' Document of The World Bank FOR OFFICIAL USE ONLY ;I Report No. 9658 PROJECT PERFORMANCE AUDIT REPORT YUGOSLAVIA BOSNIA-HERZEGOVINA AGRICULTURAL DEVELOPMENT PROJECT (LOAN 2136-YU) JUNE 14, 1991 Operations Evaluation 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. CURRENCY EQUIVALENTS Calendar 1981 February 15. 1982 Currency Unit Yugoslav Dinar US$1 Din. 41.82 Din. 43.678 Din. 1 US$ 0.024 US$ 0.022 Din. 1,000,000 US$ 23,910 US$ 22,895 * The Yugoalav Dinar has been floating since July 13, 1973. The currency equivalents effective on February 15, 1982 have been used in this report. WEIGHTS AND MEASURES 1 cubic meter (cm) = 1.2 cubic yards 1 hectare (h) = 2.47 acres 1 kilogram (kg) = 2.2 pounds 1 kilometer (km) = 0.62 miles 1 metric ton (ton) 2 = 2,200 pounds 1 square kilometer (km ) = 0.3861 square miles FISCAL YEAR January 1 - December 31 ABBREVIATIONS AND ACRONYMS AIK Agro-Industrial Kombinat ARBH = Socialist Republic of Bosnia-Herzegovina BCO = Basic Cooperative Organization B-H = Bosnia-Herzegovina BOAL = Basic Organizati3n of Associated Labor BTO - Back-to-Office Report COAL = Compos.te Organization of Associated Labor ERR - Economic Rate of Return FRR = Financial Rates of Rezurn GMP = Gross Material Product HEPOK - Herzegovina Agricultural Kombinat ICB = International Competitive Bidding LCB - Local Competitive Bidding LDR = Less Developed Region OED = Operations Evaluation Department PBS = Privredna Banka Sarajevo - Udruzena Banka PBS-UB = Privredna Banka Sarajevo - Udruzena Banka PCR = Project Completion Report (Report 7989, July 24, 1989) PPAR = Project Performance Audit Report SDK = Sluzba Drustvenog Knijgovodstva or Social Accounting Service SFRY = Socialist Federal Republic of Yugoslavia SVP - Senior Vice President WO = Work Organization THE WORLD BANK yOR OFCIAL USE ONLY Washington, D.C. 20433 U.S.A. ofice of oDrtCeneal Owatinns Ivaluaen June 14, 1991 MEMORANDUM TO THE EXECUTIVE DIRECTIONS AND fHE PRESIDENT SUBJECT: Project Performance Audit Report on Yugoslavia Bosn)a-Herseaovina Aaricultural .Develoment Project (Loan 2136-YU. Attached, for information, is a copy of a report entitled "Project Performance Audit Report on Yugoslavia - Bosnia-Hersegovina Agricultural Development Project (Loan 2136-YU)" prepared by the Operations Evaluation Department. Attachment This document has a restricted distribution and may be used by recipients only in the performane of their offcial duties. Its contents may not otherwise be disclosed without World Bank authoriation. FOR OFFICIAL USE ONLY PROJECT PERFORMANCE AUDIT REPORT YUGOSLAVIA BOSNIA-HERZEGOVINA AGRICULTURAL DEVELOPMENT PROJECT (LOAN 2136-YUI Table of Contents PREFACE . . . . . . . . . . . . . . .. . . . . . . . . . . * BASIC DATA SHEET . . . . . . . . . . . . . . . . . . . . . . iii EVALUATION SUMMARY . . . . . . . . . . . ..................... v 1. BACE.QGRM * . . . . . . . * . . .* . . . I Context . . . . ...... . . . . . . . . . * . . . . . 1 Objectives . . . . . . . . . . . . . . . . . . . . . 1 Design . . . . . . . . . . . . . . . . . . . . . . . . . 2 Irrigation . . . . . . . . . . . . .. . . . . . . . . 4 Lending Pressure . . . . . . . . . . . . . . . . . . . . 5 II. IMLMNTTO EX!EC . *. . . . . . .... .. . .. ... 6 Start-up . . . . . . . . . . . . . . . . . . . . . . . . 6 Construction . . . . . . . . . . . . . . . . . 6 Procurement . . . . . . . . .* . . . . . .* . 7 Cost Savings . . . . . . . . . . . . . . . . . . . . . 8 Financing Plan . . . . . . . . . . . . . . . 10 Management . . . . . . . . . . . . . . . . . . . . . . . 10 Supervision . . . . . . . . . . . . . . . . . . . . . . . 11 Equity Contribution . . . . . . . . . . . . ....11 ICB . . . . . . . . . . . . . . .* . . . .* . . 12 Project Savings . . . . . . . . .. . . . . ....14 Bankruptcy . . . . . . . . . . . . . . . . .* . 14 Irrigatiin . . . . . . . . . . . ............18 III. PROJECT OUTCOME . . . . . . . . . . . . . . . . . . . . 19 Economic Rate of Return . . . . . . . . . . . . . . . . 19 Sustainability . . . 0.... . . . ... . . . . . . . 19 Irrigation . . . . . . . . . . . .* . 21 outstanding Issues ........ ..... . . . . . 21 IV. LESSONS AND ISSUES . . . . . . . . . . . . . . . . . . . 24 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. Table of Contents (continued) Page _No. EDI 1 Borrower's View of Bank Performance . . . . . . . . . . 15 2 The Sconomic Rate of Return ai a Measure of Project success . . . . . . . . . . . . . . . . . . . . . . . 23 1 Project Cost . . . . . . . . . . . . . . . . . . . . . . . 7 2 Financing of Pour Agro-Processing Sub-Projects . . . . . . 10 3 Cross-Currency Risk and Loan Repayment . . . . . . . . . . 16 ATTACHMENT I . . . . . . . . . . . . . . . . . . . . . . . . . 26 1 Comments from Federal Department of Agriculture . . . . 41 2 Comments from Privredna Banka Sarajevo DD . . . . . . . 43 MAi IBRD 16025 IBRD 16067 PROJECT PERFORMANCE AUDIT REPORT XUGAVMIA BOSNIA HERZGOVIMA AGRICULTURAL DEVELOMIET PROJECT (LOAN 2136-YU) This is the Project Performance Audit Report (PPAR) of the Bosnia- Bersegovina Agricultural Development Project, which was designed to support the construction of six agro-processing plants, and 1,170 hectarse of irrigation in Bosnia-Hersegovina Socialist Republic of the Socialist Federal Republic of Yugoslavia. Loan No. 2136 provided US$35 million to Privredna Bank* Sarajevo - Udruzena Banks (the Borrower)I Arincipally (US$29.7 million) for agro-industrial investments in replacement of two flour mills, and a vegetable oil mill, construction of a poultry slaughterhouse, vegetable pickling plantl and a vegetable freezing plant and cold store and US$4.8 million for the irrigation develonmentl and front-end fee. The Loan was approved by the Board on May 4, 1-82, and was closed on March 31, 1988, with US$20.1 million disbursed, (US$14.9 million being canceled). Final disbursement was made on May 11, 1988. The Project Completion Report (PCR) for this project was submitted to the Board on July 24, 1989. The audit report is based on a review of the President's Report (P-3268-YU) and Staff Appraisal Report (3679a-YU) for the project, the loan documents, correspondence with the borrower; the Summary of Board Discussions and internal memoranda in the Bank files. Relevant Bank staff have also been consulted. A mission to Yugoslavia was undertaken in September 1990 to discuss the project with concerned officials and project participants. Their kind cooperation, patience, and valuable assistance in the preparation of this report is gratefully acknowledged. The PPAR elaborates on particular aspects of this project including the constructive role of Bank appraisal in limiting the sub-projects to be 11 PBS has commenteds "During the first stage of negotiations when the loan was initially discussed, we pointed out a few suggestions, which should be incorporated into your PPARs (i) To consider the possibility for the Government of SFRY to be the Borrower instead of PBS UB, just as a result of the reasons occurred during project completion (devaluation, currency pool, impossibility to have real evaluation of required funds, and similar things); (i) Loan funds are relatively expensive which would influence decreased disbursement amounts and "escape" to domestic sources; and (iii) Also sub- projects should be financed with the project, however in those cases where it would be considered useful for the main project, the case of Popovo Polje and the application to finance a cold storage." supported, difficulties encountered in the use of International Competitive Bidding (ICB); the Borrower's desire to use project funds for additional sub- projects, and the high cost of Bank money, which resulted in the insolvency of sub-borrowers. Following standard OED procedures, copies of the draft report were sent to Yugoslavia for comment on March 4, 1991. The resulting comments are included as Annexes and footnoted appropriately. PROJECT PERORMANCE AUDIT REPORT YUGOSLAVIA BOSNIA-HERZ8GOVINA AGRICULTURAL DEVELOPMENT PROJECT (LOANM 213J6-A BASIC DATA SHEST Actual Actual as 2 Appraisal or Current of Appraisal e Project Data @thmt Estimate Etiate Project Cost (US$ million) 81.7 44.4 54 Loan Amount (US$ million) 35 20.4 57 Cancellations 0 14.9 Date Board Approval 05/04/82 Date of Signing 05/27/82 Date of Effectiveness 08/31/82 11/23/82 Date Completion 08/30/86 02/88 Closing Date 03/31/87 03/31/88 Economic Rate of Return (2) 16 13 Namber of Direct Beneficiaries r.a. na. Cost of Funds - Current 2 11.6 19.28 Cost of Funds - Constant * 11.6 12.44 *DefIated by fanufactured Unit Vaiue index Cumulative Disbursements IYS Ill1 IYA M85 Y6 I FY88 Appraisal Estimates 3.97 6.30 17.30 30.30 35.0 35.0 35.0 Actual 6.30 1.15 7.62 12.05 17.43 19.26 20.10 Actual as 2 of Appraisal Estimates 18 44 40 50 55 57 Date of Final Disbursement may 11, 1988 STAFEWEKS FY80 F81 FY82 FY83 FY84 FY85 FY86 FY87 Total Preappraisal 2.3 100.6 - * * - - - 102.9 Appraisal - 34.4 48.2 - - - * - 82.5 Negotiation - - 3.0 - - - - - 3.0 Supervision - - .3 6.6 11.7 7.8 1.5 5.2 33.1 Other .2 6.0 6.4 - - .1 - 12.7 Total 2.5 141.0 57.9 6.6 11.7 7.8 1.6 5.2 234.3 - iv - Date Number of Stattdays Specializations Performance Types 'f LIE) p*rsone in Field nRepesentedl _ an Probleas Through Appraisal 09/77 2 2 3,3 -. 05/78 1 1 x . 09/70 1 2 N 05/80 2 2 N, . 10/80 1 6 -. 12/80 1 2 1 02/81 5 11 N,E,F - Appraisal through Board Approval 05/81 7 25 N,Z,F,A - 09/81 1 2 P . 10/81 1 5 N - 11/81 3 8 X.A Supervision 11/82 2 6 NOP 1 F 06/83 2 5 X'P 1 T 07/83 1 3 N 1 02/84 1 3 N 1 - 05/84 2 9 7 1 - O,'84 2 6 F 1 y, 06/85 2 6 F 1 F 06/87 2 13 N,Z 1 - a/ A * Agriculturalist, E = Economist, P a Financial Analyst, N 3a Engineer, P s Procurement Specialist, S a Sociologist, Z - Baviromental Consultant b/ 1 * Financial, T w Technical, W a Managerial OTHER PROJECT DATA follow-!= Project None -v - PROJECT PERFORMANCE AUDIT REPORT BOSNIA-HERZEGOVINA AGRICULTURAL DEVELOPMENT PROJECT (LOAN 2136-YUI EVALUATION SUMMARY Introduction viewpoint which would result from consideration of the needs of The project was conceived as a individual republics in isolation, straightforward investment project, and involving 17 agro-industrial sub- projects included in the Government's to improve the agricultural 1981-85 plan. Project preparation productivity (and employment) in winnowed this down to only (a) the poverty pocket of Popovo replacement of two wheat mills and an Polje. oil mill, (b) convtruction of a vegetable pickling, freezing and cool Design store facility, and a poultry processing plant, and (c) investment The project was in an advanced in 1,200 hectares of irrigation in a stage prior to Board presentation. "poverty pocket".j/ Tha project was The individual agro-processing plants not envisaged as involving any major to be supported wer& known, and policy isnues. It formed part of a tendering and bid evaluation for continuum of Banh assistance to the processing equipment were completed agricultural secto., and the imple- prior to negotiations. The engi- menting agency for the agro-industrial neering designs (but not land acqui- components (Privrendva Banka Sarajevo, sition or titling) for the irrigation PBS) was well know to the Bank in component were also completed prior to connection with other projects (SAR, Board presentation.a/ Of the total para. 4.02). With hindsight, it 218 staff weeks devoted to this appears that the Bank performed a very project, 188 (or 86%) were spent prior valuable function in persuading PBS to to Board presentation. With the major narrow the range of investments to be costs already known prior to Board supported. presentation, it is surprising that a 43% cost under-run for the Bank Objectives financed components eventuated. * to improve market access for On-lending terms were to be at farmers in Bosnia-Herzegovina (B- least 12.85%. This interest rate, R H), by constructing new ag:o- gl, was not necessarily expected to be processing capacity, positive in real terms, but wav "a significant increase over thie 8-10% * to avoid the over-investment in rate charged in a recent Bank agro-processing from a federal agricultural proje Ct (SAR, para. - vi - 4.05). The Loan Agreement (Schedule The project experienced (a) cost 5, para. 3(a)) provided for sub- over-runs in local currency, due to borrowers to bear the foreign excharge high inflation, but (b) cost un4ar- and cross-currency exchange risk. runs in dollars due to depreciation of the real exchange rate, and delays in In two areas the project design request for reimbursement. was unresponsive to the desires of Difficulties in applying the Bank'. PBS. An initial request from the procurement guidelines to the Modrica implementing agency, PBS that only flour mill led PBS to request that it foreign exchange costs be financed was be dropped from the project, and rejected as being "too complicated", US$2.9 million was canceled (paras. 1.6 and 1.7); as was the accordingly. In the event, only 57% request for financing the sub-projects of the loan was disbursed; despite the as a line of credit (para. 1.8). This borrowers wish to use the balance for latter rejection was not completely investment in additional agro- explicit. It led to continued efforts processing facilities. The front-end by the Borrower to use project savings fee, and commitment fee, which were for similar investments, and payable on the full loan until considerable friction, during canceled, together with the weakness implementation (Box 1). of the dollar resulted in an annual interest rate of 19 to 22% in dollar Implementation Experience terms (Attachment 1). With the exception of one folour Good plant utilization was mill and 270 hectares of private achieved in 1986 and 1987, though irrigation, the project was imple- financial results were adversely mented in a reasonably timely manner affected by price controli on pro- and as projected in the SAR. This cessed products, and lower demand due said, difficulties with International to reduced real consumer incomes Competitive Bidding (ICB)g/ led to the resulting from inflation. withdrawal of one flour mill (a ft bodrica) from the project; and lack of The proposed 270 ha of individu- clarity by the Bank as to its policy ally owned irrigation was not imple- with respect to project savings lead mented due to land owners being the borrower to submit a string of unwilling to have their holdings proposals for additional and consolidated, and being unwilling to complimentary investments. The Bank amortize the costs of irrigation typically first asked for additional construction. The 900 ha of social information pn these proposals, and sector irrigation was reduced to 721 then refused them, often on apparently ha because of physical and land "technical grounds", when in fact they acquisition difficulties. Physical were rima ie beyond the Bank's construction of the reduced scheme interpretation of project scope (para. proceeded well, and production pat- 2.4 (nio)). Additional field and terns are still being adjusted in the phone contact should have been able to light of Iroduce prices. resolve these problems. Telex communication seems to have served, in Results this case, as an instrument of misunderstanding (paras. 