Tunisia - Second Power Project

FILE COPY Report No. 1304b-TUN Appraisal of the Second Power Project (STEG) Tunisia December 7, 1976 Projects Department Europe, Middle East and North Africa Regional Office Power and Energy Development Division FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS (June 2, 1976) Currency Unit = Tunisian Dinar (TD) Tunisian millimes 1,000 TD 1.000 US$2.33 = TD 1.000 US$1.00 = TD 0.429 WEIGHTS AND MEASURES 1 square kilometer (km2) 0.3861 square mile (sq mi) 1 cubic meter (m3) = 35.315 cubic foot (cu ft) 1 kilogram = 2.206 pound (lb) 1 metric ton (t) (1000 kg) = 1.10 short ton (sh ton) 0.985 long ton (lg ton) 1 kilowatt (kW) = 1000 watts 1 Megawatt (MW) = 1000 kW 1 kilowatthour (kWh) - 1000 watthours 1 Gigawatthour (GWh) 1 million kWh 1 kilovolt (kV) = 1000 volts 1 kg force/cm2 (technical atm.) 14.223 psi (lb/sq inch) 1 kcal (kilocalorie) = 3.968 Btu (British thermal unit) 1 thermie = 1000 keal 1 TOE I 1 ton of oil equivalent (10.200 x 103 kcal) GLOSSARY OF ABBREVIATIONS CIDA Canadian International Development Agency EdF Electricite de France SOTEMI Socie'te Tunisienne d'Expansion Miniere STEG Societe Tunisienne de l'Electricite et du Gaz FISCAL YEAR January 1 to December 31  FOR OFFICIAL USE ONLY APPRAISAL OF THE SECOND POWER PROJECT (STEG) TUNISIA Table of Contents Page No. SUMMARY AND CONCLUSIONS .............................. i-iii I. INTRODUCTION . ........................................ I II. THE POWER AND ENERGY SECTOR .......................... 1 A. The Country and the Economy ..................... I B. Energy Resources ................................ 2 C. The Electric Power Sector ........................ 3 Tariffs .................................... 4 D. Development Program ............................. 5 III. THE PROJECT ............ .............................. 8 A. Objectives ...................................... 8 B. Description .......................- 9 C. Status of Engineering ........................... 9 D. Cost Estimate ................................... 10 E. Financing ....................................... 10 F. Procurement and Disbursement .................... 11 G. Environmental Impact ............................ 11 IV. THE PROJECT ENTITY ................................... 11 A. Background ...................................... 11 B. Management and Organization ..................... 11 C. Staffing ........................................ 12 V. FINANCE ......................... ..................... 13 A. Financial Highlights .............. .. ............ 13 B. STEG's Relations with Government ........ .. ...... 13 C. Accounting and Reporting Systems ........ .. ...... 14 D. Past Performance and Present Position .......... . 14 E. Collection of Receivables ........... .. .......... 15 This report was prepared by Messrs. V. Antonescu, I. Mathai and J. Turcot. It is based on information obtained by a mission to Tunisia in June-July 1976. This document ha a resticted distribution and may be used by recipients only in the perforance of their official duties. Its contents may not otherwise be disclsd without World lank authoriatton.  Table of Contents (Continued) Page No. F. Financing Plan ........... ...... .................... 16 G. Future Performance ......... . ...................... . 17 H. Proposed Financial Covenant .................. ... 18 I. Proposed Debt Limitation Covenant ............ ... 18 J. Audit ........................................ ... 19 K. Insurance .................................... ... 19 VI. BENEFITS AND JUSTIFICATION ... 20 A. Market Growth ................................... 20 B. Least Cost Development Program .... .............. 20 C. Comparison of Alternatives ...................... 21 D. Rate of Return .................................. 22 VII. MONITORING SYSTEM .................................... 23 VIII. AGREEMENTS REACHED AND RECOMMENDATIONS .... ........... 23 ANNEXES 1. Power Sector Data 2. Electricity Tariffs 3. Suggested Outline Terms of Reference, Energy Pricing Study 4. Investment Program Expenditures 5. Description of the Project 6. Project Cost Estimate 7. Schedule of Estimated Disbursements 8. Organization Chart - STEG 9. Suggested Outline Terms of Reference, Gas Organization Study 10. Income Statements for the Years Ending December 31, 1974-1981 11. Balance Sheets as of December 31, 1974-1981 12. Sources and Applications of Funds for the Years 1976-1981 13. Assumptions Underlying Financial Statements 14. Justification of Project 15. Suggested Key Indicators of Performance MAP IBRD 12451R1 - Societe Tunisienne de 1'Electricite et du Gaz (STEG) Electric Power System  APPRAISAL OF THE SECOND POWER PROJECT (STEG) TUNISIA SUMMARY AND CONCLUSIONS a i. This report appraises a Power Project for the Societe Tunisienne de l'Electricite et du Gaz (STEG), a Government-owned company responsible for the production, transmission and distribution of electricity and gas for public consumption throughout Tunisia. ii. The Project comprises 150 MW of gas turbine capacity in seven units of equal size, which would be installed in Sfax (2), Menzel Bourguiba (2), Tunis South (1), Korba (1) and Mietlaoui (1), to meet Tunisia's growing power demand. The total cost of the Project is estimated at US$29.3 million, including a foreign exchange component of US$25.1 million equivalent. The Project forms a small part (about 6%) of STEG's 1977-1981 development program amounting to US$483 million (US$435 million for electricity, US$6 million for gas and US$42 million for buildings and general equipment). iii. The Bank has made two previous loans to STEG, totaling US$19.5 million. The first loan (724-TUN) of US$7.5 million was made in 1971 in con- junction with a US$2.5 million equivalent loan from the Kuwait Fund for Arab Economic Development, to finance a gas pipeline. The second loan (815-TUN) of US$12 million was made in 1972 to finance a power project consisting of two 20 MW gas turbines, transmission and distribution system expansion, and consulting services for future plant and institutional development. The first project was successfully completed in 1972 and the second one is nearing completion. Bank lending for the proposed Project would be an opportunity for the Bank to continue its institution-building effort which