Peru - Huinco Hydroelectric Project

RESTRICTED Report No. P-Z27 This report was prepared for use within the Bank. It must not be published nor may it be quoted as representing the Bank's views. The Bank assumes no responsibility for the accuracy or completeness of the contents of the report. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATIONS OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON THE PROPOSED LOAN TO LIMA LIGHT AND POWER COMPANY (EMPRESAS ELECTRICAS ASOCIADAS) PERU June 14, 1960 REPORT AND RECOMMENDATIONS OF THE PFESIDENT TO THE EXECUTIVE DIiECTORS ON THE PROPOSED LOAN TO THE LI1A LIGHT AND POWJER COHPANY (EMPRESAS ELECTRICAS ASOCIADAS), PERU 1. I submit the following report and recommendations on a proposed loan of an amount in various currencies equivalent to $24 million to the Lima Light and Power Company (Empresas Electricas Asociadas), hereinafter referred to as "Lima Light", to help finance the foreign exchange cost of expanding power generation and transmission facilities serving the Greater Lima area. PART I: HISTORICAL 2. In October 1959 Lima Light asked the Bank to assist in financing the construction of the first stage of the Huinco hydroelectric plant and the associated Marcapomacocha water diversion scheme. A Bank mission visited Peru in February 1960 to review the project and negotiations for the loan began in Washington on May 16, 1960. Dr. Carlos Mariotti, General Manager of Lima Light, represented the borrower. The Government of Peru was represented by Ambassador Fernando Berckemeyer and by Mr. Carlos Gibson, Financial Counselor, of the Peruvian Embassy in Washington. 3. The proposed loan would increase the Bank's lending (including participations) to Peru, net of cancellations and tenninations, from $52.5 million to $76.5 million equivalent. The Bank has already made the following loans to Peru: -2- Amount of Loan (net of cancellations and Year Project terminations) 1952 Port development 2,4103528 1952 Agricultural development 13003000 1954 Agricultural development 1,700,000 1954 Agricultural credit 43999,771 1955 Irrigation 18,000,000 1955 Construction of cement plant 2 497,o82 1955 Highway maintenance 9h 1957 Agricultural credit 5,000,000 1958 Port development 6,575,000 1960 Agricultural credit 5,ooo ,oo Total (net of cancellations) 5294773268 of which has been repaid 8,837,381 Total now outstanding 43,639,887 Amount Sold $6,721,250 of which has been repaid 4,348,9250 2,373,000 Net amount held by Bank on June 1A, 1960 $ o a266n887 ( Includes $9,97c,7a8 million not yet disbursed 4j. Prelim~inary negotiations for a loan of about $6 million for highway development in the central part of Peru were completed earlier this year and the Bank is now awaiting passage of enabling le gislation to conclude negotiations. PART I: DESCRIPTION OF THE PROPOSED LOAN 5. The loan would have the following characteristics: 'Borrower: Lima Light and Power Company (Empresas Electricas Asociadas). A privately-owned corporation, the majority of the shares being held by a group of Swiss investment companies and banks; the balance being widely distributed in Switzerl.and and Peru. Guarantor: The Republic of Peru. Amount: The equivalent in various currencies of $24 million. - 3 - Purpose: To finance the foreign exchange cost of the first stage of the Marcapomacocha water diversion schme, the construction of the Huinco hydroelectric plant with an initial capacity of 120 4W, and related transmission lines. Aiortization: 41 semi-annual instalments from September 15, 1965, to September 15, 1985. Interest Rate: 6% per annum Commitment Charge: 3/4 of 1 per annum Peyment Dates: March 15 and September 15 PART III: LEGAL INSTRUMENTS AID LEGAL AUTHORITY 6. A draft Loan Agreement between the Bank and Lima Light (No.1) and a draft Guarantee Agreement between the Bank and the Government of Peru (No.2) are attached. 7. The Loan Agreement is similar, in substance, to previous loan agreements with privately-owned public utility companies. 8. Lima Light already has outstanding debentures, issued pursuant to an indenture administered by Schroder Trust Company in New York, which establishes a first floating charge upon all tangible and intangible property of the Borrower and which provides that additional debentures may be issued only if Lima Light satisfies the trustee that it meets the following tests- (a) that the actual net income of Lima Light before interest and income taxes for a recent 12 months period is not less than 150% of the aggregate amount of the annual interest charges on existing and proposed debentures and all other funded indebtedness, and (b) that the net tangible assets of Lima Light at the time of the proposed issue are at least equal to 150% of the aggregate principal amount of all existing and proposed debentures and all other outstanding funded debt. The Loan Agreement provides (Sections 4.01, 4.02 and 5.o) that the Bank's loan will be evidenced by additional debentures issued under the same indenture; further issues of debentures to the public will also be made to finance the present program (see paragraph 21 below). 