2.12 to Six of the seven agro-processing 2.16). plants were built and 721 hectares of - vii - irrigation were installed, essentially in line with SAR projections. Despite * heavy initial reliance on annual some financial problems, technical crops for the irrigation component performance and eZpacity utilization provided needed flexibility when are fully satisfactory. However, the perenn!%le were found to be more high cost of Bank money means that profitable,4/ (para. 1.12)1 continued operations are contingent upon the rederal Government assuming imposition of an arbitrary maximum responsibility for debts to the Bank investment per hectare to be (para. 2.22). funded in the irrigation project probably excluded the usst of the Sustainability most profitable tochnology,,/ (para. 1.14)1 As suggested in the previous paragraph, there is every reason to expecting farmers to consolidate expect these investments to continue their land, crop it in common, and to be utilized productively, once they have irrigation decisions made by have been "financially restructured", public sector officials, was i.e., their borrowings from the Bank highly unrealistic,j/ (para. have been written off. 3.5); Outstanding Issues the opportunity cost of water used for irrigation should have been PBS notes that an outstanding reflected in the economic request for a legal interpretation of analyois,J/ (para. 1.11); article 4.01 of the General Con- ditins, has not been responded to L it sb-proe i th (para.to whether this is an ope ended Findings and ssons list to which other subprojects can be added, or is an exhaustive Majo leson fro ths aditlist of the subprojects to be Major lesons from this audit supported, (para. 1.8) appear to bes * the heavy investment of staff timenature of in the preparatory phase, and this project, taken together with evaluation p p t phs e, oan the high cost of Bank money (about Board approval, paid efo 20% nominal or 12% real), meant handsomely, in the rejection of that it was financially nonviable, hanmely inesmnth prejectio,nd of and ensured the bankruptcy of all some investment proposals, and asubrwrs (e. tir an project which was implemented in a debsrhaeis to.e tten dont timely fashion without major g technicalzero by the Federal Govern- tehi. lpobes,(aas,3 ment),A/ (paras. 2.21 and 2.22); Sit is probably unrealistic to eas a corollary to the above, assume 100% capacity utilization either additional local equity inopthforcoheomrigationfiomponel should have been found or Bank evaluation of agro-processing Group financing, if any, should projectsp (para. 1.4); have been provided from 2C; - viii - * as a further corollary, the * the physical success (sustain- project shows that a good tech- ability) of thiu project (repre- nical design is not a sufficient sented by the continued use and condition for success, it also has maintenance of installed capacity) to be financially viable; and was only achieved by writing the value of foreign borrowing down to zero), (paras. 2.21, 2.22 and 3.1). j/ PBS has commented: "The reasons why the project was reduced from 17 agro-industrial sub-projects to the scope financed wore explained by PBS UB during the initial nogotiations, mentioned out the causes exactly as given above under point 1 (see Preface, footnote 1). It also explained that, when talking realistically, 17 sub-projects had different scope which was not dependent upon PBS UB and that such an investment structure would lead to delays even longer than those already occurred. Anyhow, long standing experience in investment business and in work with IBRD, stated by you too, had certain influence to decision making. It is a fact that PBS UB was not the exclusive decision maker concerning these projects."0 2,1 PBS has commented: "BIH government had previously planned the agricultural development too, therefore it seemed logical that the investor performed certain works even before the negotiations and prior to Board presentation. These facts turned out to be for the benefits on the part of the investor, which was appreciated by IBRD on that occasion. In addition to the reasons set out under point 1 (Preface, footnote 1) hereof, the above situation influenced the utilization of disbursed funds. Under such circumstances, it was fully logical for PBS UB as a borrower to, at that time, insist upon reduction of a foreign exchangeinvestment costs, strictly becauseof the fact that in case of a failure on the past of any sub-borrower to effect its obligations, full risk would have been born by PBS UB. That was pointed out at that time, and I believe it should be incorporated into the report." 1/ PBS has commented: "We think that misunderstandings about the flour mill at Modrica and difficulties with international competitive bidding (ICB) resulted rather out of bad understanding, because the intention of PBS UB was not "avoidance" of the rule but cost saving. Project implementation process and average interest rate of financing at 19-22% is an argument that was perhaps identified by PBS UB, however IBRD would not accept it as a logical development. These findings wore, in a certain way, made in your report, confirming that our perceptions became reality now (in your Description of Results)." &/ PBS has commented: "During the construction stage, the project must have been based on the annual crops, although it also provided for the change of perennials." j/ PBS has commented: "That was the reason why the most profitable technology was not "forgotten" but it was even distribution of investment costs per hectare wanted at that time, however the crops change would dictate the technology." j/ PBS has commented: "Therefore we agree with your statement that expecting farmers to consolidate their land was highly unrealistic." 2/ PBS has commented; "It was also unrealistic, regarding the accuracy at least, to give the opportunity cost of water used for irrigation in that stage, and it was not reflected in the economic analysis." ft/ PBS has commented: "We believe that findings disclosed in paragraphs 2.21 and 2.22 could not be accepted as such. First, the Bank was informed about the comments concerning the capital cost by PBS UB. Second, nobody could possibly anticipate such a high depreciation between dinar and other foreign currencies was predictable, nor such a high inflation in Yugoslavia. The discrepancy between the construction period in relation to think that the Bank should find the possibility to support and help investors under these projects, since we cannot see other solutions." PROJECT PERFORMANCE AUDIT REPORT BOSNIA-HERZEGOVINA AGRICULTURAL DEVELOPMENT PROJECT (LOAN 2136-YU) I. BEGOUN 21/ Contex& 1.1 Agricultural processing in Yugoslavia is dominated by a number of large "agro-kombinate" which provide markets for the produce of both vertical- ly integrated social sector farms, and private sector farmers. At the same time the highly autonomous nature of Yugoslavia's republics can lead to over-capacity as individual republics focus on their needs rather than a national balance. With fertile land and a well trained but low cost labor force, Yugoslavia should be well placed to supply most of its own needs and to compete internationally, particularly in horticultural products.2/ Qbiecties 1.2 The project's primary objective was to improve market access for farmers in Bosnia-Herzegovina (B-H) by constructing new processing capacity for poultry and vegetables (fresing, canning and pickling), and to replace and modernize two flour mills, and a vegetable oil plant. It also provided for about 1,200 hectares of irrigation in an essentially separate component. A subsidiary objective was to use the project preparation process to discourage I/ The Region feels that inadequate attention has been given in this audit to the complexities and constraints in Yugoslavia. Additional Regional comments are noted in the text as appropriate. Z/ PBS has commenteds "We believe that IBRD was aware of the circumstances that were present at that time in Yugoslavia. As for PMS-UB, it entered into those projects not for the altruism, but in expectation that the financed projects would entble the export and that the production would encourage the development of other branches, as well. Therefore, the interest of PBS-US was to burden the projects as little as possible with the foreign exchange component, but not in the cases when the project (1.5) should have suffered. However IBRD failed to realize the actual wish of PBS-UB (1.7). In your consideration of the project as a whole, you pointed out in "procurement" section, that the Bank evidently provided insufficient support to PBS. In terms of the findings that you have made, it is clear that the Borrower (PBS-UB) was unable to provide additional information and not that it was not prepared to give the same (paras. 2.12 and 2.14)." -2- proposals for plant construction in B-H which would only have led to uneconom- ic excess capacity. Resign 1.3 Project preparation and appraisal were carefully carried out (using a total of 195 staff weeks, or 86% of the staff time devoted to the project, PCR Table 9). The result was that only six of 17 originally proposed sub-projects (BTO report, Identification Mission, Sept.23, 1977) were accepted for funding, and ICB bid evaluation for equipment was completed prior to submission of the project for Board approval. (Thus some work often left as "supervision" had already been completed.) This helps explain the projects good technical performance. The implementing agency was to be the Privredna Banka Sarajevo (PBS) which hau satisfactorily implemented a number of other World Bank projects. Foreign currency risk was to be passed on to the sub-borrowers, thus protecting PBS, the Borrower, from (but exposing the sub-borrowers to) the hazards of exchange rate fluctuations between the dollar and currencies borrowed by the Bank. Several alternative irrigation options were considered, and a major effort was made to ensure substantial participation by private farmers (however, see below). 1.4 This major initial staff input paid off in a project with sound technical design, which was implemented without excessive delays, and much below budget (see below). Both PBS and sub-borrowers expressed themselves as well satisfied with the technical aspects of the project, and PBS felt that on balance it had been the right decision not to support some of the initial proposals; PBS did not support these dropped projects from alternative funding sources (further evidence that the Bank's arguments were found persuasive). The only conditionality not related to reporting of one form or another, was an undertaking by PBS to provide technical assistance to the sub-projects. The SAR can perhaps be faulted for projecting capacity utilization, for purposes of the financial and economic analyses, of 100% in agro-processing projects where the weather almost always ensures that raw material is available in over- or under-supply. This said, it should be noted that the expectation of only a three month delay for effectiveness was unrealistic a vriori, given the need for all republics to provide their approval. 1.5 Some of the difficulties that were later encountered in project implementation can be explained by a divergence between the loan PBS would have liked - namely a line of credit paying only foreign exchange costs - and the loan provided. This turned out to be limited to six agro-processing projects, and Popovo Polje; it paid all foreign and some percentage of local costs. 1.6 The BTO Report of September 23, 1977, reports that: "The mission was asked if Bank participation could be limited to the direct foreign exchange cost of each sub-project, on a case by case basis, rather than a uniform percentage across the project as a whole ... The mission indicated that ... a different level of - 3 - IBRD participation for each sub-project would raise our costs of administration and thus not be desirable from the Bank's standpoint". In June 1978, PBS again indicated its desire that the loan would cover only "the direct foreign exchange requirements for the purchase of foreign equipment" (BTO, June 23, 1978), with the same reply. 1.7 There should have been no difficulty in meeting this request, by specifying that the loan would cover 100% of direct foreign exchange costs, and none of the local costs. That the Bank staff did not make this simple suggestion (PBS's desires having been widely canvassed in the region by inclusion in two BTO reports) suggests that either the request was not taken seriously, or that Bank staff suffered from a rather bureaucratic mind set.2/ 1.8 The project preparation mission reported, en passant, that "as yet there is no agreement as to the type of procurement procedure to be employed. PBS continued to press for a credit - type approach with a sizeable free limit". (BTO, April 15, 1981).A/ Whilst this comment was made with respect to an individual sub-project, the SAR in reporting on project negotiations suggests that the possibility of additional sub-projects was provided for: "in case of significant change in any sub-project or new sub- project... " SAR, para. 7.01 (i)).5/ 3/ A staff member has commented: "Staff had no strong position on this and would have happily agreed to the PBS request to restrict to direct FE only. The task manager was quite familiar with this from prior assignments. Management advisor felt strongly that agreeing would go against well-established system in Bank's ag-credit/agroindustry project in Yugoslavia. Also, loan size would be reduced. Guess who management listened tot Yes, 'staff suffered from a bureaucratic mind set', but not of their own making." &/ A staff member has commented: "Again, appraisal staff labored under a predetermined approach, set by the Bank's procurement guru, who also doubled as the Yugoslavia agroindustry specialist. Guess who management listened tol" g/ Furthermore the Loan Agreement makes reference to: "A program of sub-loans to finance investments in agro-industries, including:" (LA, Schedule 2, Part A (1)) before listing the six sub-projects. This is ambiguous. If this was meant to be a definitive list it would have been clearer to say "comprised of"; whilst if it was open-ended, a.t the risk of redundancy, it would have been better to add "but not limited to:". - 4 - 1.9 This would appear to be supported by the LA's provision for appraisal reports to be submitted by PBS to the Board for "all proposed Investment Projects" (LA, Schedule 5, para. 3 (a)). Since bids had already been evaluated for the six listed projecte; it is hard to believe that this requirement did not, in fact, refer to Adjt4aa proposed Investment Projects. 