started under the two previous loans and have led to improvements of STEG's organization and operations. iv. STEG owns about 88% (367 MW in 1975) of Tunisia's total installed capacity. Its generation, which accounts for about 90% of the total elec- tricity production in the country, rose from 445 GWh in 1966 to about 1,200 GWh in 1975 (11.7% p.a.). Production is projected to increase to about 2,510 GWh in 1981 and the net installed capacity to about 670 MW. v. Under Loan 815-TUN, STEG agreed to maintain electricity tariffs at such a level that the ratio of operating surplus to average value of gross fixed assets in operation less average customer contributions would not fall below 8.5% in any fiscal year beginning with 1973. STEG has met this covenant, achieving a rate of return on the agreed basis of 8.5% in 1973, 9.3% in 1974 and 10% in 1975, when electricity supply rates were raised an average 16% with effect from April; internal cash generation including customers con- tribution was above 50% of construction requirements during these years. This somewhat unusual rate of return covenant was so framed partly because  - ii - of the uncertainty about STEG's fixed assets at the time Loan 815-TUN was made. Since in the meantime STEG's assets have been identified and values determined, Government and STEG have agreed to adopt a more conventional rate of return covenant under which the return is computed after depreciation. On this basis STEG's rate of return would be about 8% in 1977, and a marginal adjustment in tariffs would be necessary in 1978 to maintain it at this level. The agreement under Loan 815-TUN regarding debt limitation requires that STEG would not incur any debt without the approval of the Bank, except for financing the Project, if it would raise its total debt to more than 45% of the sum of its equity, including accumulated contributions made by customers, and its total debt. Agreement has been reached on repeating it also in the proposed loan. vi. The recently discovered reserves of natural gas in the Gulf of Gabes estimated at 70-160 billion m3 which are being evaluated by STEG with the aid of foreign consultants, would permit the introduction after 1980 of this new source in Tunisia's energy balance and the substitution of gas for oil for power generation thus increasing the volume of oil available for exports, increased domestic use of gas and the development of new industries based on the utilization of natural gas. Since it appears very likely that STEG would be in charge of the construction and operation of the onshore facilities for the transmission and distribution of offshore gas throughout the country, STEG would undertake a study to establish its organizational structure, its training needs and the required investments for the gas program. STEG would also conduct a study of the level and application of connection charges for electricity supply in order to determine whether its present policy in this respect stipulating a rather high level of customer contribu- tions has an inhibiting effect on extension of service. STEG has agreed to submit by June 1978 the recommendations of these two studies to the Govern- ment and the Bank. Since the Government's current oil pricing policy under which the present internal prices represent only about 23% of international prices, has a vital bearing on the relative consumption of primary and sec- ondary sources of energy and thus on development of the sector itself, the Government would undertake a study with a view to determining an appropriate pricing policy for oil, gas and electricity. Government has agreed to submit to the Bank not later than September 30, 1978 the recommendations of such a pricing study, which would take into consideration STEG's policy on connec- tion charges, and to exchange views with the Bank on these recommendations. vii. In order to meet the implementation schedule for the Project the contract for the supply, installation and commissioning of the seven gas turbine units included in the Project was awarded by STEG shortly after the appraisal of the Project on the basis of international competitive bidding, consistent with Bank Group Guidelines for Procurement. The advance contract- ing was justified by the time constraint. The proposed Bank loan of US$14.5 million would finance 58% the foreign exchange cost of the Project; the remaining foreign exchange costs would be financed by STEG (US$1.4 million)  - iii - and by a consortium of private banks with the guarantee of the Compagnie Francaise d'Assurance pour le Commerce Exterieur (about US$9.2 million) that has already been agreed to in principle. No retroactive financing is proposed since payments previous to loan approval are expected to be covered by the private bank loan or by STEG. It is expected that disbursements from the proposed loan would commence in FY 1977 after drawdown of the private bank loan and would be for 100 percent of each payment. Government has agreed to provide the funds to carry out the Project in the event of the company's inability to arrange these funds. viii. The Project forms part of STEG's least cost development program of meeting the projected growth of demand. The economic rate of return on the Project is at least 13.2% if flare gas is used for the two gas turbines to be installed at Sfax, and gas oil for the other five gas turbines included in the Project. If offshore gas is used for the latter after 1980, the rate of return would be about 24%. ix. In review of the agreements reached as set forth in Section 8, the Project is suitable for a Bank loan to STEG of US$14.5 million equivalent, for a term of 14 years including a 2.5-year grace period. Completion of steps for effectiveness of the private bank loan of US$9.2 million would be a condition of effectiveness of the proposed Bank loan.   APPRAISAL OF THE SECOND POWER PROJECT (STEG) TUNISIA I. INTRODUCTION 1.01 The Government of Tunisia has requested a Bank loan to finance the foreign exchange component of a power project consisting of about 150 MW of gas turbine plant. A loan of US$14.5 million is proposed to finance part (58%) of the foreign exchange cost. 1.02 The Project would form part of STEG's (Societe Tunisienne de l'Electricite et du Gaz) development program for the period 1977-1981 (fifth plan). 