Turkey - Erdemir Steel Plant Expansion Project

The World Bank FOR OFFICIAL USE ONLY Report No. 3c53 PRO.TECT PRRFORMANCF AITDTT REPORT TURKEY--ERDEMIR STAGE I EXPANSION PROJECT (T OAMN 1 7-TI) June 26, 1981 Operations Evaluation Department This document has a restricted distribution and may be used by recipients only in the performance of their nfficial dutioe Its rnntents may nnt nthprwice hp dieIned withnut Wnrld Rank 0athnivatinn COUNTRY EXCHANGE RATES Name of Currency (Aihreviation) Lira (TL) Year: Appraisal Year Average (1971) Exchange Rate: US$1 = 14.0 Intervening Years Average (1972-77) US$1 = 16.0 Completion Year Average (1978) US$1 = 25.0 1980 Average US$1 = 74.7 FOR OFFICIAL USE ONLY PROJECT PERFORMANCE AUDIT REPORT TURKEY--ERDEMIR STAGE I EXPANSION PROJECT (LOAN 817-TU) TABLE OF CONTENTS Preface - -- -. . . . . . . . . .- Basic Data Sheet ......................................................ii PROJECT(T PRFOM~kA NCE AUIT REPORT' lile LLU.C.L** ** ** * ** ** ***............................. Project Implementation ...................................... 2 roject OptiodLUib *..........................................* Environmental Aspects .............................................. 5 Conclusions ...................................................... 6 AllACHMNT A: CUMNT RLULVED FRM THE DURUWER ............... * 9 Summary and Conclusions ............................. ........ . 11 I. Introduction .................................. ............. 13 A. Economic and Political Environment ..................... 13 B. Erdemir--The Company .................................. 14 1. Ownership and Control ............................. 14 2. Organization and Management ....................... 15 II. Project Description and Implementation ...................... 16 A. Project Background, Description and Objectives .. 16 1. Original Concept ................... o...........16 2. Changes in Project Scope ........... 16.............o. 16 B. Project Management, Construction, and Completion ....... 18 C. Project Capital Cost ........................ ..... 19 D. Project Financing .................. ........... . 23 E. Procurement, Allocation and Disbursement of Bank Loan ............................. ..... 25 F. Infrastructure ........ . ................... .. ...... 27 III. Project Operation ........... . ............................. . 28 A. Production and Sales ............................... 28 B. Erdemir's Market Share ......... ..................... 30 C. Prices and Production Costs o........................ 31 1. Prices ..o..o ................... ............. 31 2. Production Costs ................................ 34 T d Ksescted usbuunn alu Iay Ue used Dy recipients only in me perormance of I their official duties. Its contents may not otherwise be disclosed without World Bank authorization. Table of Contents (cont'd.) Page No. D. Labor, Training, and Social Aspects ..................... 36 is Labor ***************************************** * 36 2. Training .......... ........***************** 36 3. Social Aspects (and Labor Relations) ........******** 37 E. Environmental Aspects .*o.........********************** 37 F. Financial Performance and-Rate of Return ................ 38 G. Economic Rate of Return ..*. .... .........************** 43 IV. The Bank's Role . ...... * * * * * * * * * * * * * 43 A. Project Formulation, Appraisal, and Supervision ......... 43 B. Lessons to be Learned . ... ... .... .. . .... ... ..... 45 Annexes 1-1 Erdemir Shareholders ...........................* .... 48 1-2 Changes in Erdemir Presidents and Terms of Office ....... 49 2-1 Detailed List of Project Facilities--At Time of Appraisal ........................................ 50 2-2 Project Background, Description, Objectives and Changes in Scope ... .......................... .. 52 2-3 Detailed List of Project Facilities--As Actually Installed ....... ....... .............................. 57 2-4 Implementation Schedule, Bar Chart ..................... 58 2-5 List of Exchange Rates, 1972-1980 ...................... 59 2-6 Main Causes of Local Cost Overrun .................... ... 60 2-7 Appraisal Plan and Actual Financing Sources .......... 61 3-1 Erdemir--Past and Projected Total Production with the Project .......................... 62 3-2 Base Price of Erdemir's Main Product Groups (In Current TL) .. . ................... .... 63 3-3 Actual Base Price of Erdemir's Main Product Groups (In Constant 1980 TL) . ....... ... .. .... 0 . .......... 64 3-4 Actual Inflation Indices ............................. 65 3-5 Manpower--Actual Versus Appraisal, 1970-1979 ...... . 66 3-6 Historical Income Statement ........ ......... 67 3-7 Historical Balance Sheet ..............o........... 68 3-8 Erdemir ProPected Income Statement ................... 69 3-9 Erdemir Projected Cash Flow Statement--With the Stage I Project .. ..... . . . .. ... .... . 70 3-10 Erdemir Projected Balance Sheet--With the Stage I Prniect ..... ............................... 71 3-11 Capital Cost Stream--Rate of Return Calculations ........ 72 3-12 Staoe T Tncremental Financial Conts and Benefits Stream.. 73 3-13 1981 Erdemir Production Cost Structure with the Project 3-14 Economic Price of Main Flat Steel Products ............. 75 o.R27R.0-vv--Loctn of Dtepst Malln Cron Ore Deposits and Coal Mines PROJECT PERFORMANCE AUDIT REPORT TURKEY--ERDEMIR STAGE I EXPANSION PROJECT fTnAV 1 7 -TIT PREFACE 11s LepULL pleseLts a periotlance audILt o trGemir Stage i Expan- sion Project supported by Loan 817-TU. The loan, for US$76 million, was approveu in Marc[ 19r1 and closea, fully disbursed, in June 197/9, two and one-half years later than the original closing date. In June 1978, the Bank approved to Erdemir a second loan (Loan 1606-TU) for US$95 million in support of the company's Stage II P-pansion Proiect. A project completion report (PCR) was prepared by the Bank's Indus- trial Projects Department and is attached. The present report consists of an audit memorandum prepared by OED followed by the PCR. An OED mission visited Erdemir in May 1979 in the course of its review of the Bank-s operations in Turkey's industrial and financial sectors. The PCR presents a factual review of the project experience. In the light of file review and discussions with Bank staff and project officials, the audit memorandum discusses the extent to which the objective of the project to bring about competitive means of production of steel in Turkey was achieved. The borrower indicated it shared the views on project implementation and related issues expressed in the report; its comments are reproduced as Attachment A.  PROJECT PERFORMANCE AUDIT REPORT TURKEY--ERDEMIR STAGE I EXPANSION PROJECT (LOAN 817-TU) BACT DATA SUET Amounts (in US$M) Original Disbursed Cancelled Repaid Outstanding Loan 817-TU 76.0 76.0 - 27.6 48.4 Cumulativc 1U-H U,buULUCWent FY72 FY73 FY74 FY75 FY76 FY77 FY78 FY79 (i) Planned 1.6 37.4 63.4 68.2 76.0 76.0 76.0 76.0 (ii) Actual - .4 14.4 39.1 60.1 66.7 71.0 76.0 PROJECT DATA Original Loan Actual or Dates Re-estimated Board Approval 03/14/72 Loan Agreement 04/28/72 Effectiveness - 08/04/72 Loan Closing 12/31/76 12/31/78 Total Project Cost (US$M) 319.7 527.4 Economic Rate of Return 18 15.a MISSION DATA Month, No. of No. of Man- Date of Item Year Weeks Persons weeks Report Preappraisal Mar. '71 3.0 3 9.0 Appraisal Sept.-72 2.0 3 6.0 02/04/72 Sub-total 15.0 rupervision T Tuly '77 A 3.0 0 Supervision II Mar. '73 1.4 1 1.4 03/23/73 Supervision III Aug. '73 1.4 1 1.4 03/30/73 Supervision IV Mar. -74 1.0 2 2.0 03/25/74 Supervision V July -74 1.0 2 2.0 08/02/74 Supervision VI Mar. '75 1.5 2 3.0 04/09/7 Supervision VII Dec. '75 1.0 2 2.0 01/23/76 Supervision VIII July '76 1.4 2 2.8 08/17/76 Supervision IX June '77 0.8 2 1.6 06/24/77 Supervision X Feb. '78 0.8 3 2.4 03/08/78 Supervision XII May '79 0.7 2 1.4 08/06/78 Supervision XIII Oct. '79 0.6 1 0.6 10/24/79 Supervision XIV Feb. '80 1.0 1 1.0 02/13/80 Supervision Sub-total 31.8 Completion Apr. '80 1.2 2 2.4 04/30/80 FOLLOW-ON PROJECT ERDEMIR Stage II Project, Loan 1606-TU, approved on June 29, 1978, in the amount of US$95.0 million. a/ The reestimated economic rate of return (ERR) is based on rather optimis- tic assumptions: (i) that full production will be achieved by 1981; and \1i) LaL Ltancil pUUUiLLU cUsLs Will amUUnL LU 03 percent of the economic value of output on the average. Increasing incremental operat- ing costs by 20 percent would bring the ERR down to 13 percent.  - iii~ - PROJECT PERFORMANCE AUDIT REPORT TURKEY--ERDEMIR STAGE I EXPANSION PROJECT (TAAM R17-TTT HIGHLIGHTS The~ projectL conisted~ in LIe exansLLAin o'L LIe stel work oerte by Erdemir, a joint-sector company controlled by the Government, in Eregli on the Black Sea Coast. Although a number of facturs appeared LU militate against setting up a large steel industry in Turkey--domestic iron ore has a low Fe content; domestic coal has a high ash content; and the iron ore and coal mines are located at a distance from each other--, the Bank agreed to support the expansion project with the expectation that sufficient economies of scale would result from it to make the expanded mill internationally competitive, assuming the plant would operate on the basis of a blend of imported and domestic iron ore. This was the Bank's first industrial project in Turkey, and an important consideration behind the Bank's decision appears to have been the private-sector type management assured under Erdemir-s articles and statutes: Unlike State Economic Enterprises (SEEs), which are wholly-owned and tightly-controlled by the Government, Erdemir's Articles of Association provide it should be regarded and run as a private enterprise, irrespective of the Government's stake in its equity (which exceeds 50 percent). As it turned out, Erdemirs legal status had little effect on the scale of Government influence on the management of the company. Project and company management was changed as frequently as that of SEEs during the same period. This, coupled with interference from the companyIs board in day-to-day activities until the Bank called for restraint, caused considerable harm to project implementation, which also suffered from the unsatisfactory relationship that developed between the company and its expatriate technical advisors. The project, completed in 1978 with a three and one-half year delay and (largely as a result) a 65 percent cost overrun, later suffered from lack of iron ore, as the country's foreign exchange situation and the domestic economy deteriorated considerably over the years. This caused the production build-up of the project to proceed at a much slower pace than expected, the rate of utilization of the newly added capacity averaging 36 percent only over the two years 1979 and 1980. Despite the introduction of modern equipment, the costs of production have, as a result, not decreased as anticipated and at this time, it is not clearly established whether the project will meet its foremost objective of bringing about competitive means of production of steel in the country. - iv- Other points of interest are: - The change in project scope during implementation (PPAM, para. 7; PCR, para. 2.03); - the unworkability and irrelevance of the debt:equity ratio cnvenant under the nroject agreement (PPAM. para. 13; PCR. para. 3.23); and - the little attention devoted to the deterioration of environ- men1l anpects associated with the growth of the town of Eregli (PPAM, paras. 15 to 17; PCR, para. 2.20). PROJECT PERFORMANCE AUDIT MEMORANDUM TURKEY--ERDEMIR STAGE I EXPANSION PROJECT (LOAN 817-TU) The Project 1. The Erdemir Steel Plant Expansion Project, supported by Loan 817-TU, was the first industrial project financed by the Bank in Turkey. The loan, for an amount of US$76 million, was approved to Eregli Demir ve Celik Fabrika- lari, T.A.S. (ERDEMIR) in March 1972, to contribute to the financing of the expansion of its steel works located in Eregli on the Black Sea Coast. The loan was closed, fully disbursed, in June 1979, two and one-half years after the original closing date. 2. ERDEMIR had been engaged in steel production on the basis of local coal and iron ore since its establishment in 1960 and was Turkeys only integrated steel plant for production of flat products. The project was the first of a series of expansions designed to bring plant capacity up to 5 million tons per year (tpy). It involved an approximate doubling of ERDEMIR's productive capacity from 0.5 million to 0.9 million tpV in terms of finished flat products. Following a change in the scope of the project, the capacity of the completed plant now stands at 1.1 million toV of finished nrodiirts. 3. Etatism has been an essential element in Turkpv's development philosophy since the Republic was formed. In industry, etatism has been expressed through the formation of Statp Economic Enternrises (RRE) wholly- owned and tightly-controlled by the Government. In the post-World War II neriod- the Govtrnment nrnmnted the PQt.hlizhment nf mi-rd inditrial enter- prises, partly as a means of supporting the private sector by transferring nuhlic fiunds to nriute hands ERnPMTR ws one nf thoeo Though a majorit of its shares are indirectly (through banks and other holdings) owned by the Government,~~~---- a pca a n REI onAtce f Association spcil cally provide that, regardless of the proportion of the State shareholding, the Company should be regarded and run as aprivate enterprise. The Company was thus free from the legal constraints under which SEEs operate. ERDEMIR-S ArtIclpq o-f A-_.Qnintinn q Ic2 nroiide pubIc shnae tobe 1 ol toA priat investors at par or above whenever feasible!/. 4. The initial feasibility study for the project was prepared by L.mas V 4 n UK AVAJ gAA LLUlilL P F.L.L =L LXLlL H 1LU j4L_L±PLL tdL LCU _11 Lift construction of the original plant, and was one of ERDEMIR-s initial share- ~ ~ LJ ~ ~JL .LL L ~L E LL~IXLIDEMIR thnppo.inteUd a team0o. I n Unte time of appraisal, tne ouverument ne"u, Luhuug Lue TurIanh iron and Steel Corporation (Karabuk) and Sumerbank, 58.4% of Erdemir's share equity partly in the form of preferred shares, controlling in effect 51.5% of the votes. -2- foreign technical advisors to preoare a comorehensive investment study. It later retained these advisors for assistance in implementing the project. The prolect was co-financed by USAID (for US$40 million) and U.S. Export-Import Bank (EXIMBANK) (for US$65 million). A parallel mechanism was instituted, under which nart of the auinment was nreallocated for EXIMBANK financing: the remaining equipment was to be procured under international competitive bidding (TrB) and to the extent that the U.S. hide were the lowest evaluated they would be financed out of the USAID loan. 5. The project included the following major elements: a second blast frnare- third ennvertPr fnr the hstair o3rvcn atAP1 nlant (ROF Ahnn) a continuous casting machine, a semi-continuous strip mill, and some major alternfinn to the onlA raAitt4nn mill. An4Am fem nettIna ii AA4tinnal productive capacity, an essential objective of the project was to bring VVnWMT12'o n-P^Atje-f-4t%incotso do%wn 1,e In-o"aIna l~~ lounlo me% no I- ov%roAd the benefit of the project to steel using industries. Operational improvements were exece to result most!- fro the enrchmnt of EMDEMIRs ore blend through the import of a portion of its iron ore requirements, and from the Aa # tJJe tfie~ of appiL*sl,B VDnUT -ueAO -Jl a haviy 'ver U. A%# LLL .UA UJ J X%WL4L.LLX a p a - wit L~V.L aged financial structure, which severely affected its cost structure and borrowings. The original plant had been financed heavily with debt, and the TL devaluation. By end-1970, ERDEMIR's long-term debt:equity ratio stood at ona±o1 0 Lu ouveumuL u viv, vntEEM's a two largest creuitu, agreeu to a debt rescheduling program as part of the project. It was further expected that, over the years, ERDEMiRs debt:equity ratio could be Improved to 60:40 or lower. Project Implementation 7. The scope of the project was substantially changed in the course of implementation. The initial project scope assumed that part or the primary products was to be sold in the form of pig iron, as considerations of eco- nomies of scale in designing the new blast furnace led to the planning of excess pig iron capacity over that of rolling equipment. Later, a faster than anticipated growth in the demand for finished products prompted Erdemir to increase the capacity of new facilities, in particular that of down-stream equipment (e.g., the continuous casting machine and the hot strip mill) (PCR, para. 2.03). The plant, as completed, has now a capacity of 1.1 million tpy in terms of finished products; it still has excess pig iron capacity, though less than originally planned. 8. A review of project implementation is set forth in paras. 2.04 to 2.23 of the attached PCR. The project has suffered serious problems which were translated in a delay of three and one-half years in physical completion and a 65% cost overrun for which world-wide inflation during the intervening years was an important factor. Additional civil works and construction expenses over the appraisal estimate accounted for 74% of the US$190 million overrun on installed cost. 9. The difficulties experienced in the course of implementation can be traced back in large part to (i) the project s unsatisfactory implementation arrangements which provided for only limited delegation of authority to toreign technical advisers; (ii) an unsatisfactory working relationship between Erdemir and its technical consultant; (iii) frequent changes in ERDEMIR s top management and Board officials; and (iv) the impact of the oil crisis on the performance of contractors and suppliers. Particularly damaging were the repeated changes in senior management, particularly the President of the company and the project manager in charge of project implementation. Lack of continuity in management was aggravated by the Board's involvement in day-to-day management matters, which led to ineffective decision-making-an issue which was raised by the Bank directly with the Government. Project Operations 10. Since the project was completed in 1978, ERDEMIR's production record has been extremely poor. The rate of capacity utilization of the additional facilities was 36% in 1979 and 1980.11. In both years, the opera- tions of the company were disrupted by severe shortages of raw materials. which makes it difficult to assess its capability of building up the produc- tion of the project. For that reason, past performance is not indftative of what the project can achieve in the next few years as the economy of Turkey improves and the scarcity of raw materials is gradually overcome. The com- pany s operating record has recently improved with respect to the production of finished products: production of primary products. however, has not kent pace with it. 11. Despite its introduction of modern production facilities, ERDEMIR's unit costs of nrodution havp not dePrraPd aQ nnt-icinnt-d- RancoeIf t inability to build up its production rapidly, it is still impossible at this noint to nRPQQ wi,-th Pprfntu tho a-vto~nt tn whiphb 4f -4ll be able1 to aciv in the future cost reductions on the scale envisaged at the time of appraisal. Average unit co-t of nreiictionn a.apq n arrnt-a of avarnan imnert nrice (net ------------------- ------- --------- -------\- of import duties) was expected to drop from 101% to 92%. Actually, unit costs have rpmninpd annrmximAtely corotant- in ran1 farma haten 1Q71 -nd 1Q70 although some improvement should come about as ERDEMIR utilizes more fully its Ad it nnl -n a4fIe PTV TO . V-th - +---A&-A not. to IJe iternL atioa llyJ.~ competitive and the Company's viability hinges on the availability of raw 1/ These figures represent the implicit utilization rate of additional capacity obtained aftr allucLatig the LLL J1,0VU LUs U Uutput to the plant as existing before the project; they, therefore, do not repre- snLLie actual us oL njew faili±tes. -4- considerations such as freedom to import iron ore--which, incidentally, LrUeLc LLc n1L foLignLL eAxiaLge DaVLLg UJ LLC -pLojc aL hoU WHUe rc UeDl ity depends upon the country's foreign exchange budget--in the long run are 11 JJULLLL UCL L L L D .LLI UL . L LLf OULUL L L 1i.LVLl. UVliU LA L.AV-L.Veb I n 1979, Erdemir's production costs- stood__ayproximately 23% above the average s...3 sto 23 abv th average-- I___ CIFr value uco pnu.ug to itsn u mtr nuwever, a Uirect compariBon in dollar terms might not be fully meaningful as the Turkish lira was substan- tially over-valued during the year. For the same reason, a direct comparison of Erdemir's average base selling price (TL 19,460 or US$626 equivalent) with average EEC export prices (US$440 on a landed cost basis) would not be signif- icant. The Turkish lira has since been considerably devalued; as of March 1981, Erdemir's sale prices stood between 10 percent and 15 percent above the landed cost of imports. 