be held back by the Bank needing to combine several projects for the purpose o fprocessing or approval. APLs typically have 3-5 phases. In the case of the ECSEE APL, APLl presented the first country project inRomania together with the APL program. The APL2 phase would cover other country projects approved within FY05, APL3 phase would cover country projects approved in FY06, and APL4-5 phase projects approved in FY07-08 This phasing provides for a four-year program (FY05-FY08). Each APL installment would have an implementation period o f up to five years. The implementation o f some o f the projects inAPL5 could continue untilFYO13. APL Triggers Two sets of triggers apply under the APL. In addition to project triggers (which determine when an individual investment i s eligible to receive Bank funds), policy triggers determine the eligibility o f an individual country to receive Bank assistance under the APL program. Policv Triggers A fundamental eligibility criterion for a country to qualify for Bank support i s the signing o f the Athens Memorandum- all prospective clients signed the Memorandum on December 8, 2003 and therebythey all meet this requirement (the Athens Memorandum is the base document for ECSEE). Horizontally under the regional APL, a country becomes eligible to borrow once it has met ECSEE's basic entry conditions as they were defined in the Athens Memorandum. The ECSEE APL requirements are that an electricity sector regulator and a transmission system operator have been established and are operational. It is currently expected that all Regional Members would meet this condition by mid-2006 at the latest. Vertically, a country remains eligible for Bank support under the ECSEE APL program as long as the country signs and ratifies the ECSEE Treaty and meets its key obligations under the Treaty. 26  For a country/borrower to be or remain eligible for Bank support under the APL program the Bank also needs to be satisfied that the countryhorrower has the ability to effectively participate in the regional market. With this trigger, the Bank would reserve the right to defer or withhold ECSEE APL support in cases where a country might have complied with the letter o f its Treaty commitments but not have implemented or launched credible programs or other critical measures that are needed for market participation such as, for example, reasonable tariffs, adequate bill collection, and systems for electricity market and power system operations. The Treaty calls for the opening o f the electricity market to all non-household customers by January 1, 2008. The target dates that are being applied as.triggers under the ECSEE APL program will be those incorporated in the Treaty including derogations and subsequent modifications agreed by the European Commission and ECSEE RegionalMembers. Triggers will not be applied to loandcredits already approved. As an example, the APL2 loan to TEIAS does not have conditions (equivalent to dated covenants) about the country having to meet triggers for future APLs and a possible failure to meet such future triggers will not jeopardize the implementation of projects that are under implementation. Compliance by the country/utility o f its commitments under ongoing Bank operations in the power/energy sector will not be an additional trigger. The use o f the APL program as an additional leverage to address issues under ongoing operations will be limitedto areas where non-compliance affects the utility's ability to participate inthe regional electricity market, for two reasons: (a) inability to retain a strong regional approach and focus on ECSEE; and (b) inability to keep the implementation o f the APL program manageable. This approach i s inline with the International Development Association (IDA) pilot program for regional projects, which calls for flexibility even when a country is in arrears to the Bank, if its participation i s crucial to the success o f a regional project. CASFramework Bank assistance to the individual projects will be committed through loans and credits to individual countries within the framework o f the Country Assistance Strategies (CAS), although insome cases fbndingadditional to that foreseen inthe CAS mayberequired. EnvironmentalConsiderations The Bank's standard environmental requirements would apply to projects supported under the APL program. An environmental management plan acceptable to the Bank would be finalized and disclosed inthe country and submitted to the InfoShop prior to project appraisal of category B projects. More comprehensive environmental impacts assessments would be required for category A projects, if any. Most projects to be financed under the program are expected to be category Bprojects, but some generationrenovationprojects mightreceive category A ratings. The US$ 1.0 BillionECSEEAPL LendingProgram The US$1 billion size o f the ECSEE APL facility approved by the Bank represents a significant commitment to ECSEE by the Bank. Even though the size may appear to be large, the financial requirements o f power development in the region are also very large, and the Bank's US$ 1.0 billion has to be seen in this perspective. The SEE region faces a fundamental risk of not being able to meet the growing demand for electricity. Significant capacity additions (of the order of 12,000-15,000 MW) and plant rehabilitations (of the order o f 8,000-9,000 MW) will be required during the next ten years, along with matching transmission and distribution system investments ifdemand i s to be met and severe power shortages and supply interruptions are to be avoided. Financing requirements are o f the order o f some US$30-40 billion and these are conservative estimates. The bulk o f such financing, particularly inpower generation, can not be raised inthe public sector alone, without significant private sector participation. Through ECSEE - a regional market o f countries with harmonizedand EU-compatible legislation and institutions underpinned by a legally bindinginternational 27  Treaty - the region will develop an EU-compatible regional market and thereby represent a much larger and more attractive investment destination for prospective investors. A tentative country breakdown o f the utilization o f the APL program financing is given in the table 1.lbelow. APLl APL2 APL3 APL4 APL5 FY05 FY05 FY06 FY07 FY08 TOTAL I Albania I I 27 I I 30 I I 57 I Bosnia And Herzegovina 36 30 66 Bulgaria Croatia 1IIKosovo 5 1 51 Macedonia 25 25 Romania III 84 III III II 126 III 125 III 335 II Serbia And Montenegro 21 50 71 Turkey 66 150 129 345 I Unallocated TOTAL 1- The above APL financing plan includes a proposed unallocated portion o f US$lOO million (about lo%, in principle available any time when needed inthe FY05-08 period), which could be used to fund projects in Bulgaria and Croatia (which have not expressed strong interest inthe APL facility) andor provide higher volumes to others, or ifnot needed, would simply not be committed. 3. Turkey Country and Sector Issues - CountryEconomicOverview The Turkisheconomy hasreboundedfromthe serious 2001 crisis the consequences ofwhich were very serious. By the end o f 2001, the currency had devalued by 50 percent, nominal interest rates were about 100percent, and the banking system had virtually collapsed. GNP growthhasbeenstrong since 2001- 8 percent in2002, 6 percent in2003, and 10percent in 2004 and an estimated 5% in 2005. Inflation is under control reaching single digits in2004 and 2005, the lowest inTurkey for 35 years. Net public debt has decreased significantly - at the end o f 2004 it reached 64 percent o f GNP compared to 79% percent in2001. Several factors contributed to the improved macroeconomic performance - key amongst them are: strong fiscal discipline which has allowed the maintenance o f a large primary surplus on the order o f 6.5 percent o f GNP;on-going structural reform; and political stability since 2002. The EU's decisionto open accessionnegotiationswith Turkey in October 2005 -has been an important signal to financial markets and has created a firm anchor for the country's development and structural reforms inthe years ahead. 28  Impetus for Electricity Sector Reforms . The economic crisis o f 2001 led to the crystallization and recognition o f several structural and planning deficiencies in the electricity sector, the most important o f which were: A build-upo f public contingent liabilities as a result o f the Government guaranteeing debt for a substantial amount o f privately financed generation capacity, These generation projects have . imposed a heavy take-or-pay burden on the electricity systemand have complicated the transition to a structure where the commercialrisk can be shifted to private investors. A rising quasi-fiscal burden on the budget stemming from growing consumer non-payment and electricity theft problems at the distribution level. The non-payments worsened as a consequence of the economic crises. Although an attempt was made at offering private sector concessions for the distribution sector in the period 1999-2001, most o f these concessions involved guaranteed . distribution margins with the supply risk borne by the Government. This approach was abandoned due to legal challenges to the approach and the nature o f risk sharing. Political influence on operating, planning and pricing decisions that made operational decision making more difficult. Reform Direction -Electricity Market Law and the EUMarket IntegrationProcess . The Government embarked upon a comprehensive reform and restructuring program o f the electricity sector inorder to create a liberalized, efficient and economic sector. This was initiated by the Electricity Market Law (Law No. 4628) promulgated in February 2001 and this path reflected inthe strategic paper accepted by the HighPlanning Council in March2004, accelerated the reform process. The principles and goals o f the reform program defined by this Law are . substantially in line with EC Directives (1996/92/EC and 2003/54/EC) concerning rules for the internal market for electricity. Turkey i s a signatory o f the Athens Memoranda o f 2002 and 2003 and has begunnegotiations for full accession including the Energy Chapter of the Acquis Communautaire (Refer to the discussion above). Reform Implementation . Functional and corporate restructuring of the sector -Pursuantto the law TEAS, the former integrated generation and transmission corporation, was restructuredinto a generating corporation EUAS, a trading corporation TETAS and a transmission corporation TEIAS. TEDAS, the Government-owned distribution corporation had been earlier separated from TEAS' predecessor, TEK. In 2004, TEDAS was restructured into separate companies (DISCOS)inpreparation for their privatization. The generation sector is also in the process of being restructured into six separate portfolios o f generation assets that will be later formed into companies (portfolio companies) that would be privatized once distribution i s substantially privatized. EUAS . however, will continue to own the large multipurpose hydroelectric projects amounting to about 7,000 MW. See Figure 1.1below on the currently plannedtransitional sector structure. Independent Regulatory Framework - Turkey has set up an independent regulatory authority, the Energy Market Regulatory Authority (EMRA) with jurisdiction over electricity, gas and petroleum. EMRA has powers over licensing, tariff setting and customer service issues. EMRA i s currently involved in setting multi-year tariff principles for the distribution business, and a tariff equalization mechanism across regions in order to enable national uniform retail tariffs. The Law has been amended recently to allow uniform national tariffs and to enable an . equalization mechanism. EMRA has also conducted the privatization o f gas distribution very successfully over the last few years. Privatization of Distribution and Generation - Turkey's plan i s to privatize its distribution companies inphases over the next two years. The regional companies have been created, and are beingprepared for privatization, which i s expected to commence inmid-2006. While this process is delayed from the original timeline, this i s because Turkey i s keen to avoid a repeat o f earlier 29  difficulties in privatization. Turkey is preparing the implementation o f the balancing and settlement system prior to privatization, in order to enable private investors to understand the . market in its entirety before they bid. Once a substantial part o f the distribution business i s privatized, Turkey plans to privatize its existing generating assets as well. Retail Competition in Electricity - Consumers whose annual consumption exceeds 6.0 GWh can choose their own supplier - this represents more than 30% of the total Turkish electricity market. Competitive Market Structure -Market simulations are inprogress to introduce a competitive bilateral contract market with a balancing and settlement system. TEIAS, the transmission . corporation i s the independent system operator, and will also be the market operator. The market i s expected to provide the necessary price signals for potentialnew generation. Turkey's Regional Interconnection Efforts - Turkey first applied for UCTE (Union for the Coordination o f Transmission o f Electricity in Europe) membership in March 21, 2001. Since then several studies financed by the European Commission within the framework o f the TEN (Trans-European Networks) Program, have assessed different scenarios for connecting the Turkishpower system to the UCTE power system through Bulgaria and Greece. On September 28, 2005, a technical study was initiated by UCTE to complete transmission assessments including static and stability analyses to determine the technical conditions under which the Turkish power system will be synchronized with the power system o f the UCTE'. Turkey already has two lines to Bulgaria, and will complete its section o f the linkage to Greece [The Greek section has been delayed but i s expected to be completed in20071. 'There are a number o f other linked activities supported by the European Commissionthat are either completed, planned or underway to assess the conditionsof integrationof the Turkish power system and neighbouring systems in the regional energy markets. These activities include: Stability Study for the Synchronously Interconnected Operation of the Electricity Networks of UCTEICENTREL, Bulgariaand Romania", financed by TEN; completed, Euro Mediterranean regional project "Euro Mediterranean Energy Forum Support to the Ad Hoc Groups" financed - through the MEDA Program; for supporting the three Ad Hoc groups, Energy Policy, Economic Analysis and Interconnections which were created according to the action plan of Euro MediterraneanEnergy Forum, to achieve their objectives; inprogress. Euro Mediterranean regional project "MEDRING", for the technical and economic assessment of the interconnection of the electricity transmission networks of the Mediterranean countries, financed through the MEDA Program; in progress. Southeast Europe Electricity RegulatoryForum (SEERF) Initiative for the creation of a regional electricity market in the SouthEasternEuropefor its further integrationto the InternalElectricity Market (IEM) of the EU; inprogress. 30  Figure 1.I Transitional Electricity Sector Structure : Key Medium-TermSector Issues (a) Delays in implementation of the competitive market in electricity - Turkey has begun implementation, on a trial basis, o f a competitive bilateral contract market with a balancing system for energy, as laid out in the Government strategy paper o f March 2004. This process however, i s delayed significantly largely for the following reasons: - Unwillingness o f existing market participants, the distribution companies primarily, to participate inthe market on a cash basis. - Delay in finalization o f transitional contracts for existing generation between EUAS, - TETAS and distribution companies. Delay in finalization o f the equalization mechanism for retail tariffs to enable uniform - tariffs inthe country. Delay inapproval o f market regulations and related amendment o f legislation. The challenge facing Turkey i s to achieve coordinated and timely implementation o f the multiple activities integral to the creation o f the market, and generally, to the overall reform process. Most implementation activities are very closely linked - for example, the output by one implementing agency (e.g. tariff profiles prepared by TEDAS) needs approvals (from E M U ) and also serves as inputsto the preparation o fvesting contracts (by TETAS and MENR). Effective coordination is therefore critical. The risk to the Government with implementation delays resulting from inadequate coordination i s the increasing levels o f direct and contingent liabilities owing to: (i)a non-functioning market mechanism with impacts on supply security (see point (b) below); (ii) continued cash-flow shortfalls at the distribution level (see point (c) below); and (iii) negative signals and perceptions created in the private investor community o f the Government's commitment and ability to implement the reform agenda. (b) Ensuring supply security - Electricity demand has been growing at about 6 percent per annum 'between 2002 and 2005 and the Government anticipates it will accelerate over the next decade 31  closer to the long term average o f about 8%.