1.03 There have been two previous loans to STEG, totaling US$19.5 million. These comprised Loan 724-TUN (US$7.5 million; 1971) for a gas pipeline made in conjunction with a US$2.5 million equivalent loan from the Kuwait Fund for Arab Economic Development, and the first loan for power, 815-TUN (US$12 mil- lion; 1972) for a project consisting of two 20-MW gas turbines, transmission and distribution system expansion, and consulting services for future plant and institutional development. The first project was successfully completed in 1972 and the second one is nearing completion. 1.04 This appraisal report is based on the findings of a Bank mission consisting of Messrs. V. Antonescu (Engineer), I. Mathai and J. Turcot (Financial Analysts) which visited Tunisia in June/July 1976. II. THE POWER AND ENERGY SECTOR A. The Country and the Economy 2.01 Tunisia covers an area of about 164,000 km2 (63,000 sq. mi) and has a population of about 5.6 million with an average annual growth rate of 2.3%. About half of its labor force is employed in agriculture which provides about 20% of Tunisia's GDP. 2.02 Political stability and the continuation of economic reorientation since 1970, marked by an increased role of domestic and foreign private in- vestment and less reliance on administrative controls, have created a favorable environment for rapid economic growth in recent years. Average annual growth of real GDP during 1970-1975 amounted to 9.2%. Expansion of production was especially rapid in construction and manufacturing while agriculture production showed little increase and mining output stagnated. The power industry has grown fast especially since 1970, reflected by an average growth rate of electricity consumption of 10.6%. This was mainly due to the rapid increase  -2- in household consumption (13.8% average growth for 1970-75) which accounted at the end of 1975 for 21% of STEG's total electricity sales. B. Energy Resources 2.03 Tunisia's main energy resources are oil, natural gas and a small hydropower potential. Recoverable oil reserves are estimated at about 70 mil- lion tons. Annual oil production was about 4.6 million tons in 1975 and is expected to reach some 6.5 million tons annually by 1980, as a result of addi- tional output from the new offshore fields in the Gulf of Gabes, and to decline subsequently by 8-10% annually. About 4.8 million tons of crude oil were exported and 1.1 million tons of oil products were imported in 1975. Some 300 million m3 of oil-associated gas can be transported annually from El Borma to the Gabes area through the Bank financed pipeline (Loan 724-TUN) to supply a power station and various industries. In order to prevent gas being flared, a project estimated to cost TD 9.6 million is now under consid- eration for the reinforcement of this pipeline, increasing its capacity by 1981 to about 500 million m3 annually. Preliminary unofficial estimates of offshore natural gas reserves at Miskar in the Gulf of Gabes are between 70 and 160 billion m3. While these volumes would be inadequate for gas liquefac- tion and export, they would cover 35 to 80 years of Tunisia's current energy consumption. If the volume of gas reserves is confirmed, the introduction of natural gas could change drastically the energy supply pattern in Tunisia, where the main benefits generated by the substitution of gas for oil would be incremental oil exports. A project for the extraction and distribution of this gas, by means of a pipeline to Sfax and thence to Gabes and Menzel Bourguiba, is being prepared for the Fifth Plan (1977-1981). According to recent studies made by foreign consultants, some 3.5 billion m3 of low-heat value gas from Sidi Behara and Sidi Agareb (20 miles west of Sfax) could be economically used for power generation. Tunisia's hydro power potential is not significant, but so far about 29 MW has been developed. No favorable sites exist permitting further developments except for a 25-MW power plant at Sidi Salem, which is part of a multipurpose project (irrigation, water supply, power) proposed for Bank financing, and a pumped storage plant at Kasseb which appears to be less economical than other alternative plants and therefore has not been included in the development plan. Some poor quality lignite beds exist but in view of the oil and gas resources no investigation has been undertaken to determine whether they could be economically developed. 2.04 Former proposals for an intercontinental gas pipeline from Algeria to Italy through Tunisia, although still under consideration, would have a less important impact on Tunisia's energy situation due to the recent discovery of the new offshore gas reserve.  - 3 - C. The Electric Power Sector 2.05 The power sector is served principally by STEG, a Government-owned corporation, which is responsible for the production, transmission and distri- bution of electricity and gas for public consumption for the entire country. Its principal activity is the sale of electricity; gas sales accounted for only about 3.3% of its total revenues in 1975. STEG was created by a decree law in 1962 to take over the operation of seven private utility companies upon their nationalization. During its early years, STEG's efforts were con- centrated on physically integrating the seven separate systems. After 1970 STEG has been able to start on a systematic expansion of the integrated national system and turn its attention to matters of organization, management and finance. 2.06 After a relative stagnation before 1965, the power sector has de- veloped rapidly. Power sector data are shown in Annex 1. The total installed capacity of 415 MW in 1975 generated 1,346 GWh. Of this capacity 367 MW (88.4%) was owned by STEG, which generated 1,204 GWh (89.5%), and 48 MW (11.6%) by auto-producers, generating 142 GWh (10.5%). Natural gas accounted in 1975 for 58.8% (707.5 GWh), liquid fuel for 38.6% (465.2 GWh) and hydro for 2.6% (31.3 GWh) of STEG's power generation. 