12. Flexibility in management was sought through freedom for the project authorities to fix prices, the Bank reserving the right to comment on all price changes. Although the Bank's primary concern in its pricing requirement was to ensure that steel prices be set at competitive levels, the Bank had also required that output prices provide an "adequate" return to the enter- prise. The period following the loan approval to ERDEMIR was highly infla- tionary. Over the period, prices of ERDEMIR products were revised at regular intervals to reflect cost increases; in each case, the Bank, after some hesitation and seeking clarifications, approved the price rise. Overall, between 1971 and 1980, the average selling price (based on ERDEMIR-s current product mix) increased by 16% annually in dollar terms. However, the pro- cedure followed and the considerations advanced raise some questions regarding the rationale of the Bank requirement. Prices are a function of local and international demand-supply factors and expectations about them; at least at one stage in 1974-1975, the price rise led to an accumulation of stocks, indicating that the prices were not in line with international prices--a situation which ERDEMIR sought to meet by getting the Government to stop imports. Also, price adjustments are management decisions which require a certain degree of spontaneity and confidentiality to avoid speculative action by competitors and buyers; reference of an impending price change to the Bank detracted from management autonomy and also led to speculative market responses. For these and other reasons, in 1976, ERDEMIR did not consult the Bank on one price change. More importantly, as time progressed and cost overruns began to emerge, the financial position of ERDEMIR, rather than considerations of international competitiveness, became the predominant factor in the Bank's approval process. The covenant was nonetheless helpful in 1/ Excluding expenses on labor severance. 2/ Roughly half of the difference reflected the high price which Erdemir is paying for its coking coal. Moreover, Erdemir expenses rather than amortiZes intprat- dirinc rnnrtruirtin whirh ntrnehi-rn-omp tJiQr nny in cost comparison. - 5 - promoting a dialogue between the Company and the Bank on changes in selling prices as and when such changes were considered, even though its primary objective of striking a balance between the company s profitability and its competitiveness has not been achievable in the circumstances. 13. ERDEMIR's long-term debt to equity ratio has not eased as antici- pated. After some fluctuations in the intervening years, it was as high as 80:20 by the end-1979 (despite large Government contributions in the form of quasi-equity in 1976 and 1977), far above the long-term target of 60:40 set at appraisal. However, as the PCR notes (paras. 3.19 to 3.23), this ratio has little meaning as an indicator of the soundness of ERDEMIR's financial structure. High domestic inflation and the consequent successive devaluations of the Turkish Lira have resulted in foreign debts rising greatly in relation to equity (as they had during the two years preceding loan approval). Turkish companies are, indeed. not allowed normally to revalue fixed assets for infla- tion, except to match an increase, in TL terms, of foreign debt. As it was, the Bank's covenant (repeated under loan 1606-TU for the Stage II Expansion Project) was therefore of little use in monitoring ERDEMIR's financial situa- tionl/. The PCR (nara. 3.23) mentions that. had assets (and equity) been allowed to be revalued over the years to reflect price increases, ERDEMIR's dPht-aniitv ratio would now be roughlv 60:40--an assertion which anears reasonable. 14. The PCR assumes that Erdemir will reach full production by 19812/. it also assumes that by then, the cnmpany will have lowered the economirc value of its average production cost down to US$397/ton (in 1980 prices)--a 20% improvement over 1980 results. On the baic of f-hqco rn thcor ritiQtie assumptions, the economic rate of return was re-estimated at 15% compared to LU,, esL.taLtd at appisaJ Ol0. inraigiceetloeaigcssb percent would bring it down to 13 percent. Environmental Aspects 15. At the time Erdemir's initial plant was built, no precautions were Laken LU cU[LLL in1UUbiLLALA poULlUti or prUVid Lfo wore h and safe When the Bank appraised the expansion project, it incorporated pollution health. In comparison, however, the environmental and health related effects of theI industrialization process on the town of E reali were gryivren 1little attention. 1/ To be useful, the Bank's covenant should include a definition of the UiUL/t wh4U L t L CLoL m panlC Lou6 pLLLermiLL te.d- tnf 2! This is based on the assumption that the Turk4 -&-r,,, rcve a point where the Company would be permitted to obtain needed foreign exchange as required to cover the cost of its raw material Im-ports. - 6 - 16* Rafnrp the plant was built, Eregli reportedly counted 8,000 inhabit- ants. Following completion of the initial plant, the population had grown to a,proimately 7 ?000 hv the time the Stage II expansion project is completed, it is expected to number up to 100,000. No provisions were made by the public services o meet the nes of this hurgeoning nonulation (in terms of water supply, sewerage collection and treatment, gathering of solid wastes, etc.). Te. conqe of this has been a erned environment nreludicial to the social welfare of the residents of Ereglil/. Moreover, occupational health a C4safetyprvions 4. the klant ar insuffticient; denite Bank oblections and prodding, little on that has been accomplished under the project. 17. In conclusion, the Bank's intervention has brought about some improvements in both the plant and the town (PICR, paras. 2*20 andi 3.14L ton 3.15). Yet, much more should have been done, and additional anti-pollution facililties were instlledc underte uStOage Tr project* I%ra f^r,i *c4,ncr its appraisal on the industrial project and not considering the concomitant urban infrastructure and social requirements of th n e population, the Bank missed the opportunity to contribute more actively to reversing the deteriora- tion of environmental aspects associated with the growth of the town of Eregli. Conclusions 18. Although the Bank did have a positive and substantial influence in the design of the project, its association with the cumpany had limite imp on the scale of Government influence in terms of determining project financ- ing, price fixing and the management of the project. The expectatoUn tat the legal status of the company and the Bank's resence could help insulate the project from such forces was not fulfillema . In particular, tne DUnIs reliance on the articles laying down the private-sector character of manage- ment was not sufficient in view of the ownership rights of the Government to 1/ The river flowing through the urban area is anaerobic and grossly pol- lutes a recreational area, now closed to the public. The bay off Eregii is now far less productive than it had been before the steel plant was built and the food chain may have been eliminated or seriously damaged. It is reported that 400 fishermen who depended on the litoral fishing have as a result been deprived of their livelihood. The wider impact on the fishery resources in the Black Sea is, of course, unknown. Town garbage, refuse, and solid wastes are haphazardly collected and dumped over a cliff into the offshore waters just a few miles from Eregli. Open sewers and broken pipes spewing forth their effluents are common in some sections of the city. The water supply situation is less well known but may well be deficient in terms of quantity, quality and pressure. 2/ Erdemir's legal status, however, was instrumental in preserving the company's independence in regards to purchases of raw materials and salary matters. The Bank was also helpful in having the Government take measures to correct the financial problems of the company. - 7 - operate through the board of directors!/. The Bank was instrumental in reducing board interference in the company's day-to-day activities and indeed the. company was comparatively freer in conducting its operations than SEEs. The Bank, however, was unable to ensure satisfactory nroject management, project and enterprise managers being frequently changed without the Bank"s knowledge or being consulted. The Bank's influence at the technical manage- ment level was also limited, as the relationship between the project authori- ties and the technical advisers appointed at its instance was strained; the Bank was, however, helpful in assuming a mediation role and preventing the relationship between Erdemir and its consultants to deteriorate even further. 19. The rationale behind the choice of implementing a steel expansion project in Turkey was the subject of much debate within the Bank at the time of appraisal. While the country, as manifested in its past investment deci- sions, had always set great store on developing a steel industry, there appeared to be some disadvantages in setting up the industry: domestic iron ore has a relatively low Fe content, domestic coal has a high ash content, and the iron ore and coal mines are located at a distance from each other. Because of this, Turkey's two steel mills (Erdemir and Karabuk) were recog- nized at appraisal to be operating at a substantial disadvantage (apart from considerations of scale and management efficiency). The main factor in the Bank's choice to support Erdemir--the first industrial project financed by the Bank in Turkev--annears to have been the orivate-sector tvne management assured under its articles and statute. The Bank also appears to have arrived at the conclusion that there would be substantial economies of scale in the expansion project to make the expanded mill internationally competitive_2. Thp nPrfnrmqnc of the cnmnqnv in the vparq to come when fortivn Prchana shortages have ceased will be an essential element in assessing the extent to which the project wnc _ciirfcz,zfii1 in rpnrhina this_ object-ive_ 1/ The Government's voting power, (through state-owned Karabuk and Sumer- bak,hsremained at 51.5%; hoevr it otiu-on+- qiy increased from 58.4% to 83.7% if its contribution in the form of quasi- Lf 1I DLIML .L . £ OL IL ..1 LLIGL L 11 LUL 1U L LguiItL U IIU t1e Danik S decision to finance the project lay with the expected benefits to be ere f t produce steel competitively. -8- -9- ATTACHMENT A COMMENTS RECEIVED FROM THE BORROWER 42428 ERAN TR 128-ANKARA, MAY, 28, 1981 WORLD RANK TNTRAFRAD MR. SHIV S. KAPUR nTrRTO OPERATIONS EVALUATION DEPARTMENT RE: YOUR LETTER DATED APPIL 3, 1981-PROJECT PERFORMANCE AUDIT REPORT ON rTTDvVV-WVDnVMTD CTAC T VYPANCTnM PPnTrT. LTv PAUV DCrTXTVnT Tar TlPAVT PPPT CIRMTTTVn TPROTTrH YOUR AROVE RFFF.RENCED LETTER. FOR A PERIOD OF TEN YEARS, STARTING FROM THE INCEPTION OF THE PROJECT M rrn muru Dr prn' A rTnCr rTT ARlDATTCnM VTTvPM TPW RAMVCCZ MTqrTANq AN Ur IV) ± If I L .ALJ1J , A). - -.A.) ------ - -A.LAkJft 1 1 --- ----l- ERDEMIR LET TO A FACE TO FACE DISCUSSION OF OUR PROBLEMS WITH YOUR TECHNICAL Aan fTaAXrTAT vvnvnmc TuVDVnDV TV TC ATwwnTCC Tn Ann T-AT U n CTARP TH VIEWS AND COMMENTS INCORPORATED IN THE REPORT WHICH IS A METHODICAL SURVEY OF -nas^ r nn n Aar LUATTTAMLUT1 TTATT%VD OnTOrTDTT lVTTITV DTTTfTCM Tar - PAPT .RDE I rr zirx fkri4 fFN L DVtMu UtLuii UfltJKltX LULlV PLULAPvP TLLA .LLfll* RECOGNIZES THE DIFFICULT POLITICAL AND ECONOMIC CONDITIONS WHICH PREVAILED IN -wwnwww ar wa mwm ranr HTnTan mTW asn DBMkTU PTAT nVDTr%n AD rrUV DDATVf'r TUKAEY AND IN THE WOLU UURING lE inlLhfalllLlniuty rniaLV/ VIC inn marVO UNDER THESE UNUSUAL CONDITIONS ERDEMIR HAD ASSUMED THE RESPONSIBILITY OF --- --- - ..,wm arwwo rur. astrryA tarn rrm,.f nrl 1lfT rrwaxwa Tafr 'mU' VDlAMTOTflkT OPERATING THE EAIblING FACiiTiES IvU Ifal ur TnAT tFc iHizlU in V)Aj fL-Tivl PROGRAM. OPERATING AND MANAGING THE EXISTING FACILITIES WAS THE MAIN OBJEC- TIVE O THE CUMPANY IN ORDER GENERAT THE NECESSARY CASH r l r rMitv TL EXPENDITURES OF THE EXPANSION. ALTHOUGH ERDEMIR WAS QUITE SUCCESSFUL IN ACHIEVING THIS OBJECTIVE, PRUBLEMS DEVELOPED REGARDING THE IMPLEENTATION OF THE PROJECT. THESE PROBLEMS AND THE CAUSES WHICH CREATED THEM ARE THOROUGHLY EXP11LAINED IN THE COMPtLETIOUN REPRT. TO i T IWEn lVE, LIaTLI TO IT-%LJ. TW7TiUr%1Uq ANY QUESTION ERDEMIR HAS LEARNED AND PROFITED FROM STAGE I EXPANSION EXPERI- ENCE. OUR MANAGEMENT HAS TAKEN EFFECTIVE STEPS TO AVOID nTI'An nnnn o. Tm THE ONGOING STAGE II PROJECT. WE ALWAYS APPRECIATED THE EXPERT ASSISTANCE OF THE BANK AND BENEFITED FROM THE PUSITIVE APPROACH TO ERDEMIR'S EFFORTS IN IMPROVING ITS PERFORMANCES. FROM OUR POINT OF VIEW, THE REPORT IS SATISFAC- TORY AND SHOULD BE CONSIDERED AS AN INDICATIVE EVIDENCE ur a DECADE OF CLOSE COOPERATION BETWEEN THE BANK AND ERDEMIR. REGARDS, MUZAFFER TUGAL PRESIDENT I 0 電H I ATTACHMENT-B PROJECT COMPLETION REPORT TURKEY: ERDEMIR STAGE I PROJECT SUMMARY AND CONCLUSIONS (i) The Stage I Project of Erdemir was completed about three and one-half years later than originally estimated, with a 65% higher than anticipated financing requirement. The project was classified as a problem project on several occasions during 1974 and 1975 for management and financial reasons. The buildup in production during the first tull year (1979) of actual operation was slow - being restricted by lack of raw materials - and reached only 26% of the full incremental output. With the continuation of raw material shortages, production is expected to be only 56% of the full incre- mental output in 1980, but should reach 100% by 1981. During the early years (1972-75) of project implementation, the Company had a strong liquidity (net working capital) position as'indicated by the high current ratios and also had a good cash-flow situation, as indicated by high debt service coveraRe ratios. But the debt/equity ratio was high due to a highly leveraged financing plan for the Company when it was started and because the accounting method used in Turkey raised the ratio for companies with a significant amount of foreign exchange debt every time the Turkish lira is devalued. Nonetheless. because of a change in the project scope which shifted the product mix to higher valued items, the re-estimated financial and economic rates of return of the project are still satisfactory at 16% and 15% respectively, compared to the appraisal estimate of 21% and 18%. (ii) The long construction delay, the large capital cost overrun (mostly in local currency) and the slow production build-up can all be traced to three main causes: (a) an implementation arranRement which was not fully appropriate for Turkish conditions, whereby the Company had the main responsibility for procurement. construction. and startup. with only limited linp Aiithnrifu nnrl responsibility being clearly delegated to the foreign technical consultants; (b) chronic instabilitv of the Comnanv management- which had a fnr ranphina impact on attitudes, p ce of decision'makin , and related"action; and (c) the unstable and inflationarv world economic situation during the nil nricia ^IF 1973/74 and subsequent oil price increases coupled by the severe deterioration of the Turkish economv from 1977 tin to the present which Is-A t-n onme f- - majeur claims by suppliers, significant price increases and extreme difficulty in obtainina foreign Pxrhange for imported cnnrac nnA r.- materials needed to complete and operate the project. - 12 - (iii) The two main lessons emerged from this project were fully recognized by the Bank during the appraisal stage and during supervision we continued to focus on and urge the Government and the Company to arrive at more efficient solutions. However, due to heavy resistence by the Turkish authorities, as well as our lack of effective leverage, we were -not able to achieve positive changes in the following two areas: First, operating companies in developing countries, even those with experience in constructing their original plant, are generally still not qualified to take on the main responsibility for managing the construction and implementation of a major expansion program because of the extreme complexity of the dual responsibility of operating the existing facilities and of implementing the expansion program. Thus, the day-to-day work and follow-up responsibility for actual project imple- mentation should usually be given - as far as possible - to an outside firm, although it would still be necessary for the project sponsor to have his own strong Proiect implementation team, to look out for the owner's long-run (mainly economic) interests and to supervise the contractors involved to ensure that specifications are appropriate and procurement procedures of the Company and the various lenders are followed rigorously. Second, there is no substitute for a stable, fully committed and competent Company management with clearly established long-range objectives and suitable inventius. Tn enaes where the risks of unstable manaament are high. the Bank should ensure that a much larger responsibility for project implemonttonl- i linry ripanttd to ie Pnrineerincy rnnRn1tants Tn addition, the Bank should be prepared to utilize the full weight of its ~fun ndA leveryagep 4f i-havrpn-r rmarlv a%r,aaa4-u0 anii",4 ii%IHifiPA changes in Company management, with proven detrimental effects on project (iv) On the whole however, considering the difficult external economic Pnvironment when the project was being imolemented, and the even more dif- ficult management situation as a result of politically inspired changes in the Company mqnqcYmPnt. the Cnmnanv has manaied to nerform well in the con- text of the Turkish economy; the Bank has contributed towards preserving the nrivate stra status of the Company and, morp Imnortantly- has helned instill a financial discipline in the Company that helped the Company weather the difficult economic siotninn dtring the lsti ftw yea withni- ; mainr Aiuairdt impact on its liquidity. - 13 - I. INTRODUCTION A. Economic and Political Environment 1.01 During the second half of the 1970s, Turkey experienced a severe and prolonged foreign exchange crisis as well as a serious deterioration of the domestic economy with a combination of low economic growth, high inflation rates and labor strikes. The balance of payments situation is still a diffi- cult problem at present but adequate financial assistance and rescheduling of existing foreign debts appear certain in the near future and the situation should stabili7e and then gradually improve. This should allow the Government to focus more (-.i the domestic economic front in the next year or so. 1.02 The balance of payments crisis gradually developed starting in 1973 with the substantial increase in the oil import bill following the large increases in oil prices as well as the continued high rate of economic growth and investment in Turkey during the Third Plan Period (1973-77) as a result of the Government's strong commitment to rapid growth and modernization. The high rate of fixed investment, which increased from under 19% of GDP during the Second Plan Period (1968-72) to just over 20% in the Third Plan Period necessitated substantial imports of capital goods; in addition, the high growth rate of economic output, especially in the industrial sector, increased imports of raw materials. The prices of both capital goods and imported raw materials have also escalated significantly with the price of oil. The tre- mendous increase in the foreign exchange financing needed for the import bill could not be covered by earnings from traditional exports and worker's remit- tances, whose growth have in fact declined during 1973-77 due to the over- valuation of the lira. Consequently, the resource gap increased from about US$623 million or 3% of GDP in 1973 to about US$4.0 billion or 9% of GDP by 1977. However, borrowine from long-term official sources has also stagnated since 1970 and recourse to long-term market sources has been minimal. Thus about US$5.3 billion of the US$6.6 billion cumulative deficit from 1974 to 1977 was financed by short-term borrowing with the balance financed through a reduction in foreign exchange reserves. This caused a very unattractive maturity structure for foreign debt and a sharp increase in debt service payments which culminated in a foreign exchange crisis in 1977. 