9. Other Loan Agreement provisions of interest are: (a) The usual form of the Bank's negative pledge covenant has been changed to accommodate it to existing liens permitted under the indenture which governs the issue of Lima Light's debentures (Section 5.05). (b) Without the advance approval of the Bank, Lima Light may not change the power purchase contract between it and its affiliate, Hidrandina, (Section 5.10); nor make an investment in any company in excess of $l million (Section 5.12); nor refund or prepay debentures held by the public otherwise than by the issuance of debentures of the same or later maturities (Section 5.13). (c) The Borrower is obligated to raise funds needed to complete the Project by offering for sale additional capital shares (Section 5.17). (d) A default under the indenture which governs the debentures will be a default under the Loan Agreement. (e) Conditions of effectiveness (Section 7.01). 10. The Guarantee Agreement is similar, in substance, to previous Guarantee Agreements given by the Republic of Peru. Since the Borrower is a private corporation, the guarantee would extend only to the payment of principal, interest and other charges. 11. Execution of the Loan Agreement will be authorized by the Board of Directors of Lima Light. By a Supreme Decree issued under Law No. 11636 of November 13, 1951, the Government is authorized to guarantee the proposed loan. 12. The report of the Committee provided for in Article III, Section 4 (iii) of the Articles of Agreement, is attached (No.3). PART IV! APPRAISAL OF THE PROPOSED LOAN 13. Detailed appraisal of the project, TO- 243a, is attached (No.4). Justification of the Project: 1. Lima Light holds an exclusive concession (valid to 2006) for the distribution of power in the Greater Lima area which now has a population of about 1.3 million or about 14 of the tctal population of Peru. This area is growing rapidly in population and is the center of government and business in Peru; 70 per cent of Peruvian industry is located there. Commerce and industry have concentrated in the Lima area, and are absorbing more than 50 per cent of the power sold by Lima Light. 15. With the rapid growth in the area, power sales have grown in recent years at an average annual rate of about 10% and industrial power sales are expected to maintain this rate over the 10-year period 1960-69; there may be a further increase if industrial enterprises now operating their own power plants find it advantageous to meet their requirements by purchases from Lima Light. Sales to commercial and residential consumers are expected to grow at average annual rates of 7% and 8% respectively. 16. The expansion now planned should meet the increase in power require- ments in the area for the next several years but additional power generating facilities will be needed by 1970. Lima Light is studying how to meet these requirements. 17. Although the initial construction cost of an alternative thermal plant would be less than for the Huinco hydro plant, the operating cost of a thermal plant would be considerably higher. Also, since the Huinco plant can be expanded at comparatively small cost, from 120 MW to its full generating capacity of 240 IW within a relatively short time after the two initial units are put into operation, economic comparisons favor the investment in the hydroelectric project. 18. In addition to its own power generating facilities, Lima Light purchases for distribution all of the power produced by Energia Hidroelectrica Andina (Hidrandina) S.A., which has a generating capacity of 93 MW. Hidrandina is controlled by the same financial group which holds the controlling interest in Lima Light. Borrower: 19. Lima Light is a public utility corporation which was originally incorporated under Peruvian law in 1910. A majority of its shares is held by a group of Swiss investment companies and banks. Most of the fifteen members of the Board of Directors are resident in Lima. The company is well managed. 20. Lima Light has a good earnings record and a long record of dividend payments. In recent years it has earned a return of 8 to 9% annually on total net fixed assets. The Electric Industry Law of 195 allows tariffs to be established at a level sufficient to produce revenues to cover all operating costs and a return of ll" on the capital invested. -6- Arrangements for Financing: 21. The total cost of construction and plant additions, including interest during construction during the five-year period ending in 1964, when the Huinco plant should start operations, would be $54 million equivalent. This would be more than double the fixed assets of Lima Light, The program would be financed in the following way: (in millions) Proposed IBRD Loan $ 24.0 Share Capital Common 3.5 Preferred 6.0 Debentures 7.5 Supperlierls credit for tiD generators 0.7 From Hidrandina 1.3 Earnings 11.0 $ 54,o 22. Of these amounts, $1.3 million equivalent of common stock; $6,0 million of preferred stock and $3.0 million of debentures are to be sold before the loan becomes effective. As a further condition of effectiveness Lima Light is also to obtain from Compagnie Sud-Americaine d'Electricite, of Zurich, an undertaking to purchase $3.0 million of debentures before the end of 1961. Lima Light also plans to issue for cash $2.2 million equivalent common stock in 1963 and to sell $1.5 million