2.07 The main transmission system consisting of a 150-kV ring with 150- kV and 90-kV secondary branches has a total length of about 1,400 km. The first 225-kV line of about 100 km was built in 1974 between Gannouche and Maknassy. It will be operated at 150 kV until 1977 when it will be extended up to Tunis and converted to 225 kV. The medium voltage lines (10-30 kV) have a length of about 6,300 km and low tension distribution lines and cables (220 V and 100 V) about 8,900 km. 2.08 Almost all of STEG's installed capacity, which amounted at the end of 1975 to 367 MW, is interconnected. The major thermal power plants are located in: Tunis: Steam 158 MW, gas turbine 45 MW Ghannouch (Gabes): Steam 60 MW, gas turbine 60 MW The total installed capacity in hydro plants of about 29 MW is concentrated in the northern part of the country. STEG's total diesel capacity of about 15 MW, of which the major part is installed in Sfax, Sousse and Robbana, has the role of stand-by capacity. 2.09 At the end of 1975 about 420 thousand households (40%) were provided with electricity, of which 35 thousand were in rural areas (17% of total number in rural areas) (see para 2.19, 2.20).  -4- Tariffs 2.10 A new tariff system for electricity based on the marginal cost concept was implemented by STEG in April 1975 as a result of a tariff study financed from the first Bank loan for power (815-TUN). The new tariffs are set out in Annex 2 and summarized below. For low and medium voltage service, the customer can choose either time-of-day or block tariffs. Low Voltage (220 V, 100 V) (a) Time-of-day tariffs: - tariffs for agricultural consumers with peak time cut (T millimes 17/kWh for day time and T millimes 7/kllh for night time) - tariffs for water heating with peak time cut (T millimes 12/kWh) (b) tariffs by blocks (first block 0 - 10 kWh/kVA/month second block over 10 kWh/kVA/month) - lighting and domestic consumers (T millimes 45/kWh for the first block; T millimes 35/kWh for the second block) - motive power (T millimes 40/kWh for the first block; T millimes 28/kWh for the second block) Medium Voltage (30 kV, 15 kV, 10 kV) (a) Time-of-day tariffs with a fixed charge of TD 15/month and a demand charge of TD 1.5/kW/month (T millimes 11.3/kWh for day time, T millimes 18.4/kWh for peak and T millimes 4.1/kWh for night time) (b) tariffs by blocks with a fixed charge of TD 2.5/month and a demand charge of TD 0.1/kVA/month (T millimes 20.4/kWh for up to 50 kWh/kVA/montb T millimes 15.3/kWh for over 50 KWh/kVA/month) A special tariff comprising a relative low fixed charge (TD 2.5/month) applies for medium voltage off-peak agri- cultural consumers. Average charges in 1975 were about T millimes 15/kWh (US4 3.5/kWh) for medium voltage and T millimes 31.6/kWh (USe 7.44/kWh) for low voltage.  -5- High Voltage (220 kV, 150 kV, 90 kV) The tariff for this new category of consumers will be an- nounced in 1976 as a ministerial order. It provides the same rates as the time of day tariffs for medium voltage con- sumers. The tariff can be granted under certain technical conditions (e.g., the subscription of a minimum 8 MW cor- responding to about 10 MVA is required). 2.11 The effect of the new tariffs on STEG's financial situation has been slightly beyond expectations, especially during the first seven months. The revenue per kWh sold during May/November 1975 was 16% higher than during the corresponding period of the previous year, as compared with an expected increase of about 14%. This was due mainly to the fact that the major part of medium voltage consumers have not profited in time by the most favorable tariff option because of a too short testing period. 2.12 A second stage of the tariff reform is being planned by STEG for 1978-1979, both with regard to tariff structures and to the level of electric- ity rates. At the same time a method would be studied to bring tariff calcu- lation systematically up to date on the basis of marginal costs. The tariff reform would be carried out in connection with a study of Tunisia's pricing policy for fuel. At present, oil prices (excluding motor fuels) in Tunisia are only about one fourth of international prices (see para. 5.10), enabling STEG to achieve satisfactory earnings without significant tariff increases. Assuming that export sales of petroleum products could be increased if domes- tic consumption were reduced, this policy results in a substantial subsidy to users of oil products (and electricity). This policy is part of a deliberate effort to promote industrialization, and we have no evidence that it has caused an inefficient use of electrical energy or led to a distorted energy consumption pattern. In view however of the vital bearing this has on sector development, Government would undertake a study with a view to determining an appropriate pricing policy for oil, gas and electricity; the study would take into consideration STEG's policy on connection charges (para 2.18). Suggested terms of reference for such a study, which have been agreed in substance, are included in Annex 3. The final terms of reference would be determined by the Government in consultation with the Bank. Government has agreed to submit to the Bank not later than September 30, 1978 the recommenda- tions of such a pricing study and to exchange views with the Bank on these recommendations. D. Development Program 2.13 STEG's 1977-1981 construction program reflects the National Five Year Plan (Fifth Plan), which is to be considered by the Government by mid 1977. It was slightly reduced by STEG during the mission's visit to Tunisia to reflect some changes in the industrial development program. STEG's con- struction program (see Annex 4) amounts to TD 207.3 million (US$483 million equivalent). The major part of these investments (90.2%) amounting to TD 186.9 million is provided for power, TD 2.5 million (1.2%) for gas and TD 17.9 million (8.7%) for general development.  - 6 - 2.14 STEG's Department for Development and Coordination has qualified staff with experience in power system planning. It prepares medium-term development studies for determining the least cost development programs using discounted cashl flow methods for comparison of alternatives. The present plan for 1977-1981 is based on forecasts up to 1983, taking into account general targets set up for 1985 and 1990. 