1.03 The rate of domestic inflation, which had declined to 10% between 1974 and 1975, also rose to about 35% in 1977 and reached an estimated 65% hv 1979. Riqina nublic sector deficits contributed to the increase in the inflation rate. The deficits were mainly due to a deterioration in the financial noition of the State Economic Enternrises (SEE's) who dominate the transport and energy sectors and also account for about half of the output of the mining and Tn_niifnt-inrJna indii.ct-riP.C. In addition- strong cost-push influences on the price level, due to a powerful labor union Moement a n farer orlintd p riitiirev 1 riae ipport nl igv aggravated demand-pull influences on the price level associated with the high-growth economLic poj~licy an. ALL he risin puli sctrfefcis - 14 - 1.0LL The mannurPR necessary to recover from the foreian exchanRe crisis and the high inflation rates -- which included several substantial devaluations nf the 1in Incree in the outnut prices of SEE's. import restrictions, and a general curtailing of demand -- reduced the growth rate of real GDP to about '1 and 2.% in 197R Anti 1979 rPanAntivelv. Durina 1979 in narticular. the Turkish manufacturing industries were estimated to operate at only about 50% of capacty. nnly mAeat arnnm r bowth can he wnc,ted in the next few vears. 1.05 The m~..' -f thp AnTati Pi-nnnmy- especially the foreiRn exchange crisis, as well as the international impact of the oil crisis of 1071/7A a"d of 1Q77 hniya Airretiv nr inAiretlv AdverAelv affected the Erdemir I Project in a manner that was not even remotely thought of as prob- a.1a Mt t-Ina t4ma Af tha nr^~40nt AnnraiaA1 r. The political environment has as ooi een uSable duing the past decade which has compounded the adverse effect of the difficult economic situation since 1977 on the countryj in general, and the project in particular. With the prolification of diverse political parties, working coalitions which programs and policies which were at times inconsistent or which only exacer- bated problems. in particular, the frequnt changes in Government, or the changes in relative strength of political parties within the coalition Govern- ment , thas led I%o freuen chne inf th opaiioLftebad fdrcos the president and the top management of state economic enterprises as well as ErdUIemLI r . In the case of Erdemlir, these frequent masnagement changes were a major cause of delays and other project difficulties. B. Erdemir - The Company 1. Ownership and Control 1.07 Eregli Demir ve Celik Fabrikalari, T.A.S. (Erdemir) was formally established in May 11, 1960 as a private sector enterprise under Special Law No. 7462 and Decree No. 4-12975 of 1960. Subsequently, the authorized share capital was increased from TL 510 million to TL 600 million under Law No. 335 of 1961. Erdemir's Articles of Association provides that the Company be operated as a private enterprise regardless or the extent or the Government a shareholding. Thus, the Company is free from the legal constraints under which state economic enterprises (SEEs) operate (e.g. salary limitations, financial regulations, purchasing controls, staffing, etc.). The Government's shareholding represents 51.5% of the voting majority. This shareholding is equally held by two SEE's, Sumerbank and Karabuk 1/. Until 1974, Koppers Associates S.A. (Zurich) and other foreign investors owned about 16.94 and 1.8% respectively of Erdemir's paid-up capital. As anticipated during project appraisal, these foreign shareholdings were gradually acquired by 1/ Turkiye Demir ve Celik Isletmeleri Umum Mudurlugu (Karabuk) is a state- owned integrated steel company and Sumerbank Umum Mudurlugu (Sumerbank) is a large state-owned company with banking, textile and other industrial operations. Sumerbank is the beneficiary of a recent Bank textile loan. -15 - local commerciai ana investment DanKS GUring L71J UIIU 171U. ML PLUb"ZL, these private institutional investors, including the Erdemir employees pension fund and a very small proportion of private indivir_u", Lgether accoun. f'-r the remaining 48.5% of the voting power in Erdemir (Annex 1-1). 1.08 The Company's private sector status is of great significance to the success of the project and long-term company operations. The Bank should therefore ensure that any amendments to Erdemir's founding law, such as an increase in the authorized share capital, is not accompanied by other changes limiting the private sector status of the Company. 2. Organization and Management 1.09 Erdemir-s Board of Directors consists of ._.. meabers who are elected by the shareholders for periods of three years. The board has usually been composed of bankers, industrialists (including former Erdemir managers) and politicians. The Board of Directors is vested with the general direction, management and control of the business and affairs of the company and with the power to appoint the president of the company. Executive management of the Company is conducted by the president, who attends board meetings, but is not a board member. The president is assisted by six vice presidents, responsible respectively for operations, sales, finance, purchasing, industrial relations, and expansion. Up to the end of 1973, Erdemir's board and top management was characterized by continuity and stability. However, starting in 1974 up to 1980, there was a succession of seven presidents (Annex 1-2) including frequent changes in the board membership and other top management personnel which were primarily politically motivated. The concomitant atmosphere of insecurity and instability in the entire management structure created serious problems. Prompt decision making as well as clear and consistent direction from top management was often not forthcoming. At the same time, the Board had also assumed substantial day-to-day operating decision-making authority thereby further weakening management's ability to deal with project issues. All these contributed to delays in project implementation and were a major factor 1/ in the Bank's decision to classify the project as a problem project on several occasions during 1974 and 1975. During these difficult times, the role of the Bank at promoting more effective decision-making at the project management level concerning design changes, bid evaluation/award, changes of suppliers who could not perform, etc. was important in reducing delays to some degree. 1/ The other major factor concerned additional project financing (local currency) from the Government to cover part of the capital cost over- run (nara. 2.16) and avoid a cashflow nroblem for Erdemir. - 16 - II. PROJECT DESCRIPTION AND IMPLEMENTATION A. Prolect Back2round, DaePRrintion. and Ohietive. 9 1. 1h Orcnal inneat efha ln .,[dae ST- -- -- n----r- to meet the rapidly growing domestic market and reduce reliance on imports. Tn aAA4*4^nv the project,.4 wass also. i-tenAe.A oimprov prdc qult an'.. r.------------ - ..~ - - - "J " 6 .6 %L 6 L.L LL to reduce the unit cost of production. The financial restructuring of the -w any. onW JUJg".&vLJ mey '.& no us e A M .L& FOLCL J*L7. IAC pLUJCL;. ib LH first stage of Erdemir's long-term expansion plan. The original project scope at the time of appraisal involved an approximate doubling of key fac1ilieb to increase raw steel-making capacity from about 0.8 million tpy to over 1.6 million tpy and production of finished flat steel products from 0.5) million tpy to 0.9 million tpy. The detailed list of equipment included in the original project scope is shown in Annex 2-^. 4.V4 Apart from te iucrease in capacity auo improved economies or scale, the project was expected to provide the following major benefits to plant operation: (a) Operating advantages through increased capacity of the existing "combination" slabbing plate mill when producing slabs for the new semi-continuous strip mill instead of reducing them further for the steckel mill. (b) Quality improvements through the capability to produce coils of lighter gauge with closer tolerances and better surface, and the production of plate through a new normalizing furnace. (c) Greater operating security and flexibility through the second blast furnace, additional finishing facilities and freeing of the combination mill for additional plate production. 2. Changes in Project Scope 2.03 More rapid growth of market demand than was foreseen durine appraisal, together with potentially greater economy in purchasing slightly different sized units - and balancing of capacities. led to some maior changes in the project scope. The changes, which are discussed in more detail in Annex 2-2. primarily involved a change in the nroduct mix whereby low-valued products such as billets and other intermediate steel products were eliminated and reDlaced by hizher valued finished flat nroduct. With the qnone hmnnao Erdemir's flat products output would increase to a total of 1.1 million tpy instand nf iut 0.9 millinn tnu nnd at- f-he oama time hlls- anA p4-4rn production, originally planned at 0.3 million and 0.2 million tpy respectively, - 17 - would be eliminated. It should be noted that the pig-iron production and sales had been included at the time of appraisal in order to fully utilize the available capacity of the blast furnaces which would still have exceeded the steel-making and rolling capacity of Erdemir even after project com- pletion. At present, Erdemir has some surplus pig iron capacity, but lack of raw materials, and a saturated market for pig iron 1/ have led Erdemir to exclude pig iron from its near-term (1980/81) sales plans. The corresponding equipment and capacity changes are detailed in Annex 2-3 and summarized below: Item or Facility Plan at Time of Appraisal-i' Project as Actually Completed- 1. Blast Furnace 828,000 tpy 1,UUU,UUU tpy 2. BOF, 3rd Vessel (Steel- making capacity-BOF Shop LiMU'l tationI) 7VUVU tp 900J 00 ~ py b// 3. Cont inuous Casting Billet caster 300,000 tpySla cnaster 600,000 tpy Machine 4. Hot Strip Mill 1,200,000 tpy 2,000,000 tpy (with future provision for fully continuous operation) 5. Cold Strip Mills 660,000 tpy 750,000 tpy 6. Plant Water System Mixed once through and Exclusive use of re- recirculating water systems. circulated water system for new facilities. ,a! Capacity. b/ Due to other technical restrictions, the final operating plans used for the re-alclatd fnancial projections did not make full utilization o oetal available steel-making capacity indicated above (para 2.03). 1/ The pig iron market in Turkey has recently been saturated with sales of PiR iron by the Iskenderun plant, due to imbalances in capacity at that plant (excess blast furnace capacity, with steel-making operations being limited to low rates). - 18 - B. Project Management, Construction and Completion 2.04 Full responsibility for project implementation was assumed by Erdemir management. Tue Cumpany s Expansion Department, under a vice-president, acted as the general contractor, although the engineering function and substantial assistance in the project management ana implementation functions, were provided by the Koppers Company of the USA. Koppers was selected as Engineer for the Stage 1 project in February, 1972 after a thorough analysis and review, by Erdemir, of comparable offers for engineering services, which had been received from four major US firms. 1/ Conceptual design, and specialized assistance in ongoing feasibility studies, process analysis, trouble shooting, training, and operational aspects were handled by U.S. Steel Engineers and Consultants, as related to their continuing 5-year Technical Assistance Agreement with Erdemir. The contract with Koppers covered all basic functions of project management. However, some questions developed in regard to the precise division of work between Erdemir and Koppers. Those questions remained unresolved through most of the implementation period, and caused some indecisiveness and later, lead to a number of delays. The Bank's role in mediating these differences was particularly helpful. 2.05 The actual project implementation schedule, as well as the appraisal estimate is shown in Annex 2-4. The overall delay in project implementation was about three and one half years. The main activities that contributed to this delay are: Approximate Area or Activity Months Delayed % Engineering 4 10 Procurement 11 27 Fabrication and delivery of equipment 12 30 Construction and startup 14 35 Total 41 100% 2.06 Construction difficulties were the major cause of delay. The situation was aggravated particularly by the major piling and foundation requirements for the hot strip mill. Difficulties with the Turkish contractor selected for the piling and foundation work resulted in cancelation of his contract for the job after one year, due mainly to lack of adequate construc- tion equipment, inadequate organization and manpower required for the job. All subsequent piling and foundation work was handled by Erdemir itself under force account. 1/ It had been agreed that US Exim Bank would finance the engineering contract, limiting competition to US firms. 'L.V Ilue seconU must important cause of aelay was in raDricaTion and delivery of equipment, contracted primarily in late 1973 z2lated in part to rapidly changing and unstaDle conditions associated with the oil crisis, unstable economic/political conditions in Turkey, short work week in England, strikes in italy, etc., all resulting in several claims of Force Majuere by suppliers of major equipment packages - coke plant, blast furnace, oxygen plant, power plant, etc. 2.08 Other delays resulted from not starting any detailed engineering work prior to the actual signing of the Bank loan; lengthy discussions between Erdemir/Koppers/USAID/the Bank - on detailed systems and procedures to be followed to mutually satisfy all requirements of all parties involved on procurement regulations also resulted in some delays. 2.09 Basic changes in project scope (para 2.03) particularly of the continuous casting machine also caused significant delays in the preparation of bidding documents for several packages as well as delays in related activities (e.g. civil works). 2.10 A 10-week strike at the Eregli plant site in late 1973 resulted in suspension of construction work, and had a negative impact on schedules; unusually cold weather during the winter of 1975, during the height of critical hot mill piling and foundation work, caused additional delays. Other significant delays on the hot strip mill were caused by late delivery of Turkish materials - mainly steel for construction. 2.11 Most of the major new production facilities in the plant started up in September 1978, about 41 months behind the original schedule, a schedule which in retrospect must be regarded as being a very tight one for the condi- tions which prevailed in Turkey and in the world, during the implementation period. 2.12 Because extended delays in project implementation did occur - many of which were related to problems mentioned previously - and also due to recognized organizational problems (affecting even the semi-private firms in Turkey), Erdemir has learned much from the Stage I Project exnprience, and has taken positive steps to avoid repetition of similar problems in the ongoing Stage TT nroiect. Thp enpripnrp to dite on imnlpmPnttion of tho qtap TT project indicates substantial improvement has been achieved, particularly if thp diffiriilf oii 1ponmr~-~i rnndifinnc npevilingy in Turkeya are fully recognized. C. Project Capital Cost 2.13 The installed cost (i.e., excluding interest during construction and incremental wabu7 ie tIn proect was than the apprai 7a97 million), which was about 78% higher in US dollar terms than the appraisal - 20 - estimate of US$244 million (TL 3,409 million). 1/ Erdemir's net working capital was not increased by US$46 million, as estimated during appraisal; on the contrary, it was decreased substantially to finance part of the cost overrun. The Appraisal Report did not expressly include interest during construction (IDC) in the project capital cost and financing plan. It is the practice of Erdemir not to capitalize IDC but to charge IDC directly against current operations or income, which has the effect of deferring some income tax liabilities into the future. The Appraisal Report had assumed that the estimated US$30 million of IDC, all in foreign exchange, would be financed from internally generated funds. The actual IDC was about U$94 million of which US$75 million was in foreign exchange. The appraisal capital cost estimate, with the IDC added, and the actual cost, is shown below. 1/ A list of the various foreign exchange rates in effect during 1972-1980 is shown in Annex 2-5. These costs are in current terms, that is, they represent the sum of the actual yearly disbursements throughout the implementation period and therefore are a combination of liras or US dollars of different purchasing power. - 21 - Erdemir - Summary of Project Capital Cost a/ (US$ million) Appraisal Estimate b/ Actual Costs Foreign Local Total Foreign Local Total Engineering 9.0 4.5 13.5 11.8 4.2 16.0 Civil Works, Tntallation and Miscellaneous c/ - 50.7 50.7 - 190.8 190.8 Equipment, Materials and Spares (FOR 157 1 - 157.1 17A - 17A.A Fregh and Insurac 13.8 -l1 ~ ~ - f Pr-prtn 'Epne - 7 . 2 )- OI Al IQ A. increase in INet Working Capital - 46.2 46.2 - - Interest During Construction (IDC) 30.0 - 30.0 f/ 74.7 19.4 94.1 Total Financing 211.0 108.7 319./ Zb2.5 264.9 52/.4 a/ In current terms. b/ After pro-rata allocation of the price and physical contingencies separately for foreign and local currency costs including pre-operating and technical assistance expenses. c/ Includes local labor, materials and equipment. d/ Included under Miscellaneous. e/ Includes US$7.1 million for amortization/depreciation of Erdemir equipment only partly used for the Project. f/ No separate provision for IDC was included in the appraisal capital cost estimate. The IDC was estimated at about US$30 million all in foreign exchange, and was to be financed from internally generated funds. - 22 - 2.14 The actual total financing for the project, including IDC, was about US$527 million or about US$208 million (65%) more than the appraisal estimate; but the actual cost would have been higher had Erdemir increased its net working capital and maintained the minimum current ratio stipulated in the loan agreements (which it failed to do). About US$156 million (75%) of this cost overrun was in local currency. Of the US$52 million cost overrun in the direct foreign exchange cost, about US$45 million was for IDC and only US$7 million was related to the equipment and engineering cost. Erdemir was able to keep the foreign exchange cost overrun in the equipment relatively small by shifting some items. such as ocean freight and insurance as well as structural steel and other fabrication/erection activities, from foreign to local procure- ment. The actual cost of the items shifted from foreign to local procurement was about US$11 million equivalent. 2.15 A detailed analysis of the local currency cost overrun is shown in Annex 2-6 and the total cost overrun is summarized below. The largest cost overrun, at about US$140 million-all in local currency - was in the civil works, artinn and misllaneous nnipment. About 77% of this cost overrun was due to price increases associated primarily with delays in implementation, 1/ and 71% na din M arnnp chanpa. The next laraest cost overrun is in IDC. which is primarily due to the larger financing needs and longer implementation period. The third largest cost overrun, at US$32 -9 ln was in the flreoerat- ing expenses which was also mostly (68%) due to price increases. In contrast, the US$17 million total cos ovrunI-he e*ipmet wa mnat SAY duea to scope changes. 