Turkey - Fertilizer Rationalization and Energy Saving Project

Document of The World Bank r v FOR OFFICIAL USE ONLY Report No. 3.-77-TU STAFF APPRAISAL REPORT TURKEY FERTILIZER RATIONALIZATION AND ENERGY SAVING PROJECT April 9, 1981 Industrial Projects Department This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  TURKEY FERTILIZER RATIONALIZATION AND ENERGY SAVING PROJECT Currency Equivalent January 1980 January 1981 US Dollar 1.0 = TL 70.0 TL 91.0 TL 1.0 = US$0.014 US$O.Oll WEIGHTS AND MEASURES 1 Metric ton (t) 1,000 kilograms (kg) 1 Metric ton (t) = 2.209 Pounds (lb) 1 Kilometer (km) = 0.62 Miles 1 Hectare (ha) 3 2.47 Acres 1 Cubic Meter (m ) = 35.32 Cubic Feet (cu ft) PRINCIPAL ABBREVIATIONS AND ACRONYMS USED AZOT - Azot Sanayii T.A.S. C.I.F - Cost, Insurance and Freight DONATIM - Turkiye Zirai Donatim Kurumu F.O.B - Free on Board GUBRE - Gubre Fabrikalari T.A.S. IGSAS - Istanbul Gubre Sanayii A.S. KV, KW, MW - Kilovolt, Kilowatt, Megawatt PPF - Project Preparation Facility SEE - State Economic Enterprise SEKER - Turkish Sugar Company SPO - State Planning Organization TKI - Turkish Coal Authority TPAO - Turkish Petroleum Corporation tpd - tons per day tpy - tons per year FISCAL YEAR Republic of Turkey March 1 - February 28 AZOT January 1 - December 31 IGSAS January 1 - December 31 GUBRE January 1 - December 31  FOR OFFICIAL USE ONLY TURKEY FERTILIZER RATIONALIZATION AND ENERGY SAVING PROJECT TABLE OF CONTENTS Page No. I. INTRODUCTION .................1................... 1 II. THE INDUSTRIAL SECTOR AND FERTILIZER INDUSTRY. 2 A. Industrial Sector. 2 B. Fertilizer Industry. 3 C. Raw Material Base. 6 III. THE COMPANIES .................................... 7 A. Azot Sanayii T.A.S. (AZOT) ............................... 7 1. History and Organization ............................. 7 2. Production Performance. 8 3. Operating Results and Financial Position .... ......... 11 4. Accounting and Financial Management .................. 12 B. Istanbul Gubre Sanayii A.S. (IGSAS) ........ .. ............ 12 1. History and Organization ............................. 12 2. Plant Facilities ...................................... 13 3. Production Performance ........................... 13 4. Operating Results and Financial Position .... ......... 14 C. Gubre Fabrikalari T.A.S. (GUBRE) ......... .. ............. 15 1. History and Organization ............................. 15 2. Production Performance ............................... 15 3. Operating Results and Financial Position .... ......... 17 IV. FERTILIZER MARKET, MARKETING AND PRICES ....................... 17 A. Agricultural Situation ................. .................. 17 B. Past Growth of Fertilizer Consumption, Production and Imports .............................................. 18 C. Fertilizer Demand Projections ........... .. ............... 21 D. Capacity and Production Forecasts ......... .. ............. 22 E. Supply/Demand Balance ................. ................... 23 F. Input and Output Pricing .............. .. ................. 23 G. Fertilizer Marketing and Distribution ......... ........... 27 1. Distribution System .................................. 27 2. Warehousing .......................................... 29 3. Credit ........... .................................... 29 4. Need for Marketing and Pricing Study .... ............. 29 This report was prepared by Messrs. Y.T. Shetty, L. Borin, and R. Bhan of the Industrial Projects Department and Mr. T. Ogmen (Consultant). This document has a restricted distribution and may be used by recipients only in the performance of I their official duties, Its contents may not otherwise be disclosed without World Bank authorization.  - ii - Page No. V. THE PROJECT .30 A. Project Objectives and Scope ........... .. ............... 30 B. Project Description ................. .................... 30 1. Rehabilitation and Energy Saving Component .... ...... 30 2. Training Component .................................. 32 3. Management Improvement Component .... ................ 33 4. Fertilizer Marketing and Pricing Study .... .......... 33 C. Project Management .................. ..................... 33 D. Project Schedule ................... ...................... 34 E. Ecology .................................................. 34 F. Raw Materials ..................... ....................... 34 G. Employment and Productivity ............ .. ................ 35 VI. CAPITAL COST, FINANCING PLAN AND PROCUREMENT .35 A. Capital Cost .35 B. Financing Plan ..................... 37 C. Procurement .38 D. Allocation and Disbursement of Bank Loan .39 VII. FINANCIAL ANALYSIS AND RISKS .40 A. Project Revenue .40 B. Production and Production Costs .......................... 41 C. Financial Projections for the Project .41 D. Financial Rate of Return .42 E. Analysis of Companies with the Project .43 F. Financial Covenants .44 G. Auditing and Reporting Requirements .44 H. Risks .45 VIII. ECONOMIC ANALYSIS .45 A. Economic Justification .45 B. World Prices of Fertilizers and Inputs .46 C. Economic Rate of Return .47 D. Foreign Exchange Benefits .49 E. Other Economic Benefits .49 IX. AGREEMENTS .49 ANNEXES 2 Production Trends (1977-80) and Forecasts (1981-87) of N and P 3-1 AZOT Management Improvement Program - Terms of Reference 3-2 AZOT Income Statements (1976-80) 3-3 AZOT Balance Sheets (1974-80)  - iii - ANNEXES 3-4 IGSAS Income Statements (1977-80) 3-5 IGSAS Balance Sheets (1977-80) 3-6 Gubre Fabrikalari Income Statements (1976-80) 3-7 Gubre Fabrikalari Balance Sheets (1976-80) 4-1 Fertilizer Imports 4-2 Fertilizer Consumption by Products 4-3 Terms of Reference for Fertilizer Marketing and Pricing Study 5 Implementation Schedule by Plants 6-1 Capital Cost Estimate 6-2 Estimated Disbursement Schedule for Bank Loan 7-1 Assumptions for Financial Analysis 7-2 Production Costs at 100% Capacity Utilization by Plants / 7-3 Production and Revenue Estimates by Plants After Rehabilitation 7-4 Projected Income Statements (Before Project) 7-5 Projected Income Statements by Plants (After Project) 7-6 Inputs for Financial Rates of Return V; 7-7 Consolidated Income Statements -- AZOT (After Project)' 7-8 Consolidated Income Statements -- GUBRE (After Project) 8-1 Assumptions for Economic Analysis 8-2 Inputs for Economic Rates of Return 8-3 Foreign Exchange Benefits MAP IBRD - 13625R - TURKEY - Location of Fertilizer Plants  -iv DOCUMENTS CONTAINED IN PROJECT FILE A. REPORTS AND STUDIES ON THE SECTOR Al Fertilizer Industry, Report of the Special Commission of Experts, State Planning Organization, May 1977 A2 The Market for Fertilizers in Turkey, Preappraisal Mission, December 1977 A3 The Fertilizer Sector in Turkey, Appraisal Mission, September 1978 B. REPORTS AND STUDIES RELATED TO THE PROJECT Bl Reports on Plants Submitted by Companies B2 Reports on Fertilizer Plants Visited by Mr. Turgut Ogmen (Consultant) B3 Report on Fertilizer Plants Visited by Mr. Enrico Pelitti (Consultant) B4 Report by Krupp-Koppers on Kutahya II B5 Report on IGSAS Plant by Uhde B6 Report on Samsun and Yarimca Plants by Davy International B7 Heurtey Report on Fertilizer Sector Rehabilitation B8 Project Document: UNDP-Financed Personnel Training Center at Kutahya C. WORK PAPERS AND OTHER DATA Cl File Containing All Statements and Tables Prepared by AZOT, IGSAS and Gubre Fabrikalari Concerning Appraisal of This Project C2 Additional Information (Tables and Statements Prepared by Mission)  I. INTRODUCTION 1.01 The Government of Turkey has requested a Bank loan of US$110 millic7 to finance the Fertilizer Industry Rationalization and Energy Saving Project (the Project). The Project has four components: (i) improvements at the Kutahya II and Samsun plants of Azot Sanayii T.A.S. (AZOT), the Tutunciftlik plant of Istanbul Gubre Sanayii A.S. (IGSAS), and the Yarimca plant of Gubre Fabrikalari T.A.S. (GUBRE); (ii) expansion of training facilities of AZOT and IGSAS; (iii) technical/management services to improve corporate and plant level management; and (iv) consulting services for a Fertilizer Marketing and Pricing Study. The Project is expected to increase annual fertilizer produc- tion by about 623,000 product tons which at 1980 prices is worth about US$168 million. 1.02 In the case of Kutahya II, Samsun and Yarimca, the Project aims principally at rationalizing existing operations to remove capacity-limiting bottlenecks. In addition, one new sulfuric acid plant will be established at Yarimca to substitute sulfuric acid imports. This plant will be initially based on imported sulfur but could be converted in the future to use local pyrites if and when pyrites of the required quality become available in adequate quantity. In the case of IGSAS, the main objective is to reduce the consumption of naphtha (as feedstock) and fuel oil (used for steam generation in boilers) by substantial substitution of platformer gas and refinery off-gas for naphtha feedstock and fuel respectively from the adjacent IPRAS refinery, which has been expanded since the Bank-financed IGSAS plant was completed at the end of 1977. As naphtha and fuel oil prices have increased steeply since the 1973 world oil crisis and as refinery gas production has increased, it has become economically attractive to carry out the above-mentioned switch-over. The total financing required for the Project is estimated at US$236.6 million including US$131 million in foreign exchange. 