2.15 To meet its forecast electricity sales, which are projected to rise by 88% in the next five years (13.3% per year average - see para 6.02), STEG's power program provides a generation component amounting to some TD 69.6 million (37.2% of total power program). It includes 290 MW of new capacity of which 150 MW is the gas turbine plant proposed for Bank financing and 140 MW is steam plant. The plant margin appears rather low in 1979 and 1980 (16-17%), but this temporary situation is acceptable in view of the programmed comple- tion by 1979 of the main part of STEG's future 225-kV grid, which would increase significantly the reliability of the Tunisian power system, and improve the capability of the existing link with the Algerian system, which for stability reasons is operated now insularly. 2.16 The program proposed by STEG provides: - 7 gas turbine units of equal size totalling about 150 MW (the Project), to be installed two each in Sfax (1977) and Menzel Bourguiba (1978), and one each in Tunis (1980), Korba (1980) and Metlaoui (1980), and - the first of two 140-MW steam units to be installed in Sousse (1981). These capacities would be followed in 1982 by the second 140-MW steam unit in Sousse and in 1983 by the 25-MW hydropower plant at Sidi Salem. 2.17 The transmission component of STEG's power program amounts to about TD 36.8 million (19.7% of total power program) part of which (up to 1978) is being financed with Canadian assistance. It comprises the construction of some 775 km of transmission lines of which 550 km are 225 kV, 140 km are 150 kV, and 85 km are 90 kV. The new 225-kV transmission grid would comprise the construction of a south-north and an east-west diagonal including the related substations to transmit the generated energy from the Ghannouch and Sousse areas, to increase the reliability of the system, and to achieve a strong interconnection with the Algerian system. A continuing program of substation construction is planned to enable the increasing demand to be met, both in towns (150/30 kV Hammamet and Akouda-Sousse, 90/30/10 kV Tunis North) and in industry (arc furnace in Menzel Bourguiba, cement factories in Bizerte, Thala and Gabes).  2.18 The power program includes a large distribution component amount- ing to TD 80.5 million (43.1% of total power program) of which TD 35 million is for rural electrification, TD 29 million for urban distribution, TD 8 mil- lion for industrial consumers and tourism and TD 8.5 million for reinforcement and conversion of existing networks. STEG would cover by self-financing 38% of rural electrification, and 48% of urban distribution, the rest being fi- nanced by customer contributions including 100% financing of electricity con- nections for industrial and tourism projects. Although this level of financ- ing through customer contributions seems high, there is no evidence that this policy has inhibited extension of service, particularly to poorer consumers. STEG would review this policy in a study of the level and application of connection charges for electricity supply and would submit to Government and the Bank by June 30, 1978 the recommendations of such a study. The distribu- tion program which is based on a Master Plan financed by the Canadian Interna- tional Development Agency (CIDA), provides for the conversion of medium voltage networks to a 4-wire system with solid grounded neutral, which would allow single phase distribution in rural regions with dispersed population thus obtaining savings estimated at about 20% of the total investment in rural electrification. 2.19 While up to 1975, development of distribution networks was based on short-term regional plans adjusted according to STEG's residual funds after covering the financial requirements for the development of generation and transmission facilities, the proposed five-year plan for distribution is based on the Master Plan, which sets up the targets for the 1990 horizon. Its main aim is for urban electrification to keep pace with the plans for housing con- struction and to ensure in the shortest possible time the connections for exist- ing habitations which at present are not supplied with electricity, while the development of rural electrification is based on political decisions taken by the Government in order to improve the standard of living in rural areas and to meet the water pumping requirements for agriculture. 2.20 The intermediate targets of the distribution program for 1981 are to reach 85% of supplied households in towns and 57% in villages as against 62% and 17%, respectively, in 1974. This program, based on an analysis of forecast low-voltage consumption, appears to be adequate in view of its social and political targets. Rate increases of reasonable magnitude which would be required during the next five-year plan and the future introduction of off- shore gas in the country are not expected to reduce electricity demand signif- icantly. The main objectives of STEG's distribution program for 1977-1981 are: (a) in towns to raise the number of electrified households from 408 thousand in 1976 to 640 thousand in 1981 (average annual rate 9.4%). (b) in villages to raise the number of electrified households from 44 thousand in 1976 to 118 thousand in 1981 (average annual rate 21.5%). 2.21 A dispatch center for the power system, to be completed in 1981, is also included in STEG's construction program. It would replace the present telephonic dispatch, which would become unmanageable by the end of the period under consideration.  -8- 2.22 The gas component which is a small part of the development program includes only the reinforcement of the El Borma pipeline to prevent gas being flared and to supply new consumers in the Gabes area (66 MW gas turbine plant at Bouchemma), distribution in the Tunis area, connections for industrial con- sumers and studies for the offshore gas in the Gulf of Gabes but not any pro- vision for transmission and distribution facilities for this gas. 2.23 A decision with regard to the offshore gas program would be taken by the Government at a later stage on the basis of the ongoing studies. The development of the offshore gas field would include the construction of pro- duction facilities offshore, a submarine pipeline to the shore, a gas treat- ing plant and a pipeline transmission and distribution network to consumers. It is the Government's intention to create a new Franco-Tunisian enterprise to develop and exploit the field, whereas STEG would be in charge of the construc- tion and operation of