(However, Government forecasters are also analyzing a case where demand growth remains about 6%) Inany case, capacity increases on the order o f 1,500-2,000 MW per annum are required from around 2009-2010 onwards. The issue o f concern i s that there although licenses have been issued for about 6,000 MW o f new capacity (of which 4,000 MW i s for small hydro and wind), there i s presently very little new construction that has been started. The problems are largely linked to the on-going market implementation which has not yet led to the formation o f credit-worthy private distributors who can contract for new capacity andor electricity offtake. Even ifprivatization was to be achieved soon, the ability and willingness for the new distributors to contract for new capacity remains uncertain. In order to strengthen supply security, the implementation of the market and privatization of distribution are vital. (c) Accumulated arrears inthe electricity utilities- Operating revenues at all the publicly-owned electricity and gas sector companies in Turkey are inadequate to meet their longer term level o f operating costs and expenditures. The problem i s mainly inthe distribution business managed by TEDAS. As o f 2004, the theft and loss percentage i s 18.5% o f purchases by TEDAS. Bill collection i s about 90%. Due to these problems there i s a 25-27% shortfall in payments for purchased electricity by TEDAS which inturn cascades into revenue shortfalls to all the upstream electricity and gas businesses (Refer to Annex 9 for a detailed discussion on the current situation o f bill collection and accumulated arrears). (d) Reconciling independent economic sector regulation with the Government's economic stabilization controls - Presently, the Government exercises certain economic controls and constraints on pricing o f energy services/outputs and investment decisions, in order to maintain fiscal prudence, achieve a healthy primary surplus, and restrain inflationary pressures. There remains a fine line between economic stabilizationcontrols and other forms o f economic controls that prevent the development o f institutions essential to a functioning market economy. To mitigate regulatory risk for private investment it will be important that the economic stabilization restraints are relaxedto allow timely pass-through o f costs to consumers - specifically: - wholesale gas prices should be adjusted to reflect the market terms in the underlying - contracts; retail electricity prices should be adjusted to reflect operating cost changes at the distribution level as well as changes inwholesale prices; and - electricity produced by state-owned hydro power plants which i s sold into the market i s priced at levels that send appropriate signals o f scarcity and water value so as not to distort wholesale market price signals. In addition, the regulator should approve investment programs consistent with established performance targets. (e) Transition to compliancewith Europeaninternal market and environmental standards - Turkeyis committed to the principles o fthe Athens memorandum, even though it did not sign the Treaty in October 2005. Although Turkey has begun implementing fundamental structural reforms in its power sector, some o f which are far more advanced than required from the EU's perspective, there are several areas, such as the timeframe for complete retail market opening that Turkey has reservations on, for good reasons. Turkey has already allowed significant retail market opening, and the results have been positive from the point o f view o f attracting new 32  capacity and ensuring better supply quality for these consumers. However, in order to enable all the existing consumers to choose their supplier, several fundamental changes are required in the sector, most critical among these being the improvement in distribution system losses and payment discipline. It i s widely acknowledgednow that these changes will occur on a sustainable basis only after significant privatization o f distribution, which may take several years to accomplish. Another area where Turkey has reservations with regard to compliance with the EUAcquis i s in the area o f environmental standards. InJuly 2005 EUconsultants produced a report on Turkey's investment needs in order for it to be in compliance with the EU Large Combustion Plant Directive which limits emissions by these plants (Directive 2001/80/EC). Almost all o f the plants covered by the Directive are thermal power plants and the estimated cost o f bringing them into compliance with the EU Directive i s 1.5- 1.9 Billion Euro (US$ 1.8-2.3 Billion). This i s a large investment requirement for Turkey, and, in the absence o f concessional financing, will require a number o f years to implement, given the lack o f adequate fiscal space for incremental investment. 33  Annex 2: Major Related Projects Financed by the Bank andlor other Agencies TURKEY: Energy Community of South East Europe APL 3 Project Overview of the World Bank Program in the Energy Sector in Turkey Advisory Support The Bank has a strong advisory support program to help the Government and the utilities in the gas and electricity sector. The Bank supported the government in structuring and establishing the Energy Market Regulatory Authority in 2001 and in defining the detailed electricity market design. A Bank technical assistance loan supports specific implementation tasks, such as distribution sector . unbundling, definition of tariff review rules, and preparation of initial transitional contracts to prepare for privatization. An independent expert panel o f leading international specialists in market implementation, . regulation and privatization provides the government guidance on challenging implementation trade-offs and choices. In the gas sector a comprehensive gas development strategy was completed in 2004 to set a framework and process for introducing competition inwholesale supply. The Bank i s also beginning its support to key energy utilities inorder for them to achieve a credit quality rating that will enable them to access capital markets without sovereign guarantees. Presently, financial advisors financed by PPIAF (Public Private Infrastructure Advisory Facility) are working with BOTAS inpreparing for a credit review by a rating agency. In addition to the continuing work on reform implementation, the Bank will continue its advisory work focusing on issues o f energy supply security, EU market integration and helping the institutional development o f various utilities inthe energy sector. ProjectLending The current program o f lending inthe energy sector aims to: (a) bridge gaps ingas and electricity service delivery needs during the reform transition; (b) meet EU integration challenges; and (c) ensure that essential infrastructure that can affect energy supply reliability i s implemented. The projects include: (a) NationalTransmissionGridProject(NTGP): This project loan o f US$270 million was approved in 1998 to the then integrated transmission and generation corporation, TEAS. Project objectives are to: (i) develop adequate transmission grid capacity ina timely and environmentally sustainable manner; (ii) continue the reform o f the power sector by establishing the independent operation o f the transmission grid system; and (iii) maintain the financial viability o f the state institution responsible for the grid development and operation. The project was restructured in 2002, after TEAS was restructured into three corporations - TEIAS (transmission), EUAS (generation) and TETAS (trading and contracting). TEIAS i s the successor and has taken on the obligations under NTGP, but US$ 20 Million of the loan was assigned to the Government for helping fundthe implementation o f the reformprocess. The project i s rated satisfactory both on a Development Objectives (DO) and Implementation Progress (IP) basis. While construction o f transmission lines has been slower than anticipated, capacity shortages have been avoided, TEIAS has been designated the independent operator of the transmission grid and TEIAS itself remains financially viable. In addition, reform in the electricity sector i s continuing with the creation o f an electricity market and ongoing efforts to privatize distribution and generation. 34  (b) RenewableEnergyProject: The project loan o f US$ 202.03 million was approved in M a y 2004. The objective o f the project i s to increase privately owned and operated power generation from renewable sources without the need for government guarantees, and within the market- based framework o f the Electricity Market Law. The Treasury has on-lent the funds to the TurkishDevelopment Bank (TKB) and the TurkishIndustrialDevelopment Bank (TSKB). The two development banks in turn are on-lending the funds to private developers o f renewable electricity generation projects. The PHRD grant was used to support the government in the preparation o fthe renewable energy law approved inJune 2005. (a) ECSEEAPL2:This loan o f Euro 50.6 million is part o f the Energy Community o f South'East Europe (APL) Program. The objective o f the program i s the development o f a functional regional electricity market in South East Europe and its integration into the internal electricity market o f the European Union, through the implementation o f priority investments. In the case of Turkey, the specific objectives o f ApL2 are to: (i)assist with the creation o f a market management system for the electricity market; (ii) strengthen the SCADA system to enable TEIAS to operate more efficiently; and (iii)strengthen the transmission grid. This loan became effective in September 2005. (d) The Gas Sector DevelopmentProject:This project loan of US$ 325 million to BOTAS (the gas transmission and wholesale corporation) finances a gas storage facility for Turkey as well as part of its transmission system expansion. In addition, the project supports the restructuring o f the Turkishgaspipeline corporation(BOTAS) andhelpsit achieve access to capitalmarket financing inthe future. This project results from the Gas Distribution Strategy and the Gas Sector Strategy Note completed by the Bank for the Turkish Government in July and September 2004. These studies indicated inter alia that peak demand for gas would increase rapidly with the expansion o f gas distribution and therefore storage i s increasingly needed. This storage would make gas supplies more reliable, thereby improving the investment climate for gas using companies. The system expansion and the storage would also assist with Turkey's increasing role as a gas transit country. In addition to the above ongoing operations, and apart from ECSEE APL 3, the Bank is currently preparingthe following lending operations: Energy LiberalizationProject: This project will support EUAS, the state owned electricity generation corporation. It i s designed to assist it with increasing supply security for the country by rehabilitating an existing power plant and to assist EUAS with preparation o f six generation companies (Gencos) for privatization later. The loan i s expected to be presentedto the Board for approval inApril-May 2006. The ElectricityDistributionRehabilitationProject: The distribution sector in Turkey has not completed essential investments in system upgrades and rehabilitation for several years, for two reasons. First, from 1997-2002 the sector went through an unsuccessful attempt at privatization which resulted in the slowing down or, in some cases, discontinuation o f investment. Second, the Government faced budget pressures during repeated fiscal crises and curtailed investments in the distribution sector. The proposed project will thus help Turkey address some o f the system rehabilitation and upgrading investments that are important to improve the reliability o f the system. In addition, the project will support the Government establishing a viable privatization tendering approach. The project i s expected to be presentedfor Board consideration inFY 2007. 35  of3 for the E The following is a selective listing o f related projects and highlights o f those that are directly supporting ECSEE's development. The World Bank has ongoing projects in the electricity sector in most ECSEE countries, and technical assistance in Kosovo. These projects support various aspects o f power sector reform and restructuring, including financial aspects, and inter alia help build the foundation for the development of a regional electricity market and participationby the respective countries/utilities. The Third Power Reconstruction Project in Bosnia and Herzegovina i s instrumental for the resynchronization o f the second UCTE zone (Eastern part o f Bosnia, plus Albania, Bulgaria, Greece, Macedonia, Romania, Serbia and Montenegro) with the Western part o fBosnia and Croatia, and the main UCTE Western Europe power system. The European Union supports power sector reform and restructuring under its technical assistance operations in the region. Through its Phare program, in large part co-financed with EIB and EBRD, it i s also providing investment support to Transelectrica inRomania. EBRD has ongoing power sector projects in Albania, Bosnia and Herzegovina, Bulgaria, Macedonia, Romania and Serbia and Montenegro, including private sector power generation in Bulgaria. EBRD has just approved a project that will implement the second interconnection between Hungary and Romania. This interconnector will be one of the means for the integration of ECSEE into the internal market o f the EuropeanUnion. EIB has ongoing power sector projects in Bosnia and Herzegovina, Bulgaria, Macedonia, Romania and Serbia and Montenegro, often inco-financing arrangements with EBRD and/or the Bank. KfW has ongoing power projects in Albania, Bosnia and Herzegovina, Kosovo, Serbia and Montenegro, and Turkey. TechnicalAssistance Several Bank projects also provide technical assistance. Most noteworthy inthis context are the ongoing projects in Romania and Turkey, which support the development o f electricity markets. The Spanish Government has provided support through a trust fund to help the Bank review ECSEE investment projects and to help fund an electricity market expert panel for Turkey. CIDA o f Canada i s providing regional technical assistance (the SEETEC project) for the development o f the regional electricity market in South East Europe. USAID i s providing technical assistance on legal and regulatory aspects o f power reforms and restructuring, including institution-building support to the regulatory agencies, throughout South East Europe, as well as regional studies on power trade and required communication facilities for the development o f ECSEE. Annex 5 o f the Bank's March 2004 framework paper (footnote 2) contains a comprehensive listing o f technical assistance in the ECSEE context. The Italian Government may provide technical assistance for ECSEE preparatory work to ECSEE Regional Members. All o f these agencies/countries except Spain are members o f the ECSEE Forum. Inaddition, the Pre-accession Programs sponsored by the Government o f Netherlands to provide assistance to the public sectors o f the EU candidate member states (Bulgaria, Croatia, Romania and Turkey) for the implementation o f the acquis communautaire or accession related i s funding a project to improve the system planning methodologies o f TEIAS, "enhancing the transmission system planning methodologies of TEIAS in a liberalized market structure". The project will focus on the tasks and responsibilities o f TEAIS as a TSO and support will mainly be provided to the Planning Department o f TEIAS to improve planning systems and methodologies necessary to prepare the necessary system expansion plans to ensure that transmission system will have adequate and reliable capacity to support energy flows and trades and the power system will operate safely and efficiently. 36  Annex 3: Results Framework and Monitoring TURKEY: Energy Community of South East Europe APL 3 Project PDO Outcome indicators Use of Outcome information ECSEE APL Program (January 2005) The development of a functioning Electricity markets in South-East An increasing number of electricity regional electricity market in South East Europe are liberalized in consumers are free to choose their Europe and its integration into the accordance with the ECSEE electricity supplier. internal electricity market of the Treaty (including time extensions European Union, through the and subsequent modifications, if implementation of priority investments any) and a regional electricity supporting electricity market and power market is functioning. system operations in electricity generation, transmission and distribution and technical assistance for institutional/systems development and project preparation and implementation. ECSEE APLJ-Turkey. To increase the APL3 projects are completed The power transmission network in safety, reliability, efficiency and capacity successfully. The power lzmir and Istanbul supports increased of the bulk power transmission system in transmission network in lzmir transmission access and power trade Turkey and to improve market access and Istanbul operates reliably, as the regional market is liberalized. for consumers and suppliers of safely and efficiently. electricity. IntermediateResults Results Indicatorsfor Each Use of Results Monitoring One per Component Component Component 1: Transmission Network (i) Satisfactory completion of the Transmission system operates Strengthening three new 154 kV GIS reliably, allowing load growth to be substations which provide an serviced. Line outages do not force increase in supply capacity of shedding of load. 640 MVA. (ii) Satisfactory completion of the Yildiztepe - Davutpasa 380 kV Underground Cable. Component 2: Urban Transmission (ii) Satisfactory completion of the Elimination of public safety risks Network Upgrade eight 154 kV underground cable associated with the 154 kV overhead projects replacing overhead networks in the urban areas of transmission lines in settlement Istanbul and lzmir. areas of Istanbul and lzmir 37  I I * v) % I I 10 i % 1 I  Annex 4: Detailed Project Description TURKEY: Energy Community of South East Europe APL 3 Project The ECSEEAPL 3 Loan for Turkey will finance two main components: 1. Transmission Network Strengthening- Increasing capacity and reliability o f the transmission network in Istanbul and Izmir by constructing three new 154 kV GIS substations and a 380 kV underground cable link. These investments will facilitate market access to distribution companies, eligible consumers and competing energy producers. 