1.03 The proposed Bank loan of US$110 million includes US$105.6 million for improving the operation of the four plants and the remaining US$4.4 million for the other three Project components. The technical/management services component of the Project aims at upgrading the financial management and accounting systems as well as improving the corporate level management, mainly of AZOT. The Fertilizer Marketing and Pricing Study will analyze the existing system to identify the measures needed to improve the efficiency of fertilizer marketing in Turkey. The Training Program will expand training at the plant and headquarters level supplemented by training of selected personnel abroad. 1.04 The proposed loan will be the second Bank operation in the fertilizer sector in Turkey. The first loan (US$24 million) followed by a supplemental Loan (US$18 million) was for the IGSAS Fertilizer Project (Reports No. P-1062, of April 28, 1972 and P-1600-TU, of April 2, 1975) which was commissioned in 1978 and last year (1980) was operating at 84% capacity. 1.05 The Project was preappraised in March/April 1980 following prepara- tion of project reports by the companies concerned. As the mission identified the need for additional project preparation to carry out the appraisal, the Government requested and the Bank agreed to provide US$600,000 in June 1980 from the Project Preparation Facility to complete project preparation using foreign consulting firms. These firns carried out a substantial amount of preliminary engineering to define the scope of the Project and enable the preparation of adequate capital cost estimates. Following completion of studies by those firms, the appraisal was carried out in December 1980 by a mission consisting of Messrs. Y. T. Shetty (Chief), L. Borin, and R. Bhan of the Industrial Projects Department and Mr. T. Ogmen (Consultant).  -2- II. THE INDUSTRIAL SECTOR AND FERTILIZER INDUSTRY A. Industrial Sector 2.01 During 1950-1977, the Turkish economy grew at an impressive pace and underwent marked transformation. As a result of the country-s strong commit- ment to growth and modernization, the Gross Domestic Product (GDP) rose, on average, by more than 6% a year. Rapid industrialization led to substantial changes in the structure of the economy: the share of industry in GDP in- creased from 10% to 23% while the share of agriculture declined from 52% to 21% during the same period. However, the striking economic progress had been punctuated (in 1958, 1970 and 1977) by severe balance of payments crises, mainly because of Turkey's inability to develop a strong export base coupled with heavy debt service on foreign borrowings, mostly short and medium term. Particularly, the economic crisis which started in mid-1977 proved a serious one. Real GDP increased 3.1% in 1978, stagnated in 1979, and increased by only 1.5% in 1980. 2.02 Turkey's planned development strategy has given high priority to industrialization and the development of the regions outside the major urban centers. The Government promoted industrial investment in priority industries through incentives including investment allowance, tax and tariff exemptions or deferment. As a result of these incentives, supplemented by protection against competition from imports, Turkey had achieved a high level of invest- ment in industry and, during the last three Five-Year Plans (1963-77), industrial output grew at an annual average rate of about 10%. Due to the economic crisis during 1977-80, industrial output grew at an annual rate of only 3%. Textiles, iron and steel, fertilizers, chemicals, paper, sugar, cement, plastic and machinery have been the main growth industries. Industry now accounts for about 13% of the total employment in the country. 2.03 Under the Turkish system, the State Economic Enterprises (SEEs) play an important role in industrialization. In addition to SEEs, the public sector consists of a few autonomous companies which are indirectly owned by the Government but run largely along lines of private sector com- panies. Public sector companies aim to invest mostly in projects of national importance and in projects normally not taken up by the private sector due to size, profit and/or risk considerations. The present Government is shifting emphasis away from the public sector towards a more market-oriented economy. The private sector is being encouraged in many fields, and foreign investments are now being actively encouraged, especially when they introduce new and advanced technology, help with energy problems, or promote exports. 2.04 Operational SEEs today account for about half of the country-s production in mining and manufacturing. A number of problems are affecting them in varying degrees. They include frequent changes in management, over- staffing, low salary scales, high turnover of experienced staff, lack of imported materials, slow application of modern business practices, and lack of cost control systems. Some of these problems arise from the Govern- ment-s use of the SEEs to achieve various social objectives such as the development of backward areas, the provision of employment and the sale of essential goods at low prices; others are largely due to administrative inefficiencies.  2.05 Reform of SEEs--in organization, management and manpower develop- ment--remains crucial for improvement in the performance of SEEs. Over the years, SEEs have earned low profits, necessitating increasing budgetary transfers to meet their current and investment needs. Especially since 1973, there has been a serious deterioration in the financial situation of SEEs. Successive governments, in an effort to slow down inflation, held SEEs price increases below the rate at which costs were rising, while, at the same time, the scale of their investment was increasing sharply. The net effect was a very rapid widening of the gap between SEEs savings and investment. With the substantial budgetary allocations required for SEEs, the overall public sector def cit rose from TL 13.5 billion in 1974 to TL 395.8 billion in 1980. Most of this increased deficit was financed by borrowing from the Central Bank. This situation, combined with cost-push factors such as the powerful labor movement, the farmer-oriented agricultural price support policy and, above all, excess demand put an upward pressure on the country-s price levels, with inflation reaching a rate of about 100% in 1980. 2.06 In January 1980, Turkey adopted a Stabilization Program which included a move toward a more market-oriented system for SEEs, introduction of a crawling peg exchange rate system, raising of interest rates to i-nduce savings, increasing ex-factory prices of SEE products to international levels, and reducing SEE access to the budget. Now further measures are being pursued including removing SEE management from political interference, restricting hiring of personnel in public enterprises which are overmanned, raising professional and managerial salaries to more competitive levels, and further reduction in public subsidies. Progress made under these measures is monitored under the Structural Adjustment lending to Turkey. B. Fertilizer Industry 2.07 Turkey's fertilizer production started in 1939 on a small scale at Karabuk Iron and Steel Works with the production of ammonium sulfate as a by-product based on coke oven gas. Seventeen other plants by ten different companies have since then been set up, including the Tutunciftlik ammonia/urea project of IGSAS financed by the Bank (Map IBRD-13625R). There are six companies producing exclusively fertilizers. Of these, two--AZOT and IGSAS-- are in the public sector and operate seven plants; two--Gubre Fabrikalari and Akdeniz Gubre--are in the joint sector and operate four plants; and two--Bagfas and Ege Gubre--are in the private sector and operate three plants. In addition, three public sector companies--a petrochemical company (Petkim) and two steel companies (Karabuk and Isdemir)--are producing ammonium sulfate fertilizer as a by-product in three plants. A new company, Toros Gubre, in the private sector in expected to start fertilizer production in 1981. 2.08 The various operating plants, their annual capacities and recent production are given in Annex 2. The total annual capacity of the plants is about 5 million product tons equivalent to nearly one million tons of nitrogen (N) and 850,000 tons of phosphorus (P) nutrients. The public sector companies account for 47% of total fertilizer capacity; the joint sector accounts for 27%; and the private companies for the remaining 26%. The following table summarizes the trend of capacity utilization during 1976-80 by the operating companies:  - 4 - Turkey - Capacity Utilization by Fertilizer Companies, 1976-1980 a/ (in %) 1976 1977 1978 1979 1980 N P N P N P N P N P Public Sector -AZOT 61 41 46 35 52 36 37 43 34 42 -IGSAS - - - - 43 - 54 - 84 - -Karabuk & Isdemir 49 43 46 38 32 40 58 48 49 43 -Petkim 20 - 64 - 60 - 67 - 68 - 43 42 52 36 47 38 54 45 56 42 Joint Sector -Gubre Fabrikalari - 33 - 80 25 41 63 59 68 63 -Akdeniz Gubre 49 42 44 40 30 7 39 17 50 12 49 38 44 60 28 24 51 38 54 51 Private Sector -BAGFAS - 106 - 83 - 38 - 24 24 39 -Ege Gubre - - - - 10 10 33 33 43 43 - 106 - 83 10 24 33 28 32 40 Total Sector 46 62 48 60 28 25 46 37 53 45 a/ Weighted average. 