1.10 Irrication. The design of the irrigation component, like the curate's egg, was good in parts. The Bank induced the Yugoslav irrigation technicians to give serious consideration to alternative, lower cost, furrow irrigation rather than a semi-automatic sprinkler system. But when a field visit to Romania produced additional arguments against the furrow system the Bank deferred to the judgement of the Yugoslavian technicians..k/ Less desirably, these design decisions do not seem to have been integrated with a consideration of alternative cropping patterns. This resulted in a "cost minimizes" rather than profit maximizes view, which may well have precluded consideration of drip irrigation, which now appears likely to be optimal with grapes; especially in the light of the economic value of the water which is taken from a 65 km. concrete lined canal, designed to generate hydro-power. One would normally expect to see these cropping and investment decisions optimized with a specific mathematical programming model../ It is not clear why this was not done. 1.11 The design appears to have suffered from two errors, one of omission and the other of commission. The error of omission, is the absence of any explicit consideration of the value of water. Insofar as water used for irrigation directly reduces the water available for power generation, and this water is carried sixty-five kilometers in a concrete lined canal/river bed it is evident that someone at some stage thought the water would be valuable. Studies in the western states of the United States have placed values as high as US$91.00 per acre foot for water withdrawn from irrigation for power generation.l/ Under the circumstances it is strange to find that the Bank seems to have treated water as a free good (as indeed it is from the viewpoint of the agro-kombinat, which has the right to use wrter for a pepper-corn rent). Treating water as a free good in these circumstances, renders suspect 6/ See also Project Brief, February 17, 1981, para. 2.5 for evidence of examination of a further substantial range of design alternatives. 7/ A staff member has commented, correctly, that the Bank rarely usus formal optimization models in the preparation of agricultural projects. P/ Depending on elevation, estimates range from US$14 to US$91.00 per acre foot at 50 mill per KW hour for electricity. Wittlesay, Norman, "Energy Versus Irrigated Agriculture in the Pacific Northwest", Paper 83-2109 presented to the American Society of Agricultural Engineers, Summer Meeting, 19F3. the ERR calculations for Popovo Polje.2/ The error of commission, was to set an upper bound on the cost of irrigation (of US$3,000 per hectare). This effectively ruled out drip irrigation, and in consequence reduced the attractiveness of grapes at the expense of field crops. Clearly, irrigation technology should have been considered explicitly as a variable to be optimized along with crop mix; subject, if needed, to an nverall limit on the total amount to be spent on the project.12/ 1.12 In the event, the effort put into project preparation paid off in a design with three distinct advantages, (a) it included a range of crops which has not subsequently needed to be added to, (b) it included a five hectare experiment field in which varietal trials could be conducted, and (c) it was flexible, since it contained a large area of annual crops, which have subsequently been replaced by perennials, as the management became increasingly confident of the needed technologies and their profitability. Lending Pressure 1.13 It is a frequent finding, not always well documented, of OED audits, that "lending pressure" (the desire to meet indicative lending targets) contributed to weak project design. It is refreshing and interesting, therefore, to find that in this case management clearly indicated that some delay in project preparation was an acceptable price to pay for a better project design: "... even though negotiations might be delayed and the project might slip out of FY82. We feel extra time 2/ A staff member has commented: "This crossed our minds, but as the engineer pointed out, Yugoslavia is full of large scale hydro possibilities, relative to which Popovo Polje is minuscule, so we concluded that the opportunity cost on a national level was negligible. As for the existing canal, this is a good example of regional self- sufficiency gone wild." 12/ The Region noted that "The PPAR suggests that the value of water was not given adequate consideration (para. 1.11) and that the "cost minimizing" approach precluded the consideration of drip irrigation, which the PPAR claims "likely to be optimal" (para. 1.10). In fact, there is an oversupply of water for downstream uses, including power generation, and, in any case, the small amount of water used for irrigation has an insignificant impact on the water supply (even if the return flow from the irrigation system and the added flow from the drainage system is not considered). Drip irrigation is an expensive, semi-permanent system (pipes need to be replaced every 2-3 years) which requires high-value crops and relatively sophisticated management to produce and adequate return. It has not been demonstrated that such conditions exist in the area." -6- taken now will mean time saved downstream", (memo, July 16, 1981). The Director made it clear that "... the amount in the lending program for a particular project should not influence project size. Rather it should continue to be our judgment about the financial and institutional capacity of our collaborators." (memo from Division Chief, November 19, 1981). However, despite this clear statement from the Director, Bank staff still felt that meeting the lending target was a significant objective: "... The Government of SR Bosnia-Herzegovina should be further requested to give immediate attention to the preparation of alternative priority projects, ... This approach is necessary not only to meet the targets of the PY81 lending program in Bosnia- Herzegovina but also to avoid prolonged deployment of staff ... on appraisal of relatively small individual projects." (BTO Report, November 28, 1981). 11.* IMPLAKINTATIgn EXPERIENCE S:tart-up 2.1 Given that ICB bid evaluation had taken place prior to Board approval it was particularly important that effectiveness be achieved quickly. A three month delay was projected in the SAR. Since there were no conditions of effectiveness to be fulfilled, other than the standard evidence of ratification of the loan documents and the related legal opinion, this would have been ample time in most countries. However, in Yugoslavia where each republic/province has to officially concur in the decision, this was probably unrealistic. In the event, six months were required for effectiveness, imposing an initial delay in taking up the evaluated bids. Initial delays were also encountered for two projects (the flour mill at Modrica, and the vegetable oil mill) which had difficulty in providing their capital contributions. Construction 2.2 There were no major construction delays. Minor delays occurred due to difficulty in communication of exact civil works requirements for machinery installation, and intermittent difticulty in getting required construction materials. Four of the projects were completed on time in 1986, one was canceled (para. 2.3), and the oil mill was completed two years late in 1988; -7- all of this was achieved at very much less than the BAR estimated dollar cost. This reflects well both on project design, project contractors, and the management of the sub-projects. 2.3 A number of procurement problems have been noted in the Project Completion Report (PCR paras. 7 and 8; Report No. 7989, July 24, 1989). PBS and sub-borrowers, on the other hand, felt that the ICB procedures had worked well; and had not involved them either in unreasonable delays or excess costs ... in the case of the implemented sub-projects. However, in the case of the canceled Modrica flour mill, the Bank evidently provided insufficient support to PBS. After the initial bidding, which was for three separate contracts, the sub-borrower negotiated a change in the responsibilities, and payments, to the winning suppliers. The result would have been contracts which differed significantly from the bidding documents. Subsequently, the sub-borrower repeated the ICB process for a single contract. All (three) foreign suppliers were disqualified by the sub-borrower as not being fully responsive to the call for bids. After an extended exchange of telexes,U/ the Borrower proved unwilling to provide the Bank with the data it required to establish that the domestic bidders had been fully responsive. Rather than do this, or suffer a further delay, PBS and the sub-borrower decided to drop this second flour mill from the project (see paras. 2.12 to 2.14). Table 1: PROJECT COST CoM2onents Aupraisal Estimate Actual Dinar M UIS_M Dinar M USS Aaroindustries Flour mill (Ljubaca) 597.9 13.7 657.1 4.7 Flour mill (Modrica) 437.2 10.0 - - Poultry slaughterhouse 431.7 9.9 1,120.8 4.7 Vegetable oil plant 694.7 15.9 3,545.2 10.5 Vegetable pickling plant 179.2 4.1 545.9 2.6 Vegetable freezing & cold storage plant 540.6 12.4 1,516.0 10.1 Incremental Working Capital 112.2 M Subtotal 2,993.5 68.6 7,385.0 Poovo Polie Irrigation 574.5 2LI 1.808.7 TOTAL 3,568.0 81.7 9,193.7 44.4 Iqt&s The BCR does not provide any phasing of investment costs, which are given in dinars. Therefore, estimates of dollar equivalents have been prepared on the basis of the exchange rates existing during the respective implementation periods. (PCR page 16, Table 4, Report No. 7989, July 24, 1989) 11/ Which put the sub-borrower in a "forced action" situation since the bid effectiveness dates were passed in the course of the exchange of telexes. Cost Savinga 2.4 Cost sav!ngs under this project, in dolle terms, were substantial; 430 of the loan was canceled. Even allowing for the cancellation of the Modrica mill all other components were implemented at a fraction of the SAR estimated dollar cost, as shown in Table 1. Three observations are called for: i) SAR called for major over-borrowina. Given that the ICB's had been evaluated prior to presentation to the Board, it is surprising that such a wide deviation eventuated. It would appear that SAR projections were not revised in terms of bids received; if se an unrealistic coating was submitted to the Board. ii) Rapid domestic inflation- reimbursement delays and a real devaluation of the dinar, maant that reduced amount of foreign exchange were needed to reimburse for a given package of domestic real resources. iii) Savings were unavailable for alternative investments. The PCR (PCR para. 11) puts this down to a lack of suitable sub-projects being submitted. However, the project files show that a weightier consideration was probably an earlier comment from a Senior Vice- President (SVP). A memo quotes the SVP as saying: "I trust that it is now understood by the regional staff that when we make a loan or credit, we agree to finance the completion of certain physical structures, purchase of equipment and/or training. If the accomplishment of the project can be achieved at a lower than estimated cost, whether this is due to lower than expected prices or changes in the exchange rate which buys more locpl resources for the dollars involved than originally anticipated, such savings are not automatically available for additional project expenditures. Long standing Bank policy requires such savings to be canceled (End of SVP's comment on Education Project, June 3, 1981). Under the above stated Bank policy new sub-projects proposed by PBS are not eligible for inclusion in the scope of work under Loan 2136-YU." (Memo November 29, 1983). The issue, as to the relevance of this latter ruling to a project which had specifically negotiated the treatment of new sub-projects (para. 1.8) does not appear ever to have been properly engaged. The difference between PBS, a Bank, which could reasonably expect to be provided with a line of credit, and an Education Ministry, should not have needed elaboration. Certainly, it is widely at variance with the technocratic refusal conveyed to the Borrower, such as: "Re Bosnia and Herzegovina Agricultural Project Loan 2136 YU Vegetable Oil Plant Brcko Subproject. Bank received letter with proposal to include margarine production from Andjelka Popic, Managing Director, Internal Bank Brcko. We have carefully reviewed the proposal and the data included. We are unable to accept including the margarine processing line in -9- the subproject for the following reasons. AM. Availability of sufficient raw materials to operate the line efficiently and cost effect is questionable. Also, under current stabilization measures import of several raw materials may not be possible. 