2. Urban Transmission Network Upgrading- Replacement o f eight existing 154 kV overhead transmission lines in densely populated areas o f Istanbul and Izmir with underground cables. These investments will improve public safety that has been severely compromised by uncontrolled urban expansion that has led to buildings violating the clearance requirements from lines and encroachment o fthe right-of-way under the lines by buildingsand streets. Component 1:Transmission Network Strengthening (total Cost: US$50 million) (a) Alsancak 154 kV GIS Substation will be located in the city center o f Izmir and i s needed to meet increasing load growth. The new substation will be connected to Bornova and Hilal 154 kV substations which are presently loaded at more than 90% o f their 340 MVA rated capacity. By 2008, it is expected that 141 MW o f new load will be added in the local area o f Bornova and Hilal substations. It i s not feasible to supply the new load by expanding Bornova and Hilal 154 kV substations as there is no available space. The Alsancak 154 kV GIS substation will add 200 MVA of capacity (2x50+100). Itwill be connectedto the 154kV network by a 100meter double circuit to the overhead line between Bornova and Hilal 154 kV substations. TEIAS will be responsible for the financing and construction o f the substation connection line. @) Ayrilikcesme 154 kV GIS Substation: This new substation will be located on the Anatolian side o f Istanbul on land to be transferred to TEIAS by the TurkishState Railways. This substation i s needed to meet the new energy requirement o f the "Bosphorus Tube Crossing Subway" project. The new substation will be connected to Selimiye and Goztepe 154 kV substations. The two substations are loaded at more than 70% o f their 280 MVA capacity. TEIAS estimates that by 2008 a total o f about 227 MW of new load will be added in the local area o f Selimiye and Goztepe 154 kV substations, causing the area total load demand to exceed the MVA capacity o f the two substations. The new load will be the result o f the interconnection o f new industrial load and the energy requirement o f the subway project. The supply o f the new load by the expansion o f Selimiye and Goztepel54 kV substations i s not feasible due to the unavailability o f the land needed to expand the substations. Furthermore, due to the high reliability requirement o f the subway electricity supply, the new subway demand, as well as the demand o f the new industrial loads, will be supplied by the new Ayrilikcesme 154 kV GIS substation. The capacity o f the new substation will be 400 MVA (4x100). The Ayrilikcesme 154 kV GIS substation will be connected to the 154 kV network by a 500 meter double circuit undergroundcable connecting the substation with the 154 kV transmission line between Selimiye and Goztepe 154 kV substations. TEIAS will beresponsible for the financing and construction o fthe substation connection line. 39  (c) Yenikapi 154 kV GIS Substation: This new substation will be located inthe Thracian side o f Istanbul on land transferred to TEIAS by the Metropolitan Municipality. Similar to Ayrilikcesme substation, this substation i s includedinTEIAS Investment Program and will mainly be needed to meet the new energy requirement o f the Bosphorus Tube Crossing Subway project. The new substation will be connected to the Veliefendi and Aksaray 154 kV substations. The two substations are moderately loaded at more than 55% o f their 500 MVA capacity. However, TEIAS estimates that by 2008 a total o f about 275 MW o f new load will be added in the local area o f Veliefendi and Aksaray 154 kV substations causing the area total load demand to exceed the MVA capacity of the two substations. Due to unavailability o f land to expand the two substations and high reliability requirement o f the Subway electricity supply the new subway demand inthe Thracian side o f Istanbul, as well as the demand o f the new industrial loads, will be supplied by the new Yenikapi 154 kV GIS substation. The capacity o f the new substation will be 350 MVA (3x100+50). The Yenikapi 154 kV GIS substation will be connected to the 154 kV network by a 50 meter double circuit underground cable connecting the substation with the 154 kV transmission line between Veliefendi and Aksaray 154 kV substations. TEIAS will be responsible for the construction and financing o f the substation connection line. (d) Yildiztepe - Davutpasa380 kV UndergroundCable: This 380 kV underground cable will be necessary to increase the reliability o f the network connection o f the new 380 KV Davutpasa substation in Istanbul. The substation and its 380 kV cable connection to the 380 KV Ikitelli substation are currently being constructed and financed by the Bank's National Transmission GridProject loan to TEIAS. The construction of Davutpasa 380 kV substation will be completed in2006 and will benecessary to meet the growing demand inthe substation local area. Results of load flow calculations show that the total load supplied by Davutpasa 380 kV substation in 2010 will be about 725 MW, o f which 580 MW will be carried by the 380 kV Ikitelli - Davutpasa underground cable. An outage o f the 380 kV Ikitelli - Davutpasa underground cable will overload the 154 kV transmission lines in the local area o f Davutpasa and will force energy interruption to the consumers. The Yildiztepe - Davutpasa 380 kV underground cable i s necessary to meet the N-1transmission planning criteria and increase the reliability o f electricity supply. Construction o f a 380 kV overhead line between Yildiztepe and Davutpasa substations instead o f the underground cable i s not feasible as the route o f the line goes through developed urban areas. The underground cable will be buried beneath streets, for which the Metropolitan Municipality will provide rights-ofway. (e) Additional Investments: This component includes a US$ 10 million provision for additional investments including new transmission lines and substations or other priority transmission network upgrades. For any additional investment project to be eligible for financing under the ECSEE-APL3 Turkey loan, TEIAS will: - Submit to the Bank a satisfactory project report demonstrating technical feasibility and economic viability o f the proposed investment project and confirmation that the investment project i s part o f TEIAS investment plan. - Submit to the Bank satisfactory project environmental assessments with an Environmental Management Plan, Land Acquisition Plan, and other requirements o f safeguard policies that will be triggered by the proposedinvestment project. Component 2: UrbanTransmission Network Upgrading(Total cost US$114 million) Eightnew underground cables will be constructed to replace existing 154 kV overhead transmission lines in densely populated areas of Istanbul and Izmir. The 154 kV overhead transmission lines that will be replaced have been enveloped in rapid, uncontrolled urban expansion with sections o f the lines passing 40  I UndergroundCable Project I Location Length I Cable Size IDavutpasa-Bagcilar IIstanbul - Thracian I 5800 meter I2x1600 mm2 I Atigalani-Bagcilar Istanbul -Thracian 5100 meter 2x1600 mm2 iSmraniye-Vanikoy (P20) Istanbul -Anatolian 6130 meter 2x1000 mm2 Umraniye-K.Bakkalk6y Istanbul -Anatolian 6300 meter 2x1000 mm2 Bornova - University lzmir 4250 meter + 1450 2x1000 mm2 + L meter 1x1000 mm2 (Bornova-University) Bran. P.- lzmir 1 2500 meter 1 1x1000mm2 I II Bozyaka-Karabaglar Ilzmir I2700 meter I 1x1000 mm2 ~~ Karabaglar-Buca lzmir 8700 meter I 2x1000 mm2 UndergroundCable Project Selection Process InOctober 2004, the regionalTransmission Facilities and Operations Groups (specifically the lst, 4'h and 3'd Groups) prepared three separate regional masterplan studies for the Istanbul Thracian Part, Istanbul h a t o l i a n Part, and for Izmir. These studies evaluated and identified highpriority overhead transmission lines inthe settlement areas requiring conversion to underground cables. The impact o f the underground cable conversion projects on the transmission system was also assessed, and the preliminary routes for the underground cables identified. A total o f 22 overhead lines were assessed in these three feasibility studies. InM a y 2005, the Transmission Grids Operation and Maintenance Department o f TEIAS General Directorate prepared a consolidated feasibility to prioritize the conversion to underground cables which recommended 14 o f the 22 overhead lines for conversion to underground cables. InAugust 2005, after consultation with the Bank technical team 8 o f the 14 conversion projects were selected. The feasibility study was finalized inOctober 2005 and these 8 projects were includedinthe 2006 investment program. U ~ ~ ~Cable Projects ~ r ~ r Safety and Public Benefits ~ ~ d Table 4.2 shows the eight 154 kV high voltage overhead transmission lines that were selected for replacement by underground cables. The table summarizes the number o f building clearance violations (i.e. buildings that do not meet the required 4 meter clearance from the line) and right-of-way encroachment. A discussion of the main features and justification for each overhead line replacement follows. Table 4.2: 154 kV OverheadTransmissionLines to be Replaced by UndergroundCables Line Name Location In Sectionto be Number of Right of Way Encroachment replacedby Buildings UG cables Violating Year Clearance requirement (a) Davutpaga-Bagcilar Istanbul 1966 4446 meter 47 Fully encroached by urbanization.Pylons impede traffic. 41  Line Name ILocation In Sectionto be Number of Right of Way Encroachment Service replacedby Buildings UG cables Violating Year Clearance requirement I(b) Atigalani-Bagcilar IIstanbulI 1966 I 4117 meter I 36 I Fully encroached by urbanization. I (c) 0mraniye-Vanikoy IIstanbulI 1952 I 5611 meter I Fully encroached by urbanization except l3 1for gully areas. (d) hnraniye-K.Bakkalkoy Istanbul 1973 6253 meter 1 Fully encroached by urbanizationin major 1982 part. Rapid growth in remainder. Two pylons are located in closevicinity of a primaryschool. (e) Bornova - University lzmir 1957 7881 meter NotAvailable Pylons of the line are in close vicinity of a rehabilitationcenter, Medical Faculty of the University,the garden of the primary school, and student dormitory. Traffic on a busy road is impaired. (f) Bornova-Morsan lzmir 1957 5956 meter Not Available Pylonscross areas of university campus which are being plannedfor development over the next few years. (9) Bozyaka-Karabaglar lzmir 1976 2318 meter 1 Fully encroached by urbanization.Pylons impedetraffic and in gardens of buildings. (h) Karabaglar-Buca lzmir 1976 7552 meter 16 Fully encroached by urbanization. Pylons impedetraffic. (a) Davutpaya-Bagcilar154 kV transmission line(Istanbul-Thracian Part): The right o fway of the overhead transmission line i s fully encroached by urban growth. Buildings have been constructed immediately adjacent to the pylons in many locations, and at least one pylon i s surrounded by buildingson three sides. Inone location, the space under a pylon has been turned into an outdoor cafk. Inmany other places, the pylons are used to hang laundry and advertising signs. At least one pylon impedes traffic. Along the route, buildings under the lines tend to be smaller than those alongside the lines, but the wires are nevertheless close to the roof o f buildings in three locations, posing an immediate threat if, for example, someone would try to erect a television antenna on the roof. Residents are concerned about the safety of the lines and complain about the frequency o f sparks falling from the towers, threatening both people and their automobiles parked nearby. They also blame the lines for the poor television reception in the area. TEIAS has records o f 47 violations o f building codes that restrict construction under overhead lines and specify how far buildings must be located from the lines. The actual number o f violations far exceeds this number. Replacing the overhead transmission line with an underground cable will eliminate many obvious public safety hazards from accidental wire contact and storm damage, reduce road hazards and enable TEIAS to have immediate access to cables for repair and maintenance. From a local perspective, removing the pylons will increase access to residences and create small open spaces in an otherwise densely settled area. (b) AtiSalani-Bagcilar 154 kV transmission line(Istanbul-Thracian Part): The overhead line has at least 36 safety code violations. The line passes over commercial areas, as well as residential and industrial areas. Building density i s higher at the south end o f the line, closer to the city center, and decreases near the north end, where there i s much construction underway. In the southern end o f the line, the right of way i s fully obscured by buildings and there are several buildingslocated immediatelynext to pylons. Inthe northernend there are a few sections that are not yet encroached upon, but there are signs that construction will also spread to these areas. 42  Compared to the Davutpaga-Bagcllar transmission line, there are fewer points along Atiyalani- Bagcilar at which the lines are close to roofs. It can be expected that owners will gradually add floors to existing buildings all along the line, following the standard pattern, increasing the number o f vertical encroachments. (c) Umraniye-Vanikoy 154 kV transmission line (Istanbul -Anatolian Part): The existing overhead line passes over dense residential and commercial areas near the Umraniye substation and proceeds to less dense, newer developments. The right o f way i s fully encroached except ina few tracts where the pylons are located in gullies. Even those areas are threatened by new construction. Many o f the buildings along the way are two or three story, thus vertical encroachment is limited. TEIAS has a record o f 13 violations along the line. This number will undoubtedly increase as the land becomes fully developed and owners add additional stones to their buildings. The line passes over a primary school and a motonvay, both o f which are the subject o f public criticism. Those who live next to or underneath the lines are also concerned about safety issues and complain about sparks falling from the towers. Residents along this line have been especially vocal in asserting the extent to which these lines pose health risks to residents. (d) Umraniye-K.Bakkalkoy 154 kV transmission line (Istanbul - Anatolian part): This transmission line starts in the densely populated residential and commercial area surrounding the Umraniye substation and proceeds to the periphery o f urban growth, where several huge residential and commercial development projects are under construction surrounding the Bakkalkoy substation. This line has only one violation, but the number can be expected to increase rapidly as growth around Umraniye moves vertically. The line passes several modem high-rise communities at the Bakkalkoy end. Just as the incidence o f violations can be expected to rise in the Umraniye area, the pressure to replace the pylons and overhead lines can be expected to increase significantly from developers and new residents at the Bakkalkoy end, for both public safety and urban re-development reasons. The line passes over a motonvay and a primary school i s located alongthe route, both o f which also increasepublic concern. (e) Bornova-University and Bornova-Morsan 154 kV transmissionlines (Izmir): These two lines run parallel and are suspended on the same pylons. The plan i s to replace them by two underground cables placed in the same trench. Most o f the right-of-way o f these two lines i s intact. The only noticeable encroachments are the salt factory located near the Bornova substation and a street and a primary school yard closer to the other end o f the lines. The lines run through the university campus for considerable distance and then an area of recent rapid growth. The lines pass over the beltway (under construction) and intersect the Izmir-Ankara Highway twice. On the university campus, the lines pass near a number o f major medical facilities. The lines divide the campus into two parts, one o f which i s less than halfthe size o f the other, They discourage use o f the smaller segment, thus significantly reducing the active use o f approximately a third o f the campus land. Streets now encompass three pylons, one o f which i s an obvious safety hazard, as it constitutes a bottleneck, constraining traffic flow to large residential developments. Beyond the university, the lines pass through a low-density residential and commercial area on the plain and then proceed up a hilly area that i s increasingly developed for high-rise residences. One segment o f the lines creates an open stripbetween rows o f high-rise residential buildings that