2.09 In 1980, the average capacity utilization in the fertilizer industry was 53% for N and 45% for P. Low capacity utilization is mainly due to the following factors: (i) technical bottlenecks arising from design deficiencies and poor maintenance; (ii) inadequate availability of imported raw materials, intermediate products and spare parts; (iii) deficiencies in the supply of local raw materials and utilities (poor and uneven quality and unreliable supply of lignite, pyrites, rock phosphate, etc., and power and water short- ages); (iv) working capital problems; (v) organization and management defi- ciencies; and (vi) lack of trained manpower. The Project is part of Turkey's efforts for overcoming technical bottlenecks, power and water shortages, and organizational and manpower problems. Together with it, the Government is giving priority in the allocation of foreign exchange to fertilizer inputs rather than finished product imports. This import program is supported by the Bank's structural adjustment lending. 2.10 To alleviate local raw material and utility supply problems, the Government is now giving more attention to coordination between fertilizer producers and their raw material suppliers to improve the quality and quantity of local raw materials. Furthermore, fertilizer producers are planning to install facilities at the plants to handle and use the raw materials of poor and uneven quality (e.g., facilities for mixing low, medium and high quality lignite at plant site; facilities for drying pyrites before use; facilities to grind rock before use, etc.). One of the projects being considered for financing in FY1981 under a separate Bank operation (through the State Investment Bank, DYB) will increase raw material supply to the existing copper smelters in Turkey, helping them to produce more copper as well as by-product flotation pyrites and sulfuric acid which are used for the production of phosphatic fertilizers. Under the Project, a sulfur burner will be installed at the pyrites-based Samsun sulfuric acid plant to enable it to operate on sulfur in case it cannot get adequate pyrites of the right quality. The  - 5 - working capital problem arising from delayed payment from the marketing organization is being addressed by the Government by increased allocation from the budget for this purpose. 2.11 Organization and management problems, which are particularly serious in AZOT, will be dealt with under the Project through the Management Improve- ment Program and technical assistance for plant operations and maintenance, and project implementation. The training component will help ease the problem of trained manpower. Further, in order to facilitate a concerted bid to increase capacity utilization, agreement has been reached that AZOT will introduce a control and monitoring system by December 31, 1981 to establish monitorable efficiency criteria and to review performance against unitwise monthly produc- tion targets. Such systems are already in operation in IGSAS and GUBRE. 2.12 Of the eighteen fertilizer plants, seven were identified by a Bank preappraisal mission and the Government as high priority, suitable for possible Bank financial and technical assistance to remove technical bottlenecks and improve capacity utilization. Of the remaining plants, some are small and old operations in which scope for increasing capacity utilization is limited. In some others, capacity utilization could be increased easily (mainly private sector companies) if they are provided with adequate foreign exchange to import raw materials. Further, one of the new plants of AZOT--the calcium ammonium nitrate plant at Gemlik--was not included as it is still within the guarantee period and the engineering firms which built it are trying to resolve its technical problems. AZOT is currently building at Gemlik a 1,000 tpd ammonia plant with US$41.5 million buyers- credit from the U.K. and France. Work on this plant started in 1977 and almost all the equipment is at site ready for erection. Meanwhile, naphtha-based ammonia plants in general have become uneconomic because of sharp increases in world naphtha prices. AZOT has already invested US$90 million equivalent on this plant and needs another US$40-50 million to complete it. It has been agreed with the Govern- ment and AZOT that AZOT will prepare and furnish to the Bank a report on the Gemlik ammonia plant after reviewing: (i) its economics in the context of sunk cost and additional investment needs, and (ii) the possibility of modify- ing the plant to use other feedstocks. The study will also confirm that the additional investment required for the Gemlik plant will not impair AZOT's ability to carry out its obligations with respect to the Project. 2.13 As noted previously, the Bank provided US$600,000 from the Project Preparation Facility (PPF) in June 1980 to the Government to complete the preparation of the seven fertilizer sub-projects identified by the Government and preappraisal mission for rehabilitation. Four engineering firms--Krupp- Koppers, Uhde and Davy International (Federal Republic of Germany, F.R.G.), and Heurtey (France) were subsequently hired to complete the preparation of those projects. Though the preparation covered seven fertilizer projects, it was agreed with the Government that their rehabilitation would have to be carried out in two phases, as the task is complex and foreign exchange funds required far exceed the amount the Bank can make available for this purpose at this time. Accordingly, four projects have been selected for inclusion under Phase I, based on their priority in terms of local resource use, energy savings and other economic priorities. Based on the above criteria, Kutahya II and Samsun (of AZOT), Tutunciftlik (of IGSAS), and Yarimca (of GUBRE) have been selected for inclusion under Phase I; Mersin (of Akdeniz), Iskenderun (of Gubre Fabrikalari) and Foca (of Ege Gubre) would be included under Phase II which is expected to be implemented starting from 1982/83. Further, the new  - 6 - sulfuric acid plant proposed at Samsun would be postponed to Phase II as the foreign exchange funds available at present are not adequate to include it under Phase I. The Government gives high priority to the implementation of both phases to increase local fertilizer production and decrease fertilizer imports which cost US$483 million in 1980. C. Raw Material Base 2.14 Turkey depends heavily on imported raw materials--including hydro- carbon products, rock phosphate and sulphur--for its fertilizer production as the known local resources are limited and mostly of poor quality. As a result, during 1979 and 1980, the country imported US$236 million worth of materials for fertilizer production. 2.15 Hydrocarbon Feedstocks: Oil derivatives (naphtha and fuel oil) and natural gas are the usual sources of hydrocarbon feedstocks for nitrogenous (N) fertilizer production. Turkey's domestic crude oil production of about 2.5 million tons accounts for hardly one-fifth of its annual consumption. This leads to direct and indirect imports of the main inputs for N fertilizer production. Reserves of natural gas, the most efficient feedstock for N production, have been found recently at Thrace in the northwest and at Camurlu and Dodan in the southeast (MAP, IBRD-13625R). However, it will take some time before adequate drilling is done, and reliable estimates of proven gas reserves and their composition are available. Currently, the country relies mostly on oil-based hydrocarbon inputs (naphtha and fuel oil) from the refining of imported crude oil, and on imported ammonia for the production of N fertilizers. In recent years, Turkey has been importing 100,000-150,000 tons of ammonia annually. 2.16 Aware of its lack of oil-based hydrocarbons, Turkey is seeking to base its future ammonia production partly on its extensive lignite (brown coal) deposits estimated at about 6 billion tons. AZOT has, therefore, developed plans to establish a lignite-based ammonia/urea plant at Soma. AZOT already has two lignite-based ammonia plants in operation, but one (Kutahya I) is small in size, and the second (Kutahya II), though of a larger size, has not been operating well because of technical and operational problems. 2.17 Rock Phosphate: Turkey has phosphate rock deposits in Mazidagi, Aydin-Mugla, and some other regions; but so far only limited geological, mining and beneficiation tests have been conducted. The Elazig plant of AZOT, built to operate on local phosphate rock, has encountered mechanical difficul- ties in its use. Most of Turkish phosphate deposits are low in phosphorus (P) content and also contain carbonates which have to be calcined before they could be used in phosphatic fertilizer production. Further, most of the deposits are located in remote regions with limited transportation infrastruc- ture. As a result, about 80% of total phosphate fertilizer production is currently based on imported phosphate rock. The Bank is discussing with the Turkish authorities the prospects for exploring and exploiting local rock phosphate deposits. 