9B. Tendering has been completed for equipment to be supplied under the approved subproject and including this line would further delay final contract award which is already about 8 months late. Further delay in signing contract will result in increased investment costs and may result in the subproject not being economically viable. The equipment for the margarine processing line would have to go to IMb procurement and based on experience so far it would take an additional year. CCC. Investment cost of the processing line is about US$3 million and availability of financing is another major concern to us. Since contracts have not been finalized for supply and installation of equipment and for civil works construction for several of the agroindustries subprojects, on estimates made of the total project cost. Therefore, no further commitments can be agreed until we know what actual investment costs are. Regards," (Telex, February 15, 1983). In the circumstances the continued effort of PBS to get approval to use project savings for new sub-projects was logical. The irritation and frustration of the Borrower, when all such initiatives were refused on apparently technical (instead of the real policy) grounds, was clearly justified.2/ J/ 12/ PBS has commentedt "We are still of the opinion that IBRD should have considered more carefully the proposal to include in vegetable oil plant Broko subproject the financing of margarine production, but there is nothing we can do about it now." JJ/ The Region has commenteds "The PPAR quotes a comment of a Senior Vice President on an education project indicating that savings should be cancelled, but notes that there are obvious differences between an education project and a credit project (para. 2.4). A second quote suggests that new subprojects should not be included in the Bosnia project, because of the policy cited by the Saaior Vice President. The point is that the loan documents seem to provide for subprojects in addition to the ones listed, as noted in the PPAR (paras. 1.8-1.9), and the general Bank policy was not formulated with credit projects in mind. Whether or not the discussions were documented (para. 2.4 refers), the Region felt that additional subprojects could be included, provided they were demonstrated to be viable, and thus the correspondence with PBS relating to the justification for the new subprojects." But a staff member has added "I left the division in mid-1982 i.e. before Effectiveness, and so don't know the whole story. But, I have sympathy for both sides in this one. PBS were certainly justified in making the request; however, supervising staff were probably suspicious that PBS would return to the pursuit of republic self-sufficiency, which was very much on the cards at the time. Yes, they probably should have addressed the issue directly if that was their true concern instead of using stalling tactics, but the battle on this had been bruising - I know." - 10 - Financina Plan 2.5 Total projoct costs were estimated at US$81.7 million. The loan was to provide US$34.5 million (plus US$0.5 million for the front-end fee), or 42% of the cost, sub-borrowers were to provide 20%, and PBS and/or other co- financiers, the balance of 38%. The project provided for US$2.1 of working capital to be lent to sub-borrowers (SAR Table 3.2), but the Bank's contribution was not provided for in the Loan Agreement (Schedule I). Despite some promised provisions from PBS (Aide Memoire, May, 1984), the sub-projects have been chronically short of working capital. This may, however, have more to do with the drain imposed by repayments to the Bank, than an initial lack of liquidity. Provision was made for lower capital contributions by participants at the discretion of PBS (Loan Agreement (LA) Schedule 5, para. Bla). In the event sub-borrower participation for the project as a whole was substantially less (12% versus 20%) and Bank participation somewhat more (45% versus 42%) than projected in the SAR as shown in PCR Table 5. However, for the four agro-industrial projects visited by the audit, Bank participation was even higher than suggested by the aggregate figures given in the PCR, as shown i: Table 2. Tablat: FINANCING OF FOUR AGRO-PROCESSING SUB-PROJECTS -Financina % Enteryrise Zg I=g gther Hranaproduct 8 65 27 Bmix 13 49 38 Bmal 7 58 35 Husinaki Rudan 17 52 31 2.6 It is evident that these four projects were highly leveraged and exposed, as many American leveraged buy-outs have been, to any increase in the cost of money; or decrease in capacity utilization. With Bank money for this project costing more than junk bond financing (para. 2.21), it can now be seen that the financial difficulties of the sub-borrowers were built into their financing plans. Manaaement 2.7 The PCR is critical of sub-project management as focussing too much on production (PCR para. 7) and as having deficiencies in financial management and marketing (PCR para. 16). At the time of the audit, the managers met had a very clear understanding of the key problem .... a nonviable financial structure. It is also perhaps fair comment that they had identified this problem for themselves without much assistance from either PBS or the Bank (see, however, paras. 2.23 and 2.24). With General Manager salaries of as little as US$6,000 a year (versus US$2,400 for shift work) the audit would be more concerned that managers were under-gaid than under-qualified. - 11 - 2.8 Basically this was a well designed project (86% of staff time went into the project prior to Board presentation), from which more tha" half the initially considered sub-projects had been dropped (paras. 1.3 and 1.4). With the exception of the vegetable processing plant, the sub-borrowers too were already operating successfully in the proposed lines of business. The LA also delegated some measure of superviston to the PBS which undertook to provide four months a year of technical assistance (i.e. well in excess of anything the Bank itself could contemplate providing). 2.9 It is also significant that this project clearly conformed with OMS 2.28 in that bid evaluation from ICB for the main equipment was carried out prior to Board presentation and whilst everyone involved was motivated by the desire to assure the loan. The Bank's contribution to this task was thus rightly reported as "appraisal" not "supervision" staff time. 2.10 Four major problems were encountered during implementation: (a) the delay in providing an equity contribution towards the oil mill and second flour mill; (b) compliance with the Bank's ICB requirements for the Modrica flour mill;.U/ (c) the over-borrowing which resulted from the Bank's refusal to consider new sub-projects not nominated in the SAR; and (d) the bankruptcy of all sub-borrowers due to the high cost of Bank money. The project was ranked as "1" (no or minor problems) throughout. Even with Popov Polje doing well, and four plants going ahead on schedule, the audit believes the above problems which were recognized in supervision would have justified a "2" (moderate problems) for at least some supervisions. The emerging bankruptcy of the sub-projects would have justified a "3" (major problems) towards the end of the period. ... which coincided with a two-year hiatus in supervision missions. 2.11 Eauity Contribution. Though lack of equity contributions delayed the start-up of the affected projects by about a year, and its existence was noted by the Bank's supervision, resolution was achieved by PBS and the sub- borrower without the need for substantive input from the Bank. (Since this involved the availability of local currency, there is probably little that the Bank could, in fact, have contributed directly to its resolution.) JA/ PBS has commented: "We could not accept your statements (para. 2.10) that the problems encountered during implementation of the project were caused by PBS-UB and the investor. Primarily, taken into the account that the projects were evaluated as the goods ones, despite the fact that during the discussion PBS pointed out the elements that might affect the profitability of the project and it resulted in objective requirement for larger participation of PBS' capital, although that might have been avoided should IBRD had shown more understanding." - 12 - 2.12 198. In six of the seven sub-projects JJ/ procurement under ICB did not run into substantial difficulties. However, in the case of the Modrica flour mill the difficulties with ICB led to cancell4tion of the sub- project. In emence two types of problem arose. First, the initial call for bids and its evaluation was approved by the Bank, but subsequently the sub- borrower tried to switch services between sub-contractors in a way which was acceptable to them, but at substantial variance with the original request for bids; and at variance with the allocation of tasks approved by the Bank. Second, the sub-borrower found it impossible to provide the Bank with all requested assurances, and hence the bidding was repeated, this time on the basis of a single contract for the whole mill. In this case the sub-borrower disqualified the foreign bidders on grounds acceptable to the Bank, but then proved unable to provide the Bank with the information needed to assure that local bidders had responded fully to the bidding conditions. Rather than respond to further data requests the Borrower decided to drop the sub-project. 2.13 The flour mill was dropped despite the Borrower's continued desire to make the investment. The slow response time from the Bank coupled with the repeated requests for additional information created a Catch-22 for the Borrower. The Borrower had not been assured of Bank approval of the contract award, prior to the bid's expiring date. If the bid was not accepted it would be lost; if it wao accepted this would violate the requirement for Bank apprrval prior to letting the bid. This was a case in which the Bank, rather than the Borrower, was unable to respond in a timely manner. 2.14 In September 1984, the task manager recommended to management that the award of the contract be approved: "The fact that the sub-investor awarded the contract before final clearance by the Bank is an administrative irregularity which perhaps was forced upon the investor by the time constraints in bid submissions. Therefore I recommend that the Bank approves the award ... as requested by the borrower." (memo, September 6, 1984). This recommendation was not accepted, and twelve days later a telex was sent out asking for still more details about the submitted bids. 2.15 Whilst the Bank may have been correct in refusing its approval on the basis of the information available to it, the audit believes more could have been done to help the Borrower comply with the Bank's requirements. No doubt the Bank over-estimated the Borrower's capacity to carry out, and document, ICB procedures satisfactorily. Yet there were clear danger signs when the Borrower's new bidding documents had to be corrected, and the Borrower had to be reminded that bids must be opened immediately following the deadline for their receipt. This should have been enough to alert the Bank, JI/ Popovo Polje and the six agro-industry sub-projects. - 13 - that additional procurement advice was needed. Absent this advice, the necessary data could not be, or at least was not, provided to the Bank,J&/ 2.16 Read at some distance from the events thereaslves, the Banks telexes to the Borrower appear (a) to be long delayed, and (b) to involve almost random requests for additional data. On several occasions PBS felt compelled to send follow-up telexes to enquire what had r.,ppened to its earlier telexes. No doubt the requested data was needed; but the Bank seldom provided sufficient motivating explanation as to why additional data was needed. The Bank's telexes should have been supported with telephone conversations, and the offer of additional supervision mission(s) to iron out any difficulties; and to ensure that future mistakes could be avoided. It is probably fair comment that in this case, the Bank's telexes reveal little, if any, devire to work positively to resolve the emerging procurement problem. 2.17 The Bank staff appears to have felt that the whole onus of complying with the Bank's requirements was on PBS. Whilst this is legally true; it is also true that the Bank's provisions of supervision staff time is intended to assist borrowers in fulfilling this responsibility. The assistance feature appears, in this case, to have been lacking. With hindsight it is evident that an extra two or three missions to help explain inter-actively with the sub-borrower how ICB could be used (and particularly, what actions and decisions would be unacceptable) to achieve the desired outcome, would have added trivially to costs and very substantially improved (a) the fulfilling of SAR projections and (b) Borrower relations.12/ jj/ PBS has emphasized "It is clear that the borrower (PBS-UB) was unable to provide additional information, and not that it was not prepared to give the same." And, "We cannot accept complete findings (para. 2.15) as the conclusion was made without knowing the competences of the Bank's staff in administration of the project (examples biddings are done by the investor, and not by Yugoslav bank) and certain Yugoslav regulations, that caused the misunderstandings. So, it should not be considered as PBS-UB's refusal to provide something that is, by its nature, obliged to do." JJ/ The Region has commented: "The PPAR suggests that there were substantial difficulties with ICB in only one of seven subprojects (para. 2.12) but indicates that the Bank over-estimated the capacity of PBS to comply with procurement procedures and should have provided more assistance (para. 2.15), even to the extent of an additional two or three missions (para. 2.17). However, given the experience of PBS with ICB under this and other projects under implementation at the time, it may be that the problem was more in the nature of enterprise control of PBS than in lack of familiarity with procurement procedures. Furthermore, PBS appears to have been a particularly difficult borrower, and this circumstance may have been reflected in the procurement problems." -14- 2.18 This is not to suggest that the Borrower was without fault. It is clear that there was need for help; in particular, sending out the second set of ICB documentation without prior consultation with the Bank, maximized the scope for misunderstanding. 