run parallel to the lines. The open strip under the lines shows signs o f increaseduse as park and playground areas. Currently, the three pylons in streets constitute real public safety hazards and the proximity o f the lines to the elementary school and passage over highways constitute a perceived public safety threat. There appears to be a common perception that the location o f the overhead lines near 43  various medical facilities can affect the operation o f sophisticated medical equipment. The lines constrain development o f the universitycampus as well as new residential areas on the periphery. Although replacing the overhead lines with underground cables will undoubtedly have a public safety impact, the strongest rationale for replacement relates to continued urban development. The underground cables will enable the university to develop its campus, as well as promote development at the periphery o f the city. At the same time, it will enable the commercial and residential areas between the campus and the hills to develop both vertically and horizontally, Despite the fact that the right o f way o f these lines has been protected rather successfully, increased urbanization inevitably poses major threats to the right o f way, with concomitant public safety risks. By replacing these lines now, TEIAS will contribute to rational urban growth and avoid problems o f encroachment and increase public safety. Bozyaka-Karabaglar 154 kV transmission line (Izmir): This line goes from an older section o f the city through an area o f dense housing and commercial construction that developed rapidly over the last couple o f decades. The route goes through undulatingterrain, with at least one span soaring high above a deep, densely populatedvalley. Although the lines appear to be higher than those in Istanbul (Davutpaga-Bagcilar and Atigalani-Bagcilar), there are violations o f clearance requirements and many more can be expected to appear as residents add additional stories on existing buildings. Currently, TEIAS has a record o f one vertical clearance violation. The horizontal right-of-way i s completely encroached by residential and commercial structures, many o f which are immediately adjacent to the pylons. Streets engulf 3 pylons, impeding traffic flow and creating accident hazards, and 3 pylons are fully surrounded by buildings and inaccessible to TEIAS' vehicles. Replacing the overhead lines will reduce road hazards and increase public safety. In addition, removing the pylons will create small open spaces that are needed in this densely built area. (g) Karabaglar-Buca 154 kV transmission line (Izmir): This overhead line goes fi-om the Karabaglar substation, surrounded by dense population to a zone o f rapid residential and industrial development at the periphery o f the city, The line passes across the landscape, over residences, an old village, factories and new highways. Two pylons have been overcome by streets, one o f which fully occupies one lane o f a two-land street. Six pylons are surrounded by houses and gardens, although one side is generally accessible to TEIAS maintenance vehicles. The lines appear to tower far above ground, but TEIAS has records o f 16 clearance violations along the route. Residents have started to add stories to their buildings thus the number of violations can be expected to increase significantly over the next few years. Inaddition, pylons in streets create dangerous traffic hazards. Removing the pylons and replacing the overhead wires with underground cables will reduce traffic hazards, decrease risks to public safety and create small open spaces inthe dense population sections along the route. UndergroundCables -Other BenefitsandTEIAS MaintenanceHistory The underground cables projects will be based on the Cross-linked Polyethylene (XLPE) technology, The main advantages o f XLPE cables over copper cables are flexibility, lightness, strength and lower maintenance costs. Although the principal benefits o f underground cabling in Turkey i s one o f public safety and urban development, the feasibility studies have also shown that the conversion o f the 154 kV overhead transmission lines to underground cables will have marginally reduce transmission losses and improve voltage performance. The other main benefit i s the reduction in operation and maintenance costs. TEIAS estimates that maintenance costs o f the underground cables will be 1/6`h of the maintenance cost o f the replaced overhead transmission lines. TEIAS' has specific maintenance procedures for 154 kV underground 44  XLPE cables. The maintenance procedures include regular checks, clean up and repair o f underground cable accessories control equipment. These are consistent with the generally reported maintenance and operational cost benefits of underground cablingg. While maintenance costs of underground cables are normally less than that for overhead lines, the repair o f individual faults or damages to underground cables can be much higher. TEIAS' historical maintenance records of the existing thirty one (3 1) 154 kV cables show an average o f four forced outages per year. About 75% o f these outages are caused by other utilities (telephone, water, sewage) excavation and digging inthe cable areas. None o f the reported forced outages have caused any energy interruptions to the consumers. The costs o f repair o f the damages o f the cables are borne by the party causing the damage. The contracts for the new underground cables require the contractor/supplier to provide repair services for damages to the cables during the first five years o f cable operation. After the first five years, TEIAS sub-contracts locally qualified firms to repair cable damage. TEIAS' maintenance records show that over 75% o f the cable repairs were done within 5 to 15 days - which i s consistent with the international norm". However, repair records show that the repair of two cables caused by third-party excavation took more than thirty days. The problem here was that TEIAS waited for the court to determine liability and compensation before commencingrepairs. TEIAS has been requestedto re-evaluate this procedure and consider repairing the cable without waiting for legal liability and compensation to be determined. International Comparators The issue o f taking overhead lines underground i s not new, as underground cables have been used for many decades for low and medium voltage lines in urban area. As more safety and environmental considerations started to be taken into account in construction o f high voltage networks, underground cables have been usedinthe highvoltage transmission networks o f almost all European countries, mainly for parts of the networks in urban cities. The table below shows the percentage o f the undergroundcables in the high voltage transmission networks (60-150 kV and above) in several European countries. The table shows that less than 0.3 percent of the high voltage transmission network inTurkey i s underground cables and this percentage will increase to 0.5 percent with the completion o f the eight undergroundcable projects proposed for financing by the ECSEE-APL3 Turkey loan. Country Percentof HighVoltage UndergroundCable Belgium 7.6 Netherlands 37.8 Germany 6.2 Spain 1.4 Norway 3.1 Italy 1.2 France 3.6 Portugal 3.8 United Kingdom 17.3 Denmark 15.6 Turkey (Existing)lL 0.27 Turkey (With Proposed projects) 0.5 45  Annex 5: Project Costs TURKEY: Energy Community of South East Europe APL 3 Project Project Cost By Component and/orActivity Locall Foreign Total E million E million E million Component 1:Transmission Network Strengthening Alsancak 154 GIS Substation 0.3 2.8 3.0 Ayrilikcesme 154 kV GIS Substation 0.7 6.5 7.2 Yenikapi 154 kV GIS Substation 0.6 6.1 6.7 Yildiztepe-Davutpasa 380 kV UndergroundCable 1.5 15.0 16.5 Additional Investments 0.0 8.0 8.0 Component 1Total 3.0 38.3 41.3 Component 2: Urban Transmission Network Upgrading Davutpaga-Bagcilar 154 kV Cable 1.5 14.8 16.2 Atigalani-Bagcilar 154 kV Cable 1.3 12.9 14.2 Omraniye-Vanikoy (P20) 154 kV Cable 1.2 12.4 13.6 Omraniye-K.Bakkalkoy 154 kV Cable 1.3 12.7 13.9 Bornova- Universite 154 kV Cable 1.o 10.1 11.2 (Bornova-Universite)Bran.P-Morsan154 kV Cable 0.3 2.8 3.1 Bozvaka-Karabablar 154 kV Cable 0.3 3.0 3.3 Karabaglar-Buca-I54 kV Cable 1.8 17.8 19.5 Component 2 Total 8.6 86.4 95.0 Total Baseline Cost 11.7 124.7 136.4 Phvsical Continaencies 0.0 5.8 5.8 'Price Contingencies 0.0 7.5 7.5 Total Project Costs2 11.7 138.0 149.7 Interest During Construction 0.0 12.6 12.6 Front-end Fee 0.0 0.3 0.3 Total Financing Required 11.7 150.9 162.6 'Local expenditures inlocal currency paid by TEIAS consist of identifiable taxes (excluding VAT) and duties. 2Thetotal project cost, net of VAT, is E 150million. 46  Annex 6: ImplementationArrangements TURKEY: Energy Community of South East Europe APL 3 Project The project will be implemented by TEIAS, the government-owned utility responsible for planning, designing, developing, operating and maintaining the transmission system in Turkey. TEIAS i s also the operational backbone of the new market being put in place. It i s responsible for system and market operation, for the balancing market and for settlement administration. The Government i s using international advisors for designing and implementing various parts o f the refom program inthe power sector. These consultants are being financed by the Bank under the National Transmission Grid Project (NTGP). The Government i s also supported by an international panel o f experts who advise on the development o f the overall strategy and implementation plan, the process o f privatization and the design and implementation of the market. The panel also provides oversight to the work of the consultants. This panel i s financed by various sources o f grants, such as PPIAF and the Spanish Trust Fund. The planning and design o f new investment i s carried out by the Planning department o f TEIAS. The procurement and implementation i s supervised by the regional Substation department. The scope of the transmission reinforcement works has been arrived at through system studies showing the weak and overloaded sections o f the system. The selection o f the 154 kV transmission lines proposed for replacement by underground cables has been undertakenjointly by the Transmission Grids Operation and Maintenance Department o f TEIAS General Directorate and the regional staff o f the Transmission Constructionand Operation Group Directorates inIstanbul and Izmir. TEIAS set up a Project Coordination Unit (PCU) to manage the implementation o f NTGP. The implementation o f the APL projects will also be handled by this PCU, which i s headed by an Assistant General Manager. The PCU coordinates the procurement o f goods and works, and it also manages disbursements from the loan. The PCU will also coordinate the consolidation o f infomation and prepare progress reports on the Project. The procurement o f the project components will be through international competitive bidding, in accordance with Bank guidelines. The contracting will be on a "supply and installation" basis, and will only require supervision from TEIAS. A procurement and implementation plan has been prepared (See Annex 8). 47  Annex 7: Financial Management and DisbursementArrangements TURKEY: Energy Community of South East Europe APL 3 Project Summaryof FinancialManagementAssessment An assessment o f the financial management arrangements for the project was undertaken in December 2005. TEIAS has financial management arrangements acceptable to the Bank and these systems will be relied upon for project financial management purposes. However the main systems will be supplemented byexcel sheets for project reportingandmonitoring on foreign currency basis. Table 7.1 provides a summary o fthe conclusions o f the project financial management assessment: Table 7.1 CountryIssues Until 2001-02, public financial management in Turkey was based on an outdated legal framework. Enactment o f the Public Financial Management and Control (PFMC) Law in 2003 was a defining moment for public financial management in Turkey. The law articulates a modem view o f performance- oriented public sector management. It clarifies the nature o f ministers' and officials' accountability to the public by strengthening public expenditure and financial management processes in line with EUpractice. Implementationo f the newly enacted law, however, represents a major challenge. Inaddition, Turkey has implemented a state-of-the-art accounting system, adopted accrual-basis o f accounting, established a Government Accounting Standards Board (GASB) as the general government's sole standard-setting authority, several extra budgetary funds have been closed down, and a new law has been drafted for the TurkishCourt ofAccounts to strengthen the audit function. State Economic Enterprises in Turkey are subject to the basic accounting and auditing obligations which apply to private companies in Turkey. These are laid down in the Commercial Code, which was last revised in 1956. More detailed requirements were introduced in the Tax Procedures Law o f 1950 (which has since been consolidated into the Tax Procedures Code). Under the powers granted to it by the Code, the Ministry of Finance (MOF) introduced a Uniform Chart of Accounts which became effective on January 1, 1994. This prescribes certain fundamental accounting concepts, a code o f accounts, and a format for the presentation o f financial statements. The main purpose o f these requirements i s to provide information to the taxation authorities, there i s no obligation to publishthe financial statements, nor are they subject to a mandatory financial statement audit. 4%  The electricity sector in Turkey i s regulated by the Energy Market Regulatory Authority (EMU) established by the Electricity Market Law no.4628 on March 3,2001. The law aims at ensuring supply o f good quality, low cost electricity to the users in the required quantities. It also aims at establishing an electricity sector that i s financially sound, transparent and competitive that i s subject to independent audit and regulation o f the market. Risk Analysis Table 7.2 provides a summary o f the risk assessment for the project. Risk Comments INHERENTRISK 1. Country FinancialManagementRisk High 2. Project FinancialManagement Issues Moderate 3. Counterpartfunds Negligible Overall Inherent Risk Moderate auditors have been issuing disclaimer audit opinions on TEIAS' financial statements. TEIAS has developed an action plan to address these issues and the progress will Risk Mitigation Strategy Country financial management risk - The project will be implementedby TEIAS an institution well experienced inthe implementation o f Bank projects. Control Risk - An action plan was prepared by TEIAS in 2005 to address the issues identified in the audit opinion. The APL I1condition requires TEIAS to aim for a qualified or clean audit opinion on its financial statements for the year ended December 31,2006. Progress on the action plan will be monitored closely by the Bank through frequent supervision missions and also through facilitating dialogue with the relatedparties. TEIAS i s currently in the process o f updating its system through ERP, an Enterprise Resource Planning Program which will facilitate on line connection between the regions and the headquarters as well as generation o f financial statements automatically. Temporary measures will be taken for project reporting and integrated excel sheets will be used for this purpose as they are currently used inAPL 11.However to 49  ensure that sound accounting processes are in place, installation o f ERP i s necessary. The corporation responsible for design and installation of the ERP started its work in December 2005 and TEIAS i s committed to have the ERP functional by December 2007. Implementing Entity The project will be implemented by Turhsh Electricity Transmission Corporation (TEIAS). TEIAS i s a State Economic Enterprise (SEE) established in 2001 and has taken over the electricity transmission functions o f TEAS the former electricity generation and transmission corporation. TEIAS i s responsible for running all transmission lines belonging to the Government o f Turkey, planning transmission facility investments, building and running them. TEAS had implemented various Bank projects and currently TEIAS i s the implementing entity o f the National Transmission Grid Project and the ECSEE APL 11. TEIAS has a World Bank Projects Coordination Department and this department will be responsible for overall coordination o f the project. The financial management functions under the project will be carried out by the Financial Operations Department (FOD). Therisk associated with the imulementing entitv is negligible. Funds Flow There will be a Designated Account (DA) for the project for disbursements from the World Bank loan. This account will be in EURO and will be at a government owned commercial bank. The commercial bank will be selected by TEIAS and will be acceptable to the World Bank. Payments to the contractors, suppliers and consultants for the Bank funded portion will be made from this account (except direct payments). The FOD o f TEIAS will be responsible for making both these as well as counterpart fund payments. The head o f the related department will authorize the payment. TEIAS will specify two authorized signatories and payments from the Designated Account will be made with the approval o f one o f these authorized staff. The project i s in the investment program o f the Government. TEIAS is a revenue earning entity and access to the counterpart funds has not been a problem to date inNTGP. Therisk associated with funds flow is negligible. Staffing The financial management arrangements for the project will be the responsibility o f the FOD o f TEIAS. The staffs working at the department are adequately qualified and experienced. However the new project will increase the workload substantially and the FOD is currently understaffed. Although two staff were assigned to the FOD in November 2005, there i s still a need for staff with relevant qualifications to deal specificallywith the financial management o fWorld Bank projects. Therisk associatedwith staffing is substantial. Accounting Policies and Procedures The project accounting will be maintained by the FOD. TEIAS has financial management manuals and guidelines. The main transactions, which are the movements o f the Designated Account and project expenditures, will be in TEIAS' main accounting system. However the current accounting system o f the institution i s old and the production o f the project financial statements directly by the system i s technically impossible. TEIAS i s inthe process o f upgrading its reporting systems. The terms o f reference o f the ERP includes arrangements for producing detailed reports for project purposes. However ERP i s not expected to become functional before December 2007 and therefore, as inNTGP and ECSEE APL 2, integrated excel sheets will be generated to produce the project financial statements. These sheets will be reconciled regularly to the main accounting records. 