1/ Undoubtedly some of this overrun was also due to underestimation (at very preliminaryy stages of engineering), and also to limited effective- ness of cost controls, but further quantification would be difficult. - 23 - Erdemir - Cavital Cost Overrun Summary (US$ million) Actual Overrun Amount (US$ million) Due to Overrun Tncren Chano Amount % in Price in Scope Others a/ Engineering 2.5 1 - 2.5 - Civil Works, Installation and Miscellaneous 140.1 67 107 .7 32. 0 . and Spares (FOB) 17.3 8 7.3 10.0 - Freight and Insurance ( 3.1) (1) ( 3.1) - - Pre-Operating Expenses 32.2 16 22.0 10.2 - Technical Assistance 0.8 - - 0.8 - Installed Cost 189.8 91 133.9 55.7 0.2 Increase in Net Working Capital (46.2) (22) - - (46.2) Interest During Construction (IDC) 64.1 31 0 - 64.1 Total Cost Overrun 207.7 100 133.9 55.7 18.1 a/ Includes estimating errors, failure of the Company to maintain the minimum level of current ratio (in the case of working capital) and delay in completion as well as need for additional loans in the case of IDC. D. Project Financing 2.16 The appraisal financing plan envisaged that 43% (US$139 million) of the project financing requirements (including IDC of US$30 million in foreign exchange) would be financed from Erdemir's internally generated cash from its operations with the balance of 57% (US$181 million) being financed from foreign loans and suppliers credits. The details of the actial financing pattern is shown in Annex 2-7. It shows a much larger proportion of external funds. both foreign and local which amounted to 61% (TNA14 million). Tt should be noted that the Loan Agreement obligated the Government to provide or c oave Frdpmir to he nrovierru with fumd ts on romlest the projct if it could not cover the cost-overrun from its own resources without reducing its - 24 - current ratio below the minimum stipulated in the Project Agreement (para 3.19). During 1974 and 1975 the extent of the cost overrun was determined and it became apparent that Erdemir's projected cashflow could not cover the additional financing. The net working capital may therefore have to be reduced causing the current ratio to fall below the minimum level unless external funds are provided. The Bank therefore began a protracted dialogue with the Government for the provision of Government funds. This cost over- run financing problem, together with the management problem (para 1.09), caused the Bank to classify the project as a problem project. The Government eventually agreed to: (a) defer collection of close to US$26 million equiva- lent (TL 369 million) that Erdemir was to pay 1/ to the Price Regulation and Subsidy Fund in 1975; and (b) provide Erdemir in 1977 with a long-term interest-free loan (quasi-equity) of about US$65 million equivalent (TL 1.2 billion) with the intention of converting this to equity as soon as parliament amends Erdemir's founding law and increases the authorized share capital of the company (Para 1.08). In addition, Erdemir also obtained local medium-term loans totalling about US$26 million equivalent during 1975 and 1976. Finally, Erdemir's paid-up capital was also increased by about US$5 million equivalent, up to the full authorized share capital. While these funds were very helpful, they were not enough and Erdemir still had to reduce its net working capital by about US$32 million equivalent to complete the project thereby causing its current ratio to fall below the minimum required by the Project Agreement. However, the severe budgetary problems of the Government during 1977 and onwards made it extremely difficult to obtain additional Government funds and the Bank strategy shifted towards building-up the company's working capital by increasing production, and consequently cashflow, as rapidly as possible and by minimizing dividend payments and avoiding outside investments by Erdemir. The eauity portion of the actual financing pattern is about 50% if the Government subordinated loan is considered as quasi-equity. The financing nftprn ig Rummarized helow: 1/ These funds were in addition to about U$27 million equivalent of interest and principal repayment on ex1iing Government loans that were also deferred as part of the financial restructuring of Erdemir (para 3.19). - 25 - Erdpmir - Annraisal Plan and Actual Financing Sources (US$ million) Appraisal Actual Difference Sources Amo 1n t Ammint Amount % TDIDII T on76.0 24 76-0 14 L UO AT"T.. loan 40.0 13 4.- 01Mi.LMJ L.JaI Loans & Credits (mainly U.S.* Exi-LLa nK 650 2 6. 3 . Sub-total, Foreign Loans 181.0 57 LOJ.2 35 4.2 2 Government Loans & Funds b/ - - 118.1 22 118.1 57 Domestic Loans - - 25.8 5 25.8 12 Sub-total, All Loans 181.0 57 329.1 62 148.1 71 Increase in Capital Stock a/ - - 5.2 1 5.2 3 Erdemir Funds 138.7 43 193.1 c/ 37 54.4 26 Total Sources 319.7 100 527.4 100 207.7 100 a/ Subscribed by private shareholders. 6/ Erdemir interest and other liabilities that were deferred and capitalized (US$52.8 million) plus US$65.3 million of "quasi-equity" or subordinated long-term loans. c/ Includes funds released through reduction in net working capital of US$32.5 million equivalent. E. Procurement, Allocation and Disbursement of Bank Loan 2.17 Bidding procedures for the project were designed to maximize effec- tive competition for supply of equipment and services, in order to achieve low capital costs and the highest possible value for the funds available. All equipment packages financed by the Bank loan were procured in accordance with the Bank's procurement guidelines. The Bank's guidelines and international competitive bidding procedures were also used for procurement of major bid packages financed by USAID. (Items being allocated to USAID if the success- ful bidder was from USA: otherwise Bank financing was used). Thus details of procurement procedures - up to selection of successful bidder - were identical for., items,c fin 'ae b-, US~AID and t-he B~an, Pwront fnr sinall hid prae financed by USAID. While this procedure resulted in several competitive bids and relatively low price., there- wervaensme initinI delay (abouit -mnhs in starting actual procurement due to the need for several parties (Erdemir, Koprs TQ A Tnl and-~ th Bank-.1, 4-o- agre and, undeAi-rta p-orOe-reS to be followed. It was also a difficult learning experience for Erdemir, which with several types of procurement procedures and financing agencies in one 2.18 Equipment pacKages financed by US Vxm Bnk" (basicaly f-mpr sed of two items: Engineering and Hot Strip Mill) were procured separately under Exim Bank rules and procedures. 4.17 in order Lo facilitate management u tne project, anu estalshI a limited number of specifically defined areas with clearly established (single) responsibility for implementation, procurement was comprised of 1ag p----g-- with single contractor responsibility (i.e., coke plant, blast furnace, slab caster, hot strip mill, power plant, oxygen plant, etc.). Since only a few Turkish firms could be considered pre-qualified for that type of overall contract responsibility, Erdemir, USAIU, and the Bnuk DaeL u uU a pLrLeLC[te system under which qualified Turkish suppliers could participate in bidding 1/ and they were accorded a 151. preference on the C.I.F. cost of imprUteU equip- ment (or the customs duty - whichever was lower). The actual bidding, bid evaluation, and award of the equipment packages were fully satisfactory. Civil works and erection contracts were bid competitively in Turkey and financed from company funds. The following table snows the sources of supply of items financed by the Bank, USAID, and US Exim Bank: Erdemir - Sources of Supply and Financing of Equipment Packages (US$ thousand) US EXIM Bank IBRD USAID and US Banks Total Country of Supply Amount % Amount % Amount % Amount % Germany 11,219 15 11,219 6 Italy 9,428 13 9,428 5 Japan 40,923 54 40,923 23 Turkey 3,744 5 3,744 2 United Kingdom 9,923 13 9,923 6 USA 23 - 39,960 100 64,286 100 104,269 58 Total 75,260 100 39,960 100 64,286 100 179,506 100 1/ Either directly, or in conjunction with qualified foreign bidders. - 27 - F. Tnfraqtrunture 9.90 Tn 1971 thp town of PrvPli- adincent to the Erdemlr n1ant. had a population of about 28,000. In 1980 that population was estimated at about 70 000 narcons. Tn thic rnqp thp infraqructure nroblems asorint-Pd with the rapid increase in population and economic activity were not as severe as in other Bank projects ,nl uc VTrAPTOZA, in Mexzico6 As stttd in nnvra 3-13 (Labor and Social Aspects) Erdemir added sufficient social infrastructure such as housing, schools, hoptlcII,adrec-reatIonal facilItIes to alleviate the main pressures generated by the plant expansion. The plant watefr systems wrer gratly. expndedo tor aequately, handle 4-r ....aA vorlume andr satisfy environmental regulations. Although town housing, water, and sewage capacity -)was utl izd-L toJ the ..lmit, Ltere. weret __t _-;__iJ V4 411 -O.LL. Jt-kLfO W.L squatter camps or unacceptable housing/living conditions in the area of the j<J.aLL. IlL UL,e BnkhEs req~uest, ErdemirU, andits.U engineer~ reviewe.S the Ut.chnicltOl/ economic feasibility of combining town sewage treatment with coke plant eff.luent treatment'L, sLince process0 tecAhnlogLy .4s simlarQd tFor4 bothLL treatment4 systems. However, in the opinion of the Company and its Engineer, problems of ULdtaHC U VdLdLao Ln shUL LLm Low Lat maue sUL a comuMatAn oL treatment systems impractical. However, the problems of the town sewage associdLeu WIL LhC rapidU inLrase U pUpULdLLU UL L LCe plaL have UL been fully resolved to date, although the town of Eregli is now improving its sewage sysLm (anU alsU UajUL LodUs) WLh sUULaLia LA fUnUd ULVU LLUm Erdemir. This type of problem - associated with a rapid increase of town population due to a major plant expaniUon Iuantu by the Bank, sUUlU receive more attention in future cases - and in many cases could probably be couruinated to a [igher degree, wit state authuLtie responsile Lr Lown planning. 2.21 Roads in the adjacent area outside of Eregli town are rapidly being upgraded to handle the higher volume or auto and truck traffic. Railroad connections serve nearby coal mines and may be extended soon to connect with the Turkish State railways system. Almost all of Erdemirs raw materials (Dy far the largest tonnage of materials handled) arrive by sea at the plant-s own dock facilities. Other plant docks handle a limited voLume or finished product shipments by water. Other general cargo docks in the town of Eregli handle small shipments of miscellaneous cargo. Plant docks and material handling equipment (ship unloaders) have been expanded based on simulation/ transport studies done by Erdemir and its consultants to assure that the docks and associated material handling systems are adequate to support full operating levels at the plant. 2.22 All in all, the infrastructure in the plant area is adjusting in a reasonable pattern consistent with the expanded needs of the community. Outside of the plant area, however, there remain other infrastructure problems - 28 - which could be considered common to Turkey - especially limited transportation facilities, and electric power. Lack of fully adequate transportation systems for iron ore (between mine and steel plants) has resulted in increased pressure to import foreign iron ore. 1/ Although to date Erdemir seems to have been given high priority in allocation of Turkey's available electric power, there are signs that - in the future - when Turkish industry recovers from its present low rate of capacity utilization (often in the 50% range), the availability of electric power may become a more serious constraint on Erdemir. 2.23 Thus some national infrastructure - mainly outside the town of Eregli - is likely to have some negative impact 2/ on Erdemir's operations, unless a significant degree of improvement can be achieved in 1980/1981 as nart of Turkev's recovery from its current economic crisis. III. PROJECT OPERATION A. Prndinerinn And Ralpg 3.01 Althnah cnmp nf thp annillnry fnrilitpQ inr1iuiid in fha Project started operations in late 1977, the major steel-making facilities were brouht innn,r,-Innl~ n q._,t-pmhpvr 1978 U^ - t-6. h,,41A_~..-- -.f production was seriously hampered by several problems. There were technical of the steel ladle flow-gate mechanism which, due mainly to lack of additional tion, some technical problems were also encountered in the coke-oven facilities underfiring gas switching unit, although this does not affect production at this time. Shourtages Of impuorted Spare pkart as a cuuSquenc ue foreign exchange constraints, were also a major problem. However, the most serious causes of the slow production build-up were the shortages of coking coal and iron ore experienced during 1979 and up to the present. This was primarily due to a drop in domestic mine production and bottlenecks in the local rail transportation system, as the economy suffered from foreign exchange con- straints and particularly from fuel oil and/or diesel fuel shortages in late 1979. Floods in early 1980 also paralyzed much of the transportation (rail) network. The short-fall in domestic coal and iron ore production could not be made-up by imports because of a scarcity of foreign exchange. 1/ Coal mining limitations also result in a similar situation with respect to coking coal. 2/ This factor had been recognized to some degree at appraisal, by assuming a 95% operating rate as a basis for financial projections. - 29 - 3.02 The appraisal estimated that Erdemirs incremental production of finished flat products from the new rolling mills included in the Stage I facilities would start by the fourth quarter of 1974, three months before the blast furnace and the BOF facilities were completed. This was because a market constraint was anticipated during 1972 and 1973 and Erdemir was therefore expected to stockpile slabs and ingots during these two years which would be processed (together with purchased intermediate products if necessary) once the new rolling mills were completed in late 1974. In addition, the new billet caster was also expected to be operational by the end of 1973 and was expected to produce at 66% of capacity in 1974. As it turned out, the market for flat products expanded very rapidly and Erdemir could not supply enough to meet the demand and consequently the project scope was changed and the billet caster was replaced with a slab caster in order to produce more higher-value flat products (para 2.03). In comparing below the actual production perfor- mance with the appraisal estimate, the 1974 production from the rolling mills (45% of full production output) expected at the time of appraisal is also shown although no comparable actual is provided because the expected market constraint during 1972 and 1973 did not materialize and at any rate, the hot strip mill was not finished earlier than the other project facilities. On the basis of the actual production during the first years (part of 1978, all of 1979) of operation of the Stage I facilities, and including the first four monthR of 1980- the likely Droduction build-up is shown below compared with the appraisal estimate. Erdemir - Stna T Production Build-uD as % of Full Incremental Output in Financial Projections Year of Operation Appraisal Estimate Actual & Re-estimate rnAndnr Var 7 ontnut la Calendar Year % Output /a Minus One 1974 A 1978 (Actual) 0 /b First 1975 73 1979 (Actual) 26 Second 1976 100 1980 (Estimate) 56 Third & Onward 1977 100 1981 (Forecast) 100 1 _J4 C1C..- .nlA a.1, anda nthpr infPrmediate nroducts such /a Fiise flatIL~ pr only -A.L. . .. . . . . . as billets, ingots, pig-iron and blooms for sale. If these intermediate products are included (e.g. in terms Of 14n- qp- Anuivq1Pnr) the percentage would be 98% for 1975 (appraisal) and 36% in 1979 (actual). /b Project was physically completed -in late 1978, b,t sartup was constrained by lack of raw materials, forcing Erdemir to shutdown its No. 1 blast furnace (which is still shutdown). 3.03 The existing Eraemir proauction faciliies were estimated o pro at full production output about 552,000 tpy (495,000 tpy of finished products plus 57,000 tpy of ingots for sale). This is now revised sLgulIy to 521,000 tpy of finished products without any ingots. The project (Stage I) facilities at full output (95% operating rate) originally would have addea o,0u tpy of flat and semi-finished products (and an additional 171,000 tpy of pig-iron for sale" v-ul after tne scope changes woulu now auu only J74,UVu tpy of "lat products. The percentages shown for the actual and re-estimate allocates the first 521000 tpy of output to the then existing facilities and the balance to the Stage I facilities. The total finished product output of Erdemir from oth the ol as wel as the Stage I facilities is projected to reach the full production level in 1981 assuming that the raw material shortages are overcome. ins can oe consiaerea as a reasonably good possibility if foreign exchange constraints are eased starting in late 1980, assisted to some degree by the Bank's structural adjustment loans to Turkey. The past and projected total production is shown in Annex 3-1. B. Erdemir's Market Share 3.04 Erdemir is the only producer of flat steel products in Turkey. 1/ In addition to producing flat products from its own steel, Erdemir also imports some semi-finished flat steel products for finishing in its rolling mills although this practice will no longer be necessary once the Stage I steel-making facilities are in full production and Erdemir will have balanced steel-making and rolling facilities. The national consumption of Erdemir-s product line are shown below together with Erdemir-s deliveries (sales) and indicates a significant gap between consumption and Erdemirs sales in spite of the drop in demand associated with Turkey's present economic crisis. Erdemir Deliveries and National Consumption of Finished Flat Steel Products (in 1,000 tons) Erdemir Deliveries a/ From Erdemir's From Imported Total National Own Steel Semi-Finished Steel Flat-Products Consumption b/ Year Tons % Tons % Tons % Tons % 1972 557.7 70 85.7 11 643.4 81 797 100 1973 420.6 60 133.6 19 554.2 79 700 100 1974 545.4 59 205.9 22 751.3 81 920 100 1975 558.6 47 10.0 1 568.6 48 1189 100 1976 573.9 45 50.0 4 623.6 49 1273 100 1977 477.9 32 190.5 13 668.4 45 1508 100 1978 514.9 43 191.9 16 706.8 59 1193 100 1979 677.1 69 40.9 4 718.0 73 985 100 1980 (Est) 850.0 73 - - 850.0 73 1170 100 1981 & Onwards c/ 1130.0 - - - 1130.0 - NA - a/ Tin plate, cold-rolled sheets, hot rolled sheets. plate and skelp. It excludes intermediate products sold such as ingots, pig-iron and blooms. b/ Source: 1979 ERDEMIR Annual Report. c/ Projected. 1/ These types are tin plate, hot-rolled sheets, cold rolled shpptR nlate and skelp. - 31 - 3.05 Erdemir's sales have not been adversely affected by the deterioration in the.. Turkish4m cono.myn du.rin tc he pasFtfl two yemrs sin-o the declne m fin cns- tion was at the expense of imports, whose apparent share of consumption drpe ignfianl fro about,i 80,000 tons in~. 1911 to about. 267,0- tons .-,, n 1979. During 1979, when the manufacturing sector was operating at not more than an estimated JV/' u capacity, anU Uemanu LUL laL pouuts uuppeu sub- stantially, Erdemir's total steel output (including intermediate products for sale and finished products made from imported semi-finished material) was about 70% of its finished product capacity. 1/ This production was all sold, although transportation bottlenecks due to a diese1 fuel shortage have sowed the off-take from the factory during the second half of 1979 and early 1980. As the overall condition of the Turkish economy stabilizes and then gradually improves, a strong resurgence in demand is expected and the full production output of 1.1 million tons of finished products projected for 1901 snoula be easily absorbed by the market which had already reached a consumption level of 1.5 million tons in 197/ Dut had declined to about 1.0 million tons in 1979 due to the deterioration of the economy. However, potential demand is estimated to exceed 1.8 million tons from 1980 onwards. 