2.18 Sulfur: Due to its relatively small deposits and the small pro- duction of sulfur as a by-product of oil refinery operations, Turkey can meet only a minor portion of its sulfur requirements for fertilizer production. However, Turkey has large deposits of pyrites (iron sulfide), often along with copper pyrites, though they are not as economical or easy to use as sulfur in the production of sulfuric acid. Many of the existing sulfuric acid plants of  fertilizer companies based on local pyrites are experiencing technical problems, mostly due to the poor quality and high moisture of pyrites. 2.19 In the long term, as technology further develops, prospects are good for Turkey to maximize the use of local materials such as lignite and pyrites. In addition, oil and gas exploration efforts have been stepped up to increase hydrocarbon production. In the short and medium term, the country is planning to resort to other materials, in particular to substitute naphtha with refinery gases and to increase sulfuric acid production based on imported sulfur while increasing the production of local pyrites. Sulfur-based sulfuric acid plants could be modifie-` for the use of pyrites when adequate local pyrites become available. III. THE COMPANIES 3.01 The Fertilizer Industry Rationalization and Energy Saving Project includes three companies--AZOT, IGSAS and GUBRE, which account for about 56% of Turkey-s production capacity. AZOT and IGSAS are in the public sector whereas GUBRE is a joint sector company with 31% private ownership. A. Azot Sanayii T.A.S. (AZOT) 1. History and Organization 3.02 AZOT was formed in 1954 to build and operate a nitrogenous fertilizer plant at Kutahya, in central Anatolia, utilizing lignite as its raw material. The first plant, Kutahya I, was completed and commissioned in 1961. A second lignite-based fertilizer plant, Kutahya II, was built adjacent to Kutahya I and was commissioned in 1968. Subsequently, AZOT established a triple super- phosphate (TSP) plant and a diammonium phosphate (DAP) plant in 1970 and 1974 respectively at Samsun, on the Black Sea Coast in the north. These plants were followed by a single superphosphate (SSP) plant in 1970 at Elazig, in Eastern Turkey, and a calcium ammonium nitrate (CAN) plant in 1978 at Gemlik, on the Marmara Sea Coast. AZOT is now the largest fertilizer company in Turkey accounting for 33% of the N capacity and 29% of phosphate capacity. 3.03 AZOT was formed initially as a private company according to the Commercial Code of Turkey. However, the Company is regulated by the laws applicable to a State Economic Enterprise (SEE), since its entire capital is provided directly by the Government. This has affected the Company's manage- ment and decision-making process, resulting in overcentralization of authority at the corporate and ministry levels (AZOT is under the Ministry of Industry). 3.04 The direction and management of AZOT is exercised by a Board of Directors. The Chairman and two of its five members are General Manager and Assistant General Managers of the Company, respectively. The General Manager is appointed by the Council of Ministers. The Board normally meets every week to formulate policies and control day-to-day operations of the Company. 3.05 The present General Director of AZOT is capable and experienced. The plants are managed from the Company's Central Office in Ankara. Despite the conscientiousness and dedication of its present management, AZOT is not currently equipped to manage effectively the operation of its units located in  -8- different parts of the country. While some of the general problems are being addressed by the Government s proposed SEE reforms, in conjunction with this Project, AZOT management wishes to improve coordination between the Central Office and the various plant managements, and to correct, with Bank assistance, deficiences in a number of critical areas of operation particularly for: (i) production and maintenance planning; (ii) development of training programs; (iii) inventory control and management; (iv) organizational structure and compensation system; and (v) financial management with emphasis on management information system, capital budgeting, standard costing, and financial plan- ning. Under the Project, AZOT will engage the services of a competent manage- ment firm to make a detailed study of the management and operation of the Company including financial management (terms of reference enclosed as Annex 3-1), and prepare an action program for overcoming the deficiencies. The short list of firms and the terms of reference for the study have been agreed with the Bank and the firms will be selected under Bank guidelines not later than December 31, 1981. The program will be prepared by December 31, 1982 and implemented in consultation with the Bank by December 31, 1983. Financing for such a study and its implementation program is included under the Project. In addition, the Government plans to take steps to enable AZOT to have the necessary autonomy to effectively manage the operations. In this context, agreement was reached with the Government and the Company that the Board of Directors of AZOT will delegate authority and responsibility to the General Director regarding particularly personnel, investment, contracting and purchasing matters and he, in turn, will delegate adequate authority and responsibility to Plant Managers. 2. Production Performance 3.06 AZOT has six operating plants with a total capacity to produce 306,000 tpy of N and 243,000 tpy of P. The plantwise design capacities and recent production performance are summarized in the following table: AZOT - Production in Operating Plants Capacity ('000 tons) Production ('000 product tons) Fertilizer Plant Produced Product N P 1976 1977 1978 1979 1980 Kutahya I CAN (21% N) 50 10.3 - 62.6 57.3 66.6 61.2 55.0 AS (20.5% N) 60 12.3 - 76.3 69.4 56.0 47.4 36.3 Kutahya II CAN (26% N) 339 88.0 - 180.2 121.0 155.7 82.8 84.2 Samsun I TSP (45% P) 220 - 99.0 100.9 105.0 109.1 144.0 114.2 Samsun II DAP (18-46-0) 227 41.0 104.5 95.5 70.2 73.1 73.1 105.1 Elazig SSP (17% P) 220 - 39.5 63.0 34.2 30.6 34.4 15.8 Gemlik CAN (26% N) 594 154.4 - - - - 122.1 170.4 Total 1,710 306.0 243.0 578.5 457.1 491.1 565.0 581.0 3.07 While Kutahya I, a small lignite-based plant, is operating at high capacity, all the other five plants of AZOT are operating at low capac- ity (7-52%) for reasons mentioned earlier (para 2.09). The lowest capacity utilization is in the Elazig plant, which is based on local materials (rock phosphate and sulfuric acid) not available in the required volume and quality; transportation of imported materials to make up the deficit is not economically  - 9 - feasible because of the plant-s remote location and the lack of adequate transport infrastructure. Further, the Gemlik plant is new (commissioned in 1978) and has been experiencing prolonged commissioning problems. The engineering firm which built the plant is helping to overcome those problems. A brief description of the Kutahya II and Samsun facilities which are the only AZOT plants included under the (Phase I) Project, is given below. 3.08 Kutahya II: The lignite-based Kutahya II plant, commissioned in 1968, consists of a 340 tpd ammonia plant, a 610 tpd nitric acid plant and a 1,026 tpd CAN plant. The plant was engineered and constructed by a consortium of firms--Krupp-Koppers and Pintch Bamag (FRG) and Kaltenbach (France). They use the Koppers-Totzek process for lignite gasification, the Casale process for ammonia synthesis, the Oswald process for nitric acid production and the Kaltenbach prilling process for CAN production. Lignite is obtained from a nearby mine at Seyitomer, some 26 km from the site, and transported by rail to the factory. The other raw material--dolomite--is also obtained locally. The plant requires approximately 27 MW of power which is obtained from the national grid. However, interruptions in power supply and voltage fluctua- tions in the power grid constitute a serious problem at Kutahya. This problem could be overcome either by installing a direct power line from the Seyitomer Thermal Plant to Kutahya or by installing a captive power plant at Kutahya. Agreements have been reached that AZOT will study these alternatives and submit a report to the Bank by September 30, 1981 on the steps to be taken to solve the power supply problem along with an implementation schedule and firm financing arrangements. This will be a condition for disbursement of the loan portion to AZOT for Kutahya II equipment. 3.09 Following its acceptance tests in 1968, Kutahya II has not been able to operate at high capacity due to low ammonia production. During the last four years, capacity utilization has been as follows: 36% in 1977; 46% in 1978; 24% in 1979; and 22% in 1980. The major factor limiting capacity utilization has been mechanical failures at the ammonia plant arising from the uneven quality of lignite supplied by the Turkish Coal Company (TKI); the quality of deliveries while averaging over the year the required specification, fluctuates frequently, causing operational problems. The plant has also suffered from poor operation and maintenance practices. In 1980, the plant was down for about 2,155 hours due to mechanical problems, 315 hours due to power failures, and 260 hours due to insufficient steam availability. Under these conditions total production for 1980 was only 84,150 tons of CAN, 25% of the design capacity. Krupp Koppers have studied the problem of Kutahya and have prepared a program of investments aimed at overcoming the difficulties caused by lignite of uneven quality and improving inadequate plant sections (para 5.03). With these improvements and and proposed measures to solve the power supply problem (para 3.08), the plant is expected to increase capacity utilization to 85% by 1987. 