the onshore facilities. Preliminary estimates indicate that total investment required to develop the field would be TD 210 million which would be financed by the mixed company mentioned above. The cost of the main transmission and distribution pipelines is estimated at about TD 80 mil- lion, excluding the investment required for distribution facilities in the main cities. A Bank sector mission visited Tunisia shortly before negotia- tions to assess the impact of natural gas on the energy market, to review the Government's plans regarding offshore gas, the proposed financing, training and institutional arrangements, and to define areas in which the Bank could be of assistance. It is obvious that the planned introduction of offshore gas to the Tunisian market would have an important impact on the industrial development of the country, providing opportunities for the development of industries based on the utilization of natural gas (e.g., petrochemicals and fertilizers). For the power industry it would lead to its almost total substitution for liquid fuel for electricity generation, the main benefits being incremental oil exports. Its direct impact on industry and domestic electricity consumption would be less significant, at least during the pro- posed five-year plan, since it could be a substitute mainly for electric heating and cooking, accounting at present for only 0.7% of STEG's total electricity sales although impact on other energy sources (LPG, petroleum white products) is likely to be substantial. For STEG, the introduction of offshore gas would mean a substantially increased activity for construction and operation of transmission and distribution facilities for gas (see para 4.05). III. THE PROJECT A. Objectives 3.01 The Project is the gas-turbine component of STEG's 1977-1981 devel- opment program for generation facilities. Its main objectives are:  - 9 - (a) to ensure continuity of electricity supply after 1977; (b) to cover the need of peak power capacity in the system, for which no other suitable sources are available; and (c) to allow STEG to implement after 1980 as the next standard base load capacity of its system, 120-150 MW steam turbine units instead of installing in 1980 smaller, and less efficient base load units (60 MW). At the same time, Bank lending for the proposed Project would be an opportu- nity for the Bank to continue its institution-building effort, which started under the two previous loans and has led to improvements of STEG's organiza- tion and operations by decentralizing its financial activity, improving its accounting and billing system, introducing budgetary controls and internal audit and the revision of the tariff structure. The Bank's association with the proposed Project would lead to an improvement of electricity tariffs taking into account the introduction of offshore gas in Tunisia's energy balance, as well as promote the establishment and implementation of the measures necessary before STEG assumes future responsibilities in its gas activities. B. Description 3.02 Seven units of 21.4 NW each are proposed and would consist of the turbine, generator and control equipment as a unit, and the transformer and switchgear to connect the alternator to the transmission system. The gas turbines would be heavy duty open-cycle units in their own housing so that they could in the future, if needed, be moved to some other site. The pro- posed locations and year of commissioning of the gas turbines are as shown in para 2.16. 3.03 The two gas turbines to be installed at Sfax would be operated with natural gas of low-heating value, recently discovered in the Sidi Agareb- Sidi Behara zone (about 20 miles west of Sfax). All the other gas turbines would be operated with gas oil (a petroleum distillate equivalent to diesel fuel). A future conversion to offshore gas operation of the power plants is considered by STEG, but this would be decided upon after the completion of the ongoing studies. A more detailed description of the gas turbine units and of the proposed fuels for their operation is given in Annex 5. C. Status of Engineering 3.04 The gas turbine units would be installed by the suppliers of the equipment under a supply and erection contract. Civil works and supervision of the erection and of the required testing would be done by STEG's staff which is competent and has undertaken similar work in the recent past, as under the first Bank-financed power project.  - 10 - D. Cost Estimate 3.05 The estimated construction expenditures for the Project are set out in Annex 6 and summarized below: Local Foreign Total Local Foreign Total ----in TD Thousand-- ----in US$ Thousand---- Gas Turbines at Sfax, Menzel Bourguiba, Korba Tunis-South & Metlaoui Electro mechanical equipment 654 9,208 9,862 1,524 21,464 22,988 Civil works 724 38 762 1,687 88 1,775 Engineering 38 152 190 88 356 444 Transport, erection and supervision 348 780 1,128 812 1,818 2,630 Spare parts - 433 433 - 1,009 1,009 Total Base Cost 1,764 10,611 12,375 4,111 24,735 28,846 Physical Contingencies 26 159 185 61 370 431 Total Project Cost 1,790 10,770 12,560 4,172 25,105 29,277 3.06 The estimated Project cost is based on firm price bids received by STEG in April 1976 so no allowance for price contingencies is shown. Physical contingencies have been estimated at 1.5% both for local costs and for foreign costs. E. Financing 3.07 The proposed loan of US$14.5 million equivalent would finance 58% of the foreign exchange cost of the Project. Remaining foreign exchange costs would be met by STEG (US$1.4 million) and by a consortium of private banks with the guarantee of the Compagnie d'Assurance pour le Commerce Exterieur (US$9.2 million). Agreement in principle on the private bank loan has been reached between STEG and the lender (about 8 years and 7-1/2% rate of interest). The effectiveness of the private bank loan would be a condition of effectiveness of the Bank loan. The local currency costs of about US$4.2 million equivalent will be financed by STEG. No retroactive financing is proposed since any payments previous to loan approval are to be covered by STEG or by the proposed private bank loan.  - 11 - F. Procurement and Disbursement 3.08 The proceeds of the proposed Bank loan would finance part of the c.i.f. cost of imported equipment and materials and of the foreign exchange cost of related installation services. In order to meet the proposed time schedules and to take advantage of the favorable prices offered for a limited term by the lowest bidder (Alsthom), STEG awarded the contract immediately after the field appraisal of the Project on the basis of international com- petitive bidding, consistent with Bank Group Guidelines for Procurement. Such advance contracting for the Project proposed to be financed from the Bank loan was not avoidable since contracting at a later date would not have met the implementation schedule for the Project and the supplier's condition with respect to the offered timing and prices. It is expected that disbursements from the proposed Bank loan which would be for 100 percent of each payment, would commence in FY1977 after the drawdown of the private Bank loan. A forecast of estimated disbursements is shown in Annex 7. 3.09 The Project is expected to be completed by December 31, 1980. G. Environmental Impact 3.10 All five sites of the gas turbines are outside population centers, and the nearest habitations are situated at about 1.8 miles, so that noise will not be a problem. Moreover the equipment would be provided with special hoods in order to reduce noise to a minimum level. The gas oil has a sulphur content of less than 1%, and the low-heat gas is sulphur-free, thus the gas turbines would not cause any unacceptable atmospheric pollution. IV. THE PROJECT ENTITY A. Background 4.01 STEG which is responsible for the production, transmission and distribution of electricity and gas for public consumption for the entire country has established an integrated national power system (para 2.05) and is now well poised for a large scale expansion of activities. B. Management and Organization 4.02 The company's management is competent and effective. STEG is governed by a board of eight members headed by a President General Manager, all appointed by the President of the Republic. The management consists of  - 12 - the President General Manager, a Deputy General Manager, a Manager of Development and Coordination, and a Manager of Administration. 4.03 The operations of the entity come under the general supervision of eight departments, which in 1975 took the place of the former nine divisions, and are charged with production of electricity and gas, transmission, dis- tribution, construction and equipment, finance, administration, general affairs and data processing. The country is divided into 13 Districts which operate the local services (see Annex 8). A further decentralization is being studied by STEG, which would consist of the creation of local agencies in towns, in the framework of the Districts, to be begun with the Tunis area. 4.04 STEG's present organization appears to be adequate for the ful- fillment of the company's tasks for the next five-year plan. Nevertheless its management is continually studying the organization with the assistance of consultants. This action which started as early as the creation of the company, has been advanced by the second Bank loan through financing of studies for accounting system, reorganization and implementation of improved computer procedures, which have been successfully completed. 4.05 The introduction of offshore gas on the Tunisian market (see para 2.23), which is likely to start by 1981, is expected to bring on new respon- sibilities for STEG, concerning the construction and operation of onshore facilities for transmission and distribution of natural gas. Therefore, a study would be undertaken by STEG to define these new responsibilities and to establish the organizational structure of the company, its training needs and the required investments for the gas program. Suggested Terms of Reference for such a study, which have been agreed in substance with STEG, are given in Annex 9. The final terms of reference would be determined by STEG in consulta- tion with the Bank. STEG would submit the recommendations of this study to the Government and the Bank not later than June 30, 1978. C. Staffing 4.06 During its early years, STEG's efforts were concentrated on filling the gaps in supervisory and skilled manpower created when the expatriate per- sonnel of the original companies left Tunisia. Electricite de France (EdF) assisted materially in this program by seconding personnel to STEG and con- ducting training courses in France. At present the total output of the Ecole Nationale d'lngenieurs of about 80 engineers/year in different specialties of main interest to the power industry, appears to be sufficient to cover STEG's needs (estimated at an average of 30 engineers/year) and those of the rest of the economy. STEG's training programs and facilities are satisfactory. They will be improved by the new training center of Khledia, which was completed in 1976. 4.07 At the end of 1975 STEG's total number of employed regular staff was 3,710, and is expected to exceed 4,000 by the end of 1976, which corresponds to an average yearly increase for 1962-1976 of 4.5%. Although under the first Bank loan (Loan 724-TUN) STEG announced its intention not to exceed the 1972  - 13 - level of 3,200 employees through 1975, the increase of employed personnel appears to be justified by the increased investment program, amounting to TD 79.4 million during 1973-1976 (Fourth Plan), as compared to the planned TD 42.8 million (86% increase), as well as by increased electricity produc- tion, amounting for the same period to 4,620 GWh as compared to 3,890 GWh assumed under the first Bank loan (18.9% increase); overstaffing is not now considered to be a problem. V. FINANCE A. Financial Highlights 5.01 (a) STEG is a well managed utility enjoying operational autonomy and having a proper accounting and management information sys- tem. It has fulfilled the earnings covenant (para 5.04) and the debt limitation covenant (para 5.05) with the Bank from 1973, the first applicable year. With minor tariff adjust- ments it should be able to earn a minimum rate of return of 8% on net average fixed assets in service during 1977-1981; (b) forty-nine percent of STEG's expansion requirements in 1976- 1981 is expected to be met from internally generated funds including customer contribution and 47% from