2/ C. Prices and Production Costs 1. Prices 3.06 Because of the seller s market for steel in Turkey and steels importance to the economy, Erdemir's prices 3/ have in fact been set by the Government after taking into account the Company-s production costs and cashflow requirements for debt service and investments. Between July 1971 and June 1980 there were thirteen changes in the ex-factory prices of Erdemir s products; nine of these changes occured from 1975 to mid-1980 as shown in Annex 3-2. The price changes became effective in different months of the year and an annual average price using the arithmetic average of the prices prevail- ing during each month has been calculated and converted to constant 1980 TL or US dollar values in Annex 3-3 on the basis of the inflation indices shown in Annex 3-4. The Project Agreement required Erdemir to inform the Bank of any price changes before they were made effective and allow the Bank to comment. 1/ The rate would be 65% if only finished flat products form Erdemir's own steel production is considered. 2/ Short-term market dislocations associated with Turkey-s ongoing economic crisis are now becoming more serious, and the risk of temporary periods of market softness - and even cutbacks in Erdemir's shipments, cannot now be entirely ruled out. 3/ There is a production tax of about 20% of the net-of-tax price or 17% of the gross price, included in Erdemir's ex-factory price. The Government sets the base prices but adjustments or premiums for extras are allowed which would add from 5% to 30% to the base price. Thp intpntinn was to nrPvPnf Frdpmir- with its monnnopol nnaiti-n, t_oraise prices unreasonably higher than international levels and thereby inhibit the growth of thp dmPQtiP timnnt for flat- produc or thereby mask, Ineffi-C ciencies in production. While Erdemir has always informed the Bank of price channp hPfnro these wpro nhlicly announced, the Bank renally A4A n al, have sufficient time to comment since the time between the Government decision nd, the pubic n"nounceent was usually very short to avoid speculation. At any rate, Erdemir was not normally a party to the deliberations within the Go,vernment - nlnn, upcmng price chnges,on aalhorll - h 2Cmayintae.r4U-t for price changes whenever input prices were significantly increased. Nonethe- LI~ U- L I V LLUJ U __IL ULLIt=C~IbULU.LY higher than the landed cost of imports as discussed below and did not present A 1.-4~~, -.4- i-ho ,.. price, excluding the production tax, to be about TL 2,803 per ton of finished flat proAuct and TT 2,387 per ton of all products (incluig billets, ingOts and pig-iron) in constant 1971 TL after the Stage I facilities started opera- tions. ror cumparative purpues Lhee haVe Ueen LesLated to constant LTOU terms. Actual prices were higher in real terms by 20% to 45% than the appralsall m eTe actual prices until 1710 weLe oughly in-line with the CIF cost of imports, if the production tax was excluded; but even with the production tax, they were still Less than the cost of imports when the import taxes and charges are included. By the start of 1980 however, Erdemir's prices have been set significantly higher than the IF cost of imports, as Government economic policy attempted to allocate extremely scarce resources in the economy through very high prices. There has also been a change in the product mix with billets being eliminated and only flat products being produced. Flat products have a higher actual average ex-ractory price in real terms for Erdemir than the product mix originally covered in the appraisal report. This is shown below. - 33 - Product. Mix iand Ex~-Factory, Price~ wit$h the Projectr. Appraisal Estimate-1976 Current Estimate-1981 A -nua A- V* - -d LL Product Sales Quantity Price (TL/ton) /a Annual Quantity Ave. Ex-Factory 1 AAA 1 1 717r 100Amr 1 AA .n J.. /10A mT / I.1 / .L WVV ft 7 .L I Li .7 U V J I,JJJ Li ~ I rce M OLU III/ Lonl ac h' C C ~ r- A n A. C . A ~ 0 C0 1 7 A n en Olinl ILni P±lt U-).J V VJ4tJ -tu ,UIO 71 . V 7 07 ,O0J7 Uo±LU A.L.Leu Sheet 289.8 21 2,985 35,921 355.0 32 42,800 Hot-Rolled Sheet 209.0 15 2,407 28,965 430 39 37,5 Plate 10.5 13 2,0 32 494 1 170.0 15 39,698 Skelp 104.5 15 41: L I, IL4 :)D.U 3 i~4V: Sub-Total, Flat Products 869.3 03 L,100 D3L3 1,113.0 LUU 42,45U Billets 285.0 21 1,762 21,203 -- ingots & Pig-iron 228.0 16 1,583 19,049 - - TOTAL 1,382.3/b 100 2,387/c 28,724/c 1,113.0 100 42,450/c (US$373) (US$551)/d a Excluding production tax but including premium for extras. /b Based on full production output used in the financial projections equivalent to an operating rate of 95%. /c Average for all products and excludes miscellaneous revenue from by- products (TL 225.0 million in the appraisal estimate and TL 342.5 million in the current estimate, both in constant 1980 TL). /d This price is about 10% to 20% higher than present landed cost of imports excluding duties. Such comparisons are not very significant in themselves, unless based on longer term comparisons - since wide fluctuations in Turkish prices and prevailing exchange rates make spot comparisons of less value than long-term comparisons. - 34 - 2. Production Costs 3.08 As mentioned previously, there was a change in the Project's scope (i _- nrniduct mix and tntal tonnae at full nrdntion) and an eact fnmcnar- son of actual production cost and the appraisal estimate, making distinctions hbtween the diffarant affects nf channe In the 4ut- pice, the technIcal input consumption coefficients, the product mix and the total output tonnages ould be wery dIifficult. 1-lorur a sImple caro4n of --oduction cost per ton of saleable product would still be meaningful as an overall indication of costs at the time of appraisal versus present costs.* Such a cost Comparison is shown in the following page. Also, the reduction of about 19% in total saleable prdc tonnLage doe affc tLe fixe cos allot- __ on a- pe of product basis. A 31% higher actual employment level compared to appraisal stimates is however a significt . Lost WIacto whc UHA nydi tadlly CX plained by the shift to a more fully finished product mix. 1/ The production cost per Lon oi prvUUCI uuLug LeC LLt year U LUll plUUcLtiU Ls cUmaLU below after adjusting the appraisal estimate from constant 1971 TL to constant 10 TL trms. The comparison Indicates a 31% higher actual production cost per ton due to higher raw material and labor costs although the actual operat- ing prof t Lper ton of pouctL is lso muchL hLUighLLIer, UJIL 1II I the appraisal report. Finally, the operating profit margin has increased from 21% estimateuin the appraisal report LU 300o UUe LU Lhe highi aveLge selling price compared to the appraisal estimate. 1/ Fully finished flat products would be expected to require between 2 to 3 times as many man-hours per ton of product, as compared with billets. - 35 - ERDEMIR - Production Cost with the Project at First Year of Full Production Appraisal Actual or a Estimate2/ Expected Increase First year of full production 1976 1981 Average ex-factory price (1980 TL/ton) (Net of Production tax) 28-,724 42,450 48 Total sal-able products (1.000 tons) 1,382 1,113 (19) ta Anal R-n hilln 1on TLQ 39.70 47.25 19 Tons of coal per ton of product 1.192 1.208 1 Tons of iron ore per ton of product 2.021 2.043 1 Total employment per 1,000 tons of product b/ 3.86 6.30 63 Production Costs (in constant 1980 TI./ton) Raw materials 9.097 17.790 96 Labor 1,552 3,428 121 Other materials-& costs 3,718 3,780 2 Reserves for re-lining 830 953 15 sub-total 13,197 25,951. 71 sales 409 524 28 Depreciation 2,959 2,372 (40) Sul ----I 4JO Interest & other financial e:-penses _129 956 (70) Total productiOn cuSt l4,0 4,o J1 Operating Profit (1980 TL/t.n) (.030 12.647 110 Operating Profit as Z of St!lling Price (per ton) 21 30 43 Annual Operating Profit (billion 1980 TL 8.33 14.08 69 af AijuMd tU CULnDstan A9V A" from cUrstaHt A7 u5cu 4LA tlot ta" praisal Report by.dividing the Appraisal values by 0.0831 (i.e. price inflation index in Annex 3-4 ). / The total employment was estimated as 5,340 during appraisal. and the actual is 7,008 .for an increase of 31%. S/ Original cost was based on production or 3uu,00u tons of buaets int product mix. Cost per ton of revised (or actual) product mix wculd be higher. Other significant :hanges in production costs were dte to substantially higher energy co.sts (mainly,coal.) and also higher labor costs (both in employment cost per .man-hour and .in man-hours per ten produced). - 36 - D. Labor, Training, and Social Aspects 1. Labor 3.09 The Company's permanent work force 1/ at the commissioning of Stage I (sept. 1978) was 6,460 and reached 7 OOR hy enA of 1979. Those f4-rS are respectively 21% and 30% higher than anticipated at appraisal (Annex 3-5). operations in Stage II; however, most excess is associated with local employ- i1i~~1iL diiU LL~~u~ ULLLU practices.~. 4 UUA uLW~~ _L1J~ £_L L.LV± ably with other Turkish steel companies, which carry substantially higher work fULc 1 LL±UI LU £LuemiLr, Lor simL.Lar 'VLe Uk jLUUUL.Lpo U. L/ ImctuaI versus appraisal estimates of manpower are given in Annex 3-15. 3.10 Erdemir has taken effective steps to limit the growth of its work force - and has agreed with the Bank to maintain no more than 10% excess manning 3/ under the Stage II Project Agreements. 2. Training 3.11 Since its inception in 1960, Erdemir has been fully aware of the importance of recruiting, training, and holding the suitably skilled and specialized work force needed for efficient and continuous plant operations. The Company's original Articles of Association, and a special law, gave Erdemir some important rights giving it great flexibility in hiring practices, competitive salary structure and training programs, enabling it to attract and keep skilled tradesmen, technical and management personnel. 3.12 Although Erdemir personnel were well experienced in operating most plant facilities included under the project (coke plant, blast furnaces, BOF, most hot and cold rolling mills, utilities, maintenance shops, etc.) the introduction of the continuous casting operation, and to a lesser degree- the new semi-continuous hot strip mill, were entirely new areas for the Company. Also the introduction of many technological advances in the newly installed equipment made thorough training in theory, operation and maintenance mandatory. Such training was contracted and carried out on a well planned and systematic basis by initially sending teams of Turkish personnel to suppliers' shops and operating factories abroad which used the same equipment. That training was followed by training in Turkey, in the Eregli plant, by suppliers experts and specialized personnel of consultants (UEC and Koppers Co.). In some cases (i.e., continuous casting) highly specialized operating and maintenance personnel supplied by UEC were kept on the job for continued training and trouble shooting. Upgrading of skills such as "continuous computer programmed Blast Furnace Burdening" (charge control) was handled by foreign and local training, technical assistance, and also purchase of associated proprietary computer software. 1/ The temporary work force assigned to the Stage II project was 1,473. 2/ For example. the Iskenderun plant has a total work force of about 24,000 men, and a production capacity of about 1.1 million tons/yr. 3/ Based on manning tables prepared by competent consultants (UEC). - 37 - 3. Social Aspects (and Labor Relations) 3.13 Early in the Company's development, it recognized the need for adequate social facilities near the plant housing area in Ereg,L tU help maintain a content and satisfied work force - the bulk of which was recruited from the cities of Ankara and Istanbul. The Company has provided all basic necessary facilities for housing, health, education and recreation at or near the plant site. At very reasonaDle costs to the employee the Company has provided or assisted in providing a large number of comfortable and pleasant apartments, full time medical care (clinic/hospital), good quality schools and teachers, sports playing fields, social club houses, several restaurants, movies/ theatres, and other suitable services for company employees. Given the flexibility to pay reasonably good (competitive) wages, and good long range labor relations policies, the Company has had a relatively good record in Turkey for attracting and holding good employees, and minimizing labor strife, strikes and work stoppages. E. Environmental Aspects 3.14 At the time of appraisal of the Stage I project, consideration or environmental aspects of industrial projects was only beginning to get atten- tion in Turkey. There were no accepted government standards limiting air pollution or liquid effluents. Even sewage treatment was not developed in the region of the project, with sewage from the town of Eregli being dumped raw and untreated into the Black Sea. In September 1971 the Bank contracted two highly regarded specialists in air and water pollution to visit the plant site, and make observations and measurements of air/water pollution on exist- ing plant operations, and to recommend additional steps for analysis, and finally-adequate safeguards and equipment for environmental control in the Stage I project. The company gradually (and considering the prevailing situation in the area surrounding the plant-with some reluctance) accepted the Banks- recommendations, and developed some of the first water pollution control standards for Turkey, and subsequently installed initial facilities for limiting air, water pollution to acceptable levels based on appropriate covenants in the Project Agreement. 3.15 Some of the anti-pollution facilities installed in the Stage I project included: (1) Blast furnace and BOF cooling water recirculation system, cooling towers, sludge thickener, pumps, and chemical treatment system. (2) Hot mill water recirculation system, with scale removal, oil removal skimmers, filtration systems, cooling towers, etc. (3) Chemical treatment plant for electrolytic cleaning and tinning lines, pickling acids, rolling mill oils and mill scale. (4) Sanitarv sewage treatment plant - biological treatment plant. - 38 - I .1if Prillaitirn Printrril fnnili ti oc in ct-nl d u ndovr tho qtn oon TT nrn Aoot go further - with more restrictive standards and additional monitoring equip- phenol and amonia absorption; coke gas desulfurization, and sinter plant dust nF.l Fan nial Pefomac ad at fmetr 3 . 1. 17 TheLO. hitoi all %-_. "IJ f diil.l statemetsLL J JI.LI are shoLwnL in Annexes 3-6 and 3-7. Projections for the Company with the Stage I Project vut without Lue Stage T Projuect \curently veig executeu) are Uown in Annexes 3-8 through 3-10. The profitability of Erdemir during the period 1922 7 h nu veen satibfacCUry, W-LLI LILU excepionI LIi 71J wuIen pLUuucLIon declined by 14% below the 1972 level and the cost of goods sold increased by 5/. over that for 1972 in spite of the lower production volume. Tnis situation was compounded by the absence of any increase in the selling price between July 1971 and August 197/3, thereby resulting in a net profit of only 1.9% of sales revenue. This was however compensated by three successive large price increases of about 20-25% in August i7, 1ur.-20% in February 1974, and 45%-55% in November 1974. This gave Erdemir an unusually high profitability during 1974 with net profit at 19.9% of revenues. Net profit as a percent- age of revenues during 1975-79 ranged from 3.5% to 5.5%. Similarly the return on assets employed (net profit plus interest as a percentage of total assets) ranged between 6.3% and 7.8% during this period. 3.18 A comparison of the appraisal report financial projection for the first three years of operation of the Stage I facilities (1975-7I) with the actual and current estimated financial performance for the actual three years of operation (1979-81) is shown in the following table. The comparison reflects the effect of differences in production build-up, product-mix, production cost and selling prices and in general would indicate that at the full operating rate, the actual financial situation is more favorable than estimated during appraisal. This is mainly due to the higher valued product mix associated with the revised (actual) project scope. - 39 - Erdemir - Summary Financial Performance with the 11roject (Million of TL) Appraisal Estimate /a Actual & Current Estimate /b 1975 1976 1977 1979 19RO 19R1 (In 1979 TL) (In 1980 TL) (In 1979 TL) (In 1980 TL) Initial 3 years of Production Sales Revenues 24,712 55,212 55,212 14,882 36.946 47.589 Cash Operating Costs 13,924 30,068 31,267 13,698 26,843 31,612 Financial Expenses 2,293 5,208 5,674 1,218 1,444 1,065 Income Taxes 1,741 4,460 3,994 503 3,359 5,269 Net Profit After Taxes 2,932 7,335 6,772 641 4,226 8,067 Net Working Capital 9,133 25,958 30,784 896 4,176 13,173 Long-term debt 1,663 1,466 1,269 10,600 12,917 10,826 Net Profit as % of Sales 11.9 13.3 12.3 4.3 11.4 17.0 Debt Service Coverage 2.4 2.3 1.5 1.6 2.6 3.3 Current Ratio 2.1 2.2 2.5 1.1 1.2 1.8 Debt/Equity Ratio 78:22 72:28 66:34 80:20 65:35 43:57 /a Auc a JUL r IV aruu app raiVs Uesim dujULCU LUL Lil±dLLUH and restated in terms of 1979, 1980 and 1980 TL respectively to be comparable with ~ ~ ~ ~ J the..L.* aculrsit mdth urn rjcin . Th-e apptLOaJ XkUL projection is based on a 95% operating rate. /b Actual for 1979. Estimates for 1980 based on actual first quarter results and proiection for 1981 and excludes the Stage II project. 3.19 The financial restructuring of Erdemir was an important objective of the project. In general, the debt/equity ratio was to be improved over the long-term to 60:40 or lower although there was no specific time limit for this to be achieved. Thus, The Stage I Project Agreement stipulated that Erdemir must not: (a) declare dividends, except to non-founder shareholders, if the current ratio thereby falls below 1.8 or if the debt/equity ratio thereby exceeds 60:40; (b) incur new debt if the debt/equity ratio also thereby exceeds 60:40; and (c) make any other capital investments exceeding TL 25 million annually during the project implementation period or TL 50 million annually thereafter without the agreement of the Bank. To ease the otherwise heavy debt service burden of Erdemir during the crucial project implementation period, the Government and USAID also agreed, as part of the Project, to restrucureilrenedu.e some oil Uneir existing 'Lans to the company. In 191o, the financial covenants were modified by the Stage II Project Agreement. The new iatio oe60:t0 rloeri d uemi ut raitaif a1 lr himes, a dext equity ratio of 60:40 or lower and a current ratio of 1.3 or higher, except that Erdemir could still pay dividends to non-founder shareholders even iff - 40 - these ratios are thereby violated. In addition, the limits on other capital investments were changed to US$4 million equivalent annually during project implementation and US$8 million equivalent annually after project implementa- tion. Until 1978, Erdemir had essentially complied with these covenants. It was the (partial) non-compliance by the Government with regard to the cost- overrun financing that caused Erdemir to reduce its net working capital and thereby its current ratio below 1.8 during 1976-1978 (para. 2.16). Since 1978, Erdemir has been in violation of both the revised current ratio and debt/equity ratio covenants. The current ratio has only been about 1.1 and the debt/equity ratio has ranged from 75:25 to 80:20 during the last two years. These would normally indicate a serious and undesirable financial situation. However, as discussed below (paras. 3.20 through 3.22), there are unusual circumstances that make the situation somewhat less alarming at present than it would appear, although still potentially very risky for the next two years and therefore requiring continued close attention by the Bank. The table below shows the actual and projected values of some key financial ratios. Erdemir - Financial Ratios with the Project Debt Service Coverage Current Ratio /a Debt/Equity Ratio /b Appraisal Actual Appraisal Actual Appraisal Actual 1971 (Actual) 1.4 1.4 2.7 2.6 82:18 81:19 1972 3.4 2.7 3.1 3.0 81:19 80:20 1973 3.9 2.9 2.1 2.4 84:16 81:19 1974 1.9 2.2 1.9 2.5 82:18 75:25 1975 2.4 1.8 2.1 2.0 78:22 81:19 1976 2.3 1.5 2.2 1.4 72:28 82:18 1977 1.5 1.0 2.5 1.5 66:34 73:27 1978 1.6 1.6 2.8 1.1 59:41 76:24 1979 1.7 1.6 3.0 1.1 52:48 80:20 1980 (Proiected)/c 1.7 2.6 3.3 1.2 45:55 65:35 1981 1.8 3.3 4.3 1.8 39:61 45:57 1982 2.0 4.2 4.7 2.3 32:68 28:72 /a Current assets consists of cash, receivables, inventories and other assets. Cuirrpnt liahilitfes include customer advances. Ratio as of De. 31. /b Debt consists of medium term debt, long-term debt, and price regulation ane Qiihzitdi 71Jng finn liahilitipq (tJferrqls)_ Enitiv rnmnriq. nf capital stock, reserves and the subordinated, interest-free loan from the investment acceleration fundl (iuans i -Pqui Jty) R ~t-i as oq f Dec.31n /c Excluding Stage II. ~.)A .ti . .Ll -fiani, al-. per A 3frman~ce 'if E-.dt ia4. shoul be.VC.A ev al tedi w.it"t e framework of a somewhat unusual set of circumstances, namely: (a) the practice oi~~~~~~~~~~ %_LuUL U CILe .LIe.b ui~3.ULL LUL;.L%AJLL CtrC.LLL k-ULL.CUL LLLncUoUe, rather than to capitalize these expenses; (b) the practice in Turkey, to revalue fixed assets only to maten tue LuC&bC, Jn II tenms, in tue f0reign debt whenever the Turkish Lira is devalued but without any allowance for revaluing assets in general, and hence equity also, to reliect iuiatiou or replacement cost; (c) the high debt/equity ratio of Erdemir since its founding with a large proportion of foreign debt; (d) the substantial - 41 - devaluation of the Turkish Lira between 1972 and mid-1980; (e) the Govern- ment s practice of setting the Company's ex-factory prices; and (f) Erdemir-s strong market position as the only flat product producer in a sellers market. 