50  TEIAS accounts have been audited by Deloitte and Touche in accordance with International Financial Reporting Standards (IFRS) and International Standards on Auditing (ISA). The auditors have issued a disclaimer opinion on TEIAS' financial statements for the years ended December 31, 2004, 2003, 2002 and 2001. The issues resulting inthe disclaimer opinion are discussed inthe external audit section below. The auditors have also issued a management letter where they set out their comments and recommendations concerning internal controls and accounting procedures based on their observations duringtheir audit o f financial statements. The mainobservations are discussedbelow. The management letter revealed that the control environment at TEIAS should be improved. EMRA has issued requirements relating to the audit of companies in the energy sector. Accordingly the institutions are responsible for having sound internal control procedures in place within the scope o f these regulations. However there i s no EMRA regulation which requires establishment o f an internal control department within these institutions. TEIAS has an investigation department which i s responsible for investigating the irregularities as well as auditing on a regular basis the departments and regional offices. In order to strengthen the control environment, it is highly recommended that the Investigation department includes internal control procedures within its scope o f work. Improvement o f the internal control environment inTEIAS i s a priority area. Accounting procedures for the project will be set out in the project financial management manual. The manual will cover: (a) the financial and accounting policies and procedures for the project (b) organization o f the financial management function (c) the financial management information system (d) disbursements (e) budgeting and financial forecasting (0 project reporting and (g) project planning procedures. The risk associated with accounting uolicies and procedures is moderate-for the uroject. TEIAS will implement the action plan prepared to address the issues that prevented the external auditor from providing an opinion. The progress will be monitored by the Bank through frequent supervision. Internal Audit TEIAS has an investigationdepartment and they are responsible for investigating the irregularities as well as auditing on a regular basis the departments and regional offices. In order to strengthen the control environment, it i s highly recommended that the Investigation department includes internal control procedures within its scope of work. No reliance will be placed on internal audit. Reporting and Monitoring TEIAS will maintain records and will ensure appropriate accounting for the funds provided. Financial statements for the project will be prepared by TEIAS. KJFRswill be prepared as part of Project Reports (PR) quarterly and will be submitted to the Bank no later than 45 days after the end o f the quarter. The format and the contents o fthe PRAJFR will be agreed upon with the Bank. The PWIUFRs consist of the following reports and these reports are satisfactorily submitted to the Bank on a regular basis for the NTGP and ECC SEE APL 2. ExpenditureTables Designated Account Statement Procurement Tables Output Monitoring Reports The financial management manual of the project will include a section on the IUFRs and formats o f these reports will be detailed there. 51  The risk associated with reporting and monitoring is negligible. Information Systems TEIAS has been using the integrated excel sheets for NTGP and ECSEE APL 2 successfully and will continue to use them for ECSEE APL 3 untilthe ERP becomes functional. The current accounting system o f TEIAS i s old and therefore it i s not possible to integrate detailed project accounting and reporting into the main system. TEIAS i s in the process of upgrading its reporting systems. The terms o f reference o f the new ERP includes arrangements for producing detailed reports for project purposes. The tendering process has been completed and the contract signed on December 1, 2005. However ERP i s not expected to become functional before December 2007. The risk associated with information systems is moderate. TEIAS will use integrated excel worksheets untilERPbecomes functional. Strengths and Weaknesses The significant strength that provides the basis o f reliance on the project financial management system i s the implementing entity's experience with the implementationo fWorld Bank projects. The weaknesses inTEIAS' financial management are as follows: (a) The auditors have issued a disclaimer o f opinion on TEIAS financial statements for 2004, 2003, 2002 and 2001and issued an adverse opinion for the previous periods. The issues inthe auditors' opinion are discussed in the external audit section. TEIAS has prepared an action plan to address these issues and is currently aiming for a qualified or clean opinion on its financial statements for the year ended December 31, 2006. The progress will be monitored closely by the Bank through frequent supervision missions and also through facilitating dialogue with the relatedparties. (b) The current accounting system o f TEIAS i s not an integrated system. It i s used both by the regions and the headquarters but it i s not online and financial statements are generated manually. TEIAS i s currently in the process o f updating its system by using an Enterprise Resource Planning (ERP) Program which will facilitate on line connection between the regions and the headquarters as well as generation o f financial statements automatically. Temporary measures will be taken for project reporting and integrated excel sheets will be used for this purpose. However, the installation o f ERP will ensure that sound accounting systems are in place. TEIAS i s committed to have the ERP functional by the end o f 2007 and this will be monitored closely by the Bank by providing the necessary technical resources. Action Plan It i s concluded that the TEIAS's financial management system has many deficiencies and TEIAS should take immediate action to address these deficiencies. Temporary arrangements will be relied upon for project accounting and reporting purposes but reliance on TEIAS own corporate systems for project accounting and reporting procedures can only occur when TEIAS has completed its on-going work on ERP implementation. The following action plan is proposed to address the deficiencies in the TEIAS financial management environment and also to improve the temporary arrangements established by TEIAS: Action Deadline 1. Two additionalstaff will be assigned to the Financial June 30,2006 Operations Departmentto work on the financial managementof projects 2. Project financial manualwill be prepared February 28,2006 52  Action Deadline 3. TEIAS sets up a commission to determine the fair value February 28,2006 of its fixed assets with the guidance of their auditors. 4. TEIAS implements the plan (Table7.3) to address the December 31,2006 qualifications in the audit reportand aims at having an audit opinion with a qualifiedor clean opinion. 5. ERPwill be installed and functional. December 31,2007 Supervision Plan Duringproject implementation, the Bank will supervise the project's financialmanagement arrangements as follows: (i) At least quarterly supervision will be carried out to review progress with addressing the issues discussed in the audit opinion: (ii) Progress with ERP will be monitored on a regular basis; (iii) project's quarterly IUFRs as well as the project's annual audited financial statements and auditor's management letter will be reviewed; (iv) during the Bank's supervision missions temporary financial management and disbursement arrangements will be reviewed to ensure compliance with the Bank`s minimumrequirements; and (v) reliance on the TEIAS systems for project accounting and reporting will be undertaken once the Corporation systems are assessedas satisfactory. The Bank-accredited Financial Management Specialist(s) will follow up the implementation o f the agreed Action Plan through frequent supervision. ExternalAudit Annual project financial statements will be audited by the Treasury Controllers. As a requirement o f the ongoing NTGP Project, Treasury Controllers have also been the auditors o f project financial statements for NTGP. The auditors' opinions for the project financial statements have been clean for the years 2004, 2003 and 2002. TEIAS's financial statements have also been audited by independent auditors acceptable to the Bank - currently this i s done by Deloitte and Touche inTurkey. TEIAS i s subject to annual audits in accordance with International Financial Reporting Standards and International Auditing Standards. Deloitte and Touche issueda disclaimer opinion on TEIAS financial statements for 2004,2003, 2002 and 2001 mainly due to the following: (i) the registration o f the title deeds and transfer o f ownership o f the fixed assets to TEIAS has not been completed; (ii) lack o freliable information on legal cases; and (iii) lack o f information on the fair value o f fixed assets which constitute 90% o f total assets as per the audited financial statements. Action i s already initiated by TEIAS to solve the problems with the title deeds and the legal cases. However, no action has been taken to date relating to the determination o f the fair value o f fixed assets. In order to determine the impairment o f fixed assets as per IFRS, TEIAS needs to i)physically verify that its fixed asset lists are complete and accurate ii)link the complete fixed asset lists to its accounting records iii)calculateimpairmentforfixedassetswithmaterialvalue.Thefirsttwostepsneedalsotobetakento ensure the completion o fthe ERP on the targeted date o f December 2007, ERP being an integrated system for the Corporation. Therefore, it i s agreed that TEIAS would set up a commission from its own experts no later than February 28,2006, to initiate works to determine the fair value o f fixed assets before the end of 2006. TEIAS i s currently working with its auditors on the guidelines and procedures to follow for this valuation. 53  Based on the auditor's statements on the 2004 audit a set o f actions has been agreed with TEIAS to achieve a qualifiedclean audit opinion for the fiscal year 2006. These actions are listed in the table 7.3 below -TEIAS needs to take the proposed actions well before December 2006. Table 7.3 Actions Necessary to Obtain an Audit Opinion Qualification Analysis Action 1. Most fixed assets of TEIAS were It is observed that some fixed assets used by The relevant department of TElAS is currently carrying out :aken over from TEK (the TElAS are not included in TElAS accounts such a study. They have reached an agreement on the xedecessor organization). These and some that are not used by TElAS are ownership of most assets. The ownership is especially Sxed assets are a part of TElAS included in its books. problematic in those buildings where all four institutions Snancial statements but their title work together and each occupy a different part of the jeeds have not been transferred building. For those assets on which no agreement could be ?om TEK. reached, TEIAS, TEDAS, TETAS and EUAS asked for the arbitration of the Ministryof Energy. TElAS has taken major steps in addressing the issue. Agreement has been reached for big fixed assets (e.g. current TElAS building in Ankara) in cases where they had recourseto the Ministry's arbitration. In the provinces, TEIAS group managements and TEDAS institutions' managements are currently working together on the ownership of transformers and transmission lines. Most of the issues relating to the transformers are solved and the groups will proceed with solving the issues relating to the transmission lines. Finalization of all transactions will take time; however TElAS should try to speed up the process so that agreement is reached before December 2006. 2. Due to the insufficiency of the When TEAS was dissolved, TEIAS,, EUAS TElAS is currently working on the development of a computer system, the auditors and TETAS shared the outstanding lawsuits software for that purpose. However even before the could not obtain a reliable and against the corporation. However, there was software is finalized it has been confirmed that the legal complete list of lawsuits. not a comprehensive database which department will be able to supply such a list to the auditors Therefore, the opinion is qualified included information relating to all these and they will be considered in the 2005 year end audit.. for the possible effects of lawsuits lawsuits and therefore TEIAS was not able to that were not presented in the providea comprehensive list to the auditors. lawyers' letter. 3. Fixed assets are presentedwith The market value of the fixed assets should Ideally, the fixed assets should be valued by an their indexed costs in the financial be determinedto compare with indexedcost. independent third party, however when the specialized statements, but the auditors could nature of TElAS fixed assets are considered, a commission not obtain the data for reviewing composed of engineers of TElAS should i) visit sites and such assets for impairment as physically count the fixed assets ii) estimate their market required by IAS 36. value. It is sufficient to do this work only for material fixed assets (land, buildings, machinery and equipment). TElAS is working together with their auditors for preparing the proceduresthat will be used by this team. This is a costly and time consuming undertaking however considering the importance of this issue TElAS should start immediatelyto take the required actions. 4. TElAS has outstanding TETAS and TEDAS generally pay on time. The previous year's audit opinion included the same receivables from TETAS, TEDAS Major receivable is from EUAS and since qualification. TElAS stated that the possible action to and EUAS. These receivables EUAS has large amounts of receivablesfrom eliminate this qualification requires participation from constitute75% of the Corporation's TETAS and TEDAS, they can not pay their various agencies including MENR, EMRA and Treasury. current assets (67% in 2003). The payableson time. TElAS believes that these agencies should come together corporationsdo not pay their debts and agree on either writing off the receivables of related in an orderly manner and TElAS parties to each other or agree on a payment plan to be does not calculate penalty interest agreed by all. and does not provide any provision. TElAS sent an official letter to EUAS on 12/07/2005. and copies of this letter were sent to the Ministry and Treasury for information 5. TElAS stocks are valued at their The market value of the stocks should be The previous year's audit opinion included the same cost. The auditors were not able to determinedto comparewith the indexedcost. qualification. Instead of contracting the valuation of the determine whether any stock item stocks to an independentthird party, TElAS would seek the had a net realizable value lower possibility of establishing a commission composed of than cost. engineers of TElAS who would, i) visit stock sites and count the stocks, ii) estimate the market value of these stocks. It would then be possible to value the stocks with the market value in the IFRSfinancial statements. TEIAS officials stated that they have considered this option and found it very costly and unnecessary. However such action is required to eliminate this qualification and 54  Qualification Analysis Action therefore TEIAS afler establishing the fair value of its tangible fixed assets should shifl Its resources to the determinationof the fair value of its stocks. 5. The auditors of TEIAS were The auditors should attend to the year end TEIAS has appointed the auditors for a three years period sppointed afler December 31, inventorycounts performedby TEIAS. and therefore this qualification will be eliminated from the 2004 and therefore could not opinion on the 2005 financial statements. attend to year-end physical inspectionof assets. 