debentures in 1964. No specific undertaking will be obtained with respect to these amounts but we will rely upon the financial responsibility of Lima Light and its shareholders. Procurement: 23. The procedure followed by Lima Light in procuring equipment has been in accordance with sound public utility practice. Apart from the two generators, which have already been ordered and financed by a supplier's credit, all major electrical and mechanical equipment for the project is to be procured by Lima Light through international competitive bidding. Economic Situation: 24. As stated in my report and recommendations of May 23, 1960 on the loan for the Banco de Fomento Agropecuario del Peru, the financial position of Peru has strengthened since the report "Current Economic Position and Prospects of Perul (WH-89a, November 4., 1959) was distributed to the Executive Directors. This strengthening has resulted from the new policies that have been followed by the Government and the substantial increase in export earnings that hastaken place. 25. On the fiscal side the Government is no longer financing expenditures through the Central Bank. Revenues have been increased and the 1960 budget, excluding debt amortization, is expected to be in surplus. Vth the return of confidence which the successful financial stabilization policy has brought about, the Government has been able to sell 6 and 9 month bonds to private investors and avoid even seasonal recourse to the Central Bank. Strict monetary policies are complementing efforts on the fiscal front. To prevent further additions to the liquidity of the commercial banks, which has been increasing because of the Central Bankts accumulation of foreign exchange in recent months, the banks now have to maintain a cash reserve of 100, against all deposits in excess of those held on April 22, 1960. The cost of living has remained virtually unchanged during the past nine months. 26. Peru's external financial position has improved markedly. Exports have risen from the $300 million level of recent years to an annual rate of $400 million with the coming into production of new copper and iron ore facilities and rising sales of fish products. Since December, 1959 Peru repaid in advance to the International Monetary Rind and the Export-Import Bank a total of $30 million drawn earlier for balance of payments purposes. In March, the Fund renewed its standby credit for $27.5 million for one year. As of May 27, 1960 the international reserves of the Central Bank were $51.7 million (or $33.3 million if the "untouchable" gold is not counted), $44.3 million more than in mid-1959. In mid-May, long-standing measures to ensure the surrender of foreign exchange earnings to the Central Bank were abolished and the exchange market unified. The exchange rate has remained stable since the Fall of 1959. 27. Peru's external public debt was $195 million at the end of 1959. Service payments on this debt amount to $32 to $33 million in 1960 and 1961 and will absorb 8% of expected export earnings. But as two-thirds of these payments are for medium-term debts which are being amortized rapidly, total service payments on existing debt decline rapidly after 1961. Service payments on the proposed loan and the other loan referred to in paragraph 4 of this report would raise service payments on existing debt to $26 million by 1963, equivalent to 61 of expected export earnings. By 1965, when amortization payments would have begun on both of the proposed IBRD loans, this proportion would have fallen to 30. Prospects of Fulfilment of Obligations: 28. The project has been planned by Lima Light's own civil engineering staff. These plans were reviewed and a detailed design prepared by the Swiss consulting firm, Motor Columbus. Satisfactory arrangements have been made for the construction of the project. The management is qualified to execute the proposed project and to operate the expanded power system. 29. The market prospects for the power to be produced by the project, the additional capital to be raised by Lima Light, the interest coverage and earnings test specified in the existing Indenture, the favorable Peruvian electric power legislation and the covenants contained in the Loan Agreement offer assurances that Lima Light will be able to provide the funds needed to cover its share of the cost of the project and to service the proposed loan. 30. The service of the loan, together with Peru's other foreign exchange obligations, should not impose an undue burden on the Peruvian economy. PART V7 COMPLIANCE WITH ARTICLES OF AGREEME NT 31. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank. PART VI: RECOMME73NDATIONS 32. I recommend that the Bank make a loan to the Lima Light and Power Company (Empresas Electricas Asociadas) with a guarantee of the Republic of Peru in an amount in various currencies equivalent to $24 million for a total term of 25 years with interest (including commission) at 6% per anmnum and on such other terms as are speci-filed in the attached draft Loan and Guarantee Agreements, and that the Executive Directors adopt a resolution to that effect in the form attached (No,5). Washington, D.C. J. Burke Knapp, Vice President June 1, 1960 for Eugene R. Black President