3.21 In general, the Government has increased Erdemir's selling prices whenever cost increases or devaluations begin to significantly affect profits or when debt service coverage declines although a large proportion of the 1980 price increases were for country-wide economic reasons rather than due to Erdemir-s financial needs. It should be noted that Erdemir-s flat steel product selling prices must retain a certain premium over the non-flat steel products made by SEE's (due to higher production costs for such products normally in the steel industry). Because of the relative inefficiency of the SEE's, the non-flat product prices tend to be high, thus exerting some pressure on Erdemir's own selling prices which are set even higher by the Government to maintain the normal industry wide price premium of flat products over non-flat products. Thus, the fact that Erdemir-s net working capital has decreased between 1972 and 1979 and its current ratio has been below the minimum stipulated in the loan covenants, has not yet raised the risk of a serious liquidity crisis to a significant degree, especially since short-term bank borrowings were generally low and could always be relied upon to be increased in case of emergencies and more importantly, a large proportion (between 30% and 35%) of the current liabilities is in the form of customers' advances, which represented about 18% of annual sales during 1976-78. In 1979 customers advances increased to about 46% of current liabilities (30% of annual sales) because customers were insuring against quantitative restriction on imports and because a shortage of diesel fuel by the end of 1979 prevented deliveries from Erdemir warehouses. Customer advances, which are possible in a strong seller-s market, are therefore an important source of funds to the company; it forms part of current liabilities but represents a qualitatively different type of claim against Erdemir compared to accounts payable or short-term bank loans. It should therefore be treated in a different way than the other current liabilities when evaluating the current ratio. 3.22 The financial covenants concernine the current ratio, dividend limitations, and the limitations on other investments have helped the Company complete the Stage I Project by forcing Erdemir to conserve its financial resources during the early years (1972-75) of project implementation. These resources were eventually needed durina 1978-79 when additional external financing was extremely difficult, if not impossible, to obtain and Erdemir had to reduce its working capital further to help finance the project. Direct Government investment in the form of new equity contribution would have renuired a cumbersome narliamentarv nrocedure to increase the authorized share capital of Erdemir. The restructuring of the Government's and USAID's loans as nart of the nroiect was very instrumental in nroviding financing for the project and was also a substantial form of financial assistance to the Comnanv. Had Erdmir not hpn forced hv the financial rnvenants to follow prudent practices in the early years, the Company would not have been in a nnci tinn, tn n MA n liniiiditu~ rrici.q iinde-r tho rprpnt- diffirliltt Prnnnmir conditions. As the current ratio in particular is intended to protect the rnm-n-t,,'a 14-4,,44tl,17~-t,t,,,n.~e, _+rnm~ chnrtf.11ac in onch inflnow or large cash outflows, it can be concluded that the current ratio covenant has very low and leaves no room for further reduction. This ratio can potentially imDrove ravidly as production from the Stage I facilities reaches high levels starting in 1981. But it could also deteriorate even faster if the expected high production levels are not achieved as needed to cover the large capital outlays for the Stage II project that Erdemir must finance from its own resonrces in 1981 and early 1982. The Bank should therefore ensure that Erdemir and the Government put strong emphasis on achieving high production rates from the Stage I facilities very quickly. In addition, Erdemir must continue to keep its dividend payments at the minimum and avoid all other inuetments not included in the Stage II project scope in order to help build-up its current ratio to the minimum level required. 3.23 Finally, the practice of not revaluing assets in general (except o match a revanation of fnrpion debt) and eauity in particular has under- stated equity relative to foreign debt, which has been revalued in TL terms with each devaluation nf tha Tirkih Tirq. Since a large Droportion of Erdemir's debt is in foreign exchange, the debt/equity ratio of the Company appears much higher than would other.iSe he the case if a system of price level adjusted accounting or indexing were used. Thus, in evaluating the effectiveness o thIe debt/11eq u 4ty ram-tio- cove nan t, one musqt be careful to apply an appropriate accounting framework or measurement system for equity. Had ,-A&M,4,u sed a oricelai adiuted arrount-inf zvtem for ourDoses of valuing both equity and debt, then the debt/equity ratio would be roughly 60:40 or even lower at this time. At any rate, the debt service cov rage ratio has been satisfactory, exceeding 1.5 at all times except during 1977, the year the Government finally provided the TL 1.2 bil1ion of inte-rpst free. long-term loan (para 2.16). The debt/equity ratio is intended to keep the debt service coverage manageable and the stake of the project sponsorS menngnful. However- the medium and long-term loans can vary widely and it may be better for covenants that are linked, that is, a higher debt/equity ratio (e.g. 70:30) may De periLUtte f the proj ected debt service coverage ratio is still hiogh (e exceeds 1.5) and the risk of this ratio falling significantly below this level is low. Revaluation of equity should also be allowed for purposes of the debt/equity covenant. 1/ 3.24 The actual and re-estimated incremental financial cost and benefit streams for the rate of return calculation are sUwn in AnnexeS 3- and q-1 based on the actual prices and costs in 1980 and estimates for 1981 (Annex 3-13) which were used in the projection (1981 onwards) of operating costs and benefits. The financial rate of return is 16% before income taxes and 10% after taxes. The appraisal estimate was 21A before income taxes. Ine lower return is due to the project delay and higher capital cost, which was not fully offset by the somewhat higher (than the appraisal estimate) net benefts 1/ The Bank's return on asset covenant in other projects requires or allows asset revaluation for purposes of that covenant only. No similar provi- sion applies to the debt/equity covenant. It should be noted that when the project was appraised in 1971, the high rates of inflation and sub- stantial devaluations of the lira during the second half of the 1970s could not be anticipated and price level adjusted accounting concepts were not yet popular. 43 - from operations arising from the higher-valued product mix and the more favorable price/production cost relationship compared to the expectations in the Appraisal Report. G. Economic Rate of Return 3.25 The landed cost of imports have been used to arrive at the economic value of Erdemir's incremental production from the Proiect (Annex 3-14). The weighted average economic product is about 15% less than the financial price. The expected long-term price of imported coal (US$75/ton delivered) 1/ rather than the average financial price of US$127/ton has been used for the economic price from 1981 onwards of both the imported and the local coal even though the local coal is of lower quality. No adjustment has been made to the financial price of the local iron ore (US$41/ton) as this is about the same on a unit cost of contained iron as the delivered price of Erdemir's ore imports (11RAW9/ton nirchased on thp Rnot market on 6-month financing 2/). Thp intpr- national price of fuel oil (US$170/ton delivered) has also been used for the pronomir qnq1v.qiq rAthpr than thp financi;al nri r- of TRS526/ton Whirh inclmd. taxes. The economic production cost structure of Erdemir with the Project is nlQn chnmn in Annex 3-11. The inrrPmPnt1 Pronomir nnqt nnd hpnpfif streams are shown in Annex 3-15. The economic rate of return is 15% compared to the ..f- Tlo v-18%. The n ic elia mminlu ton the hicyh,r nnif-nl investment and the long delay in project completion which were only partially offset by the shift In the nAuen-mr t1 hicher ut-, o IV. THE BANK-S ROLE Laton L D i d11 a xpaHiu.Lui LlIh maret udmanu for fLaL prouutso between 1965-1970, Erdemir and USAID initiated various technical/economic studies for the expansion of Erdemir's existing facilItIes. at the end of that period. Such studies were conducted by ARMCO, Koppers Co., John Miles, TT TO C., 1 /TTrr, anu d OtecAfu ve -+. . iji ULLt: UbL IUUL LL=L0.LV-_ OLUUy -M l.fY~ - - 6 - and Consultants (UEC) in 1970 and revised in 1971. That study became the DaSi sUL LIle D i anls p rojU. ct:Eruemir' ge Ean Sage !I was 1/ At present (1980), the actual cost of Erdemir's imported coal is US$86/ ton (delivered, without auties) and reflects purcases in the spot market of small quantities on short-term credit terms and is not representative or long-term internaLional prices. 1 dl ecUUUmiU piuce of US$86/ton is used for coal from 1981 onwards, the economic rate of return drops to 14.6%. 2/ This price may reflect a premium being paid now by Turkish firms (Erdemir) to obtain financing. - 44 - also defined in general terms at that time, but arbitrarily phased separately, due to financing restrictions, and also the desire to confirm and verify actual market growth rates. The scope of the Stage II project was later changed upon recommendation of the Bank. Appraisal 4.03 The Bank's role in organizing and developing financing for the project was important - both USAID and US Exim Bank agreed to participate in the project on the basis of the Bank's appraisal. Thus the Bank assisted Erdemir in coordinating the lenders, and obtaining needed financing for the project. In addition, the Bank was instrumental in causing the Government and USAID to restructure their loans to Erdemir, by extending the grace periods and deferring (accruing) interest payments during the estimated construction period. These proved to be important sources of funds for the project. The Bank also was effective in convincing Erdemir of the need and justification for long term (5-year) technical assistance arrangements with an operating steel producing firm, for both ongoing operations, and for the proiect itself. Supervision 4.04 One of the key Bank roles during the initial Period of project implementation was the recognition that the demand for flat products was growing much faster than anticipated during the appraisal and therefore worked with Erdemir to change the project scope. This has contributed to an economic- ally viable project in spite of the longer implementation period and hieher capital cost than originally estimated. The use of the Bank's procurement procedures (for approximately 60% of the foreign exchange purchases under the project) also assisted Erdemir in obtaining relatively favorable prices for its maior eauinment nackages (Daras 2.21-2.23). Other efforts hv TRATD) and the Bank resulted in Erdemir signing a large scale (overall) freight contract for thp nroient- thprphv realizina snhRtantinl rpdictionns in frpight costs for imported goods (as compared to Conference Rates). 4.05 Although substantial delays did occur during project implementation, the Pffnrtc nf the BnkV- aaspinllv at promoting mre rpeffecttivep teionr making on project matters at the management level (as opposed to the level of the Bonard of Directors) helped to reduce delays ton ome degree the importance of installing pollution control facilities, and related monitor- ing procedures anU operating practces~. 4.Vi Although covenants required by the Ban nave not Ueen fu.ly compied with (especially financial ratios) during the last few years, the financial discipline introduced by these covenants during the earlier years made it possible for the Company to avoid a liquidity crisis in the last few years when economic conditions in the country were very difficult. 4.08 Since appraisal, the Bank has devoted over 130 manweeks to super- vision of the project. Discussions associated with the Bank supervision and Company management, Government authorities, consultants, and others (including - 45 - suppliers) have generally been regarded as most positive by all those involved. This may be one of the reasons why Erdemir requestea the Bank to participate in the Stage II project, and also in its longer range planning for Stages III and IV. 4.09 Recent discussions with Government officials, during Turkey-s foreign exchange crisis, have been helpful to Erdemir in obtaining needed allocations of scarce foreign exchange for urgently needed spare parts, operating supplies, and raw materials - and especially, coal and iron ore required to support higher plant operating levels. Recently, the Bank has allocated part of a structural adjustment loan for Erdemir's iron ore imports. B. Lessons to be Learned 4.10 Organization and Implementation: The organization and development of a major expansion project, even by a company with several years experience in overseeing construction of their original plant 1/ and actually conducting continuing operations in that plant, (built in 1965) requires more full recognition of the additional workload, manpower, and organization required, to carry out timely and effective decision making, and the large number of complex and inter-related tasks associated with a major project. The complexity of that work was not fully recognized by those responsible. The lesson here is that operating companies, even those with experience in constructing their own original plants, still need major technical assistance to implement a major expansion because of the extreme complexity of the combined responsi- bility of operations and construction. Although the proper blend of company/ consultant responsibilities (i.e., one that fully recognizes the importance of local attitudes and pride, yet also provides technical competence needed for fully efficient implementation) may be difficult to achieve in practice, actual (functional) responsibilities of each party should be more clearly defined In future proiects. This matter was handled more successfully in the Stage II project. 4.11 Frequent changes in management since the start of project implemen- tation (1971 un to the Dresent) also had an important adverse effect on the efficiency of Erdemir's project management. Erdemir has had eight presidents since 1972 and several changes of key personnel in the project management team. Continuity of a capable top management team would have been much more conducunv tn rlpr dpfinition of management resnonsibilities, and effective seeking and taking of responsibility. Project management could have more rs vily daulnnPd thp "tnkp charpp attitude" often needed for prompt action. A faster rate of decision making could have resulted - with corresponding avoidance of delays in takina nppdpd nrtion and carrving out phvsical com- pletion of the project. In this case, the existence of such "local conditions" S1_flfl',t A. ihe hafve be-.t --i'-A mor fully af a-rin (.n nrntr scheduling adjusted accordingly) and/or more adequate additional corrective mechLLanism should hav been4 4-1-A. 4- t-i nrnin-- nnamit- nrani7q---nn to avoid - at least to a large degree - the impact of likely management were more in the role of observers - without actually taking charge of the project. - 46 - inqtnhility. Stahility of management is very imnortant. But under prevailing conditions the Bank could not prevent frequent changes; nor did it take erme measures - such as loan snnionn - when thp inqfAhilitv hpnnTmp ton frequent. In spite of frequent formal and informal discussions with Government O-ff4 iCJ .1 (M4 -,4 J-,-4 .. n P4 - , n- TnA, afT-rN~ tlio Rmnle e-r%i Il A ne%t rc.A,lno thgn frequency and impact of politically motivated changes. In special cases of high poliica risk 4- ..1 - , Mo- 4M14 4-xr rv, im,ilamntr,t-4t,i, tj i0f] A , riranf tri the engineering consultant/contractor. 4.12 Technical Assistance: Prompt access to the full know-how of an efficiet operat.ing, ste company in mattersO o,.: *"l pln design andOfacility planning, and (2) modern operating practices, is important for quick resolu- during project implementation and startup. Technical assistance arrangements for Erdemir have been successful for implementation and operations. Adequae arrangements for technical assistance should be made a condition for steel projects under similar conditions. 4.13 Steel Selling Prices: Although covenants on steel product seinag prices heve been difficult to enforce in practice in the case of Erdemir, 1/ they did facilitate prompt communications between the Company and Bank on The subject of prices, and they also promoted discussions on appropriate product selling prices, costs of major inputs (coal, ore) and related concepts, between the Government and the Bank when needed. The Governments policy on Erdemir's steel product selling prices has Deen relatively favorable fU the Company. 4.14 Financial Covenants: Financial covenants with Erdemir proved very helpful although the determination of the critical values of the financial ratios should have taken into account the unusual position and practices of Erdemir as well as the accounting framework within which the ratios have to be measured. The covenants must preferably reflect price-level adjusted accounting concepts. The Bank should request the borrowers (or their auditors) to develop such a framework in the near future. 4.15 The financing/foreign exchange allocation covenants with the Govern- ment for the provision of funds/foreign exchange needed to complete the proj- ect as well as to import critical raw materials, have only been partially helpful because of the unusual Turkish economic conditions (foreign exchange crisis and severe Government budgetary constraints). This has prevented imports of materials needed for normal project start-up and caused delays in the final payments to some foreign contractors due to foreign exchange constraints. 1/ In order to avoid excessive speculation by steel pu*chasers in Turkey on upcoming price changes, communications on this matter with the Bank had to be done on a highly confidential basis, usually during a super- vision mission, or during short periods when shipments of steel products had been temporarily halted pending changes in steel selling prices. - 47 - 4.16 Private Legal Status of Company: Probably one of the most important covenants nromoted and maintained by the Bank was the one under which "the laws setting up Erdemir, or its Articles of Association are not to be amended" to qllow erdpmir to rontiniip aq q nrivat- Pnternrise. Erdemir-s orivate status - and its exemption from laws that govern State Economic Enterprises in rpeard to ra1ariP_ nirrhaqing staffinc> Ptr. have nroven to he very important in avoiding problems faced by S.E.E.'s and keeping Erdemir a viable ont,ernrica Tho Rank chemild t-h,rPforP Pn thivrc- t ny nmPndTmPnt- to ?rdPmir'c founding law, such as an increase in its authorized share capital (para 2.16) is not accompanied by other changes lim-ting the nrivate~ cantnr cf-nf-,,a n-f V A4ir. 4+17 - -ut - oCaa -' - Loa Contractors- Whenever posbe the likely capacity of local contruction firms should be assessed realistically delays resulted from the selection of inadequate local contractors. 