2.19 Ironically, once the decision to drop the Modrica mill from the project had Leen made, the Bank staff discovered that it probably was not needed in any cases "The meeting was informed by Projects staff that the conditions in Yugoslavia had dramatically changed since appraisal of this project and that under the current economAc conditions in Yugoslavia, borrowing foreign currency to finance investments catering to the domestic market has led many agroindustries into serious financial difficulties. The proposed flour mill has no export potential and is unlikely to be financially viable if financed with foreign loans. Furthermore, the meeting was also informed that a recent supervision mission found that the existing flour mill, although old, is performing satisfactorily and there is no immediate need to replace it." (Memo, November 19, 1984, para. 3). How this latter point could have escaped the notice of the Bank's appraisal process, is an obvizus question.11/ 2.20 o This topic has already been discussed (see, para. 2.4). The most chcritable interpretation is that the Bank staff involved in supervision appears not to have known the policy to be applied in this case. The result was to mislead the Borrower over a substantial period of time, as to the possibility of financing additional sub-projects. In consequence, PBS was led to waste su' ,stantial resources in the preparation of project proposals which were bound to jp rejected, as recounted in Box 1. The PCR's reference (PCR, para. 11) to the lack of suitable sub-projects (rather than the existence of an ambig.mus precedent with respect to an Education Loan) suggests that the Bank - policies on project savings may still not be properly understood by the relevant Bank staff (see also footnote 13). 2.21 Bankrptcy. The high cost of Bank mr-sy (circa 20% nominal interest, 12V real, or Libor plus 11%) is docums.ted in Attachment 1. Some feel for the burden imposed by cross-currency risk is provided by Table 3 which lists amounts borrotad, repaid, and remaining to be paid, for four sub- borrowers. Bank policy, and the Loan Agreement (LA Schedule 5, para. 3(a)) A/ PBS has commented: "However, you, in a say, stated the same in para. 2.17. Therefore, we disagree with your findings that the mill was not needed in any case and it should not be identified with the time for replacement of the old equipment." - 15 - Boi1. BORROWER'S VIEW OF BANK PERFORMANCE (Exceipts from Borrower's Project Completion Report) 'Substantial resources were canceled during project implementation as a result of unrealistic appraisal by IBRD mission of the volume of funds and due to inadequate understanding on lender's part for inclusion of additional investments within the subprojects financed i.e., for inclusion of new food industry subprojects in which there were both interests and needs in Bosnia and Herzegovina" (p.5). (i.e., Borrower believed additional subprojects could be proposed and financed.) 'Construction of Modrica flour mill was given up ... due to absolute lack of understanding on part of IBRD in selection of most favorable bidder in the second, limited, international bidding ... in the repeated limited international bidding, IBRD did not accept selection of most favorable bidder (VEMOS, Zagreb and OCERIN from Italy) although the bid evaluation committee applied exactly the same procedures as for the flour mill at Ljubaca. IBRD experts adopted too formalistic approach ... all efforts on part of the investor and PBS-UB to persuade IBRD representatives of the effect that contract award to recommended bidders would be justified failed and, unfortunately, with full conviction that IBRD did not show sufficient understanding and willingness for implementation of their sub-project* (p. 6 and 7). (See also paras. 2.04 (iii) and 2.12 to 2.19.) "Flour mill in Ljubaca ... out of total allocated resources of IBRD ... only 38.6% of appraised nee6s (was used). ... It was recommended to use part of funds ior procurement of equipment for production of candy products but IBRD did not approve ... (p. 8). '... The investor and PBS-UB requested to use surplus funds for procurement of equipment for processing poultry meat. ... Unfortunately IBRD did not agree to such a proposal and was of the opinion that it would have been economically more justified to have processing done in constructed capacities in Bosanska Gradisia ... (financed from Loan 1621-YU). PBS-UP and the investor argued that such a reasoning had no justification whatsoever as Sanitary of both Yugoslavia and European Economic Community did not allow such a solution not to mention the fact that the export to Arab countries was intended which such a proposal of IBRD would have made absolutely impossible." (p.10). "... PBS-UB ... requested that the surplus funds be used for construction of sweet corn production hire, which was refused by IBRD." (p. 14). The investor proposed ... construction of a cold store with capacity of 2,500 tons for the needs of agricultural production in the region. However, their proposal was not accepted by IBRD, despite the fact that such a facility was required to satisfy the needs within the production being financed under the subject loan, and after completion f the second stage in particular." (p. 18). - 16 - explicitly required that cross-currency exchange rate risk be borne by the sub-borrower.2/ The result was to bankrupt all sub-borrowers. 2.22 At the time of the audit the Federal Government had already arranged to take over the debts of the Flour Mill and Popovo Polje from January 1, 1990; under a law "Law of Taking Over the Obligations by the Federal Government Under Specific Foreign Loans and on Indebtedness of the National Bank of Yugoslavia Abroad for the Account of the Federal Government in 1990"; and it seemed inevitable that the other sub-projects would have to be rescued in the same way. Although this resolves the financial problems of the affected sub-borrowers, it does not reduce the economic loss from their having borrowed for these purposes from the Bank; and, in the event, the losses were so severe that sub-borrowers proved unable to "protect itself against the risk of losses resulting from changes in the exchange rate". Table 3s CROSS-CURRENCY RISK AND LOAN REPAYMENT Borrower Repaid + 1im Borrowed Renaid Obligation Obligation Hranaproduct 7.96 3.40 7.85 11.25 141 Bmix 1.95 1.28 1.89 3.17 162 Bmal 5.84 2.20 5.95 8.15 140 Husinski Rudar 2.32 0.99 2.24 3.23 139 2.23 The Bank's role in identifying the problem caused by the high cost of its money to the over-leveraged sub-borrowers was ambiguous. A supervision mission comprised of two financial analysts in June, 1985 identified a lack of financial projections by the sub-borrowers for the period 1985-1987. The mission conducted a financial planning seminar for the financial managers, and arranged for them to complete financial projections for their respective firms; and for these to be submitted to the Bank by the end of August. The Bank staff were to review these projections, and to mount a mission in November to help finalize and analyze the projections, with a view to making any price or financing adjustment which might be needed. 12/ Ironically, the Borrower was required to "protect itself against the risk of losses resulting from changes in the rate of exchange..." (LA, .... 5.06), but no such stipulation was made for sub-borrowers, where the risk actually resided. - 17 - 2.24 In the event, the projections were completed and submitted to the Bank, but were then filed,2Q/ and the promised November 1985 mission did not take place. (The next, and last, mission was not until June, 1987). It is not possible to tell from the files why the mission (which was referred to by the Bank and the Borrower in correspondence several times) did not materialize. The several Bank staff involved do not recall (a) whether a mission took place, but was not recorded in the files, or (b) the reason for not responding to the financial projections. A contentious review of Bank relations with PBS took place in November 1986,21/ and it is possible that this overshadowed "housekeeping" tasks such as the analysis of financial projections. It is tantalizing to see that the Bank, having started by identifying a major problem, apparently did not follow through to resolution. It is hard to avoid the conclusion that even the Bank . not have fully appreciated the seriousness of the problem which was emerging. 2.25 With hindsight it is unfortunate that the Bank did not carry through (and that PBS did noi; insist on)22/ the expected review of the projections of sub-borrower finances. Such a review would very likely have identified the looming problems of high interest and amortization requirements. It is not IQ/ PBS has stateds "With relation to para. 2.21 and 2.22 and the incentives given by PBS and the investor, we are also interested to see what had happened with the applications - is it possible to determine the statements from para. 2.24 that the projections were completed, submitted to the Bank and then filed. In evaluation of this project by the Executive Board of Directors this should be taken into account." 3J/ The spirit of the discussions on the current loan is captured in the following quotation from a Note to File of a telephone report on a difficult meeting "PBS and the investor would a= provide the information requested by the Bank to justify their investment. He said that they are 'fed up' with those repeated requests for information, and suggested that he does not see the use of borrowing from the Bank when all they do is pay commitment charges and can't even use the money." (November 7, 1985). PBS has stated: "We do assure you that statements, as the ones that were mentioned, could not have been given by PBS-UB, particularly by the responsible employees. However, it is true that we were unable to provide always the required information, as the same have not been at our disposal and it should not be qualified as our refusal or something similar to that, particularly if that is ascertained on the basis of the telephone conversation (7.11.1985)." gg/ PBS has stateds "We also cannot accept the statements from para. 2.25, we insisted upon that subject often and even during the visit to our bank by esteemed vice presidents of IBRD Mr. W.P. Thalwitz and Mr. W.A. Wapenhans, but without any success." - 18 - clear that much could have been done about the problem,21/ but time would have been gained for the design and orderly introduction of a rescue operation. 2.26 Though eight supervision missions were recorded for the project, the separate supervision of the agro-processing and irrigation components in June/July 1983 and May/June 1984 meant that there were only six full supervis- ions in five and a half years. Given the problems with procurement and cash flow, this was a false economy; no doubt encouraged by the consistent (and in the audit's view misleading) ranking of the project as a "1", (no or minor problems). 2.27 The management of the irrigation project said that the high cost of Bank funds had been recognized by the project from the start (though not quite how high the cost would finally be). This lead them to minimize Bank funds in the design of the financing structure. Indeed, they would have preferred not to use Bank funds at all, but the financing package offered to them by PBS did not include an option for dispensing entirely with Bank funding. Of US$3.4 million of Bank money allocated to the project, only US$2.9 million was used. 2.28 Whilst appropriate for the (unprofitable) SAR projected heavy reliance on annual crops, the 3 year grace period was totally inadequate in the light of the project's need to move in4o perennial crops. The project found itself required to make capital repayments before much of the project area was contributing revenue. As for other sub-projects, management did not realize the seriousness of their cash flow problem until December 1987, by which time the last Bank supervision had been carried out. In consequence there was no direct discussion of the problem with Bank staff. Irriation 2.29 The implementation experience of the irrigation component, at Popov Polje, is hard to characterize; but it might be summarized as "A major effort expended on project design, resulted in a project which was greatly improved during implementation". The basic project design was carried out by the agro-kombinat, using a wide range of Yugoslavian expertise including, but not limited to, leading agriculturalists from the Universities of Belgrade and Serajevo. When the investment proposal was put to the Bank, it resulted in frequent visits, often with international experts, in the period 1980 to 1981. Obviously, this high level of activity resulted in a large number of sugges- tions being made an* examined (para. 1.10). Whilst no crops have been added to those projected in the SAR, the mix has changed substantially. In particu- lar the replacement of a large area of annual crops by perennials. This is the sense in which the project has been improved in its implementation. 