borrowing, 39% from new borrowing for financing foreign costs and 8% from drawdown of existing loans; and (c) mainly because of computer problems STEG has not been able to submit audited financial statements to the Bank within the agreed period of four months after the end of the fiscal year but improvement is expected in the future; a period of five months instead of four has now been agreed for the submission of audited financial statements to the Bank under the proposed loan. B. STEG's Relations with Government 5.02 STEG's annual capital and operating budgets, and its rate schedules for supply of electricity and gas are required to be approved by Government. Except for this overall control by Government, STEG is an autonomous body, enjoying operational freedom in the conduct of its day-to-day business. STEG's salary scales require Government's approval but since Government's approval of salary revisions has been forthcoming whenever necessary, this is not perceived in STEG as a problem affecting its operational autonomy.  - 14 - C. Accounting and Reporting Systems 5.03 After implementing the recommendations of organization studies financed by the Bank under Loan 815-TUN, STEG is now operating an efficient accounting and management information system. With the help of consultants STEG has identified all its assets and determined their values including the pre-1969 assets, the valuation of which was an unresolved problem even at the time of appraisal of Loan 815-TUN dated April 20, 1972. Computer applica- tions to billing and collection, inventory control, personnel records and most accounting functions are now completed. STEG is considering extension of computer applications to other areas such as dispatching and maintenance of high voltage substations. Some special features of STEG's present accounting system are: (a) interest during construction is not recognized; (b) income taxes are recorded as charges and liabilities until formal exemption is given, usually in the following year. All tax exemptions, though valid for only one year at a time, have always been granted every year and are expected to continue (income taxes have been eliminated from the financial statements in Annexes since exemptions are in- variably given), and (c) gas recovered from El Borma is charged to electricity op- erations at an oil-equivalent (TD 7.5/ton) price for cost determination. The income statement, however, is consolidated and does not identify separately expenses allocated to El Borma. D. Past Performance and Present Position 5.04 Under Loan 815-TUN, STEG is required to maintain tariffs at such a level that the ratio of operating surplus to average value of gross fixed assets in operation less average customer contributions would not fall below 8.5% in any fiscal year beginning with 1973, operating surplus being defined as the surplus before charging depreciation or interest on long-term debt. STEG's rate of return on this basis was 8.5% in 1973, 9.3% in 1974 and 10% in 1975 when electricity supply rates were raised an average 16% with effect from April 1975, and internal cash generation was above 50% of construction requirements during these years. The operating ratio (ratio of operating expenses to operating revenues) was 83% in 1973 and 80% each in 1974 and 1975. Annex 10 gives STEG's income statements for 1974-1981.  - 15 - 5.05 Loan 815-TUN also requires that STEG would not incur any debt with- out the approval of the Bank except for financing of the Project if it would raise its total debt to more than 45% of the sum of its equity plus its total debt, equity being defined to include the accumulated contributions made by customers. During 1973-1975, the level of STEG's debt was well within the the level of 45%, the highest in the three years being 35% in 1975. Although current assets exceeded current liabilities in 1974, they were only about 82% * of the current liabilities in 1975 reflecting a very tight working capital position. Of the current assets at end of 1975, 40% consisted of accounts receivable for electricity supply which was equivalent to a high 38% of the year's revenues. Annex 11 gives STEG's balance sheets as of December 31, 1974-1981. E. Collection of Receivables 5.06 STEG's accounts receivable for electricity supply were at an unacceptable level until the appraisal of Loan 815-TUN (as high as 286 days' revenues in 1970). Under Loan 815-TUN, Government agreed to make arrange- ments satisfactory to the Bank to settle the electricity bills of Government departments, local authorities and Government-owned enterprises. If any accounts were outstanding by mid-1973, Government agreed to make a settlement plan satisfactory to the Bank. 5.07 Government and STEG have taken energetic action to reduce STEG's receivables for electricity supply to reasonable levels. STEG has introduced computerized bill processing with outstanding success. Procedures now being implemented provide for delivery of bills within 24 hours of meter reading in the Tunis area and 48 hours elsewhere. High and medium voltage accounts are billed monthly with 15 to 20 days for remittance and low voltage customers are billed every second month with 15 days for remittance. The system is now being extended to all of Tunisia. The Government departments operating under the centralized state budget pay in advance 80% of the year's estimated bill. Outstandings at the end of 1975 were equivalent to 145 days' revenues as against 286 days'.revenues at 1970-end; they would have been less if credit facilities were not extended in 1974-75 to municipalities to promote improve- ments and install street-lighting. The last important hold-out among large national companies (Societe Tunisienne d'Expansion Miniere - SOTEMI) is expected to settle all its arrears by end of 1977. STEG is now well on the way to attaining its target of restricting outstandings to 50-60 days' revenues by the end of 1977. In order to ensure collections from municipal- ities, STEG does not remit taxes collected for municipalities until its own accounts have been settled.  - 16 - F. Financing Plan 5.08 The following table is a summary of the sources and applications of funds of STEG for 1976-1981 (Annex 12), the Project period, assuming escalation of costs of all projects. ---