3.10 Samsun Plants: The plants are located some 14 km east of Samsun, on the Black Sea Coast, next to the copper smelter of Karadeniz Copper Works (KBI), a public sector undertaking, which supplies by-product sulfuric acid from the smelter to the fertilizer plant. The Samsun Complex has three processing plants with the following design characteristics:  - 10 - Samsun Complex - Plantwise Production Capacity Design Basis Daily Annual Annual Plants Products Capacity Operation Capacity (tons) (days) (tons) Samsun I: Sulfuric Acid Sul. Acid (98%) 650 330 214,500 Phos. Acid Phos. Acid (28%) 224 320 71,700 TSP TSP (45% P) 734 300 220,000 Samsun II: Phos. Acid Phos. Acid (54%) 340 320 108,800 DAP DAP (18-46-0) 710 320 227,200 The sulfuric acid unit was built by IPRAN (Romania) under the license of Lurgi and uses the Contact process. Other Samsun I and II facilities were built by Chemiebau, predecessor of Davy International, using the dihydrite process for phosphoric acid, and the Olin Mattheisson process for DAP production. The Complex has a jetty to unload phosphoric rock, but pyrites imported to make up the deficit in local availability are unloaded at the Samsun harbor and trucked to the site. Ammonia is imported through the jetty; and sulfuric acid from the nearby smelter is transported by pipeline. Total power requirement of the complex is 11.5 MW; of this, 5 MW is obtained from the process and the rest is purchased from the national grid. Fresh water is obtained mainly from two sources: wells within a radius of 3 km; and river reservoir, about 5 km away. Water from these sources is not enough to meet the demand of the complex especially in summer months. This is one of the bottlenecks limiting capacity utilization. AZOT will construct as part of the Project a new water supply line from Yesilirmak river to the site (about 25 km) to increase water supply to the Samsun plant. 3.11 The capacity utilization in Samsun in recent years is summarized below: Samsun Complex - Production Performance 1977 1978 1979 1980 Plant tons % a/ tons % a/ tons % a/ tons % a/ Sulfuric Acid 109,657 49.8 41,125 15.9 5,201 2.4 37,253 17.4 Phos. Acid I 29,236 40.8 26,732 37.3 41,939 58.5 35,150 49.0 Phos. Acid II 46,420 42.6 47,054 43.2 45,070 41.5 56,510 51.9 rsP 105,030 47.7 109,065 49.6 144,016 65.5 114,248 52.0 DAP 70,226 30.3 73,060 32.2 73,100 32.2 105,100 46.2 a! Capacity utilization. Due to the limited availability of flotation pyrites and sulfuric acid from the nearby copper smelter of KBI, reliance on the imports of such materials had to be increased greatly during the period. The KBI sulfuric acid plant with a rated capacity of about 1,000 tpd is operating only at about 10% capacity due to: (i) inadequate local copper ore supply; (ii) low S02 content of gas which is vented to the atmosphere; and (iii) inadequate power supply. The availability of copper ore is expected to increase in the future, as the Government has plans to increase production from the copper deposits at Kure and Cayeli. Samsun's own sulfuric acid production is also low. Since the existing 650 tpd sulfuric acid plant at the Samsun fertilizer complex is  - 11 - based on flotation pyrites from the KBI copper smelter, and since the smelter is operating at low capacity, adequate flotation pyrites are not available to the Samsun sulfuric acid plant. Imported flotation pyrites from Cyprus are being used to supplement local supply, but this could meet only part of the shortfall as the export from Cyprus are declining, and as importation from other further away places is less economic due to high transportation costs. Sulfuric acid production at Samsun is further hampered by the high moisture content of the KBI flotation pyrites, which makes them difficult to screen and use. A drying system, along with a lump crusher, to dry the flotation pyrites before screening is necessary at Samsun for efficient use of the pyrites. Further, the installation of a sulfur burner at Samsun would provide the flexibility to use sulfur for acid production if adequate flotation pyrites are not available. 3.12 With these facilities, which are included under the Project, the Samsun plant can increase its sulfuric acid production to about 160,000 tpy (compared to the current production of about 37,250 tpy). At the KBI sulfuric acid plant, sulfuric acid production would increase to 1.40,000 tpy or more if the copper ore supply is increased to KBI as planned and and if KBI installs a sulfur burner to increase the concentration of the smelter gas with low SO2 concentration (which is currently flared) as planned under the proposed State industrial financing project. Even with the above schemes, the acid supply to Samsun would reach only about 300,000 tpy, which falls short of the Samsun requirements by about 240,000 tpy. Therefore, it is proposed to install a new economic-sized, sulfur-based acid plant under Phase II. This plant can be easily modified in the future to use local pyrites instead of sulfur when the local supply of pyrites increases and the quality is improved. Until the new sulfuric acid plant is built, the Samsun complex will import phosphoric acid to make up the shortfall in local production. Facilities for unloading and piping phosphoric acid from the plant jetty to the phosphoric acid units are included under the Project. 3. Operating Results and Financial Position 3.13 The operating results of AZOT shown in Annexes 3-2 and 3-3 are summarized below: AZOT - Selected Financial Data (in TL million unless otherwise noted) 1977 1978 1979 1980 Net Sales Revenue 1,532 2,625 4,358 13,611 Net Profit (Loss) ( 443) ( 404) ( 650) 1,952 Current Assets 1,258 2,443 4,940 8,486 Current Liabilities 1,746 2,432 4,969 4,938 Net Fixed Assets 2,385 3,022 5,966 10,634 Long-term Debt 1,716 2,995 6,508 7,449 Equity 786 697 151 7,302 Ratios Debt/Equity 69/31 81/19 98/2 50/50 Current Ratio 0.7:1 1:1 1:1 1.7:1  - 12 - 3.14 The financial position of AZOT improved significantly last year. AZOT had been showing losses during 1977-79, partly due to low capacity utilization and partly due to low ex-factory prices fixed by the Government. However, in 1980, the Government increased ex-factory prices close to interna- tional levels (para. 4.23), and, as a result, the Company showed substantial profits (TL 1,952 million). Both Kutahya and Samsun units showed profits in 1980 after losing continuously during 1977-79. The equity base of the Company, which was eroded because of accumulated losses until 1979, improved appreci- ably in 1980 due to significant profit from operations in 1980 and about TL 5.1 billion increase in share capital of the Company with funds from the Government (the shareholder). As a result, during 1979 and 1980, the debt/ equity ratio of AZOT improved from 98/2 to 50/50 and the current ratio from 1:1 to 1.7:1, both of which are now satisfactory. 4. Accounting and Financial Management 3.15 Modern financial management and accounting practices are not ade- quately used in AZOT at plant and corporate levels. Therefore, AZOT needs help to develop and establish cost centers, management information systems, financial planning, capital budgeting, and cost accounting and control. The proposed management improvement program will also cover these aspects, along with the training needs. Further, the auditing system of AZOT is not satis- factory with respect to timing. AZOT's accounts are audited by the High Control Board of the Prime Minister's Office. The reports are usually published 9-12 months after the end of the fiscal year. Agreement has been reached that AZOT will have its accounts prepared promptly and satisfactorily by training more accountants and using external accounting firms if necessary so that the High Auditing Board could finalize the audit within four months of the end of the accounting period. B. Istanbul Gubre Sanayii A.S. (IGSAS) 1. History and Organization 3.16 IGSAS was established in March 1971 under the Commercial Code with TPAO (Turkish Petroleum Corporation), a SEE and Turkey's leading petroleum company, and IPRAS, a fully-owned subsidiary of TPAO, holding 60% and 40% of the share capital, respectively. IGSAS operates a Bank-financed ammonia/ urea plant at Tutunciftlik, utilizing naphtha from the adjacent IPRAS refinery. The plant was mechanically completed in June 1977. Initially, many technical commissioning problems were encountered, including an explosion in one of the two auxiliary boilers caused by leakage of naphtha, rupture of the hydrogen compressor, and damage of the rotor of the syngas compressor. These problems were partly due to design shortcomings and partly due to lack of operating experience by local employees. Subsequently, repairs and modifications were carried out and the plant was commissioned at the end of 1977. Since then, the capacity utilization of the plant has increased gradually as the operators gained experience, reaching 84% in 1980. IGSAS is presently managed more efficiently than other public sector fertilizer companies in Turkey and shows the highest capacity utilization in the industry. 