4.18 Reporting and Supervision: Adequate information systems for both .LL m m entat~LLL.iJI anU UFJjJCLingLL pLLasesO were U=V=.LIpC_U eoCLLy 4.! LLIr- JJLVJ=%ct life. Adequate reporting requirements for the Bank, along with a construc- tive company atLtuue on reputing, andu a good, complte reputig system fuL both construction and operations, greatly facilitated effective communication between the Company and the Bank. Continuous supervision by USAID and the Bank played an important role in improving project performance. 4.19 Social Infrastructure: The key element which influenced the per- formance of Erdemir was its aD111ty to attract and retain a permanent core of interested and capable middle management personnel for the implementation of the project and ongoing plant operations. Reasonably good working and living conditions, and adequate social infrastructure, mainly provided by the company, were important in assisting Erdemir to attract and maintain the needed personnel for achievement of its goals. Special attention should be given to the availability and the development of the social intrastructure if a project is to be located in a relatively small town or remote area. Industrial Projects Department September, 1980 - 48 - ANNEX 1-1 TURKEY - ERDEMIR STAGE I PROJECT ERDEMIR SHAREHOLDERS Shareholdine in TL Million As of Dec. 31, 1970 As of Dec. 31, 1979 Foindpr Sharpholders TL Million %. TL Million 7 Rqrihuk a/ i 300 29-7 153.00 75i5 Sumerbank -/ 153.00 29.2 153.00 25.5 Konnprq A.qnrintpq (7rich) 98.99 1RQ - - Turkiye IS Bankasi 0.30 0.1 5.01 0.8 Ankara Tiraret Ve OAni 019 0_1 0.5 0.1 Sub-total 405.29 77.5 311.51 51.9 ~No-FoundeA.r S hrholders Turki-sh Priva,t-e r_-tonr b/ In7 QA q0-A 9AR LQ LA 1 Foreign Sector 9.97 1.9 - - Sub-total 117.93 22.5 288.49 48.1 Total Paid-up Capital 523.22 100.0 600.00 100.0 UnLiss~ued Shre IU.1I Total LtUL1ILULtU %U.L.LUVU.VV - UUU.UU a! Government shares held by State Economic Enterprises. The joint voting power of the Karabuk and Sumerbank shareholding is 51.5%. b/ Mostly held by Institutional investors (e.g. investment and commercial banks and Erdemir employees pension fund) and a very small proportion of private individuals. Industrial Projects Department September 1980 - 49 - ANNEX 1-2 TURKEY: ERDEMIR STAGE I PROJECT CHANGES IN ERDEMIR PRESIDENTS AND TERMS OF OFFICE Name Period Profession Suat Yelkin 1966 - Dec. 14, 1970 Engineer Metin Iplikci Jan. 5. 1971- Dec. 31, 1973 Orhan Acarlar Jan. 1 - Nov. 8,1974 SuDhi Yavasca Nov. 8 - Nov. 15, 1974 Suha Somer Jan. 22, 1975 - Dec. 10, 1976 Lufti Orzucu Dec. 30, 1976 - Jan. 1. 1977 Turam S. Gungen Apr. 4. 1977 - Apr. 17, 1978 Businessman Tugri1 Aktutay Anr. 17. 1978 - Aor. 15.1980 Engineer Minftr Tiiy Anril 1980 - Present LLUU, 1 rjects uep&LLLLUtLL June, 1980 - Do - ANNEX 2-1 Pna.g e 1 TURKEY: ERDEMIR STAGE I PROJECT DETAILED LIST OF PROJECT FACILITIES-AT TIME OF APPRAISAL 1. Dock facilities - one additional unloading tower, 1,000 MT/hr capacity and related modifications to conveyor systems. 2. Raw material storage - expansion of storage capacity to assure continuous operations at higher plant operating levels. 3. Coke battery, 85 additional ovens, by-product recovery equipment. 4. One additional blast furnace, 29-6" diameter. 5. BOF facilities - 3rd vessel, 95 MT, related support equipmente 6. Oxygen plant - one additional column - 200 MT/day capacity. 7. Lime kiln - one additional kiln - 225 MT/day capacity. 8. Continuous caster for billets - 300,000 MT/yr capacity (sizes 3" x 3" and 4" x 4"). 9. Primary mill improvements - second soaking pit crane, 25 MT capacity. 10. Plate finishing facilities - relocate 156" shear; new normalizing fur- nace - 45,000 MT/yr; rotary shear facility - capacity 1" thickness. 11. Hot rolling mill facilities - semi-continious 66" hot strip mill, 2 slab reheat furnaces (130 MT/hr), edgar, scalebreaker, rougher, 6 four-hi-finishing stands, downcoiler, etc. 12. Pickling facilities - one additional sulfuric acid pickle line. 13. 4 stand cold rolling mill - double mill speed and horsepower, with additional motors and gearing changes. (Addition of 5th stand is under review.) 14. Annealing furnaces - 6 single stack radiant tube furnaces, 18 bases; related atmosphere gas generating equipment. 15. Temper rolling mill - one additional 4 hi-single stand temper mill. 16. Cold rolled sheet shear line - one additional cold rolled sheet side trimming and shearing line. (Suitable for ligher gauges and heavier coils than existing shear line.) 17. Power house facilities - new 3rd and 4th boilers, 2nd turbo blower, 3rd turbo generator. ANNEX 2-1 Page 2 18. Utilities - expansion of general plant utilities - water, electricity, compressed air, etc., supply distribution. 19. Plant services - transportation, shipping, material handling, main- tenance and service shops and other necessary plant support functions will be augmented as required. June, 1980 - 52 - ANNEX 2-2 Page 1 TURKEY: ERDEMIR STAGE I PROJECT POJrT BArnUnN nD, rCRTPTTON OR.TFCTTVFS AND CHANGES TN SCOPE Erdemir was officially established as a company on May 11, 1960, W,Ih a capacity of 470,000 ingot tons/year to proeinep th fnllnwincr flAr qtppl products: - Plate - Uot Rolled Cheese - Skelp - Tin Plate Equipment for the mill was supplied by Koppers Associates U.S.A. Koppers also provided design, engineering, and assistance in construction management. The Erdemir plant occupies approximately 4 million square meters of land near the community of Elregli, on the Black Sea. Eregli is located about 200 kilometers east of Istanbul and 190 kilometers north of Ankara, which is the headquarters city for the company. Foundation work was completed towards the end of 1963. The coke plant started test operations in September 1964, and the Blast Furnace started up in February 1965. On May 19V the formation phase ended and integrated production started. The plant initially had the following capacities by facility units: Initial Capacity Coke Plant 435,500 tons of coke Blast Furnace 440,000 tons of hot metal Steel Making 470,000 tons of ingot Rolling Mills 378,000 tons or tinisned product In addition to these main units, a powerhouse, shops, laboratories, harbour facilities, and a dam were constructed. In total, formation of the plant necessitated a 2.3 billion TL investment. An Interim Expansion Program was started in the middle of 1969 and completed at the end of 1971. The most important part of the expansion was the revision of the blast furnace. The construction of the sinter plant started in July 1970 and was completed and went into start-up operation February 1972. The major additions and improvements during this period, given below increased the liquid steel making capacity to 830,000 tonnes per year. - 53 - ANNEX 2-2 Page 2 1971 Interim ("Truncated") Expansion - The size of the blast furnace was increased from 8.5 meters to 9.0 meters, - A 1,250,000 tonnes per year sinter plant was constructed, - The slab storage yard was extended, - Additional coil annealing furnaces were provided, and - The capacity of the tinning line was increased from 55,000 +I--- Q0-10-0-0 -onn.e-a rn r Year. - A seon oxygn plant of 200 tff onnes -- A."x fonnnofi t-X7 .n installed. A further comprehensive study by US Steel Engineers and Consultants of~U Pitbug formedL~I theU~ basis U OO W LLLe k-J- designated as Stage I of the Company's longer range expansion program together withI additional woringL capitlL was siae to±~L~ cos LU!$90". millon xcldin interest during construction of which US$181 million was foreign exchange. Project completion was scneueu fOr 197. 1he UEC stuGies inOicaLed haL Erdemir b sexpiMLLSin wa 4uumIa y justified, but that it required a major restructuring of the company-s existing heavy long term debts to provide an adequate UeoL SeLViCe cUVe-ag(eC, wae the same time permitting Erdemir to charge reasonably competitive selling price. The World Bank mission appraised the project in Turkey in April and September 1971. Credit negotiations for foreign financing of the Stage I Project of Erdemir with USAID, the World Bank and the US Exim-Bank were finalized on April 28, 1972, and three separate agreements were signed between these institutions and the Government of Turkey. Engineering and construction began in 1972. The project (Stage I) involved an approximate doubling of key facilities and included the following major additions: Stage I Expansion, New Facilities - ( Ihe Project") Description Capacity 1UUU tons/year 1 - Additional All Coke Oven Battery, 85 Ovens 570 2 - No. 2 Blast Furnace 827 3 - Third Oxygen Steel Vessel 900 4 - Billet Caster 300 5 - Semi Continuous Hot Strip Mill 1,300 6 - Cold Reduction Mill, Related Facilities 660 7 - Utilities and Services - - 54 - ANNEX 2-2 Page 3 Apart from the increase in capacity and improved economies of scale, the proiect provided the following major benefits to plant operation. a. Operating advantages throuRh increased capacity of the existing "combination" slabbing plate mill when producing slabs for the new semi-continuous strip mill instead of reducing them further for the steckel mill b. Quality improvements from the capability to produce coils of lighter gauze with closer tolerances and hetter surface, and the production of plate through a new normalizing furnre C. rpantpr anprntina security and fl,v-ility thronah the second blast furance, additional finishing facilities and freeaing oNf the combnination mIll for additionnl platen production Project Objectives (including changes in project scope): Process and Product Changes (Billet Caster & Slab Caster) At the time of project appraisal in early 1971, the plan for Erdemir's capacity of Erdemir's Eregli plant. That was to be accomplished by addition 6-LI -' - UMJIL L WOOAl. V _00O %A%J: U'.J L t-1.1 LIC 04_ _ L UC&r.LL6~ Z)L%jp 'ILLu additional primary product capacity (coke, iron) to support the expanded steel L_ks Of g 101n,te pojecteuduetcmre eautrls te t~ 0. JI, il ~UJLU UUR:!5L.C UU1L&t_L UCLUwILL LUL ILUdL 5Lte.L products in the late 1970's would not fully utilize all of Erdemir's addi- tional steel making capacity for flat products. As Stage I was originally conceived, there would have an apparent "excess" steel-making capacity of approximately 3u,uu Lus/year - tonnage which could be utilized for making steel billets which were expected to be needed by the Turkish economy at the time of project operation. Thus, the continuous billet caster (capacity 300,000 tons/year) was included in the project description as a somewhat temporary measure to utilize excess steel-making capacity for 3 to 4 years, to help fulfill market requirements, and to generate cash for the company. Under the original plan billets were to be produced at least until Turkeys demand for flat products required the excess steel to be converted to flat products, which is Erdemirs regular product line. In mid-1972, it became apparent that market demand for flat products in Turkey was actually increasing at a more rapid rate than anticipated at the time of original appraisal of the project. Therefore, in early 1973 the Stage I facility plan was re-analyzed in light of latest market growth data, and the plan to utilize the billet caster for excess steel was dropped. Increased market potential for flat products made it advisable for Erdemir to concen- trate on production of higher tonnages of flat products instead of billets, and therefore to substitute a continuous slab casting machine for the billet ANNEX 2-2 Page 4 caster. It is interesting to note that the state of the art in 1971/72 was qi1rh that slab producrtion uiicng t-h, rrmjt-innicznQ1-in(y nrnrcP.q wn. e-n.QidPrPr1 (at least by US Steel Corp - Erdemir's technical advisor) as relatively new, and a still develoning technolo. 1/ (U Sat ls nrecnt nliy hnwever is that it will not build any more slabbing mills; all new facilities will be based on continuous csig The capcit of the first- si4ngle-strnd slab c.-.tin. ma-neewa- set at 600,000 tons/year which at that time was in the higher limits of caaity of J. av ailalO4e equipment; effots were made WOIo maimz theLUL.0 . amuntL, o.J steel to be processed through the continuous casting process in order to achie..0ve C.~ wel csaul) .LLOL and aimp Ljort anit, conoiesI.0 of operA.atonL, igh61 yilds,U energy savings, etc. Hot Strip Mill During bidding for the strip mill -- under US Exim Bank procurement proceuures -- iL became dapppafe Luat suUtantial adultiOnUal capacity (6o) could be built into the mill (1st phase/semi continuous configuration) at very little additional cost. For that reason, and also the more rapid market growth for flat products than originally anticipated, the larger capacity hot strip mill was selected. Cold Strip Mill By addition of greater horsepower in the main drive motors, gearing changes, and the addition of a fifth rolling mill stand, as well as improve- ments in coil handling, the effective capacity of the tandem cold rolling mill was increased about 14% above original design capacity for Stage I. Substantial improvements in product quality also would result, mainly from addition of a 5th rolling mill stand, which was only tentatively included in original plan. Most of the scope changes listed above had been considered as tentative project modifications in 1972, as mentioned in Section 3.08 of the Appraisal Report. Lender involvement - Scope Changes The Bank was involved at the earliest possible stage and partici- pated in the evaluation of the changes in project scope; approval of all lenders was sought and received by Erdemir prior to acceptance of any significant scope changes. 1/ In fact, US Steel Corp had some degree of reluctance - at that time - to advise its foreign clients to immediately adapt continuous casting on a large scale, for all flat products; that reluctance explains some of the delay in finalizing the decision on the slab caster. TURKEY: ERDEMIR STAGE I PROJECT ACTUAL FOREIGN EXCHANGE EXPENDITURES (By Facility Item and by Source of Fund in US$000) Country of US EXIM BANK, CITIBANK and Faciliy Item Contractor Org IBRD SUPP. CREDITS USAID TOTAL Indirect Expen. 53 11,775 5,235 17,063 General Utilities 18,805 5,855 14,368 39,028 Oxygen Plant Mitsubishi Co. Japan 2,459 1 2,460 Coke Plant, :By Product Woodhall Duckham England 9,923 6 9,929 Facilities Ltd. Raw Material Handling OKURA Co. Japan 1,540 5 1,545 Blast Furnace Marubeni Co. Japan 18,066 495 18,561 BOF Facilities 23 7,114 7,137 Rolling Mill and Wean-United USA 44,59:2 12,714 61,050 - Finishing Facilities Aetna Standard[ Ozk9sooglu Turkey 3,744 Continuous Slab Casting Schloemann Germany 11,219 11,219 Siemag A.(G. Power Plant Foster Wheeler Italy 9,428 12 9,440 Lime Calcining Erdemir Turkey 10 10 SUB TOTAL 75, 260 62, 222 39, 960 177,442 Additional Suppliers 2,064 2,064 Credit IBRD Commitment Fee 740 740 AID Interest 40 40 GRAN'D TOTAL 76,000 64,8640 20 180,286 Industrial Projects DepartmentL August 1980 - 57 - ANNEX 2-3 DETAILED LIST OF PROJECT FACILITIES - AS ACTUALLY INSTALLED 1. Coke Plant consisting of eighty five (85) oven in one battery and by- product, recovery equipment with a production capacity of about 570,000 tons coke per year. 2. Blast Furnace with a nominal production capacity of 2,800 tons per day corresponding 1,000,000 tons per year. 3. Third converter of 95 tons same as the existings in B.O.F. Plant doubling the capacity to 1,500,000 tons per year. 4. Continuous Slab Casting Facility with 600,000 tons per year capacity. 5. Calcining plant with capacity of 200 tons per day same as existing one. 6. Ship Unloader with a capacity of 1400 tons per hour. 7. Slab Reheating Furnace (pusher type) with a capacity of 318 tons per hour. 8. Semi-Continuous Hot Strip Mill with a capacity of 2,000,000 tons per year permitting for alteration to full continuous. 9. Plate Normalizing Furnace of 45,000 tons per year capacity. 10. Pickling Line with a capacity of 500,000 tons per year. 11. Tandem Mill, addition of fifth stand increased the capacity to 750,000,000 tons per year. 12. Temper Mill with a capacity of 355,000 tons per year. 13. Cold Roll shear line with a capacity of 155,000 tons per year. 14. Oxygen Plant with a capacity of 200 tons per day pure oxygen. 15. Power House facilities including, 30 MW Turbo Generator, two new boilers, and one turbo blower. 16. Additional Service Wate Facilities in order to increase the fresh water capacity to 1.4 m per second, and water recirculation system. 17. Other utilities includina Ras and power distribution systems, dock extension, load out cranes, warehouses, service buildings, etc. Industrial Projects Department June, 1980 - 58 - ANNEX 2-4 TURKEY: ERDEMIR STAGE i PROJECT IMPLEMENTATIn_ SCHEDULE (Release Dates and Start-up Dates) 70 1 '7 !15 F'70 "I72. 73 7 7 '6 7 '78 79 &D COKE OVERS MNTMUCUS SLJ CT ER NOTE-CHANGE IN SCOPE S!a? REIEAT FURZ>.E HOT STFJF NLL PLATE NO~AlZI1,G F RCE. { TMDEM MiLl ALTER TEfL MILL C71 CoD OLL S1ARLi~ 1J OXYGEN PLANT P owEA NouIsE1 1 1 Industrial Projects Department ^APRAISAL ESTIMATE August, 1980 , ACTUAL (CONTRACT DATES ARE USED AS RELEASE DATES) - j9 - ANNEX 2-5 TURKEY: ERDEMIR STAGE I PROJECT LIST OF EXCHANGE RATES, 1972-1980 Year US$1.00 = TL 1972 14.00 5/1074 13.50 9/1974 13.85 /1975 14.00 7/1975 14.25 0/1075 1/. 