7. Retired corporation personnel The Human Resources department stated It has been learned from the HR Department that those are are paid by Social Security they cannot receive accurate informationfrom regular payments and the installments are approximately Institution (SSI) and TEIAS then the SSI. the same. reimburses SSI for these payments. The Corporation has It has been agreed with the representative of the audit firm not performed an actuarial that they will take that into 'consideration and if their calculation of its accrued analysis supports that such approximation will not cause obligations and has not recorded any materialeffectsldifferences on the financial statements, any provisionfor such liabilities. they will post a provision to the financial statements using the last SSI payment data if such a provision is not posted by TEIAS yet. 8. IAS 19 requires that the In order to make such a calculation the This is discussed with the HR department of TEIAS. They retirement pay provision following data is requiredfor each worker and said that their information system allows them to get the obligations are calculated by the white collar personnel: gender, starting date employee information (gender, start date, etc.) but that the discount method and the current (to determine time to retirement), and salary salary information is not in their system. value is found out as at the subjectto retirementpay calculation. balance sheet date accordingly. As all data required is in the system IT developers of The auditors were not able to TEIAS could write a simple program to extract this data into obtain the data required for such excel spreadsheets that the auditors can then use to do calculations. their discount calculations. It is agreed that TEIAS will do the necessaryactions to address this issue. It has been stated during these discussions that, the ERP system that is expected to be put in place by 2007 will allow getting the relevant data for both the regions and 9. IAS 29 was applied to capital - General Directorate. Capitalization of finance expenses and FX - For fixed assets, please refer to the explanation made for and income statement items, but losses on fixed assets could not be the data needed for application of -qualificationno.labove.the For items excluding fixed assets (which are not as this standardcould not be obtained -determined. The information on acquisitionlpurchase of material as fixed asset balances), a more detailed work for inventory items, equity equity participations and affiliated could not should be carried out with the coordination of financial participations, affiliates, legal -be The information on legal reserve obtained. affairs department. reserves and construction work in progress balances. Moreover, as it movementscould not be obtained. was not possible to determine the - The purchase information on intangible amount of Foreign Exchange (FX) assets could not be obtained. gainsllosses and finance expenses capitalized on fixed assets, the auditors have qualified the monetary gains and losses arising from the indexation of fixed assets as well. I O . FX gains and losses resulting This issue is also raised in the Management Letter (pp.16) from the purchase of fixed assets and the management stated that the accounting of such and inventoriesare capitalized due transactionswill be made as advised. to the fact that the invoices denominated in foreign currencies are accounted for on the date of payment instead of date of invoice. 11. The auditors have qualified the The auditors could not disclose all information This qualification will be removed upon receipt of non-compliancewith IAS 1 relating as requested in IAS 1 Presentation of necessary information as explained in the paragraphs to disclosurerequirements. Financial Statements Standard (e.9. no fixed above. asset movementtable could be provided) The risk associated with external audit is assessed as substantial. TEIAS has prepared the above action plan and i s currently implementingthe actions. DisbursementArrangements The authorized allocation will be established at EURO 12,500,000 with replenishments at regular intervals. The Project will use traditional disbursement methods in accordance with TEIAS' preference. Loanproceeds will flow from the World Bank to the Designated Account but direct payment requests and 55  special commitments will also be available in accordance with the disbursement letter and Disbursement Guidelines dated September 30, 2005. The minimum application size has been set at EURO 2.5 million equivalent. Statement o f Expenditure (SOEs) will be used for payments against contracts valued at less than EURO 2.5 million equivalent. TEIAS will be required to maintain all supporting documentation for project expenditure and to make them available for review by Bank staff and for audit purposes. Utilization of Loan Proceeds: TEIAS will finance taxes, interest during construction, and contingencies. The Bank loan will finance about 77% of the total project cost (excluding VAT). Category I A z : i o n 1% of Expenditure to be financed 1, Goods (including supply and installation) 124,687,500 100 % of foreign expenditures, 1OO%of local expenditures (ex-factory cost) and 85% of other items procured locally 2. Front-end Feel3 312.500 Amount due under Section 2.04 of the Loan Agreement in accordance with Section 2.07 (b) of the General Conditions Total 125,000,000 l3 Front-end Fee calculated on the basis o f 0.25% of loan amount. This will be applicable ifthe loan i s approved by the Bank Boardby June 30,2006. 56  Annex 8: Procurement Arrangements TURKEY: Energy Community of South East Europe APL 3 Project . Generat 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 the provisions stipulated inthe Legal Agreement. The general descriptions o f various items under different expenditure category are described below. For each contract to be financed by the Loan, the different procurement methods, the need for prequalification, estimated costs, prior review requirements, and time frame are agreed between the Borrower and the Bank project team 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. ProcurementofWorks:N o Works contracts are foreseen inthe Project. Procurement of Goods/Supply and Installation:Goods procured under this project would include the contracts for Supply and Installation o f underground cable lines (154KV and 380 KV) and Gas Insulated Substations (GISs). The procurement will be done using the Bank's Standard Bidding Documents for all International Competitive Bidding(ICB). Procurement of non-consultingservices:N onon-consultingservices are foreseen inthe Project. Selectionof Consultants:N o consulting services are foreseen inthe Project. Operational Costs: The projectwill not finance any operational costs. B. Assessment of the TEIAS's Procurement ImplementationCapacity Implementation o f the Project will be the responsibility o f TEIAS, a government owned corporation responsible for the planning, design development, operation and maintenance o f the transmission network inTurkey. An assessment o f the capacity o f the TEIAS to implement and manage procurement for the project has been carried out by Salih K. Kalyoncu (ECSPS) on January 22, March 02, April 3, April 29 and during the period June 21-July 02, 2004 for ECSEE APL2 Project and updated in December 2005. The assessmentreviewed the organizational structure for implementingthe project. Under the existing National Transmission Grid Project (NTGP) and ECSEE APL2 Project, TEIAS has established a Project Coordination Unit (PCU) which coordinates the project implementation and procurement activities, and prepares the quarterly reports. The PCU has one senior professional who plays the role o f coordinator and one secretarial staff. Considering the work load o f these staff under NTGP and ECSEE APL2 Project, TEIAS should make necessary arrangements for assigning additional staff and supplyingequipment to the PCU. Project implementationand procurement activities are undertaken by the line departments for each major functional category o f investment projects. InTEIAS -the structure i s as follows: 57  - Transmission Lines Department - All overhead transmission lines, land acquisition and - environmentalissues related to transmission facilities. Sub-station Department All 154kV and 380 kV substations and undergroundcables. - - Operations and Maintenance Department - Metering; operations and maintenance equipment (e.g. thermal cameras; back-up mobile transformers). - Communication, Automation and Data processing Department -responsible for procurement and implementation o f SCADA systems, RTUs, ERP and other instrumentation. - Market and Financial Settlement Department -Market management system, market rules. The implementation groups are supported by: (a) the Land Acquisition department which is responsible for acquiring/expropriating land for substations and transmission lines; and (b) the environment department that undertakes the preparation o f environmental impact assessments, environmental managementplans, public consultations and disclosure. ECSEE APL3 Project will be mainly implemented by the team inthe Sub-station Department -which has substantial experience in dealing with World Bank procurement. This i s the third Bank loan to TEIAS, which follows the recently approved ECSEE-APL2 (2005) and the National Transmission Grid Loan (originally 1998 to TEIAS predecessor TEAS, restructured in 2001 following corporate separation into TEIAS, TETAS and EUAS). Therefore, TEIAS as an institution has a good knowledge about the Bank's operations. The number and the qualifications o f the staff that will be responsible for managing World Bank projects are sufficient for the satisfactory implementation for this project as well. The majority of staff speak Englishand have a good understanding o f the Bank's terminology. TEIAS's procurement and implementationperformance inthe past include: . Contracts for transmission line projects were delayed owing to delays in land acquisition for transmission rights-of-way. This has happened predominantly for lines in the Black Sea region. TEIAS has hired additional staff to accelerate the land acquisition process. As the contracts were fixed price contracts there have been issues related to the cost impact on contractors that are yet to be resolved. Inone contract under NTGPthe Bank declaredmisprocurement because TEIAS was not willing to relax its technical standards that required a short-circuit type test report o f a sample power transformer during the bidding stage. The Bank technical team has agreed to include the . requirement for a short-circuit type test report o f a sample power transformer duringthe bidding stage inall future procurement o f transfonners. In consultation with the Bank's Procurement Legal team, in the case o f contracts with foreign . contractors TEIAS' request to offer a choice o f arbitration options including local arbitration procedures under TurkishLaw has beenpermittedunder ECSEE APL2 Project. InNTGP and ECSEE APL2 Project, TEIAS has agreed to follow a modified bid evaluation format that gives a full explanation and reduce the need for queries. The same format will also be usedunderthe ECSEE APL 3 Project. Given the track record with procurement activities and the time taken to complete the procurement o f major packages, the overall project risk for procurement i s assessedto be average. In order to reduce the risks attributed to the procurement activities the World Bank Procurement Specialist (WB-PS) will organize regular monthly meetings with TEIAS project staff. The WB-PS will be involved during the preparation o f the bidding and other procurement related documents, and will work together closely with TEIAS project staff. Whenever needed, the WB-PS will organize training sessions for the other project related staff inTEIAS for the smooth implementation o f the contracts. 58  Given the increase in procurement and implementation work that is expected with the on-going ECSEE- APL 2 Project and forthcoming ECSEE-APL3 Project, TEIAS management will assess the work load of the implementing departments, and have agreed to employ additional consultants ifnecessary to meet the additional work load. C. Procurement Plan The Borrower, at pre-appraisal, developed a Procurement Plan for project implementationwhich provides the basis for the procurement methods. This plan has been agreed between the Borrower and the Project Team on January 24, 2006 and i s available at Project Coordination Unit. It will also be available in the Project's database and in the Bank's external website. The Procurement Plan will be updated in agreement with the Project Team annually or as required to reflect the actual project implementation needs and improvements in institutional capacity. The contracts under the Project are listed in the Attachment 1below. All the ICB contracts will be subject to prior review bythe Bank. D. Frequency of Procurement Supervision and Reporting Inaddition to the priorreview supervisionto be carriedout from Bankoffices, the capacity assessmentof the Implementing Agency has recommended semi-annual supervision missions to visit the field to carry out post review o fprocurement actions. The PCU in TEIAS will keep a complete and up-to-date record o f all procurement documentation and relevant correspondence in its files, which will be reviewed by the Bank staff during supervision missions. Monitoring reports on procurement progress in the form o f completed-ongoing-planned procurements will be submitted quarterly as an integralpart o fthe IUFRsonproject implementation. E. Others Considering the negative effect of the expropriation delays on the implementation o f the transmission line contracts in the NTGP, TEIAS has obtained an additional 110 staff to speed up the land expropriation procedures. TEIAS continues to use consultants as necessary for design and preparation o f Environmental Management Plans (EMPs). 59  0 W  Annex 9: Economic and Financial Analysis TURKEY: Energy Community of South East Europe APL 3 Project A. Economic Analysis The Approaches - The economic analysis was undertaken usingtwo different approaches: 1. Economic analysis of the TEIAS investment program as a whole The team assessed the economic rate of return o f TEIAS' entire investment program - o f which the Bank will cumulatively finance a "time-slice'' o f about 16% o f the total under its on- going engagements -NTGP and ECSEE-APL2, and the forthcoming ECSEE-APL3. 2. Economic Rate of Return on specific components The team also assessed the economic benefits o f specific components such as the substations where the growth in load in the area around the substation provides an economic rationale for that particular substation, and the 380 kV transmission cable, Yildiztepe-Davutpasa, which i s designed to improve reliability inthe Davutpasa area. Assessment of TEIAS' InvestmentProgram The investments financed by the ECSEE-APL3 would be part o fTEIAS' transmission expansion and upgrading program. TEIAS needs to invest around $280-$340 Millionper year to upgrade its system and to increase transmission capacity so as to meet the rapid rise in electricity consumption inTurkey. The ECSEE-APL3 will finance a portion o f this program. It is possible to estimate the economic return from the transmission investment program as a whole. The rate o f return i s measured for the investment program o f TEIAS between 2006 and 2010. Total investments during this period total $1.2 billion. They average close to $240 Million per year but vary somewhat depending on which projects are underway. The investment program will result in an increase in electricity transmitted through the country. There are two demand forecasts for Turkey with corresponding levels o f electricity transmitted. These two demand forecasts are based on an economic growth scenario prepared by SPO and the electricity demand forecast i s done using the MAED model (Model for Analysis o f Energy . Demand) by MENR.The demand forecasts are: Base or High Case: Electricity demand growth averaging at 8.3% per year - based on a GDP growth o f 5.5% per year. This implies electricity demand to income/GDP elasticity o f slightly over 1.5. This case i s similar to Turkey's experience in the 1980s and 1990s when demand growth was around 8% per year on average. It i s the Government's base . case. Low Case: Electricity demand growth averaging at about 6.3 % per year. This i s based on the same forecast o f GDP growth but makes different assumptions in the MAED model about the composition o f manufacturing. It assumes that Turkish manufacturing moves towards less energy intensive industries compared to the base case and implies an income elasticity o f closer to 1.0. It i s also closer to Turkey's recent (2001-2005) experience when electricity demand grew 5.9% per year on average. These demand forecasts and the corresponding levels o f electricity transmitted are shown intable 9.1 below. (Electricity transmitted through the TEIAS system i s assumed to remain about 78% o f 61  demand, which i s what it was in 2004 and 2005. The rest o f the demand i s supplied through either the distribution gridor directly from the generatingplants to the captive consumers). The incremental electricity transmitted as a result o f the investment program i s taken as the increase in electricity transmitted while the program i s ongoing (2007-2013). Thus the increase in electricity transmitted inthe low case starts at 8 TWh in 2007 and rises to 71 TWh in2013 while for the base case the increase starts