2J/ The audit is skeptical of the relevance of Bank advice to "increase market orientation and improve financial control," given the high leverage of the companies and the high cost of Bank funds. One Bank Staff member has commented that the audit should not over-emphasize the high cost of Bank money; rather he/she suggests that the projects would only have been viable in the face of negative interest rates. At the very least, interest rates of about 20% cannot have helped the firms to cope with their financial problems. - 19 - III. PROJECT OUTCOME Economic Rate of Return 3.1 The PCR (para. 25) says that "a very rough estimate of the ERR for the project might be 13%". With a long-run opportunity cost of capital in Yugoslavia of perhaps 12%, the project is thus marginally viable in economic terms, although the Net Present Value could be significantly positive or negative, given the wide margin of error in the ERR, see also Box 2. Bustainability 3.2 These projects, which were basically well designed, were completed in a timely fashion, and used only 57% of the Bank money projected in the SAR. Nevertheless, they would have been rendered totally unsustainable by the high cost of Bank money, had the Federal Government not stepped in to assume the payment of foreign loans (para. 2.22).2A/ In accordance with the LA, PBS passed the foreign exchange risk onto the sub-borrowers (para. 2.21) and, entering into the spirit of the thing, also passed on the 1.5% front-end fee, the 0.75% commitment fee, in addition to the basic interest rate of 11.6% from the Bank and a 1.25% loading for their own expenses; the latter two charges having also been explicitly foreseen by the LA. 3.3 The result of these high effective interest rates, was that at the expiry of the grace period the sub-projects found their working capital drained away into making repayments to the Bank, so that by the time of the audit, their working capital was almost exhausted. For the Wheat Mill, PBS was not honoring its checks (the account was "blocked"), and the other three 2A/ In direct contravention of loan conditionality; i.e., the projects were unsustainable as designed. - 20 - processing projects reported that their throughput was suffering due to Lnabl .ty to finance needed raw materials.2&/ 2&/ 21/ The Region has commented: "The analysis in the PPAR of the impact of the high fixed interest rate on the Bank loan of 11.6% combined with the cross-currency exchange rate movements, resulting in an effective interest rate of about 20% in dollar terms and a real interest rate of about 12%, is most useful. The high cost of Bank funds was raised several times by the Yugoslavs at the country and project levels, and this is a good example of their concern. Nevertheless, a couple of caveats may be appropriate. First, the estimated interest rates are based on the assumption that there are no changes in cross-currency rts or inflation after June 30, 1990, and such changes could have a significant effect on the estimated rates. Second, it was not know in advance that the Bank funds would have such a high cost; one should clearly acknowledge the benefit of hindsight. And third, a real interest rate of 12%, while high, would not be unbearable if fitAncial rates of return on the subprojects were #otually 16-27% (in real terms), as calculated by PBS, the borrower. The PPAR refers to the financial distress of subborrowerr in several places. It states that thay have been chronically short of working capital (para. 2.5), that their working cpital was almost exhausted at the ti- of the audit in September 1990 (para. 3.3), that they were highly-leveraged (para. 2.6), and that they would have foundered if the Government had not assumed their foreign loan liabilitins (taras. 2.22 and 3.2). However, the subprojects were not highly-leveraged, since about 33% of funds, on the average, were from low-interest, unindexed dinar loans which lost most of their value in the inflationary environment. Working capital requirements of these enterprises are largely seasonal and should be financed with short-term credit, which suggests that the enterprises are suffering from the persistent credit constraints in Yugoslavia (particularly severe during the stabilization program of 1990). Enterprise also suffered from controlled output pries up to 1990 and may still have to negotiate prices with local authorities in some instances. Furthermore, enerprises in Yugoslavia generally have had difficulties adapting to operation in a market environment, particularly with respect to financial matters such as pricing, cash flow planning, cost accounting, and financial reporting. In sum, there are many facets to the financial distress of Yugoslav enterprises, and one should not focus on one particular aspect, out of context. The writing off of foreign loans may have had a substantial impact on the subborrowers but may simply have been a convenient mechanism for providing relief for problems resulting from a number of factors. Furthermore, it is not clear that the loans needed to be written off to enable the enterprises to achieve a satisfactory financial condition. The PPAR suggests that the agroindustry subprojects were well-designed and were completed in a timely fashion (para. 3.2). The Region also considered the enterprises to be relatively well-managed, in spite of some deficiencies such as those noted above in the financial arena ( the management of a given enterprises proves unsuccessfl, it will be replaced by more competent management or by a new ownerhmanagement combination). Thus we feel that, in relative terms, these enterprises and investments were among the more successful in the developing regions of Yugoslavia. The major question is the macro-economic (and now political) climate. If stability returns, we believe that the subprojects will prove to be successful over the long run. If not, all enterprises are likely to continue to have difficulties. Therefore we conaider the agroindustry subprojects to be inherently viable but subject to the adverse impact of their environment. The irrigation component seems likely to sustain its success." 2&/ PBS has commented that is unable to verify this report of a shortage of working capital. "Your statements under 3.3, despite all our efforts, remained vague, and we would kindly ask you to give us more detailed explanation." - 21 - Irriation 3.4 The annual crops, wheat, maize and barley which had featured very largely in the SAR projections, proved unprofitable. Mono-cropping led to a build up of soil-born diseases; and the planned double cropping of maize turned out to be unprofitable, due to the high cost of providing all needed water by pumping over the summer period. This was accentuated by the use of mobile rotating sprays, since up to thirty percent of pumped water may be lost by evaporation before it reaches the root zone. Fortunately, the varietal trials carried out under the project gave management a strong indication as to which perennial varieties to substitute. 3.5 The design envisaged for the private sector irrigation component was probably a non-starter. This would have required consolidation of fragmented holdings into solid blocks, to be sown to the same crops, and watering times and rates to be determined centrally, (i.e. an almost complete loss of control by existing farmers). Understandably, it proved impossible to interest farmers in consolidation of their land under these circumstances, and the private sector component was not implemented. It seems likely that the private sector component should have provided for individual farmers pumping directly from the canal, probably using some form of drip or channel irrigation. Outstanding Issues 3.6 In commenting on a draft of this audit, PBS emphasized that they had not had a response to questions raised with the Regional Vice President, and repeated to the audit. These concerns related tos "i) Taking over a part of the risk by IBRD in the cases when the negative effects arise as a result of inappropriate skilled and other work of the IBRD's representatives (unrealistic evaluation, unacceptability of justified PBS' proposals for inclusion of new subprojects, improper reaction to PBS' proposals, etc). It is an unacceptable attitude that Mr. Thalwitz gave in his letter addressed to Mr. Martinovic, President of PBS, on 5.1.19-9. That the world Bank had a guarantee issued by the Borrower's government. This issue was raised not from the formal point of view, but having in mind the role of the World Bank as the developing bank, the role that is different from the one of a commercial bank. ii) Reduction of loan costs through decrease of commitment fee and front-end fee: - for a loan portion that was cancelled for being irrelevant loan portion as the evaluation of required funds was unrealistic, - 22 - - with respect to the flour mill Modrica project as a consequence of unacceptable by the World Bank of the same ICB evaluation procedure as the one applied for the similar project of mill in Ljubace, that was implemented out of the mama loan. PBS did not raise possible decrease of interest rate, as the same was stipulated by the agreement, and the rate was (11.6%) the highest ever applied by the World Bank and it was for the very short period. In the PPAR you identified that the rate was, in realistic terms, very high with relation to LIBOR. iii) Issue of strict application of Article 4.01 of the General conditions is relating to the obligation of withdrawal of funds in the currency in which the payment is made. An explanation given in the above mentioned letter sent by Mr. Thalwitz is unacceptable as it has no legal grounds to connect 4.01 and 4.02 of the General Conditions, as these two articles regulate different issues and it is easy to be understand. PBS did not ask for anything else but the legal opinion of the lawyer from the World Bank or more appropriately a neutral lawyer, as a sort of arbitration under this issue. We would like this to be done now as well that would probably induce the World Bank to make appropriate amendments in General Conditions, should it would continue with frequent defaults of Article 4.01. Finally, we would like to say that it comes out from PPAR that the World Bank probably did not have more profitable loan as you stated in item 12, under 38. That the net present value, calculated on the basis of LIBOR + 1% was higher by US$103.7 M with relation to the amortization requirements." - 23 - Box 2. THE ECONOMIC RATE OF RETURN AS A MEASURE OF PROJECT SUCCESS The PCR (pars. 25) for this project warns, quite correctly, that there must be considerable uncertainty with respect to the Economic Rate of Return (ERR). "25. Economic Rates of Return (ERRs). The BCR does not indicate any ERRs, nor does it provide input data for the PRRs which would allow estimates of ERRs to be prepared. The average FRR presented in the BCR for the agroindustry and Irrigation components is approximately 18%, compared to an average of about 19% estimated at appraisal. The avenge ERR estimated at appraisal was about 27%. If the relationship between FRRs and BRRs were the same as at appraisal, a current average estimate of the ERR would be approximately 26%. Since there has been a further deterioration in the economic environment since the BCR was prepared, and since there may have been changes in the relationship between FRRs and ERRs, a very rough estimate of the ERR for the project might be 13%. The margin of error in this estimate is, of course, very high." A 13% ERR would normally be quite sufficient to (a) in an SAR justify presentation of the project to the Board, or (b) in a PCR or PPAR to classify the project as "successfil". Two features of this project demand some re-thinking of this "rule of thumb", though not necessarily its reversal, in this case. ogMortunity Cost of Capital versus Cost of Bank Funds. The SAR (Table 6.1) used an opportunity cost of capital of 12% to calculate the Net Present Value (NPV) of the projects. As it happens this was, Attachment 1, also the cost of the Bank's money under the Loan. At a 12% opportunity cost of capital the projewA would have a small positive present value; but given the myriad uncertainties in the several calculations involved the "true NPV could be substantially positive or negative. The close match, in this case between opportunity cost of capital (conceptually the value marginal productivity on additional investments, or the cost of switching capital from other investments to the present project) and the cost of Bank money emphasizes that appraisal of a Bank project really requires two judgments (a) whether the country should proceed with the project, and (b) whether the country should finance it by borrowing from the Bank. In the present case, eIDlls and taking all calculations at face value, it was a matter of indifference, in economic terms, whether the project was financed by the Bank or by foregoing other investments. This follows from the close match between the cost of Bank funds and the assumed opportunity cost of capital. A slightly lower opportunity cost of capital in Yugoslavia would have invited the judgment that the project should proceed; but should be financed from other, cheaper, sources. ANkrt and the BR. As described in para. 2.21, the agro-processing plants had to be rescued from imminent bankruptcy by te Federal Government taking over the cost of the foreign (Bank) funds borrowed. The high cost of Bank money was a causal factor (but not the only causal factor) in these bankruptcies. The SAR's insistence that the final borrower bear the cross-currency exchange risk (para. 2.21) made a significant contribution to this outcome. It seems clear to the audit that (a) project design (especially financial structure) contributed to the need for Government to bail-out the projects, and (b) the project woula not have bon presented to the Board, had the SAR projections demonstrated that bankruptcy lay in wait for borrowers; nor would it have been approved, even if presented. This suggests the need to pay careful attention to the financing package during appraisal; even when a project shows a satisfactory ERR. - 24 - IV. LESSONS AND ISSUES 4.1 Major lessons from this audit aret i. the heavy investment of staff time in the preparatory phase, and evaluation of ICB bids before Board approval, paid off handsomely, in the rejection of some investment proposals, and a project which was implemented in a timely fashion without major technical problems,22/ (paraw. 1.3-1.4); ii. it is probably unrealistic to assume 100% capacity utilization in the economic and financial evaluation of agro-processing projects, (para. 1.4); iii. heavy initial reliance on annual crops for the irrigation component provided needed flexibility when perennials were found to be more profitable,2/ (para. 1.12); iv. imposition of an arbitrary maximum investment per hectare to be funded in the irrigation project probably excluded the use of the most profitable technology,21/ (para. 1.14); v. expecting farmers to consolidate their land, crop it in common, and have irrigation decisions made by public sector officials, was highly unrealistic,22/ (para. 3.5); JZ/ PBS has stated: "With respect to project performance, it should be expected that better knowledge and confidence would shorten the period between negotiations and completion of works. In this regard, we are confident that the Executive Board of Directors would more easily understand the policy and would be able to act efficiently." 