3.17 The articles of association of IGSAS specify that the Company will be managed as a private company, and the Loan Agreement with the Bank (845-TU) stipulates that any changes in the Company's by-laws and statutes need prior Bank approval. The relatively good performance of the Company can be attributed substantially to its legal status which allows its management  - 13 - flexibility in effectively managing the Company. Although the Government has clearly indicated that it favors continuation of the present IGSAS status, ttie increasing dependence of the Company's shareholders (TPAO and IPRAS) on government funding could result in steadily growing pressure to treat IGSAS as a SEE. This could have long-term negative implications on its performance. Therefore, the existing covenant that any change in the status of the Company will not be made without prior Bank approval was reconfirmed during negotiations. 3.18 The IGSAS Board consists of five members. Besides, two auditors selected by the shareholders (TPAO and IPRAS) attend Board meetings. In recent years, board members have been appointed directly by the Ministry of Energy to which IGSAS reports. Executive management of the Company is vested in the General Manager who is the chief executive of the Company for the day-to-day operations. He attends Board meetings but is not a member of the Board. The General Manager of IGSAS was changed two times during the last three years because of political changes, though both appointees have been experienced and competent. However, such changes also lead to turnover at lower levels of management and the resulting instability has adverse effects on company performance. In order to assist in maintaining basic conditions conducive to effective management, satisfactory understandings have been reached with the Government and the Company that qualifications and experience of individuals appointed for key positions would be consistent with the job requirements. Similar understandings were also reached with respect to AZOT and GUBRE. 2. Plant Facilities 3.19 The plant is located at Tutunciftlik, some 15 km from Izmit, and has a 1,000 tpd ammonia unit and a 1,550 tpd urea unit with related utilities and offsite facilities. The plant was engineered and built by Uhde (FRG). Naphtha and fuel oil are obtained for the complex from the adjacent IPRAS refinery through pipeline. Power requirements are met from an 8 MW in-plant turbo-generator supplemented by the national grid. Fresh water require- ments are obtained from facilities developed for the IPRAS refinery. Sea water is used for cooling. The plant has 80,000 tons bulk urea storage, equivalent to 50-day production capacity. 3.20 After resolving the initial teething problems, IGSAS has stabilized production, but the economics of the Project has been adversely affected by the sharp increases in naphtha price. Under the proposed Project, IGSAS will use platformer gas and refinery off-gas from the IPRAS refinery as feedstock and fuel respectively to decrease naphtha consumption by 40% and the fuel oil used for steam generation by 22%. To further improve the economics of the plant, energy saving measures and modernizations will be carried out under the Project (para 5.04). 3. Production Performance 3.21 Capacity utilization by IGSAS has shown an improving trend, with total urea production reaching 420,000 tons, 84% of design capacity, in 1980. Design capacity and the trend of capacity utilization are summarized below:  - 14 - IGSAS - Production Performance Design Capacity 1978 1979 1980 Tons/Year Tons % a/ Tons % a/ Tons % a! Ammonia 330,000 168,456 51 177,535 55 265,000 80 Urea 511,500 219,309 43 276,678 54 429,740 84 a/ Capacity utilization The capacity utilization in 1978 and 1979 was affected by shortages of naphtha. This problem was overcome in late 1979 with increased supply of naphtha by the IPRAS refinery, and the current capacity utilization is the maximum achievable at present considering the technical constraints the plant is facing. The main technical constraints are the lack of steam due to higher-than-design consumption of steam per ton of product, frequent downtime for cleaning the naphtha exchangers, corrosion problems in ammonia condensers, syngas compressor failures, excessive hydrogen content in the carbon dioxide stream from the ammonia plant, and longer than normal maintenance downtime due to inadequate maintenance facilities. The proposed Project aims at correcting these deficiencies. 4. Operating Results and Financial Position 3.22 The production, sales and financial data of the Company shown in Annexes 3-4 and 3-5 are summarized below: IGSAS - Selected Production and Financial Data (in TL million unless otherwise noted) 1977 1978 1979 1980 Production (-000 tons) - Ammonia for Sale 14 24 12 10 - Urea 70 219 266 430 Net Sales Revenue 61 1,159 2,308 12,247 Net Profit (Loss) (128) (161) 37 2,787 Current Assets 451 942 2,486 9,663 Current Liabilities 397 1,078 2,690 7,258 Net Fixed Assets 2,157 2,293 2,918 13,690 Long-term Debt 1,358 1,451 1,976 2,901 Equity 866 707 744 3,531 Ratios Debt/Equity 61/39 67/33 73/27 45/55 Current Ratio 1.1:1 0.9:1 0.9:1 1.3:1 Because of delays in stabilizing production which are not unusual for plants of this type, IGSAS was not able to operate profitably during 1977-78. As a result, the Company showed losses of TL 128 million and 161 million in 1977 and 1978, respectively. However, in 1979, the Company showed a modest profit. The following year, IGSAS profitability improved substantially partly because of increased capacity utilization and partly due to the fixing of ex-factory prices to levels close to international prices. As a result, the Company's financial situation reached a satisfactory level with the current ratio  - 15 - increasing to 1.3:1 and the debt/equity ratio reaching 45/55 because of higher retained earnings. Considering its satisfactory cash flow position and its ability to operate at high capacity, the Company is expected to be able to finance the local cost of the proposed energy saving and modernization sub- project from internal cash generation (para 7.13). Further, the financial situation of the Company is expected to improve significantly under the Project which is expected to raise IGSAS capacity utilization to 95% by helping to utilize the excess design capacity in the urea plant (which would be capable of reaching 110% after the Project). 1/ 3.23 Satisfac-ory accounting and financial management practices are followed in IGSAS. Auditing is done by two auditors appointed by the share- holders. In addition, the High Auditing Board reviews the Company's operations and financial results and reports to the Prime Minister's Office. C. Gubre Fabrikalari T.A.S. (GUBRE) 1. History and Organization 3.24 Gubre Fabrikalari T.A.S. (GUBRE) is a joint-sector company estab- lished in 1953. Currently, three state-owned organizations--T.C. Ziraat Bankasi (Agricultural Bank), AZOT and T.C. Zirai Donatim Kurumu (DONATIM) own 34% of the shares; agricultural cooperatives and insurance companies own 35%; and private enterprises and general public own the remaining 31%. The Company has two complexes, one at Yarimca, in northern Turkey, for the production of TSP and NPK fertilizers, and the other in Iskenderun, in southern Turkey, for the production of TSP. 3.25 The direction and management of GUBRE is exercised by a Board of Directors. The Board has seven members and three auditors. Executive management of the Company is vested in the General Manager who is the chief executive for the day-to-day operations. He attends Board meetings but is not a member of the Board. Top management staff are headquartered in Istanbul and are able and experienced. Headquarters staff are organized under two deputy general managers, one technical and the other administrative. The operations, planning and investment departments report to the Technical Deputy Manager; and the accounting/finance, commerce, marine transport, personnel and office services departments report to the Administrative Deputy General Manager. The plant managers at Yarimca and Iskenderun are capable and they report through deputy general managers to the management. 2. Production Performance 3.26 Design capacities and the recent trend of production of the Company are summarized below: 1/ During commissioning in 1977, the urea plant showed capability to reach 105%.  - 16 - Gubre Fabrikalari - Production Performance Capacity (-000 tons) Production (-000 product tons) Type of Nutrient Plant Products Product N P 1976 1977 1978 1979 1980 Yarimca TSP 200 - 90 170 171 114 118 123 NPK 200 38 38 - - 54 131 130 Iskenderun TSP 200 - 90 165 150 72 115 132 Capacity Utilization (%) Yarimca TSP 100 85 85 57 59 62 NPK 100 - - 27 65 65 Iskenderun TSP 100 83 75 36 58 66 3.27 In 1980, the capacity utilization at Yarimca was 62% for the TSP plant and 65% for the NPK plant. At Iskenderun, capacity utilization was 66% for the TSP plant. Though these facilities are operating better than many other fertilizer plants in Turkey, there is room for substantial improvement through rationalization of the existing facilities included under the proposed Project. As a result of this rationalization, the capacity utilization is expected to go up gradually to 90%, which is close to the levels achieved in 1976. 3.28 The Yarimca Complex, 20 km from Izmit, was originally built as a SSP plant in 1961 and was expanded by the addition of a 75,000 tpy phosphoric acid plant (based on Rhone Poulenc process of France) in the early 1970s, to help switch-over from the production of SSP to TSP, a higher-analysis fertil- izer. The TSP plant was based on the following processes: Broadfield Den for reaction and Profabril for granulation. The engineering contractor for the conversion was Woodall Duckam (U.K.), which has been subsequently acquired by Davy International. The TSP plant operated at relatively high capacity until 1977. Since then, capacity utilization has been low mainly due to difficulties with the TSP mixer and granulators, which will be replaced under the Project. The Yarimca facilities were expanded in 1977-78 by the addition of MAP and NPK units. 3.29 The Complex depends on imported rock phosphate, sulfuric acid and potassium chloride, local ammonia and urea (from the IGSAS plant 4 km away). The importation of sulfuric acid is uneconomic because of high transportation costs. Therefore, a new 710 tpd sulfuric acid plant will be established under the Project. The high pressure steam from the sulfuric acid plant will be used to produce power by installing a 4.5 MVA turbine-driven power generator. This power supply will meet about 50% of the power needs of the Yarimca complex. This will help the facilities to reduce the downtime to a minimum due to power failures and cut offs from the national power grid. Any temporary surplus of sulfuric acid from the new unit would be shipped to Iskenderun where the sulfuric acid production is not adequate to meet its needs. The Company owns a 3,000-ton sulfuric acid ship to transport acid. 3.30 Certain parts of the phosphoric acid plant have deteriorated, affecting capacity utilization. Those parts will be replaced under the proposed Project. Further, the disposal of by-product gypsum is a serious problem in Yarimca. Currently, two barges (each of 500-DWT capacity) carry  - 17 - the gypsum for disposal at sea. Under the proposed Project, a new 500 DWT barge will be procured, an additional pier will be installed and the gypsum loading system will be remodelled to facilitate faster disposal of gypsum. 3.31 The Yarimca facility has a municipal water supply pipeline with a capacity to supply up to 230m3/hr. The plant requirement ranges from 60- 70 m3/hr. However, water shortages occur especially during summer months when the demand for municipal water in the city increases. This bottleneck will be overcome with the completion of a new water pipeline completed recently for supplying additional water to the city. 3. Operating Results and Financial Position 3.32 The production, sales and financial data of the Company are shown in Annexes 3-6 and 3-7 and summarized below: Gubre Fabrikalari - Selected Production and Financial Data (in TL million unless otherwise noted) Production 1977 1978 1979 1980 TSP ('000 tons) 320 186 233 255 NPK ('000 tons) - 54 131 132 Net Sales Revenue 950 1,206 3,052 9,823 Net Profit (Loss) 39 64 295 580 Current Assets 631 1,077 3,412 8,581 Current Liabilities 675 1,093 3,183 7,580 Net Fixed Assets 595 693 934 1,440 Long-term Debt 259 331 540 855 Equity 317 380 650 1,720 Ratios Debt/Equity 45/55 47/53 45/55 33/67 Current Ratio 0.9:1 1.0:1 1.1:1 1.1:1 3.33 Gubre Fabrikalari has been showing profits every year during the last four years partly due to its higher capacity utilization than most other fertilizer companies. Net profit has increased sharply during 1979-80 partly due to higher ex-factory prices fixed by the Government. The Company has a sound debt/equity ratio (33/67) and a current ratio of 1.1:1 which, under the present high inflationary situation in Turkey, is satisfactory but would be low in normal conditions. The Company is expected to be able to finance from internal cash generation the local cost of the rehabilitation sub-project for Yarimca (para 7.13). IV. FERTILIZER MARKET, MARKETING AND PRICES A. Agricultural Situation 4.01 About 60% of the population of Turkey is dependent on agriculture for its livelihood. The agricultural sector accounts for 23% of Gross Domestic  - 18 - Product (GDP) at factor cost. The country is largely self-sufficient in its food and fiber requirements, 1/ and agricultural commodities--particularly fruits and nuts, cotton, tobacco and wheat--are its major exports (which accounted for 62% of total merchandise exports in 1980). The ability to maintain a strong agricultural production base to support its population of over 45 million, which is increasing at an annual rate of 2.5%, is crucial to Turkey's development. 4.02 Since the beginning of the First Five-Year Plan in 1963, the per- formance of agriculture has been satisfactory by international standards, with an average annual growth rate of nearly 3% during 1963-1980, just ahead of the population growth rate. Output increases up to 1963 have been mainly due to expansion in the area under cultivation. Since then, because of the limited scope for increasing further the cultivated area, the emphasis has changed from extensive to intensive cultivation. Various government programs have been developed to encourage intensive cultivation, including expansion of irrigation works, mechanization, feeder road network, extension services, farm credit, marketing infrastructure, farm price support program, and more intensive use of agricultural inputs like fertilizers. 4.03 Of the total land area of 77.8 million hectares (ha), only 25 million ha--a little less than one-third--are cultivated, and of that some 16.5 million ha are sown with the rest being left fallow. Considerable efforts have been made in the last 15 years in developing major irrigation projects. Currently, 2.8 million ha of land have access to irrigation although only 2.3 million ha are actually irrigated. By 1995, the area under irriga- tion is expected to be increased significantly. Although the use of irriga- tion water is not very efficient at present (because those who have access to it often use it excessively), its supply and the availability of other modern agricultural inputs such as tractors, pesticides, high-yielding seed varieties, and fertilizer, have created a trend towards intensive agriculture in Turkey. 4.04 Foodgrains predominate in land use, accounting for nearly 14 million ha or over 85% of the sown area. Intensively cultivated crops like fruits and nuts, vegetables, cotton, sugar beets, sunflowers, and tobacco occupy much less land than foodgrains but surpass the foodgrains both in terms of value of production and in terms of consumption of modern agricultural inputs, including fertilizer. About 40% of fertilizer consumption is now accounted for by foodgrains while the remaining 60% is accounted for by industrial and other cash crops. B. Past Growth of Fertilizer Consumption, Production and Imports 4.05 The historical fertilizer consumption, production and import statistics are given below: 1/ Except for vegetable oils and wool which are imported in large quantities.  - 19 - Turkey - Historical Fertilizer Consumption, Production and Imports ('000 nutrient tons) Calendar Nitrogen Phosphate Potash 2/ Year Cons. Prod. Imp. Cons. Prod. Imp. Cons. 1960 10 1 9 10 10 - 1 1965 73 33 32 75 38 35 6 1972 375 146 345 246 125 136 27 1973 430 135 285 280 97 173 13 1974 329 108 180 218 161 72 17 1975 368 209 59 324 312 13 15 1976 591 185 534 522 336 147 31 1977 666 191 443 573 320 234 20 1978 776 260 484 635 264 394 16 1979 779 325 437 660 285 298 38 1980 605 b/ 460 418 446 b/ 352 344 34 b/ Annual Growth Rate (%) 1965-72 26.0 23.6 - 18.5 18.5 - 23.9 1972-77 15.5 14.6 - 18.0 16.1 - (6.0) 1965-77 21.3 19.4 - 18.3 17.5 - 9.4 1965-79 18.5 17.8 - 16.8 15.5 - 14.1 a! There is no potash production in Turkey. b/ Estimated by the Ministry of Agriculture, Turkey. Sources: State Planning Organization and Ministry of Agriculture, Turkey. 4.06 From a low base, N consumption increased at an average annual rate of 26% during 1965-72. During the same period, phosphate and potash (K20) consumption grew at average annual rates of 18.5% and 24%, respectively. The annual growth, however, began tapering off after 1972. Consumption actually declined in 1974 and was virtually stagnant in 1975 because of an increase in fertilizer retail prices with effect from January 1, 1974. Faced with this situation, the Government reduced the prices at the end of 1975 which were held steady until 1979 (para. 4.22)--and this resulted in sharp increases in consumption during 1976, 1977 and 1978, except for that of K20 which has remained small and has been showing an erratic trend. 