at 11TWh and rises to 101 TWh. The value o f this transmission function i s estimated to average about 0.43 U S cents per kwh based on TEIAS' average tariff which i s also used in providing financial estimates for the corporation. This tariff is set by EMRA and is a low estimate o f the value o f the service provided. In addition, there are some incremental operating costs associated with providing this additional transmission service. These additional operating costs are based on TEIAS estimates at 0.12 centsikwh. Based on these assumptions, the real economic rate o f return for TEIAS investment program i s 12% in the low demand case and 18% in the base or high case. The net present value o f this program at a 10% discount rate i s US$ 159 Million inthe low demand case and US$710 Million inthe base case. Table 9.1 Cost-Benefit Analysis of Transmission Expansion and Modernization 2014- Years 2006 2007 2008 2009 2010 2011 2012 2013 2026 Low Demand Case costs Investments ($ Mil) 194 248 322 229 195 233 233 Incremental Operating Costs ($ mil) 0 10 21 32 44 57 70 85 85 Total Costs 194 258 343 261 239 290 303 85 85 Benefits Electricity Transmitted (Twh) 132 140 149 158 168 179 190 202 Incremental Transmission 8 17 27 37 47 58 71 71 Trans Tariff centslkwh 0.43 0.43 0.42 0.41 0.41 0.43 0.45 0.48 0.48 Incremental Revenue ($ mil.) 0 36 72 109 150 203 263 339 339 Net Benefits ($ Mil) -194 -222 -270 -152 -89 -87 -40 254 254 IRR 12% NPV @ 10%$ Millions $159 Base Case costs Investments ($ Mil) 194 248 322 229 195 233 233 Incremental Operating Costs ($ mil) 0 13 28 44 61 80 100 121 121 Total Costs 194 261 350 273 256 313 333 121 121 Benefits Electricity Transmitted (Twh) 137 148 161 174 189 203 220 238 Incremental Transmission 11 23 37 51 66 83 101 101 Trans Tariff centslkwh 0.43 0.43 0.42 0.41 0.41 0.43 0.45 0.48 0.48 Incremental Revenue ($ mil.) 0 48 98 150 210 283 371 483 483 Net Benefits ($ Mil) -194 -214 -252 -123 -47 -27 41 362 362 IRR 18% NPV @ 10%$ Millions 711 62  Inall probability ifelectricity demand grew more slowly than anticipated, as is shown inthe low case, TEIAS would reduce its investment program. This inturnwould increase the economic rate o f return in the low demand case. For example, if TEIAS were to reduce its investments directly in line with the shortfall in electricity transmitted this would increase the ERR in the low case from 12% to 13%. Economic Assessment of Individual Projects Conversion of overhead lines to underground cables The replacement o f individual overhead transmission lines by underground cables i s justified on a health and safety basis. Since these overhead lines were built, buildings have encroached on their right of way with municipalities either issuing building permits for new construction or failing to curtail unauthorized construction. Moreover the municipalities built streets and provide utilities to the buildings. At this time these overhead lines inthe midst o f densely settled urban areas represent a health and safety risk. Details on each o f these lines are provided inAnnex 4. Transmission substations The substations are justified economically by the need to either expand existing substations or build new substations to serve increased load. In the case o f two substations, Yenikapi and Ayrilikcesme, the substations are being built to meet the additional load created by the Bosphorus Subway Crossing and light rail system. In the case of the Alsancak substation the new load comes from the continuing growth o f the city o f Izmir since the substation i s close to the center of the city. Providing additional capacity inthe substations i s the least cost means o f meeting the expanding load. If the substations were not expanded then peak demand in the area around the substations could not readily be met. The alternative for consumers would likely be to install a single cycle gas fired pealung turbine or possibly a diesel generator to meet the peak load. Since the single cycle gas fired peaking turbine i s likely to be less expensive than a diesel generator this i s assumed as the alternative inthis analysis. Thus, the additional value o f supplyingload through a substation rather than installing a peaking turbine i s assumed to be the difference between the cost o f incremental electricity supplied through the substation compared to the cost o f electricity supplied by the single cycle gas fired turbine. The cost o f incremental electricity supplied through the substation in turn i s the cost o f the marginal power plant in Turkey which i s a gas fired combined cycle plant. The cost o f power generated by this plant was calculated based on a construction cost o f $ 600 per kW with 55% efficiency. Future gas prices in Turkey were calculated using world crude oil prices to which they are indexed directly and product prices to which gas prices are indexed indirectly. The World Bank's forecast o f crude oil prices was used. Using the capital costs and fuel costs described above along with estimates o f operating costs the team calculated that the average levelized cost of a combined cycle power plant i s about 4.5 US centskWh. Ifthe average cost o f transmission o f about 0.4 U S cents kWh i s added to the incremental cost o f generation o f 4.5 US cents, this impliesthat power supplied by the substation would be about 4.9 U S centskWh inthe long run. This i s compared with the cost o f power from the single cycle gas turbine o f 5.9 U S centskwh. The saving from expanding the substation compared to the peaking plant i s thus about 1.0 US centskwh. Based on this savings the following rates o f return were calculated. These rates o f return would be much higher if the benefits were valued at the cost o f unserved energy, rather than at the cost o f a single cycle power plant. In that case, the substations would have pay backperiods o f less than one year since the cost o f unservedenergy in Southeast Europe has been estimated at 38.5 Euro centskwh or 385 Euro per MWh. 63  Yildiztepe-Davutpasa 380 kV transmission cable This new cable can bejustified based on increase o f reliability through reduction inthe probability o f power outages. The construction o f the Yildiztepe - Davutpasa 380 kV cable i s necessitated in order to comply with the "N-1" transmission planning criterion in that specific area. This cable will provide an additional grid connection for the new 380 kV Davutpasa substation in Istanbul, in addition to the Ikitelli- Davutpasa cable -boththe substation and the cable are beingfinanced by the Bank. By 2010, the peak load at the substation i s forecast to be 725 MW, of which 580 MW will be supplied by the Ilutelli-Davutpasa cable (the remainder i s supplied by existing 154 kV cables). Ifthis cable were to fail, the 154 KV lines supplyingthe Davutpasa area will not be able to supply the additional electricity, thereby leading to energy interruptions for consumers, estimated at 350 MW. Based on the international average14o f 3.4 hours per year o f outage per kilometer on a 380 kV cable, the expected outage o f the 9 kilometer Ikitelli-Davutpasa 380 kV cable i s about 30 hours per year. The cost o f unserved energy i s again taken at 385 Euros per MWh,resulting in an ERR o f about 21% inreal terms for the Yildiztepe-Davutpasa cable. Table 9.2 Return on Individual Substations and New Transmission Cables Name of Substation or Cable cost Additional Load Sewed or ERR us$~ i l l i ~ ~ ~ potential loss of capacity for Cable( MW) ~ Alsancak 154 KV, GIS 3.6 141 20% Ayrilikcesme 154 KV,GIS 8.6 227 13% Yenikapi, 154 KV, GIS 8.0 275 18% Davutpasa-Yildiztepe 380 KV 19.8 350 21% Cable B. Financial Analysis TEIAS' financial condition i s summarized in the attached table 9.4. These numbers are based on TEIAS' unaudited accounts, and not on the accounts audited per International Accounting Standards. Past and Current FinancialPerformance TEIAS' transmission charges, currently U S cents 0.4/ kWh, are adequate to recover all its normal operating and non-operating costs. TEIAS had revenues o f about US$ 535 million in FY 2004, and i s estimating its revenues to be U S 5 6 1 million duringthe fiscal year 2005, resultingin fairly healthy gross profit margins o f 10% inboth years. Inthe past, net profit fluctuated significantly because o f the movement inthe exchange rate between 2001 and 2004. Debt to Equityratio declined from 2.7 in 2002 to 1.6 in 2004, indicating that TEIAS has capacity to take on more debt. However, the increase in current ratio from 1.0 to 2.7 during the same period owing to an increase in current assets (mostly from trade receivables) point to vulnerability intheir cash flow. The improvement inthe collectionratio from 60% in2003, now around 77%, i s important to maintain the liquidity for TEIAS. l4 Overviewof Potentialfor Undergroundingthe Electricity Networksin Europe, February2003, Reportpreparedby ICF Consultingfor the EuropeanCommission. 64  Financial Projections Going forward, the outlook for TEIAS' profitability i s stable, given the robust transmission pricing regime and that TEIAS' costs are not likely to rise unexpectedly. Below i s a summary of the key drivers for TEIAS' finances inthe future. Demand Forecast and Tarvfs The high case demand forecast used in the projections i s based on the economic growth scenario prepared by SPO and using the MAED model (Model for Analysis o f Energy Demand) that i s run by MENR (See Table 9.3 below). The energy transmitted is based on the base (high) case scenario as indicated inthe economic analysis section in this Annex, along with further details on the demand forecast. The tariff i s projected conservatively to decrease gradually to the 2003 level and stabilize around this level. Even as the tariff level decreases, it still allows full cost recovery as well as provides adequate revenue and cash flow to finance maintenance and investments. Table 9.3: Electricity Demand Forecastfor Turkey (Gwh) I 2005 2006 2007 2008 2009 2010 I High case 160,800 176,400 190,700 206,400 223,500 242,020 I owc case I 160,800 169,517 180,248 191,677 203,827 216,747 1 (Source:TEIAS) Bill Collection and Accrued Receivables The main risk facing TEIAS' finances i s its bill collection from users o f its network, primarily EUAS, the Electricity Generating Corporation. EUAS' defaults inturn are due to the collection shortfalls o f the Turkish Electricity Distribution Corporation, TEDAS. TEDAS receivables have been growing due to the following reasons: (a) TEDAS' collections, although improving over time, currently average only 90% o f sales revenue. (b) 47% o f the accumulated receivable i s from the public sector, which prevents aggressive enforcement o f collection. Municipalities are particularly notorious for not paying their bills-they alone account for US$ 1.3 billion o fthe accumulatedreceivables. The burden o f receivables gets passed on from one corporation to the next (see Figure 9.1), resulting in cash shortfalls being financed by increasing payables to the next corporation in the chain. The issue i s complicated further by the fact that at the time o f the break-up o f TEAS in 2001, the receivables were not settled but carried over to the newly restructured companies. The accounting systems o f the SOEs do not indicate readily the actual "age" o f these receivables, thus it is difficult to calculatethe loss inNPVterms. TEIAS' collection efficiency was about 60% inFY 2003. TEIAS was in danger o f defaulting on its debt servicing in FY 2003, and managed to meet its obligations after TEDAS received additional support from the Government" allowing it to pay TETAS to pay TEIAS.. However, this situation has substantially improved in2004, and collection efficiency has improved to 77%. This is largely due to improved collections at the TEDAS level - TEDAS collected 90% o f its bills in FY 2004. TEIAS' collection efficiency is projected to improve gradually to 90% in the financial projections. l5US$240million of duty loss compensationwas providedas cash supportby the Government to TEDAS whichalloweditto pay TETAS whichpaidTEIAS. 65  T ift W W  Addressing the issue of accumulatedreceivablesfrom GovernmentAgencies The issue o f receivables from Government agencies has two facets to it - first, the stock or "overhang", i.e., the accumulation o f receivables over the past, and second, the ongoing problems related with nonpayment of current bills by public agencies. Receivables from the public sector including municipalities and street lighting make up 47% o f the accumulated receivables as o f November 2005- and these are receivables that TEDAS cannot pursue aggressively usingcut-offs and legal actions. Accumulated receivables inflate the balance sheet o f electricity utilities unrealistically, since there i s little prospect o f such dues being collected in their entirety. Ongoing problems o f collections from government agencies hamper sector development and investment, and may also have impacts on the privatizationprocess envisaged inthe near term. The stock of accumulated receivables - In order to address the issue o f accumulated receivables, the legal and fiscal implications must be carefully considered. Care will have to be taken in order to avoid perverse incentives on the part o f the companies as well as consumers. The Government i s currently considering the pros and cons o f various approaches, and the Bank has been engaged inthis discussion through its policy dialogue. The ongoing problem of poor collections from municipalities - The Government is currently discussing several modalities to facilitate SOEs to enforce collections against public sector entities. Such modalities once in effect, may give the utilities additional support in their drive against nonpayment, although the question o f enforceability inpractice still remains. Investment Plan TEIAS plans to invest about US$ 1.2 billion over the next 5 years. This level of investment appears financially sustainable, given the current tariff levels. TEIAS' financial projections show that TEIAS has sufficient capacity to support borrowings for these investment expenditure levels. However, if collection efficiency deteriorates from current levels, this couldpotentially leadto cash shortfalls, hamperingTEIAS' ability to invest. Transmission Facilities 203 166 211 284 195 174 Other Investments 35 28 38 41 38 27 Total Investments 238 194 249 325 233 201 Exchange rate exposure Another financial risk that TEIAS has faced in the past, especially duringthe years o f macroeconomic crisis, i s its exposure to exchange rate fluctuations. The Turkish Lira has been particularly vulnerable to depreciation in the past, although it has shown signs o f stability in the last two years. The projections have been run in constant U S dollars because o f the difficulty in projecting the exchange rate. While tariffs are adjusted to compensate TEIAS for the impact o f exchange rate fluctuations, the adjustment normally takes place with a lag. l6Investment expenditures shownhere do not include VAT. 67  Table 9.4 TEIAS FinancialSummary US$ million 2002 I 2003 I2004 j 2005 I2006 12007 I 2008 I2009 I2010 :Constant2004 US$) Actual Forecast Profit and Loss: Vet energytransmitted(GWh) 102,033 109,494 117,147 j 124,527 137,592 148,746 160,992 174,330 188,776 Average transmission tariff (US :entsl kWh) 0.39 0.41 0.46 j 0.45 0.43 0.43 0.42 0.41 0.41 SalesRevenue 397 446 534 561 595 642 681 722 765 3peratingcosts 130 179 222 258 285 317 340 365 392 EBITDA 268 268 313 j 305 312 328 343 360 377 Net profit -30 5 86 : 37 33 37 38 38 47 FundFlow: [ntemalresources 267 293 411 311 318 334 349 365 382 Borrowings 22 25 72 j 177 127 128 185 112 68 Other sources 0 0 0 : 0 0 0 0 0 0 Total Sources 289 318 483 j 488 445 461 534 478 450 Investment 86 96 162 j 247 201 258 337 242 209 Debt service 260 128 127 j 81 82 87 110 126 141 Increase inworking capital (57) 94 193 j 160 162 116 87 110 100 TotalApplications 289 318 483 j 488 445 461 534 478 450 BalanceSheet: Fixedassets 2,918 3,387 4,142 j 4,469 4,633 4,845 5,128 5,308 5,446 Current assets 345 347 539 j 661 812 925 1,007 1,109 1,207 Total Assets 3,263 3,734 4,681 j 5,130 5,445 5,769 6,134 6,417 6,653 Networth 2,638 3,286 4,209 j 4,572 4,820 '5,070 5,320 5,574 5,835 Outstandingdebt 310 262 284 i 408 486 563 683 720 697 Current liabilities 314 186 189 j 151 140 137 132 124 122 Total Liabilities 3,263 3,734 4,681 j 5,130 5,445 5,770 6,135 6,418 6,653 Gross profit margin 27% 13% 10% j 10% 10% 10% 11% 11% 12% Net profit margin -7% 1Yo 16% 7% 5?'o 6% 6Yo 5% 6% ~ Collectionefficiency(%) 50% 59% 77% j 85% 85% 85% 88% 90% 90% Currentratio 1.o 1.5 2.7 j 5.1 7.6 9.2 10.9 13.6 15.5 Receivables(days) 184 117 180 j 226 268 303 329 347 364 Payables(days) 155 169 103 j 85 50 40 30 20 20 Self-FinancingRatio (%) NA 232% 96% j 38% 56% 53% 53% 59% 70% Debt service coverageratio 1.o 2.1 2.5 i 3.7 3.8 3.7 3.1 2.8 2.7 Debt equityratio 2.7 3.8 1.6 ! 