21/ PBS has commented: "During the construction stage, the project must have been based on the annual crops, although it also provided for the change of perennials." AU/ PBS has commenteds "That was the reason why the most profitable technology was not 'forgotten' but it was even distribution of investment costs per hectare wanted at that time, however the crops change would dictate the technology." IQ/ PBS has commenteds "Therefore we agree with your statement that expecting farmers to consolidate their land was highly unrealistic." - 25 - vi. the opportunity cost of water used for irrigation should have been reflected in the economic analysio,1/ (para. 1.11); vii. when listing sub-projects in the LA, it should be made explicit as to whether this is an open ended list to which other sub-projects can be added, or is an exhaustive list of the sub-projects to be supported, (para. 1.8); viii. the highly leveraged nature of this project, taken together with the high cost of Bank money (about 20% nominal or 12% real), meant that it was financially nonviable, and ensured the bankruptcy of all sub-borrowers (i.e. their Bank debts having to be written down to zero by the Federal Government),,U/ (paras. 2.21 and 2.22); ix. as a corollary to the above, either additional local equity should have been found or Bank Group financing, if any, should have been provided from IFC; x. as a further corollary, the project shows that a good technical design is not a sufficient condition for success, it also has to be financially viable; and xi. the physical success (sustainability) of this project (represented by the continued use and maintenance of installed capacity) was only achieved by writing the value of foreign borrowing down to zero, (paras. 2.21, 2.22 and 3.1). 21/ PBS has commented: "It was also unrealistic, regarding the accuracy at least, to give the opportunity cost of water used for irrigation in that stage, and it was not reflected in the economic analysis." jg/ PBS has commenteds "We believe that findings disclosed in paragraphs 2.21 and 2.22 could not be accepted as such. First, the Bank was informed about the comments concerning the capital cost by PBS UB. Second, nobody could possibly anticipate such a high depreciation between dinar and other foreign currencies was predictable, nor such a Aigh inflation in Yugoslavia. The discrepancy between the construction period in relation to think that the Bank should find the possibility to support and help investors under these projects, since we cannot see other solutions." - 26 - ATTACHEN I Page 1 of 15 pages COST OF FUNDS History 1. Financial prudence as well as policies in accordance with the Articles of Agreement, require that the Bank pass through to borrowers the exchange risk inherent in its own funding. Several arrangements have been made to pass the foreign exchange risk on to the Bank's borroweres i) Prior to July 1. 1980 Individual Currencies. Fixed Rate. Each loan had a different currency composition, with flexible exchange rates, this led to large differences in exchange adjustments among loans. ii) Fixed Rate Pooled Interest. 1980 to July 1. 1982. The interest rate was set at the time of signing the loan and reflected a weighted average of the (fixed) interest rates of the currencies being lent. Borrowers continued to be responsible for the exchange risk associated with the particular currency lent to them. Since borrowers had the right of early repayment, or prepayment, the Bank was exposed to some interest rate risk, in the event that borrowers chose to repay high cost loans early. iii) Targeted Pool 1989 to date. As for the pooled rate, but the Bank will freeze the ratio of major currencies in the currency pool. 2. The loan currently being audited (Loan 2136-YU) was disbursed in the fixed rate, pooled principal period, and happened to have coincided with major changes in the strength of the dollar, and hence an unusually high exchange rate risk, to the point that the decline of the dollar currently costs the government approximately as much as interest. As calculated below, the cost of funds for this loan is 18.03 to 22.3% in dollar terms (see para. 10) versus the fixed interest rate of 11.6%. 3. Disbursements by the Bank are given in Table 1, and basic data on exchange rate risk is given in Table 2. Table 2 gives data by quarter, the individual columns ares i) Due Bank. This is the amount due to the Bank, expressed in "historic dollars". This column checks with the last column of Table 1. - 27 - ATTACHMENT 1 Page 2 of 15 pages ii) Borrower Obligation. This is the amount in current dollars which the borrower (PBS) would have to pay to repurchase the required share of the pool of foreign exchange in which the loan was denominated. This is discussed in greater detail below. iii) Loan Indgx. This is simply the borrower obligation for this loan expressed as a percent of the amount due to the Bank (i.e. (100 * Column (2)/(Column [1))}. iv) Averae Cost of Funds Index. This is the same concept as the Loan Index, except that it is the total borrower obligation (over all borrowers and loans in the pool) expressed as a ratio of the total amount due to the Bank. v) Loan Index/Funds Index. This is the ratio of the Loan Index to the Funds Index, and shows that they move more or less proportionately. 4. The data on borrower obligation and amount due the Bank are obtained from the monthly "Statement of Loans", published by the Bank. The Average Cost of Funds Index is obtained from Bank files. The "Loan Index" is calculated from the amounts due and borrower obligation columns; it is calculated primarily to show that data on this particular laan checks with the Average Cost of Funds Index, which relates to movements in the overall pool of disbursed currencies. 5. It is worth remarking that the Loan Index affects not only the cost of loan repayments, but also the effective rates of interest on funds lent by the Bank. Since the Bank's interest rate is applied to Borrower Obligation, not the amount due to the Bank. Thus in September 1988. the ar-unt due to the Bank was US$18.24 million. Applying the loan's fixed interest rate of 11.6% to the borrower obligation of US$25.23 million yields an interest payment of Us$2.92 million. When expressed as a rate on the amount due to the Bank (US$18.24 million) this is equal to 16.0%. There is no need to labor the points foreign exchange risk affects both borrower repayment and interest commitments. 6. To trace exactly how disbursements of $20.10 million became transformed into obligations of $19.82 million after repayment of $8.44 million (totalling $28.26) in June 1990, it would be necessary to know the exact currency composition of pool at the two time periods and their respective dollar exchange rates, but the principles of the transactions should be clear. -28 - ATTACHMENT I Page 3 of 15 pages 7. Lost it appear that currency risk &lways works against the borrower, it should be noted that $0.52 million borrowed in September 1982 could have been repaid with $0.44 million in December 1984. Similarly, by August 1988 the Loan Index had fallen to 144.16 from the peak of 164.67 in December 198 Further strengthening of the dollar would continue this downward trend; but a weaker dollar would increase the borrower's obligation. Cost of Funds 8. To provide an estimate of possible cost of funds for this project it is necessary to make assumptions about future foreign exchange and interest rate movements. Quarterly actual payments through June 30. 1990 are given in Table 5. This series is continued in Table 6, on the assumption that there is no further change in either the interest rate or the value of the currency pool relative to the US dollar. 9. The cash flows in Table 5 (column 5) and Table 6 (column 4) have been consolidated over the life of the loan in column 1 of Table 7. Since future payments depend on assumed lack of movement in exchange and interest rates, column 2 of Table 7 also gives the cash flow if Yugoslavia paid off the outstanding balance of its loan in the second quarter of FY91. This "balloon payment" schedule, ignores any pre-payment penalty, since the objective is simply to obtain an estimate of the effective cost of funds. 10. Repayment schedules over the life of the loan are then presented in Tables 8 through 11. Tables 8 and 9 reflect repayment according to the projected agreed schedule (column 1 of Table 7); Table 8 uses a constant interest rate, which turns out to be 18.040 p.a.; while Table 9 uses LIBOR plus a premium which turns out to be LIBOR 9.981. Tables 10 and 11 present the same calculations for the balloon payment options resulting in interest rates of 20.35% or LIBOR plus 12.36%. 11. Since "LIBOR + 12.36%" is so high as to be counter-intuitive interest rate, Table 11 gives detailed columns for LIBOR, LIBOR + 12.36% p.a., and the semi-annual equivalent of LIBOR + 12.36%, and the resulting discount factors. 12. Table 12 demonstrates that the present value of the payments needed to amortize the loan, evaluated at LIBOR + 1%, yields a net present value of US$103.7 million in excess of the amortization requirements. - 29 - ATIACHMNT I Page 4 of 15 pages Tabl, is IBIRD DISBURSIENTS AND REPATHENTS FOR LOAN 2136-TU Capital Cumulative Cumulative Amount Endinx Date Diabursement Renayment Disbureed Revaid PE ALL IN H I 8 T 0 RICAL U 8$ December 1982 517,241 517,241 0 517,241 March 1983 0 517,241 0 517,241 June 1983 632,334 1,149,575 0 1,149,575 September 1983 739,933 1,889,508 0 1,889,508 December 1983 1,689,732 3,579,239 0 3,579,239 March 1984 1,546,727 5,125,966 0 5,125,966 June 1984 2,495,608 7,621,574 0 7,621,574 September 1984 962,599 8,58(,173 0 8,584,173 December 1984 1,334,018 9,918,191 0 9,918,191 March 1985 993,881 10,912,073 0 10,912,073 June 1985 1,139,692 12,051,764 0 12,051,764 September 1985 210,708 12,262,472 0 12,262,472 December 1985 3,105,666 15,368,137 0 15,368,137 March 1986 1,275,897 16,644,035 0 16,644,035 June 1986 782,983 17,427,018 0 17,427,018 September 1986 187,532 17,614,550 0 17,614,550 December 1986 308,516 17,923,066 0 17,923,066 March 1987 778,220 18,701,286 0 18,701,286 June 1987 559,560 472 19,260,845 472 19,260,373 September 1987 247,052 95,058 19,507,898 95,530 19,412,368 December 1987 54,010 5,216 19,561,908 100,746 19,461,162 March 1988 35,441 707,450 19,597,349 808,196 18,789,153 June 1988 502,308 1,049,950 20,099,657 1,858,146 18,241,511 September 1988 0 20,099,657 1,858,146 18,241,511 December 1988 0 1,009,950 20,099,657 2,868,096 17,231,561 March 1989 0 20,099,657 2,868,096 17,231,561 June 1989 0 996,870 20,099,657 3,864,966 16,234,690 September 1989 0 20,099,657 3,864,966 16,234,690 December 1989 0 1,023,030 20,099,657 4,887,996 15,211,661 March 1990 0 20,099,657 4,887,996 15,211,661 June 1990 0 1,009,950 20,099,657 5,897,946 14,201,711 -30- PageSA A o Table 2: BASIC DATA ON FOREIGN EXCHAGZ RISK - LOAN 2136-TU Average Cost of Loanl Borrower Loan Funds Funds ding Date Due ftak Oblization Index Index Index ---------- US$ ------------ Decembe 1982 517,241 553,039 1.069 0.922 1.159 March 1983 517,241 538,047 1.040 0.897 1.159 June 1983 1,149,575 1,152,880 1.003 0.885 1.133 September 1983 1,889,508 1,884,959 0.998 0.875 1.140 December 1983 3,579,239 3,541,158 0.989 0.864 1.146 March 1984 5,125,966 5,219,816 1.018 0.884 1.151 June 1984 7,621,574 7,347,324 0.964 0.835 1.154 September 1984 6,584,173 7,924,610 0.923 0.794 1.163 December 1984 9,918,191 9,031,366 0.911 0.773 1.179 March 1985 .1,912,073 10,068,205 0.923 0.774 1.192 June 1985 12,051,764 11,333,419 0.940 0.784 1.200 September 1985 12,262,472 12,994,505 1.060 0.883 1.200 December 1985 15,368,137 17,007,803 1.107 0.937 1.181 March 1986 16,644,035 19,490,855 1.171 1.004 1.167 June 1986 17,427,018 21,555,342 1.237 1.068 1.159 September 1986 17,614,550 23,376,655 1.327 1.148 1.156 December 1986 17,923,066 23,786,447 1.327 1.153 1.151 March 1987 18,701,286 26,342,342 1.409 1.238 1.138 June 1987 19,260,373 26,645,314 1.383 1.226 1.128 September 1987 19,412,368 26,735,800 1.377 1.225 1.124 December 1987 19,461,162 31,004,458 1.593 1.421 1.121 March 1988 18,789,153 28,835,103 1.535 1.367 1.122 June 1988 18,241,511 25,895,018 1.420 1.276 1.112 September 1988 18,241,511 25,232,218 1.383 1.244 1.112 December 1988 17,231,561 25,034,973 1.453 1.306 1.112 March 1989 17,231,561 23,746,716 1.378 1.239 1.112 June 1989 16,234,690 21,525,715 1.326 1.192 1.112 September 1989 16,234,690 22,029,579 1.357 1.220 1.112 December 1989 15,211,661 21,370,386 1.405 1.263 1.112 March 1990 15,211,661 20,662,501 1.358 1.221 1.112 June 1990 14,201,711 19,816,797 1.395 1.254 1.112 - 31 - pose 6 of 15 pages Table-3s ACTUAL CASH FLOW - LOAN 2136-YU Actual Actual Actual Actual Capital Interest Committment Actual Indin Date Disbursement Reavment PaYMent Fee ParMent Cash Ilw Historical US$ Market US$ ------------ Current US$ December 1982 517,241 0 0 0 (517,241) March 1983 0 0 1,354 91,970 93,324 June 1983 632,334 0 31,439 128,647 (472,248) September 1983 739,933 0 0 0 (739,933) December 1983 1,689,732 0 92,954 123,346 (1,473,432) March 1984 1,546,727 0 15,152 0 (1,331,574) June 1984 2,495,608 0 268,915 113,364 (2,113,329) September 1984 962,599 0 0 0 (962,599) December 1984 1,334,018 0 435,507 57,399 (841,113) March 1985 993,861 0 0 0 (993,881) June 1985 1,139,692 0 553,079 47,648 (538,965) September 1985 210,708 0 0 0 (210,708) December 1985 3,105,666 0 758,069 40,356 (2,307,241) March 1986 1,275,897 0 0 0 (1,275,897) June 1986 782,983 0 1,152,975 26,998 396,989 September 1986 187,532 0 22,695 0 (164,837) December 1986 306,516 0 1,350,093 18,169 1,059,746 March 1987 778,220 0 0 0 (778,220) June 1987 559,560 6(' 0 0 (558,896) September 1987 247,052 133,494 1,514,330 11,675 1,412,447 December 1987 54,010 7,325 3,643 1,461 (41,381) March 1988 35,441 1,072,000 1,705,981 3,835 2,746,377 June 1988 502,308 1,561,972 1,662,315 4,320 2,726,299 September 1988 0 0 0 0 0 December 1988 0 1,506,039 1,577,650 0 3,083,689 March 1989 0 0 0 0 0 June 1989 0 1,342,270 1,342,031 0 2,684,301 September 1989 0 0 0 0 0 December 1989 0 1,405,079 1,298,903 0 2,703,982 March 1990 0 0 0 0 0 June 1990 0 1,415,145 1,232,861 0 2,648,006 t -32 - AT|TACHMENT 1 Page 7 of 15 pages Table.4: PROJECTED CAPITAL AND INTEREST PATHENTS LOAN 2136-YU Projected Projected Projected Projected Borrower Capital Interest Total Endina Date Oblikation Renavment Pavaeat Paymeqt ------------------Current