5A 10/1975 15.00 3/1976 15.5U 4/1976 16.00 3/1977 17.50 9/1977 19.25 3/1978 25.00 4/1979 26.50 6/1979 47.10 1/1980 70.00 4/1980 73.70 6/1980 77.00 Industrial Projects Department June, 1980 TURKEY: ERDEMIR STAGE I PROJECT MAIN CAUSES OF LOCAL COST OVER-RUN (In Million TL) Cost Over-run due to: Increase Total in Volume Price Actual Cost Plant Facilities Original Budget: of the Work Estimating Error Escalation 31.12.1979 1. Coke Plant 39.979 6.678 - 53.775 100.432 2. Blast Furnace 59.038 - 30.327 111.236 200.601 3. B.O.F. 21.236 52.573 - 135.568 209.377 4. Continuous Slab Caster 12.876 44.953 - 123.081 180.910 5. Ship Unloader 3.881 - (654) 3.948 7.175 6. Raw Material Handling Facility 7.560 16.532 - 56.231 80.323 7. Lime Calcining Plant 19.012 - (10.047) 8.881 17.846 8. Hot Mill and Cold Mill Facility 194.605 95.712 10.337 439.188 739.842 9. Oxygen Plant 13.821 - 2.607 22.717 39.145 10. Power Plant 30.954 - 4.116 52.213 87.283 0 11. Water Treatment Recir. System - 101.815 - 97.885 199.700 12. Other General Facilities 171.878 59.220 (38.234) 263.049 455.913 13. Of-Site Building and Services 36.540 13.980 4.002 22.838 77.360 14. Land Purchases - 16.271 - - 16.271 15. Payment of IBRD Purchases Financed from local sources - 125.647 - 125.647 16. Engineering Expenses 45.080 45.160 - - 90.240 17. Pre-operating Expenses 76.832 172.604 - 376.207 625.643 18. Transportation and Insurance 82.460 143.847 - - 226.307 19. Miscellaneous 302.526 199.098 - 635.610 1137.234 GRAND TOTAL 1, 2,454 2,402J47 4j6124 Industrial Projects Department June, 1980 - 61 - ANNEX 2-1 TURKEY: ERDEMIR STAGE I PROJECT APPRAISAL PLAN AND ACTUAL FINANCING SOURCES (US$ million) Appraisal Actual Difference Sources Amount % Amount % Amount % I. Foreign Loans (a) IBRD 76.0 24 76.0 14 - - (b) USAID 40.0 13 40.0 8 - - (c) US EXIMBANK/ CITIBANK 58.8 18 56.8 11 (2.0) (1) (d) Suppliers Credits 6.2 2 7.5 1 1.3 1 (e) Council of Europe Fund - - 4.9 1 4.9 2 Sub total 181.0 57 185.2 35 4.2 2 II. Turkish Government (a) Investment Acc. Fund - - 65.3 12 65.3 31 (b) Price Reg. & Sub Fund - - 25.6 5 25.6 12 (c) Other GOT Loans a/ - - 27.2 5 27.2 13 Sub-total - - 118.1 22 118.1 56 III. Increase in Capital Stock 5.2 1 5.2 2 (Private) IVa Dmestic (Commrcial Bank Loans b/ - - 25.8 5 25.8 13 V. ERDEMIR Funds (a) Decrease in Net Work- ing Capital c/ - - 32.5 6 325 16 (b) From Operations 138.7 43 160.6 31 21.9 11 Total 319.7 100 527.4 100 207.7 100 and then deferred again until 1979. The accrued interest of TL 449 milliU \U927. milli) Wa sUUU LU L LAicpal. b/ Medium term (5 years) borrowed during 1975 and 1976 of TL 400 million c/ Decrease in net working capital between December 1972 and December 1979 of TL 899 million (US$32.5 million). industrial Projects Department June 1980 TURKEY - ERDEMIR STAGE I PROJECT Erdemir - Past and Projectel Total Production with the Project (in 1,000 tons) Rolled Products Br ype/ Total Rolled Products Tin Cold Rolled Hot Rolled From Other Total Year Plate Sheet Sheet Plate Skelp Erdemir Steel Total'/ Products-/ Output 1972 (Actual) 77.8 210.7 144.8 129.0 80.3 557.7 643.4 26.2 669.6 1973 77.5 190.2 137.7 99.5 49.3 420.6 554.2 15.9 570.1 1974 90.2 226.1 195.9 169.7 69.4 545.4 751.3 42.3 793.6 1975 57.4 83.1 238.5 153.3 36.3 558.6 568.6 34.5 603.1 1976 76.0 162.0 190.3 168.7 26.6 573.9 623.6 55.7 679.3 1977 65.7 271.,4 150.2 142.1 39.0 477.9 668.4 40.2 708.6 1978 82.2 236.1 224.9 143.1 20.5 514.9 706.8 132.8 839.6 1979 72.3 191.8 287.8 123.8 42.3 677.1 718.0 60.0 778.0 1980 (Estimate) 850.0 850.0 - 850.0 1981 (Projected) 97.0 355.0 436.0 170.0 55.0 1,113 c/ 1,113 1,113.0 1982 97.0 355.0 436.0 170.0 55.0 1,113 1,113 .,113.0 1983 d/ 97.0 315.0 389.0 163.0 60.0 1,024 1,024 1,024.0 / Including rolled products produced from imported semi-finished steel. E/ Other products (for sale) include ingots, pig-iron, and blooms. c/ The incremental finished flat steel output of the Stage I project is 592,1)00 tpy and the output of the old facilities is 521,000 tpy. d / There is a scheduled re-lining of the furnaces spread over two years out of six. 1983 and 1984 are the first reline years and the total output is slightly less. Industrial Projects Department Sept,i;ber 1YM0 TURKEY: ERDEMIR STAGE I PROJECT BASE PRICE OF ERDEMIR's MAIN PRODUCT GROUPS (in current TL or US$ per ton) §/ PRODUCT GROUP Tin Cold Rolled Hot Rolled Plate Sheet & Coils Sheet & Coils Plate Time Period TL US$ TL Us$ TL UJS$ TL US$ - to July 15, 1971 3,600 2:57 2,670 191 2,160 154 2,220 159 July 16, 1971 to Aug. 10, 1973 4,500 321 3,250 232 2,700 193 2,750 .196 Aug. 11, 1973 to Feb. 28, 1974 5,400 386 3,800 271 3,000 214 3,300 236 Mar. 1, 1974 to Nov. 10, 1974 7,900 577 5,600 409 4,700 344 4,900 :358 Nov. 11,1974 to Aug. 27, 1975 7,900 564 5,200 371 4,700 336 4,900 350 Aug. 28, 1975 to June 7, 1976 7,900 518 4,900 321 4,600 302 4,700 :308 June 8, 1976 to Sept. 11, 1977 9,500 535 7,000 394 6,200 349 6,300 355 Sept. 12, 1977 to March 6, 1978 13,300 691 9,800 509 8,680 451 8,820 458 March 7, 1978 to March 18, 1979 18,000 720 12,000 480 10,500 420 10,900 436 March 19, 1979 to June 13, 1979 26,000 981 16,750 632 14,850 560 15,000 566 June 14, 1979 to Jan. 28, 1980 37,000 786 24,500 520 21,000 446 21,500 456 Jan. 29, 1980 to April 17, 1980 68,500 979 45,500 650 39,000 557 40,000 571 April 18, 1980 to present 81,150 1,101 49,400 670 42,800 581 45,900 623 a/ Base ex--factory price including about 17% for production tax but excluding premiums for extras which would add another 5% to 30% in the ex-factory price except for tin plates. The US$ equivalent has been approximated by using the average exchange rate prevailing dui-ng each period. Industrial Projects Department June, 1980 TURKEY: ERDEMIR STAGE I PROJECT ACTUAL BASE PRICE OF ERDEMIR's MAIN PRODUCT GROUPS Base Prices In Constant 1980 TL or USLer tonif Price Inflation Index Tin Cold-Rolled Hot-Rolled (1980=100) Plate Sheet & Coil Sheet & Coil Plate b Year TL/ US$S/ TL US$ TiL US$ TiL US$ TL US$ 1971 d/ 8.3 32.9 43,321 729 32,130 541 25,993 438 26,715 450 1975 16.8 62.9 46,940 870 30,303 561 27,730 514 28,717 533 1976 19.0 64.8 45,838 836 31,349 , 573 28,451 519 28,978 529 1977 23.8 69.8 45,259 840 33,348 619 29,534 547 30,013 556 1978 33.9 78.0 50,788 883 34,316 596 30,080 523 31,130 541 1 0' 1979 53.4 90.6 57,003 913 37,637 603 32,515 520 33,296 533 1980 (1/2 yr)100.0 100.0 74,825 1,041 47,450 660 40,900 569 42,950 598 a/ Base prices exclude premiums for extras but include about 17% for the production tax. Extras would normally add about 5% to 30% to the base price except for tin plate. / Based on the domestic inflation rate shown in Annex 3-3. Q/ Based on the Bank's international inflation rates shown in Annex 3-3. d/ Effective second half of 1971 and used in the Appraisal Report. z Industrial Projects Department June, 1980 - 65 - ANNEX 3- 4 TURKEY: ERDEMIR STAGE I PROJECT ACTUAL INFLATION INDICES INFLATION INDICES World Bank Index of Domestic Price Inflation International Price Annual Index Year Inflation (1980=100) a/ % (1980=100) 1971 32.9 6.8 8.31 1972 26.4 18.5 9.4 1973 43.8 20.6 11.2 1974 54.5 30.0 14.0 1975 62.9 9.9 16.8 1976 64.8 15.7 19.0 1977 69.8 35.0 23.8 1978 78.0 50.0 33.9 1979 (Prelim.) 90.6 64.8 53.4 1980 (Est.) 100.0 110.0 100.0 a/ Industrialized countries "CIF" index of US dollar prices of manufactured exports (total mannfartirPA- SITC 508) to develoning countries. Industrial Projects Department June, ivou - 66 - ANNEX 3-5 TURKEY: ERDEMIR STAGE I PROJECT MANPOWER ACTUAL VERSUS APPRAISAL, 1970-1979 Actual Gen. Appraisal Year Admin. Operations Total Total 1970 795 3,242 4,037 4,037 1971 892 3,329 4,221 4,187 1972 992 3,676 4,668 4,187 1973 1,109 3,747 4,856 4,187 1974 1,365 4,200 5,565 4,187 1975 1,498 4,373 5,871 5,340 1976 1,561 4,453 6,014 5,340 1977 1,487 4,580 6,067 5,340 1978 1,509 4,951 6,460 5,340 1979 1,575 5,433 7,008 5,340 Industrial Projects Department June, 1980 TURKEY: ERDEMIR STAGE I PROJECT HISTORICAL INCOME STATEMENT (TL Million) 1972 1973 1974 1975 1976 1977 1978 1979 Revenues Sales Revenue 1860.8 1884.8 2910.4 3081.9 3613.9 5510.2 9805.8 14,695.7 Interest Received 13.2 25.5 9.4 11.3 13.2 18.7 69.9 155.3 Miscellaneous Income 6.4 5.1 4.9 5.5 9.7 9.1 27.5 30.5 Total Revenue 1880.4 1915.4 2924.7 3098.7 3636.8 5538.0 9903.2 14,881.5 Costs and Expenases Cost of Goods Sold 1428.1 1505.6 1837.8 2294.1 2574.1 3752.6 6950.9 10,038.1 Sales Expenses 6.2 6.4 10.4 12.5 17.7 18.5 35.7 54.9 Depreciation Expenses 4.6 8.1 .4.6 4.9 37.6 13.2 355.1 39.7 Interest & Bank Charges 165.5 202.9 251.8 331.2 484.3 616.3 850.0 1,217.8 Gen. Admin. Expenses 25.2 27.5 41.5 49.7 74.7 77.5 139.1 231.4 Miscellaneous Expenses 21,4 92.6 83.8 131.7 117.4 562.5 825.6 2,155.9 Total 1651.0 1843.1 2229.9 2824.1 3305..8 5040.6 9156.4 13,737.8 Profit before Taxes 229.4 72.3 694.8 274.6 331.0 497.4 746.8 1,14:3.7 Tax 99.3 36.1 114.2 103.2 137.4 302.4 307.0 457.5 Net profit after tax 130.1 36.2 580.6 171.4 193.6 195.0 439.8 686.2 After tax profit as 6.9 1.9 19.9 5.5 5.3 3.5 4.4 4.6 a % of revenue After tax profit & interest as % of total assets 6.5 4.9 13.2 6.6 7.0 6.3 7.8 7.5 Industrial Projects Department June, 1980 TjRKEY: EIDEL'1R STME¶H,I' 11,!IT HISTORICAL BAM r«_SB i (TL Million) Year Ending December 31 1972 1973 1974 1975 1976 177 1978 1979 ASSETS 1. Current Assets Cash and Bank Deposits 151.0 39.0 42.0 67.0 113.0 230.1 351.5 703.8 Inventories 980.0 1,226.0 1,934.0 1,701.0 2,095.0 3,224.5 3,733.7 6,038.2 Accounts Receivable 156.0 '143.0 243.0 307.0 137.0 450.2 953.5 1,538.7 Others 380.0 494.0 789.0 335.0 672.0 665.8 677.4 L921.3 Sub-Total 1,667.0 1,¯02.0 2,¯08.0 2,410.0 3,017.0 4,570.6 5,713.1 10,202.0 2. Fixeci Assets Cross Fixed Assets 3,424.0 3,b60.0 3,797.0 4,023.0 4,280.0 4,553.2 5,132.8 17,370.6 Less Accumulated Depreciation 931.0 1;152.0 1.380 1 634.0 1915.0 2,259.0 3_T220.5 _5__54. Net Fixed Assets 2,493.0 2,50R.0 2,408.0 2,389.0 2,365.0 2,294.2 1,912.3 12,315.9 Acquisitions in Progress 346.0 474.0 ,1387.0 2,807. 4,32. 5,690.3 8/2.2 _,uz4.2 Sub-Total 2,8339.0 2982.0 3,795.0 5,196.0 6,697.0 7,984.5 10,184.5 14,340.1 3. Deferred Charges & Other Assets 48.0 26.0 19.0 13..0 7.0 386,4 583.1 1,024.3 TOTAL Assets 554.0 4910.0 6 .0 7,619.0 9,721.0 12,941.5 16,4807 25,566.4 LIABILITlES 1. Current Liabilities Accounts Payable 60.0 66.0 125.0 148.0 290.0 152.2 369.4 642.3 Customer Advances 363.0 449.0 421.0 291.0 626.0 1,000.4 1,748.4 4,285.8 Debt due within One year 13.0 164.0 187.0 257.0 517.0 702.1 994.1 1,730.9 øccrued Interest 67.0 66.0 78.0 91.0 116.0 129..1 177.4 337.9 Short-Term Loans - - 113.0 198.0 434.0 839.6 1,149.2 1,216.3 Otlier Liabilities 58.0 51.0 100.0 242.0 167.0 293.3 566.1 1,326.5 Sub-Total .561.0 796.0 1,024.0 1,227.0 2,150.0 3,116.7 5,004.6 9,539.7 2. Iledium Term - Debt - - - 129.C 2'ý. 2 2 R - - 3. Long Term - Debt 3,057.0 3,194.0 3,687.0 4,472.0 5,144.0 5,677.2 7,088.6 10,599.8 4. Price Regulation & Subsidizing Fund - - - 369.0 369.0 368.7 368.7 368.7 5. Reserves 23.0 36.0 75.0 114.0 167.0 372.6 416.7 799.1 6. Legal Reserves 16.0 27.0 31.0 47.0 61.0 102.2 153.7 223.4 7. CapLital Stock 524.0 567.0 569.0 571.0 600.0 1,800.0 a/ 1,800.0 al 1,800.0 a/ 8. Protit Current Year's Profit 299.0 72.0 695.0 275.0 331.0 568.0 699.1 1,074.1 Past Year s Profit 144.0 218.0 241.0 415.0 556.0 707.5 835.0 1,161.6 TOTAL Liabilities 4 554 0 4,910.0 6 322 0 7,619.0 9,721. 12.941.5 16,480.7 251566.4 al Incudes TL 1.2 billion of "quasi-equity" from the GOT investment acceleration fund Industrial Projects Department June, 1980 TURKEY: ERDMIR STAGE I PROJECT ERDEMIR PROJECTED INCOME STATEMENT (Million 1980 TL) 1980 1981 1982 1983 1984 ·1985 Shipments (1,000 Tons) 850.0 1,113.0 1,113.0 1,024.0 1,024.0 1,113.0 592. 592. Total Sales Proceeds A/ 36,945.2 47,588.8 47,588.8 44,007.0 44,007.0 47,588.8 Other Sales Proceeds - - - - Total Cost of Goods Sold 23.470.9 :28,883.3 28,883.3 27.137.1 27,37_L L5.L3 Gross Profit 13,474.3 18,705.5 18,705.5 16,869.9 16,869.9 18,730.5 General Expenses Depreclations 2,617.4 2,640.9 2,660.9 1,392.9 1,184.7 1,204.7 Gen. Adn. and Sales 581,3 581.3 581.3 581. 3 581.3 581.3 Amort. pre.-op. Exp. - 150.0 150.0 150.0 150.0 150.0 Foreign Supervisory 1.7 1.7 0.0 0.0 0.0 0.0 Other 1,244.8 931.0 55.2 55.2 55.2 55.2 Interest To be paid (Accrued) 1,444.2 1,064.9 819.2 684.2 528.6 399.9 To be capitalized -- - - Total General Expenses 5,889.4 5,369.8 4,266.6 2,863.6 2,499.8 2,391.1 Profit Before Taxes 7,584.9 13,335.7 14,438.9 14,006.3 14,370.1 16,339.4 Corp. Fin. Engr. Income Taxes 3,359.2 5,268.9 5,763.9 5,589.8 5,742.7 6,529.5 Profit After Taxes 4,225.7 8,066.8 8,675.0 8,416.5 8,621.4 9,809.9 Dividends 69.2 69.2 69.2 69.2 69.2 69.2 Bonuses to Staff 379.3 666.8 722.0 700.3 718.5 817.0 Legal Reserves 427.5 253.5 0.0 0.0 0.0 0.0 Undistributed Net Profit 3,349.7 7,077.3 7,883.8 7,647.0 7,839.7 8,923.7 a1 icluding revenues from by-produict. nuqtrial Project Department TURKEY: ERDEMIR STAGE I PROJECT ERDEMIR PROJECTED CASH FLOW STATEMENT WITH THE STAGE I PROJECT (Excluding Stage II) (In Million 1980 TL) 1981 1982 1983 1984 1985 Sources of Funds Other Liabilities (Provisions) 1,266.6 390.8 199.2 102..5 365.4 Payables 1,289.0 0.0 (105.6) 0.0 103.3 Customer Advances (3,274.8) 0.0 (465.6) 0.0 465.6, Accrued Interest (145.0) (45.2) (40.1) (39.4 (38.3) Short-Term Debt (819.2) 0.0 0.0 0.0 0.C Other Current Liabilities 0.0 0.0 0.0 0.0 0.0 Depreciation 2,640.9 2,660.9 1,392.9 1,184.7 1,204.7 Amort. Pre.-Operating Expenses 150.0 150.0 150.0 1.50.0 150.0 Net Profit Before Taxes 13,335.7 14,438.9 14,006.3 14,370.1 16,339.4 Total Sources of Funds 14,4,43.2 17,595.4 15,137.2 15,767.9 18,590.1 Application of Funds Taxes, Dividends, Bonuses 3,807.7 6,004.9 6,555.1 6,359.3 6,530.4 Routine Capital Expend. 300.0 300.0 300.0 300.0 300.0 Pre-Operating Exp. 0.0 0.0 0.0 0.0 0.0 Inventories 1,969.8 1,586.2 1,345.9 (124.9) 1,044.7 Receivables 1,050.1 0.0 (179.1) 0.0 1L79.1 Principal Repayments For. Exch.-Orig. Const. 1,083.5 712.6 712.6 712:.6 676.1 Local Loan-Orig. Const. 58.3 58.4 58.4 58.4 58.4 Got Loan I 0.0 0.0 0.0 0.0 0.0 For. Exch.-Stage I 1,360.5 1,320.2 1,280.2 1,054.6 1,054.6 Interm. Term Credits, TI 0.0 0.0 0.0 0.0 0.0 Supporting Fund 0.0 0.0 0.0 0.0 0.0 Change in Cash 4,8.13.3 7,613.1 5,064.1 7,407.9 8,746.8 Total Application of Funds 14,442.4 17,595.4 15,137.2 15,767.9 18,590.1 M Industrial Projects Department June 1980 TURKEY: ERDEMIR STAGE I PROJECT ERDEMIR PROJECTED BALANCE SIEjDT WITI TE M PTOJTCT (Excludini StlLc 11) (1n Milli.ön TL) 1950 1981 In82 19B3 1984 1985 Assets Current Assets Cash 7,447.2 12,260.4 19,773.5 24,937.6 32,345.5 41,092.4 Receivablvs 1,329.3 2,370.4 2,379.4 2,200.3 2,200.3 2,379.4 Invertortes 12,216.1 34,185.9 15,772.1 17,118.0 16,9c3.1 18,037.8 Lctters of Credit 985.1 985.1 985.1 985.1 935.1 985.1 Other 441.4 441.4 441.4 441.4 441.4 441.4 Total Current Assets 22,419.1 30,252.2 39,451.5 45,682.4 52,965.4 62,936.1 Fixed Assets Cross Fixed Assets 24,463.6 24,763.6 25,063.6 25,363.6 25,663.6 25,963.6 Less: Ace. Depr. (7,646.4) (10,287.3) (12,948.2) (14,341.1) (15,525.8) (16,730.5) 2;et Fixed Assets 16,817.2 14,476.3 12,315.4 11,022.5 10,137.8 9,233.1 Other Assets 195,6 195.6 195.6 195.6 395.6 195.6 Pre-Operating Expense 750.0 600.0 450.0 300.0 150.0 0.0 Tota- Assets 39,181.9 45,524.1 52,~12.5 57,200.5 63,448.8 72,364.8 LiabIlities Cu:rrent Liabilittes Payabl)e 444.8 1,733.8 1,733.8 1,628.2 1,628.2 1,731.5 Customer Advances 9,461.3 6,186.5 6,186.5 5,720.9 5,720.9 6,186.5 Corp. Tax Div. Bonuses 3,807,7 6,004.9 6,555.1 6,359.3 6,530.4 7,415.7 Acerued Interest 383.2 238.2 193.0 152.9 113.5 75.2 Diie Within One Year: Lon!-Terw iebts 2,302.3 2,091.2 2,031.1 1,825.5 1,789.0 1,743.9 Short-Term Credits 819.2 0.0 0.0 0.0 0.0 0.0 Other 824.8 824.8 824.8 824.8 _2_.8 824.8 Total Current Liabilittes 18,243.3 17,079.4 17,544.3 16,511.6 16,606.8 17,977.6 Other Liabilities 1,957.3 3,223.9 3,614.7 3,813.9 3,916.4 4,281.8 Long-Terr Debts: For. Exch. - Orig. Const. 3,550.4 2,837.7 2,125.2 1,412.6 736.6 97.0 Local Loan - Orig. Const. 283.3 224.9 166.5 108.2 49.8 0.0 rot Loan - 1 739.0 739.0 739.0 739.0 Per. Exclange Stage 1 7,975.9 6,655.7 5,375.5 4,320.9 3,266.3 2,211.7 Interm. Term. Credit - - - - - - Supporting Fund 358.7 368.7 368.7 368.7 308.7 368.7 Total Long-Term Debts 12,917.3 1026.1 _774 .9 6,949.4 5 160.4 _ 416. Total Liabilities 33,117.9 31,129.3 29,933.9 27,274.9 25,683.6 25,675.8 Equity Capital Stock a/ 1,800.0 1,800.0 1,800.0 1,800.0 1,800.0 1,800.0 Legel Reservos~ 646.5 900.0 900.0 900.0 900.0 900.0 RrtaIntd Earnings 4,617.5 11,694.8 19,578.6 27,225.6 35 3 41_,9U9.0 Total Equity 7,64.O 1, . 76 29 92 256 3 75 46689.0 Total lirbility and Equity 40,181.9 45,524.1 52,212.5 57,200.5 63,448.8 72,364.8 /ircudcs TL 1.2 billfoa f "qn:E -eqity" from te GOT irvestment acceleration fund. Indusri,ll Projectj Departmenr June 198U TURYX: ERDEMIR STAGE I PROJECT CAPITAL COST STREAWD' FOR RATE OF RETURN CALCULATIONS Foreign Loan Disbusement Local Total TL Total In Millions Exchange In Million Currency Disbursement Inflation Disbursement of Current Rate of Current Disbursement in Millions of Index in Millions Year US$ TlUS$ TI &MigLion Current TL) Current TL 1980-100 of Constant 1980 TL 1971 - 15.00 - - 8.31 - 1972 - 14.00 - 68.9 68.9 9.36 736.1 1973 16.633 14.00 232.9 130.8 363.7 11.20 3,247.3 1974 47.334 13.68 647.5 357.6 1,005.1 14.03 7,163.9 1975 50.542 14.44 729.8 652.6 1,382.4 16.83 8,213.9 1976 :32.458 16.05 521.0 889.6 1,410.6 18.98 7,432.0 1977 16.184 18.38 297.5 916.3 1,213.8 23.79 5,102.1 1978 20.320 25.00 508.0 1,003.9 1,511.9 33.90 4,459.9 1979 1.769 36.BO 65.1 735.9 801 0 53.36 1,501.1 1980 - 75.100 - 2,335.9- _2 9 100.00 2,'35.9. Total 185.24- 3,001.8 4,991 / 10,093.3 40,192.2 a/ Excludes interest and other financial charges. b/ Includes TL 2,095.9 million of increase in working capital during 1980. The remaining TL, 240 million is for commitments for which work was completed in 1979 but payment was made in 1980. c/ Excludes US$2,.6 million of foreign exchange cost paid for by Erdemir using TL by purchasing foreign exchange from X the central bank. The equivalent TL cost is included in the TL disbursement. Industrial Projects Department June 1980 - 73 - ANNEX 3-12 TURKEY: ERDEMIR STAGE I PROJECT STAGE I INCRLMENTAL FINANCIAL COSTS AND BENEFITS STREAM (In Millions of Constant 1980 TL) Calendar Capital Operating Costs - Income Year Year Cost Fixed Costs Variable Costs Taxes, etc. Revenues - 1 1972 736.1 - -- 2 1973 3,247.3 - - - - 3 1974 7,163.9 - -- 4 1975 8,213.9 - - - - 5 1976 7,432.9 - -- 6 1977 5,102.1 - - - - 7 1978 4,459.9 - - - - 8 1979 1,501.9 1,642.2 2,915.9 698.5 7,069.2 9 1980 2,335.9 c/ 1,123.6 6,294.6 2,463.8 14,300.0 10 1,123.6 11,150.3 5,205.8 25,312.3 11 1,121.6 11,150.3 5,287.2 25,312.3 12 1,121.6 9,395.4 4,509.8 21,616.7 13 1,121.6 9,395.4 4,547.9 21,616.7 14 1985 1,121.6 11,149.5 5,406.3 25,312.3 15 1,121.6 11,149.5 5,441.5 25,312.3 16 1,121.6 11,149.5 5,476.6 25,312.3 17 1,121.6 11,149.5 5,503.1 25,312.3 18 1,121.6 9,396.7 4,685.2 21,616.7 19 1990 1,121.6 9,396.5 4,691.8 21,616.7 20 1,121.6 11,149.5 5,521.0 25,312.3 21 1,121.6 11,149.5 5,526.4 25,312.3 22 1993 (2,095.9) c/ 1,121.6 11,149.5 5,529.4 25,312.3 Financial IRR after taxes = 9.6% Financial IRR before taxes = 15.8% a/ At an incremental output of 592,000 tpy of finished product at full production (e.g. 1981). Variations in output (variable cost and revenues) from 1982 onwards are due to blast furnace reline years. b/ Net of production tax but including TL 181.9 million of revenue from by-products. c/ Includes TL 2.095.9 million of increase in working capital in 1980 (Annex 3-10) although this is not shown as part of capital cost in para. 2 since the capital cost in that section was defined to be expenses up to the end of 1979 only. d/ Recovered working canital. Industrial Projects Department JTimp 1 QRO - 74 - Au.frT r y 1 1 TURKEY: ERDEMIR STAGE I PROJECT 11 O1 nn lul,Tn fnnnlnmar n Nem r.mnynm,,nn r ,ryr tTHE PROUJET~ AT FULL PROUCTUIOUN (In Constant 1980 TL) Financial Economic Price or Cost Price or Cost Annual TL/ton TL/ton Quantities of Product of Product (1,000 tons) Total Finished Products 1,113 42,450 35,873 Production Costs Raw Materials Coal 1,344.2 a/ 8,621 6,674 Iron Ore (lump)- 1,802.0 b/ 5,166 5,166 Iron Ore Fines 472.3 c/ 1,349 1,349 Fuel Oil (for blast furnace) 37.7 514 519 Other local inputs 599 599 Other imported inputs d/ 1,541 1,225 Sub-total 17,790 15,532 Labor 3,428 3,428 Maintenance Materials & Others 3,780 3,538 Reserves for Relining 953 953 Sub-total 8,161 7,919 Cost of Production General Admin., Sales & Foreign Superv. 524 524 Depreciation & Amortization 2,372 - Interest 956 - Total Cost e/ 29,803 23,975 a/ Of which 400.000 tons is imported. b/ Of which 552,500 tons is imported. c/ Of which 236,139 tons is imported. c/ Includes 185,700 tons of fuel oil for power generation. e/ An average exchange rate nf TT. 7 = H1j61.O -O ed for 1980 onwards an constant 1980 terms. June, 1980 - 75 - ANNEX 3-14 TURKEY: ERDEMIR STAGE I PROJECT ECONOMIC PRICE OF MAIN FLAT STEEL PRODUCTS (In Constant 1980 TL) Landed Cost - b/ Product Source 1980 TL/ton 1980 US/ton Plate Western Europe 31,571 420 Tin Plate Western Europe 80,432 1,070 Cold-Rolled Sheet/Coil Japan 36,082 480 Hot-Rolled Sheet/Coil Japan 28,940 385 a/ Excluding duties and taxes. b/ At an average of TL 75 = US$1.00 assumed for 1980 and onwards in real (1980) terms. Industrial Projects Department June, 1980 - 76 - ANNEX 3-15 TURKEY: ERDEMIR STAGE I PROJECT STAGE I INCREMENTAL ECONOMIC COSTS AND BENEFITS STREAM a/ (In Millions of Constant 1980 TL) Calendar Capital Operating Costs -- Year Year Cost Fixed Costs Variable Costs Revenues - 1 1972 736.1 - - 2 1973 3,247.3 - 3 1974 7,163.9 - - 4 1975 8,213.9 - 5 1976 7,432.9 - 6 1977 5,102.1 - - - 7 1978 4,459A.9 - - - 8 1979 1,501.9 1,642.2 2,866.3 9,720.9 9 1980 2 ,35.9 151236 4,740.8 12;005.7 10 1,123.6 8,413.9 21,418.8 11 1,121.6 8,413.9 21,418.8 12 1,121.6 6,954.4 18,365.9 13 1 1916 6,95.4 18.365.9 14 1985 1,121.6 8,413.9 21,418.8 15 1,121.6 8,413.9 21,418.8 16 1,121.6 8,413.9 21,418.8 17 1,121.6 8j413.9 21,418.8 18 1,121.6 6,901.3 18,365.9 1o 1oon1 11A 6 ,010 18,365.9 20 1,121.6 8,413.9 21,418.8 21 1,121.6 8,413.9 21,418. 22 1993 (2,095.9) 1,121.6 8,413.9 21,418.8 Economic Rate of Return = 15.2% a/ At an average echan1dIge rate of TL 75 = US$1.00asumdfo 18 owad in real (1980) terms. b/ At an incremental output of 592,000 tons of product at full production (e.g. 1981). Variations in output (e.g. variable cost and revenues) from 1982 onwards are due to blast furnace reline years when total incremental output is less than 592,000 tons and have slightly different proportions of the various flat products. c/ Including TL 181.9 million of revenues from by-products. Industrial Projects Department June, 1980 r~-－一－一＇一－一一一一一～一－一一一一一一～-－→一、 ｝·、，州磁‘：一勵＿’郵＿。口：、｀:- ,：。〝’、巷：執彎｛胛氟付《他取＿’〕― ！、一州必J礬嶸詠妒一― 〕一他鯧叮巢才夢、ha向誡引 〕鑣”？織丫瞋麗氫囂一―二 〕憑〔戶×州〔一、：；才艷“謀‘―只 〕‘粹·才丫化｛:’》＿，一戶一賺〔一―呂 嚨·巡。卹．_’〕J了憐集·｝留 〕造’匹添州皂曬f州》〕〔憮i、·〔？ ！蘿：舛－確疋，參州〔f翁，贓。·〔由 〔一、朧’‘勾‘很叮乙｝甲 一化〔！f_’州J一彎一汰｛二 口．劉狗！“擴洶權神添、、；!！云 ！〕很文“州〔戶一汰汰｛〕煮 〕。魚＿’誡、J淤澹。〔州勺他、斗〕芝 -：〕啊操諱翁排抑、以〕望 k一一了〕戶〕鑼辭黑久者妝×汰、f一弘、鄴〔日 〕‘、一，聲計一×一、不；取：才丫·〔眾 〕．。，妒k一森叮×f＿夕·｝翁 〕｝&&―〕”,&,&，州，汰j羹讓；!！縱。―寡 朧鄴矓粹諱｝＿夕久戴邸辭閑認〕乙 !i:’離〕：｝〕鄴×戶才濃＇、蘿f！需 〕：州〔蠹〕霆’、．州他＿一居、k！斤 〕盡呂i×、膳’荊沫×I藝 〕〔一織：待×文合！斤 〕〕一××以－·擊編 ;！·“、×州’細、州 〔：！名＿一’&k響他二－一｝ ―邢―討“&_．。〕·― 1鉅。江、一J‘叩｀J：〕 江，。粽＿”。＿__｝上－＿由f_f_＿」 毛乙乙9C3選B倡