1/ In 1979, nitrogenous fertilizer consumption stagnated mainly because of supply constraints. The following year, N consumption declined by 22% because of 250-400% increases in retail prices in February 1980 and an additional 10-40% increase in September 1980. It is expected that consumption will resume its upward trend in 1981 and onwards as farmers realize that in spite of recent increases in retail fertilizer prices (i.e., the urea retail price has gone up from US$60/ton in 1979 to US$160/ton in 1980, which is about 53% of the c.i.f. landed price as shown in para 4.23), the ratio of fertilizer/crop prices are still favorable for increased fertilizer application. This is also based on the assumption that the fertilizer supply situation will improve in the future with increased foreign exchange allocation for the import of fertilizer raw materials and finished products and the proposed debottlenecking of existing fertilizer plants. 1/ Agronomic studies of the Government show that the soil in Turkey does not at present need much potash except for cash crops such as tobacco.  - 20 - 4.07 The fertilizer use per hectare of arable land and per capita is still comparatively low in Turkey as shown in the following table: Fertilizer Consumption per Hectare of Arable Land and Per Capita, 1977 (kg) Per Capita Consumption N P205 K20 Total (N, P, K) Turkey 24 22 1 47 31 Romania 54 44 9 107 52 Yugoslavia 51 26 25 101 37 Greece 73 43 9 126 54 Spain 38 18 12 69 39 U.K. 169 60 60 288 36 F.R.G. 165 109 148 422 55 France 97 98 83 278 99 Italy 66 51 24 141 31 U.S.S.R. 32 22 23 78 70 Portugal 43 22 11 76 31 Europe (Ave.) 91 61 59 210 63 World (Ave.) 32 19 16 68 24 Source: FAO, Annual Fertilizer Review, 1978. The latest FAO statistics available show that in 1977 fertilizer consumption per ha of arable land in Turkey was hardly 26% for N and 36% for P205 of the European average. Comparable consumption levels in 1977 in the neighboring countries such as Greece, Italy, Yugoslavia and Romania were 2-3 times higher for N and about twice as much for P205. 4.08 Fertilizer production has been lagging behind consumption and considerable imports have been necessary (Annex 4-1). Imported fertilizers since 1972 have comprised nearly 65% of the N supply, 40% of P205, and 100% of the K20 supply. Fertilizer imports cost Turkey US$317 million in 1979 and an estimated US$500 million in 1980. As noted previously, in addition to the imported finished fertilizers, Turkey also relies on imported fertilizer raw materials and intermediates such as phosphate rock, phosphoric acid and sulfuric acid (which cost the country an additional US$230 million in 1980) and most of the local production of ammonia is derived from imported hydro- carbons. It is more economical for Turkey to import the raw materials and produce most fertilizer domestically than to import the fertilizer itself, as shown by the satisfactory economic rate of return of the fertilizer projects. This is partly due to the existence of sunk costs on fertilizer plants, and the use of by-products (from refineries and copper smelters). The recent discovery of natural gasfields, the plans for natural gas exploration, and the development of the local low-grade phosphate rock and lignite and pyrite deposits in the country, point to the potential for Turkey to become less dependent on imports in the future (paras 2.14 and 2.15). In the short term, Yiowever, the fertilizer industry can derive greater benefits from the more intensive use of the existing capacity, from the substitution of locally available lower cost feedstocks like refinery gas for higher-value naphtha, and from increased production of intermediates such as sulfuric acid initially based on imported sulfur but ultimately using domestic pyrites. It is, therefore, crucial for the fertilizer industry to receive adequate foreign exchange required for these imports from the Government.  - 21 - C. Fertilizer Demand Projections 4.09 Available projections of N fertilizer demand in Turkey show consider- able divergence. The following table compares the projections made by the Turkish Special Fertilizer Commission, AZOT and the Bank: Turkey - N Fertilizer Demand Forecasts ('000 nutrient tons) (Years of Projection) (1977) (1977) (1980) Special Commission - AZOT/ Bank 1977 (actual) 666 666 666 1978 776 776 776 1979 779 779 779 1980 (est.) 605 605 605 1981 1,068 1,192 700 1982 1,126 1,319 805 1985 1,228 1,773 1,040 1987 1,296 2,152 1,240 Average Annual Growth Rates (%) 1972-77 (actual) 15.5 15.5 15.5 1977-82 11.5 14.6 4.0 1977-87 7.0 12.5 6.5 a/ Established in 1976 by the State Planning Organization to prepare a background report for the development of the fertilizer industry during the Fourth Five-Year Plan (1978-1982). b/ As given in AZOT's feasibility study for the Mazidagi Fertilizer Project prepared in 1977. 4.10 The demand forecasts prepared by AZOT in 1977 for the period 1981-87, based on a linear projection of past trends in the growth of fertilizer consumption from a low base, seem very optimistic. The forecasts of the Special Commission, prepared the same year, have also proved optimistic for the 1977-82 period. The consumption increased at an annual rate of 8% during 1977-79, reaching 779,000 tons of N in 1979 and declined by 22% in 1980 because of sharp increases in fertilizer retail prices to farmers. The Ministry of Agriculture has projected that the consumption would reach about 814,000 tons of N in 1981. This represents an increase of nearly 35% over the consumption in 1980 but an increase of only 4.5% over the consumption in 1979. Even though the crop:fertilizer price ratio is still favorable for fertilizer use, it is unlikely that there would be a major jump in fertilizer consumption in 1981, considering the various constraints (e.g., foreign exchange avail- ability). The Bank projection assumes that consumption would increase at an annual rate of 15% during 1981 and 1982 from the low base of 1980; for the 1982-87 period, the growth rate is likely to average 9% considering the country's medium-term agricultural development plans. 4.11 There is scope for increasing the sown area by reducing the fallow area (7-8 million ha) and for increasing the area under irrigation. It is estimated that hardly 20% of the irrigation potential has been realized so far. Further, as noted, the application of fertilizers on cereal crops is much below the recommended levels, even though the application rates on industrial crops are comparatively high. Therefore, there is scope for  - 22 - sharply increasing the application rates on cereal crops which currently account for about 70% of the area under cultivation but only for 40% of total fertilizer consumption. 4.12 Agronomic studies also show that the most favorable N: P: K ratio for Turkey is approximately 4:3:0.08, which, in fact, is not very different from the actual ratio already attained. Applying this ratio to the Bank forecasts for N fertilizer needs, the following demand projections for P205 and K20 are derived: Turkey - Bank Fertilizer Demand Forecasts for P205 and K20 ('000 nutrient tons) N P K 1977 (actual) 666 573 30 1982 805 604 16 1987 1,240 930 25 Average Annual Growth Rates (%) 1977-82 4.0 1.0 1982-87 9.0 9.0 1977-87 6.5 5.0 D. Capacity and Production Forecasts 4.13 The total annual capacity of N and P205 in the country was 364,300 tons and 575,000 tons, respectively, at the end of 1977. Since then, six new projects were either commissioned or undergoing start-up tests. With these projects in operation, the annual capacity has increased to 928,300 tons for N and 850,000 tons for P205. 4.14 The production forecasts (Annex 2) are based on the assumptions that after the completion of the proposed Project, the rehabilitated plants will gradually reach capacity utilization rates of 85% in Kutahya II, 90% in Samsun and Yarimca plants, and 95% in IGSAS. 1/ The forecasts are also based on the assumption that the Government will make all the required foreign exchange available to the fertilizer industry so that there would be no constraint for the import of raw materials. Further, it is assumed that the plants of Akdeniz Gubre and Ege Gubre, and the Iskenderun plant of Gubre Fabrikalari would be debottlenecked under Phase II during 1982-86, and thereafter gradually increase their capacity utilization to 90%. The private sector plants are expected to increase their capacity utilization to 60%, 70% and 90% during 1981-83 if adequate imported materials and spares are made available to them, since these plants are not facing significant mechanical problems. 4.15 On the basis of the above assumptions, the gross total production of N and P205 is expected to reach 884,000 tons and 720,000 tons, respectively, by 1987. However, discounting the domestically-supplied urea which would be used by the local NPK plants, the net production of N would be 809,000 nutrient tons in 1987 compared to 191,000 tons in 1977. 1/ Considering that the IGSAS plant is slightly overdesigned, it should reach 95% of design capacity after the Project.  - 23 - E. Supply/Demand Balance 4.16 The following table shows the supply/demand balance for N and P205 fertilizers in Turkey during 1977-87: Turkey--Production/Demand Balance for Nitrogenous and Phosphatic Fertilizers (-000 nutrient tons)