1.2 1.1 1.o 0.9 0.9 0.8 68   I- 1 e' ' a : ti ' a :  w 4  >o ". m n o m 3 3 . m - N b Nr ) - b W brl W .oQlo\D r) m W N 3 r ) O N W O d N b 3 3 > o o w t - n moo 3 \ 0 0 m N d m w ? O O QN\Ol - n C -- c g I BP 6 E 6 E C 3 I u -  Annex I O : Safeguard Policy Issues TURKEY: Energy Community of South East Europe APL 3 Project Land Acquisition Safeguards The project i s not expected to require the acquisition o f private land. Underground cables will all be locatedunder city streets owned by the Municipalities. The substations are to be constructed on land that i s either owned by TEIAS or transferred to TEIAS by Turkish State Railways, TEDAS or the Metropolitan Municipality o f Istanbul. Thus the project i s not expected to trigger OPBP 4.12 for resettlement or land acquisition. Nevertheless, one o f the substation sites may trigger the OP/BP because third parties may be affected by the transfer o f land from the Metropolitan Municipality to TEIAS. The site currently under consideration i s being used by a petrol station, LPG depot and a food and snack kiosk. The three enterprises may lease the land from the Municipality or some authority informally or formally. Regardless o f the legality o f arrangements which permit use o f land, under Turkish law the enterprises are eligible for compensation for lost assets if they are evicted from the land and their assets are demolished. OP/BP 4.12 also requires third parties to be compensated for lost assets and the cost o f relocation and transition. The Municipality i s responsible for preparing the land prior to transfemng it to TEIAS, as well as compensating current land users for their losses. Under normal circumstances, the borrower has responsibility for land acquisitionand compensation and i s expected to prepare a compliance document (Policy Framework or Plan) acceptable to the Bank. Inthis case, however, TEIAS i s not responsible for land acquisition or compensation and has no authority over the Metropolitan Municipality to enforce compliance with Bank requirements. Consequently, the standard compliance documents would not be valid. Given this situation, it has been agreed that before the Bank agrees to fund the substation, TEIAS will provide documentation to the Bank that demonstrates compliance with OPBP 4.12 and i s subject to confirmation by Bank staff. This agreement will be included in an addendum to the Land Acquisition Management Framework that TEIAS prepared for APL-2 and will govern the land acquisition process if unforeseen land acquisition i s requiredduring implementation. Environmental Safeguards The chief issues associated with construction and operation, and the manner in which they will be mitigated, are presented as follows: m a s e & Environmental ImDact - rconstruction II Mitiaation Mechanism 1I ~ ~~ Excavated Material Disposed at sites approved by the local Municipality Surface Water Pollution No disposal of excavated material to surface waters permitted Access Roads Only existing access roads will be used Air Pollution-Dust Delivery vehicles carrying construction materials shall be covered Air Pollution-machinery/ Regular maintenance of machinery/vehicles will be required I Vehicular emissions I Noise IPublic I Construction activities confined to davtime hours I Safety I Dangerous work areas will be fenced, other areas appropriate signals I 73  Phase & Environmental ImDact I MitinationMechanism I will be installed PCBs Prohibitedfrom purchaseor use Cultural Properties Areas with known official cultural assets will follow Turkish Law on "Protection of Cultural and Natural Assets" No. 2863 revised as No. 5226. ODeration I I Electric and Magnetic Field Cables will be buried at a depth to insure surface values will meet Strengths international standards. Substations will insure international standards are met at the fence-line. For the project components which have had EMF'S prepared, a summary of the schedule for environmental assessment procedures i s presented in the Table below. For all components, the EMP requirements will be incorporatedinto the contractor biddingdocuments. Public Consultal m Disclosure Subproject Designation Methodof Date Location Date Location Announcement ibprojects Davutpasa-Bagcilar(5.8 km) Survey based I.ILT.TES.VE interviews of iSL. GR. MD.- people living in 04.10.2005 along the cable ISTANBUL the vicinity route 18.01.2006 I along the cable www.teias.aov.tr route Atisalani-Bagcilar (5.1 km) Survey based I.ILT.TES.VE interviews of along the cable iSL. GR. MD.- people living in 04.10.2005 route 18.01.2006 ISTANBUL the vicinity I along the cable www.teias.aov.tr route Umraniye-Vanikoy(6.13 km) Survey based 4.1LT.TES.VE interviews of alongthe cable ISL. GR. MD.- people living in 04.10.2005 route 18.01.2006 ISTANBUL the vicinity I along the cable www.teias.qov.tr route Umraniye-K.Bakkalkoy Survey based 4.ILT.TES.VE (6.3 km) interviews of alongthe cable ISL. GR. MD.- people living in 04.10.2005 route 18.01.2006 ISTANBUL the vicinity I along the cable www.teias.sov.tr route Bornova-Universite(5.7 km) 3.iLT.TES.VE Newspaper ISL. GR. MD.- (Haber 28.12.2005 Aras Cafe 18.01.2006 IZMlR Ekspres) I www.teias.aov.tr (Bornova-UniversiteCable) 3.iLT.TES.VE Bran P.- Morsan (2.5 km) Newspaper iSL. GR. MD.- (Haber 28.12.2005 Aras Cafe 18.01.2006 IZMIR 74  + + Subproject Designation Method of Date Location Date Location Announcement Ekspres) I r--- Bozyaka-Karabaglar (2.7 km) Newspaper Koroglu Cafe, (Haber 27.12.2005 Ekspres) KardeglerCafe Karabaglar-Buca (8.7 km) Yildiz. Mah. Newspaper Muhtarligi, (Haber 27.12.2005 Camlikule Ekspres) Mah. Muhtarligi 75  Annex I 1:Project Preparation and Supervision TURKEY: Energy Community of South East Europe APL 3 Project Planned Actual PCN review 11/ I 5/05 11/ I5/05 Initial PID to PIC 12119/05 Initial ISDS to PIC 01/05/06 Appraisal 01/20/06 01119/06 Negotiations 02/06/06 02113/06 BoardIRVP approval 03/23/06 Planned date of effectiveness 06/06/06 Planned date of mid-term review 06/06/08 Planned closing date 06/30/11 Key institutionsresponsible for preparationof the project: TEIAS, MENR Bankstaff andconsultantswho worked on the project included: Name Title Unit RanjitLamech Task Team Leader ECSIE Sameer Shukla Senior EnergySpecialist ECSIE Husam Beides Senior Power Engineer ECSIE James Moose Economist ECSIE Gurhan Ozdora Senior Operations Officer ECSPF Shinya Nishimura FinancialAnalyst ECSIE Salih Kemal Kalyoncu ProcurementSpecialist ECSPS Norval Stanley Peabody Lead Social Scientist ECSSD Bernard Baratz EnvironmentSpecialist ECSIE Dilek Barlas Senior Counsel LEGEC Seda Aroymak Sr. Financial Mgt Specialist ECSPS Zeynep Lalik Mete FinancialMgt. Specialist ECSPS Andrina Ambrose Senior Finance Officer LOAGI Yukari Tsuchiya ProgramAssistant ECSIE Selma Karaman ProgramAssistant ECCUG Ozlem Katisoz Team Assistant ECCUG Bank funds expended to date on project preparation: 1. Bankresources: US$ 80.000 2. Trust funds: 3. Total: US$80,000 Estimated Approval and Supervision costs: 1. Remaining costs to approval: US$ 70,000 2. Estimatedannual supervision cost: US$ 120,000 76  Annex 12: Documents in the Project File TURKEY: Energy Communityof South East Europe APL 3 Project -- LandAcquisitionManagementFramework-January 18,2006 Frameworkfor EnvironmentalAssessment Procedures-September 12,2004 77  Annex 13: Statement of Loans and Credits TURKEY: Energy Community of South East Europe APL 3 Project Difference between expected and actual OriginalAmount in US$ Millions disbursements Project FY Purpose IBRD IDA SF GEF Cancel. Undisb. Orig. Frm. Rev'd ID PO93765 2006 GAS SECT DEVT 325.00 0.00 0.00 0.00 0.00 325.00 0.00 0.00 PO66149 2005 SEC EDUC 104.00 0.00 0.00 0.00 0.00 96.49 0.63 0.00 PO77328 2005 RAIL RESTRUCT 184.70 0.00 0.00 0.00 0.00 173.32 0.00 0.00 PO78359 2005 SEISMIC RISK MITIGATION 400.00 0.00 0.00 0.00 0.00 364.84 19.57 0.00 PO81880 2005 MUNICIPAL SERVICES 275.00 0.00 0.00 0.00 0.00 257.43 0.00 0.00 PO93568 2005 EFlL 3 (CRL) 305.00 0.00 0.00 0.00 0.00 294.00 6.85 0.00 PO94167 2005 PSSP 2 465.40 0.00 0.00 0.00 0.00 423.68 31.67 0.00 PO94176 2005 ECSEEAPL #2 (TURKEY)(CRL) 66.00 0.00 0.00 0.00 0.00 61.38 0.56 0.00 PO82801 2004 EFlL 2 303.10 0.00 0.00 0.00 0.00 52.98 -147.85 0.00 PO82996 2004 PFPSAL 3 1,000.00 0.00 0.00 0.00 0.00 500.00 0.00 0.00 PO75094 2004 WATERSHED REHAB (GEF) 0.00 0.00 0.00 7.00 0.00 6.42 0.50 0.00 PO74053 2004 HEALTH TRANSIT (APL#I) 60.61 0.00 0.00 0.00 0.30 53.90 19.42 0.00 PO72480 2004 RENEW ENERGY 202.03 0.00 0.00 0.00 1.01 185.96 13.60 0.00 PO70950 2004 ANATOLIA WATERSHEDREHAB 20.00 0.00 0.00 0.00 0.10 19.55 0.98 0.00 PO59872 2003 BASIC ED 2 (APL #2) 300.00 0.00 0.00 0.00 0.00 288.79 283.88 161.12 PO70286 2002 ARIP 600.00 0.00 0.00 0.00 0.00 252.83 252.83 99.33 PO74408 2002 SRMP 500.00 0.00 0.00 0.00 0.00 136.26 136.26 -27.61 PO69894 2001 PRlV SOC SUPPRT 250.00 0.00 0.00 0.00 0.00 5.72 5.72 -0.28 PO44175 2000 BlODlVlNTRL RES MGMT (GEF) 0.00 0.00 0.00 8.19 0.00 3.86 3.70 0.42 PO68368 2000 MARMARAEARTHQUAKEEMG 505.00 0.00 0.00 0.00 0.00 274.83 276.24 82.02 RECON PO09073 1999 INDUSTRIALTECH 155.00 0.00 0.00 0.00 0.00 10.71 10.74 0.00 PO48852 1998 NAT'LTRNSM GRID 270.00 0.00 0.00 0.00 34.48 92.48 126.96 96.50 Total: 6,290.84 0.00 0.00 15.19 35.89 3,880.43 1,042.26 411.50 78  TURKEY STATEMENT OF IFC's Held and Disbursed Portfolio In Millions of US Dollars Committed Disbursed IFC IFC FY Approval Corporation Loan Equity Quasi Partic. Loan Equity Quasi Partic. 2005 Acibadem 20.00 0.00 0.00 0.00 20.00 0.00 0.00 0.00 Alternatif Bank 0.25 0.00 0.00 0.00 0.25 0.00 0.00 0.00 1996 Arcelik 7.00 0.00 0.00 0.00 7.00 0.00 0.00 0.00 2001 Arcelik 31.72 0.00 0.00 8.66 31.72 0.00 0.00 8.66 2003 Arcelik 16.20 0.00 0.00 0.00 16.20 0.00 0.00 0.00 2005 Arcelik 97.05 0.00 0.00 97.05 97.05 0.00 0.00 97.05 2000 Arcelik LG Klima 5.36 0.00 0.00 0.00 5.36 0.00 0.00 0.00 2002 Assan 20.00 0.00 0.00 0.00 20.00 0.00 0.00 0.00 2005 Assan 20.00 0.00 10.00 0.00 0.00 0.00 0.00 0.00 2002 Atilim 4.88 0.00 0.00 0.00 4.88 0.00 0.00 0.00 2000 Banvit 8.33 5.00 0.00 0.00 8.33 5.00 0.00 0.00 2002 Beko 30.75 0.00 0.00 21.96 30.75 0.00 0.00 21.96 2001 Bilgi 7.00 0.00 0.00 0.00 7.00 0.00 0.00 0.00 1994 Borcelik 0.00 5.83 0.00 0.00 0.00 5.83 0.00 0.00 1996 Borcelik 0.00 0.61 0.00 0.00 0.00 0.61 0.00 0.00 1997 Borcelik 7.27 3.21 0.00 0.00 7.27 3.21 0.00 0.00 2004 Borusan Holding 30.00 0.00 7.85 0.00 30.00 0.00 7.85 0.00 1994 CBS Holding 3.50 0.00 0.00 0.00 3.50 0.00 0.00 0.00 1990 Conrad 3.59 0.00 0.63 0.00 3.59 0.00 0.63 0.00 2002 Conrad 2.80 0.00 0.00 0.00 2.80 0.00 0.00 0.00 2002 EKS 9.00 0.00 0.00 0.00 9.00 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 18.00 0.00 0.00 8.28 18.00 0.00 0.00 8.28 1999 Finansbank 1.11 0.00 0.00 0.00 1.11 0.00 0.00 0.00 2004 Garanti Leasing 10.00 0.00 0.00 0.00 10.00 0.00 0.00 0.00 1999 Gumussuyu Kap 4.00 0.00 3.44 0.00 4.00 0.00 3.44 0.00 2001 Gunkol 4.25 0.00 0.00 0.00 4.25 0.00 0.00 0.00 1998 lndorama lplik 3.75 0.00 0.00 0.00 3.75 0.00 0.00 0.00 2005 Intercity 15.00 5.00 0.00 27.75 15.00 5.00 0.00 27.75 1998 lpek Paper 5.19 0.00 5.00 0.00 5.19 0.00 5.00 0.00 2002 lpek Paper 6.79 0.00 0.00 0.00 6.79 0.00 0.00 0.00 1990 Kepez Elektrik 1.62 0.00 0.00 0.00 1.62 0.00 0.00 0.00 1988 Kiris 15.73 0.00 0.00 0.00 15.73 0.00 0.00 0.00 1990 Kiris 10.61 0.00 0.00 0.00 10.61 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 5.05 0.00 0.00 0.00 5.05 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 Meteksan Sistem 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 79  Committed Disbursed IFC IFC FY Approval Corporation Loan Equity Quasi Partic. Loan Equity Quasi Partic. 2006 Milli Re 50.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 i998 Modern Karton 3.64 0.00 0.00 0.00 3.64 0.00 0.00 0.00 2002 Modern Karton 6.67 0.00 0.00 0.00 6.67 0.00 0.00 0.00 2005 Modern Karton 40.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1991 NASCO 3.95 0.00 0.00 I.3a 3.95 0.00 0.00 I.3a 2004 OPET 25.00 0.00 0.00 40.00 16.67 0.00 0.00 40.00 2004 Oyak Bank 44.44 0.00 0.00 0.00 44.44 0.00 0.00 0.00 2005 PALEN 2.00 0.00 0.00 0.00 2.00 0.00 0.00 0.00 2005 PALGAZ 10.00 0.00 0.00 0.00 5.00 0.00 0.00 0.00 2002 Pasabahce I.aa 0.00 0.00 0.00 I.aa 0.00 0.00 0.00 i998 Pinar ET 2.36 0.00 0.00 0.00 2.36 0.00 0.00 0.00 2000 Pinar SUT 9.67 0.00 0.00 0.00 6.22 0.00 0.00 0.00 1999 SAKoSa 7.44 0.00 6.20 3.23 7.44 0.00 6.20 3.23 1990 Silkar Turizm 1.20 0.00 0.00 1.37 1.20 0.00 0.00 1.37 2002 Sise ve Cam 11.66 0.00 0.00 0.00 11.66 0.00 0.00 0.00 2003 Sise ve Cam 37.12 0.00 16.36 29.15 37.12 0.00 16.36 29.15 2002 Soktas 1.50 0.00 0.00 0.00 1.50 0.00 0.00 0.00 2005 TSKB 0.00 0.00 50.00 0.00 0.00 0.00 50.00 0.00 i989 Trakya Cam 0.00 0.00 0.03 0.00 0.00 0.00 0.03 0.00 1996 Trakya Cam 0.00 0.01 0.00 0.00 0.00 0.01 0.00 0.00 1999 Trakya Cam 0.00 0.02 0.00 0.00 0.00 0.02 0.00 0.00 2002 Turk Ekon Bank 8.89 0.00 15.00 0.00 8.89 0.00 15.00 0.00 2005 Turk Ekon Bank 0.00 0.00 50.00 0.00 0.00 0.00 50.00 0.00 2001 Turkish PEF 0.00 9.59 0.00 0.00 0.00 2.31 0.00 0.00 1999 Unye Cement 5.14 0.00 0.00 0.00 5.14 0.00 0.00 0.00 1999 Uzel 7.64 0.00 0.00 4.40 7.64 0.00 0.00 4.40 1998 Viking 6.31 0.00 0.00 0.00 6.31 0.00 0.00 0.00 2005 YUCE 4.50 0.00 0.00 0.00 3.49 0.00 0.00 0.00 Total portfolio: 817.81 29.27 173.01 251.23 640.02 21.99 163.01 251.23 Approvals Pending Commitment FY Approval Corporation Loan Equity Quasi Partic. 2001 Akbank 0.03 0.00 0.00 0.00 2004 Akbank BLoan Inc 0.00 0.00 0.00 0.02 2005 Assan IV 0.00 0.00 0.00 0.03 2005 Avea 0.12 0.00 0.00 0.30 2005 Eren Expansion 0.00 0.00 0.00 0.02 2002 Milli Reasurans 0.00 0.01 0.00 0.00 2002 TEB 111 0.00 0.00 0.00 0.05 Total pendingcommitment: 0.15 0.01 0.00 0.42 80  Annex 14: Country at a Glance TURKEY: Energy Community of South East Europe APL 3 Project Europe B Upper- POVERTY and SOCIAL Central middle- Turkey Asia income Development diamond. 2004 Population,mid-year(millions) 713 472 576 GNIpercapita (Atlas method, US$) 3,770 3290 4,770 Lifeexpectancy GNI (Atlas method, US$ billions) 269.0 1,553 2,748 - Average annual growth, 1998-04 Population (%) 15 -0.1 0.8 Laborforce(%) 2.2 -0.5 -0.9 GNI Gross + M o s t recent estimate (latest year available, 1998.04) per pnmaly capita nrollment Poverty (%ofpopulationbelownationalpo vertyline) Urbanpopulation (%oftotalpopulation) 67 64 72 Life expectancyat birth(years) 69 68 69 1 Infantmortality(per ?,0001ive births) 33 29 24 Child malnutrition (%ofchildrenunder.5) 8 Access to improvedwater source Access to an improvedwatersource (%ofpopulation) 93 91 93 I Literacy(%of population age 159 88 97 91 Gross primaryenrollment (%of school-agepopulation) 91 ni a6 -Turkey Male 95 a 3 n 8 Female 88 a1 a6 KEY ECONOMIC RATIOS and LONG-TERM TRENDS 1984 1994 2003 2004 Economic ratios* GDP (US$ billions) 59.9 '129.7 240.4 302.8 Gross capitalformation1GDP 6.2 215 22.8 25.7 Exportsof goods andserviceslGDP 15.6 214 27.4 28.9 Trade Gross domestic savings/GDP .. 22.5 8.5 8.9 Gross national savings/GDP 6.4 25.3 8.1 B.9 Currentaccount balance1GDP -1.9 2.0 -3.3 -5.1 Interestpaynents/GDP Domestic Capital 3.1 3.1 2.9 2.4 Total debt/GDP savings formation 36.1 511 60.5 53.4 Total debt servicelexports 33.0 34.1 38.4 32.6 Present valueof debtlGDP 63.6 56.2 Present value of debt/exports 2111 181.9 Indebtedness 1984-94 1994-04 2003 2004 2004-08 (averageannualgrowth) GDP 4.5 3.1 5.6 8.9 5.0 -Turkey GDP percapita 2.3 14 4.3 7.5 3.7 UDDer-middle-incomeOrOUO ~ STRUCTURE o f the ECONOMY 1984 1994 2003 2004 (%of GDP) Agriculture 21.6 8.0 8.4 P.9 Industry 25.0 314 219 22.4 Manufacturing 6.4 20.2 8.3 0.9 Services 53.4 52.6 64.7 64.7 Household final consumption expenditure 79.6 65.9 66.6 66.9 Generalgov't final consumption expenditure 8.3 116 t36 8.2 Imports of goods andservices 8.7 20.4 30.7 34.7 i -CXF -GDP 1984-94 1994-04 2003 2004 (average annualgrowth) Growth o f exports and imports (%) Agriculture 14 10 -2.4 2.0 40 T Industry 5.7 2.4 5.0 8.8 Manufacturing 6.1 3.4 20 8.4 a.1 Services 3.9 3.3 6.4 8.3 0 Household final consumption expenditure 3.9 2.3 7.1 a.1 -20 Generalgov't final consumption expenditure 3.5 3.5 -2.4 0.5 Gross capitalformation 5.0 3.0 20.4 27.4 Imports of goods and services 9.2 9.1 27.1 24.7 81  Turkev PRICES and GOVERNMENT FINANCE I 1984 1994 2003 2004 inflation (%) Domestic prices (%change) 100 - Consumer prices .. a6.3 25.3 0.6 Implicit GDP deflator 48.2 a6.5 22.5 9.9 Government finance (%of GDP, includes current grants) 04 "I Current revenue .. 214 39.6 39.9 99 w 01 02 03 Current budget balance .. -12 -5.8 -2.0 Overallsurplusideficit .. -7.5 -9.1 -4.8 -GDPdefiator -CPI TRADE 1984 1994 2003 2004 (US$ millions) Export and import levels (US$ mill.) 1 Total exports (fob) 7,389 8 3 6 51206 67,001 Agriculturaland livestock 896 1066 2,201 2,645 Miningand quarryproducts 239 263 469 649 Manufactures 6254 6,777 44,378 59,533 Total imports (clf) 0.757 23270 69,340 97,540 Food 359 658 404 528 Fueland energy 3.887 3,771 11,568 11,400 I Capital goods 2,675 5,323 11326 7,397 Export price index(2000=00) a 7 M a 5 P2 Import price index(2000=00) 18 a 5 a6 P O Terms of trade (20OO=WO) 91 0 8 99 a2 1Exports 8 IlTQOrtS BALANCE of PAYMENTS 1984 1994 2003 2004 (US$ millions) Current account balance to GDP (%) Exports of goods andservices 9,546 29,182 70,231 91,029 Imports of goods andservices 11,340 26297 73,736 02.80 Resource balance -1794 2,885 -3,505 -11151 Net income -1,440 -3264 -5,559 -5,5B Net current transfers 2,082 3,013 1.027 137 Current account balance -1152 2,631 -8,037 -15,543 Financing items (net) 1,086 -2,085 P,084 6,367 Changes in net reserves 66 -546 -4,047 -824 Memo: ReSeNeSincludinggold (US$ millions) 3,899 8,5B 44,957 53,649 Conversion rate (DEC,local/US$) 367 29.88 1496,668 1,421835 EXTERNAL DEBT and RESOURCE FLOWS 1984 1994 2003 2004 (US$ millions) Composition of 2004 debt (US$ mill.) Total debt outstandingand disbursed 21,608 66250 115,367 61,801 iBRD 2,358 5,B5 5,214 6,153 A'6.W IDA 8 1 136 83 77 B:TI Total debt service 3223 a259 27,808 30,506 iBRD 325 128 7 8 767 IDA 4 7 7 7 Composition of net resourceflows Official grants 90 7 5 150 6 0 Official creditors 1061 -605 541 758 Private creditors 277 -30 4,959 6,687 Foreigndirect investment (net inflows) 113 559 1254 1874 Portfolio equity(netinflows) 0 1059 1133 6,064 F 94,577 World Bank program Commitments 794 250 300 1586 A IBRD - E Bilateral - Disbursements 628 343 276 1499 B-IDA D-Oihermltilateral F-Private ~ Principalrepayments P 9 806 502 586 l C-IMF G. Short-term 82  Annex 15: Maps TURKEY: Energy Community of South East Europe APL 3 Project 83   IBRD 34466 28