US$-------------------- September 1990 19,816,797 707,743 382,464 1,090,207 December 1990 19,109,055 707,743 368,805 1,076,548 March 1991 18,401,312 707,743 355,145 1,062,888 June 1991 17,693,569 707,743 341,486 1,049,229 September 1991 16,985,826 707,743 327,826 1,035,569 December 1991 16,278,084 707,743 314,167 1,021,910 March 1992 15,570,341 707,743 300,508 1,008,250 June 1992 14,862,598 707,743 286,848 994,591 September 1992 14,154,855 707,743 273,189 980,931 December 1992 13,447,112 707,743 259,529 967,272 March 1993 12,739,370 707,743 245,870 953,613 June 1993 12,031,627 707,743 232,210 939,953 September 1993 11,323,884 707,743 218,551 926,294 December 1993 10,616,141 707,743 204,892 912,634 March 1994 9,908,399 707,743 191,232 898,975 June 1994 9,200,656 707,743 177,573 885,315 September 1994 8,492,913 707,743 163,913 871,656 December 1994 7,785,170 707,743 150,254 857,997 March 1995 7,077,428 707,743 136,594 844,337 June 1995 6,369,685 707,743 122,935 830,678 September 1995 5,661,942 707,743 109,275 817,018 December 1995 4,954,199 707,743 95,616 803,359 March 1996 4,246,457 707,743 81,957 789,699 June 1996 3,538,714 707,743 68,297 776,040 September 1996 2,830,971 707,743 54,638 762,381 December 1996 2,123,228 707,743 40,978 748,721 March 1997 1,415,486 707,743 27,319 735,062 June 1997 707,743 707,743 13,659 721,402 -33 - Page 8 of 15 pages Table 5: PROJECTED CASH FLOMS WITH CALCULATED OR BALLOON REPAYMENTS LOAN 2136-YU Cash Flow w/ Cash Flow vi Calculated Balloon Indinx Date Repayments Reament ------------- Current US$ ---------- December 1982 (517,241) (517,241) March 1983 93,324 93,324 June 1983 (472,248) (472,248) September 1983 (739,933) (739,933) December 1983 (1,473,432) (1,473,432) March 1984 (1,531,574) (1,531,574) June 1984 (2,113,329) (2,113,329) September 1984 (962,599) (962,599) December 1984 (841,113) (841,113) March 1985 (993,881) (993,881) June 1985 (538,965) (538,965) September 1985 (210,708) (210,708) December 1985 (2,307,241) (2,307,241) March 1986 (1,275,897) (1,275,897) June 1986 396,989 396,989 September 1986 (164,837) (164,837) December 1986 1,059,746 1,059,746 March 1987 (778,220) (778,220) June 1987 (558,896) (558,896) September 1987 1,412,447 1,412,447 December 1987 (41,381) (41,381) March 1988 2,746,377 2,746,377 June 1988 2,726,299 2,726,299 September 1988 0 0 December 1988 3,083,689 3,083,689 March 1989 0 0 June 1989 2,684,301 2,684,301 September 1989 0 0 December 1989 2,703,982 2,703,982 March 1990 0 0 June 1990 2,648,006 2,648,006 September 1990 1,090,207 20,199,262 December 1990 1,076,548 March 1991 1,062,888 June 1991 1,049,229 September 1991 1,035,569 December 1991 1,021,910 March 1992 1,008,250 June 1992 994,591 September 1992 980,931 December 1992 967,272 March 1993 953,613 June 1993 939,953 September 1993 926,294 December 1993 912,634 March 1994 898,975 June 1994 885,315 September 1994 871,656 December 1994 857,997 March 1995 844,337 June 1995 830,678 September 1995 817,018 December 1995 803,359 March 1996 789,699 June 1996 776,040 September 1996 762,381 December 1996 748,721 March 1997 735,062 June 1997 721,402 -34- Page 9 of 15 pages Table 6s LOAN AMORTIZATION W/ FIXED INTEREST OF 8.042 PER ANNUM PAID QUARTERLY LOAN 2136-YU Cash Flow w/ Cumulative Calculated Discount PDV of PDV of Ending Date Repayments Factor Cash Flp_.0 Cash Flow Current US$ --- Current US$ ---- December 1982 (517,241) 1.000 (517,241) (517,241) March 1983 93,324 0.957 89,297 (427,944) June 1983 (472,248) 0.916 (432,375) (860,319) September 1983 (739,933) 0.876 (648,229) (1,508,548) December 1983 (1,473,432) 0.838 (1,235,126) (2,743,674) March 1984 (1,531,574) 0.802 (1,228,470) (3,972,144) June 1984 (2,113,329) 0.767 (1,621,956) (5,594,100) September 1984 (962,599) 0.734 (706,908) (6,301,008) December 1984 (841,113) 0.703 (591,040) (6,892,048) March 1985 (993,881) 0.672 (668,255) (7,560,303) June 1985 (538,965) 0.643 (346,748) (7,907,051) September 1985 (210,708) 0.616 (129,712) (8,036,762) December 1985 (2,307,241) 0.589 (1,359,055) (9,395,817) March 1986 (1,275,897) 0.564 (719,126) (10,114,943) June 1986 396,989 0.539 214,098 (9,900,844) September 1986 (164,837) 0.516 (85,062) (9,985,906) December 1986 1,059,746 0.494 523,271 (9,462,635) March 1987 (778,220) 0.472 (367,682) (9,830,317) June 1987 (558,896) 0.452 (252,666) (10,082,983) September 1987 1,412,447 0.433 610,989 (9,471,994) December 1987 (41,381) 0.414 (17,128) (9,489,123) March 1988 2,746,377 0.396 1,087,707 (8,401,416) June 1988 2,726,299 0.379 1,033,167 (7,368,249) September 1988 0 0.363 0 (7,368,249) December 1988 3,083,689 0.347 1,069,937 (6,298,311) March 1989 0 0.332 0 (6,298,311) June 1989 2,684,301 0.318 852,726 (5,44S,585) September 1989 0 0.304 0 (5,445,585) December 1989 2,703,982 0.291 786,453 (4,659,132) March 1990 0 0.278 0 (4,659,132) June 1990 2,648,006 0.266 705,145 (3,953,987) September 1990 1,090,207 0.255 277,788 (3,676,199) December 1990 1,076,548 0.244 262,472 (3,413,727) March 1991 1,062,888 0.233 247,961 (3,165,766) June 1991 1,049,229 0.223 234,213 (2,931,553) September 1991 1,035,569 0.214 221,190 (2,710,363) December 1991 1,021,910 0.204 208,855 (2,501,508) March 1992 1,008,250 0.196 197,172 (2,304,336) June 1992 994,591 0.187 186,109 (2,118,228) September 1992 980,931 0.179 175,633 (1,942,595) December 1992 967,272 0.171 165,715 (1,776,880) March 1993 953,613 0.164 156,326 (1,620,554) June 1993 939,953 0.157 147,438 (1,473,116) September 1993 926,294 0.150 139,026 (1,334,090) December 1993 912,634 0.144 131,066 (1,203,023) March 1994 898,975 0.137 123,534 (1,079,489) June 1994 885,315 0.131 116,408 (963,081) September 1994 871,656 0.126 109,667 (853,414) December 1994 857,997 0.120 103,291 (750,124) March 1995 844,337 0.115 97,261 (652,863) June 1995 830,678 0.110 91,558 (561,305) September 1995 817,018 0.105 86,167 (475,137) December 1995 803,359 0.101 81,071 (394,066) March 1996 789,699 0.097 76,254 (317,812) June 1996 776,040 0.092 71,702 (246,110) September 1996 762,381 0.088 67,401 (178,709) December 1996 748,721 0.085 63,337 (115,372) March 1997 735,062 0.081 59,499 (55,874) June 1997 721,402 0.077 55,874 0 - 35 - Page 10 f1 ae Tnblet LOAN AMORTIZATION USING INTEREST AT 9.98% PER ANNUM OVER 3-MONTH LIBOR - LOAN 2136-YU Cash Flow v/ 3-Month Cumulative Ending Calculated LIBOR on LIBOR + Discount PDV of PDV of Date Repayments US$ Deposits 9.98 Factor Cash Flow Cash Flow Current US$ ---** Current US$--------- December 1982 (517,241) 9.460 19.445 1.000 (517,241) (517,241) March 1983 93,324 9.280 19.265 0.954 89,036 (428.205) June 1983 (472,248) 9.330 19.315 0.9il. (429,7") (857,949) September 1983 (739,933) 10.040 20.025 0.864 (639,068) (1,497,017) December 1983 (1,473,432) 9.800 19.785 0.824 (1,214,682) (2,711,699) March 1984 (1,531,574) 10.300 20.285 0.781 (1,195,966) (3,907,665) June 1984 (2,113,329) 11.490 21.475 0.731 (1,544,175) (5,451,841) September 1984 (962,599) 11.950 21.935 0.688 (662,441) (6,114,281) December 1984 (841,113) 10.010 19.995 0.677 (569,353) (6,683,635) March 1985 (993,881) 9.030 19.015 0.658 (654,348) (7,337,983) June 1985 (538,965) 8.260 18.245 0.640 (345,027) (7,683,010) September 1985 (210,708) 8.140 18.125 0.614 (129,412) (7,812,422) December 1985 (2,307,241) 8.150 18.135 0.587 (1,355,238) (9,167,660) March 1986 (1,275,897) 7.910 17.895 0.566 (722,309) (9,889,969) June 1986 396,989 7.110 17.095 0.557 220,968 (9,669,001) September 1986 (164,837) 6.270 16.255 0.550 (90,691) (9,759,692) December 1986 1,059,746 6.140 16.125 0.531 563,095 (9,196,596) March 1987 (778,220) a.380 16.365 0.506 (393,606) (9,590,202) June 1987 (558,896) 7.150 17.135 0.470 (262,684) (9,852,886) September 1987 1,412,447 7.220 17.205 0.449 634,560 (9,218,326) December 1987 (41,381) 7.960 17.945 0.416 (17,204) (9,235,529) March 1988 2,746,377 6.980 16.965 0.418 1,147,968 (8,087,562) June 1988 2,726,299 7.480 17.465 0.391 1,064,764 (7,022,798) September 1988 0 8.420 18.405 0.355 0 (7,022,798) December 1988 3,083,689 9.020 19.005 0.328 1,012,165 (6,010,633) March 1989 0 9.810 19.795 0.299 0 (6,010,633) June 1989 2,684,301 9.780 19.765 0.285 766,004 (5,244,629) September 1989 8.930 18.915 0.287 0 (5,244,629) December 1989 2,703,*62 8.620 18.605 0.280 757,115 (4,487,514) March 1990 0 8.400 18.385 0.272 0 (4,487,514) June 1990 2,648,006 8.400 18.385 0.260 687,761 (3,799,753) September 1990 1,090,207 8.460 18.445 0.247 269,514 (3,530,239) December 1990 1,076,548 8.460 18.445 0.236 254,406 (3,275,833) March 1991 1,062,888 8.460 18.445 0.226 240,106 (3,035,727) June 1991 1,049,229 8.460 18.445 0.216 226,573 (2,809,155) September 1991 1,035,569 8.460 18.445 0.206 213,766 (2,595,389) December 1991 1,021,910 8.460 18.445 0.197 201,648 (2,393,741) March 1992 1,008,250 8.460 18.445 0.189 190,182 (2,203,559) June 1992 994,591 8.460 18.445 0.180 179,336 (2,024,223) September 1992 980,931 8.460 18.445 0.172 169,077 (1,855,146) December 1992 967,272 8.460 18.445 0.165 159,373 (1,695,772) March 1993 953,613 8.460 18.445 0.158 150,197 (1,545,576) June 1993 939,953 8.460 18.445 0.151 141,520 (1,404,056) September 1993 926,294 8.460 18.445 0.144 133,316 (1,270,740) December 1993 912,634 8.460 18.445 0.138 125,560 (1,145,180) March 1994 898,975 8.460 18.445 0.133 118,229 (1,026,952) June 1994 885,315 8.460 18.445 0.126 111,300 (915,652) September 1994 871,656 8.460 18.445 0.120 104,752 (810,899) December 1994 857,997 8.460 18.445 0.115 98,566 (712,334) March 1995 844,337 8.460 18.445 0.110 92,721 (619,612) June 1995 830,678 8.460 18.445 0.105 87,200 (532,412) September 1995 817,018 8.460 18.445 0.100 81,986 (450,427) December 1995 803,359 8.460 18.445 0.096' 77,061 (373,366) March 1996 789,699 8.460 18.445 0.092 72,412 (300,953) June 1996 776,040 8.460 18.445 0.088 68,02r (232,931) September 1996 762,381 8.460 18.445 0.084 63,880 (169,051) December 1996 748,721 8.460 18.445 0.080 59,970 (109,081) March 1997 735,062 8.460 18.445 0.077 56,281 (52,800) June 1997 721,402 8.460 18.445 0.073 52,800 0 - 36 - ATTACHMENT 1 Pase 11 o 15 pages Takib_ LOAN AMORTIZATION W/ FIXED INTEREST OF 20.35% PER ANNUM PAID QUARTERLY W/ BALWON REPAYMENT - LOAN 2136-YU Cash Flow v/ Cumulative Balloon Discount PDV of PDV of Ending Date Renavment Factor Cash Flaw Cash Flow Current US$ ------ Current US$ ------- December 1982 (517,241) 1.000 (517,241) (517,241) March 1983 93,324 0.952 88,806 (428,435) June 1983 (472,248) 0.906 (427,630) (856,065) September 1983 (739,933) 0.862 (637,586) (1,493,651) December 1983 (1,473,432) 0.820 (1,208,164) (2,701,815) March 1984 (1,531,574) 0.780 (1,195,041) (3,896,856) June 1984 (2,113,329) 0.742 (1,569,137) (5,465,993) September 1984 (962,599) 0.707 (680,124) (6,146,117) December 1984 (841,113) 0.672 (565,517) (6,711,634) March 1985 (993,881) 0.640 (635,880) (7,347,514) June 1985 (538,965) 0.609 (328,133) (7,675,647) September 1985 (210,708) 0.579 (122,073) (7,797,720) December 1985 (2,307,241) 0.551 (1,271,980) (9,069,700) March 1986 (1,275,897) 0.525 (669,348) (9,739,048) June 1986 396,989 0.499 198,182 (9,540,866) September 1986 (164,837) 0.475 (78,305) (9,619,171) Deceamtar 1986 1,059,746 0.452 479,055 (9,140,117) March 1987 (778,220) 0.430 (334,761) (9,474,877) June 1987 (558,896) 0.409 (228,777) (9,703,654) September 1987 1,412,447 0.390 550,177 (9,153,478) December 1987 (41,381) 0.371 (15,338) (9,168,816) March 1988 2,746,377 0.353 968,697 (8,200,119) June 1988 2,726,299 0.336 915,062 (7,285,057) September 1988 0 0.319 0 (7,285,057) December 1988 3,083,689 0.304 937,228 (6,347,829) March 1989 0 0.289 0 (6,347,829) June 1989 2,684,301 0.275 738,761 (5,609,069) September 1989 0 0.262 0 (5,609,069) December 1989 2,703,982 0.249 673,867 (4,935,201) March 1990 0 0.237 0 (4,935,201) June 1990 2,648,006 0.226 597,568 (4,337,633) September 1990 20,199,262 0.215 4,337,633 (0) - 37 - 4 Page 12 A Tabl9s LoAN AMORTIZATION USING INTREST AT 12.36X PER ANNUM OVER 3-MONTH LIBOR, W/ BALLOON REPAWMENT - LOAN 2136-TU Cash Flow v/3-Month Cumulative Balloon LIBOR on LIBOR + Discount PDV of PDV of Kadia Date Rmarmant US Deposits 12.36 Factor Cash Ploy Cash Flow Current US$ ----- Current US$ ******. December 1982 (517,241) 9.46 21.82 1.000 (517,241) (517,241) March 1983 93,324 9.28 21.64 0.949 88,533 (428,708) June 1983 (472,248) 9.33 21.69 0.900 (424,907) (853,615) September 1983 (739,933) 10.04 22.40 0.849 (628,328) (1,481,943) December 1983 (1,473,432) 9.80 22.16 0.806 (1,187,526) (2,669,470) March 1984 (1,531,574) 10.30 22.66 0.759 (1,162,677) (3,832,147) June 1984 (2,113,329) 11.49 23.85 0.706 (1,492,885) (5,325,032) September 1984 (962,599) 11.95 24.31 0.662 (636,869) (5,961,902) December 1984 (841,113) 10.01 22.37 0.647 (544,193) (6,506,094) March 1985 (993,881) 9.03 21.39 0.626 (621,834) (7,127,929) June 1985 (538,965) 8.26 20.62 0.605 (325,998) (7,453,927) September 1985 (210,708) 8.14 20.50 0.577 (121,580) (7o575,507) December 1985 (2,307,241) 8.15 20.51 0.549 (1,266,022) (8,841,529) March 1986 (1,275,897) 7.91 20.27 0.526 (670,913) (9,512,442) June 1986 396,989 7.11 19.47 0.514 204,052 (9,308,390) September 1986 (164,837) 6.27 18.63 0.505 (83,259) (9,391,649) December 1986 1,059,746 6.14 18.50 0.485 513,996 (8,677,653) March 1987 (778,220) 6.38 18.74 0.459 (357,262) (9,234,915) June 1987 (558,896) 7.15 19.51 0.424 (237,119) (9,472,034) September 1987 1,412,447 7.22 19.58 0.403 569,564 (8,902,469) December 1987 (41,381) 7.96 20.32 0.371 (15,357) (8,917,826) March 1988 2,746,377 6.98 19.34 0.373 1,018,662 (7,899,164) June 1988 2,726,299 7.48 19.84 0.35 939,609 (6,959,555) September 1988 0 8.42 20.78 0.312 0 (6,959,555) December 1988 3,083,689 9.02 21.38 0.287 883,538 (6,076,017) March 1989 0 9.81 22.17 0.260 0 (6,076,017) June 1989 2,684,301 9.78 22.14 0.246 661,305 (5,414,712) September 1989 0 8.93 21.29 0.246 0 (5,414,712) December 1989 2,703,982 8.62 20.98 0.239 646,000 (4,768,712) March 1990 0 8.40 20.76 0.230 0 (4,768,712) June 1990 2,648,006 8.40 20.76 0.219 580,158 (4,188,554) September 1990 20,199,262 8.46 20.82 0.207 4,188,553 (0) - 38 - Pae1ATTACaHENT-I Page of 15 pages Table 10. LOAN AIORTIZATION USING INTEREST AT 1.002 PER ANNUM OVER 3-MONTH LIBOR * LOAN 2136-YU Cash Flow v/ 3-Month Cumulative Calculated LIBOR on LIBOR + Discount PDV of PDV of Endina Date Repaymente US$ Depoets 1.00t Factor Cash Flow Cash low Current US$ ----- Current US$ ----- December 1982 (517,241) 9.46 10.46 1.000 (517,241) (517,241) March 1983 93,324 9.28 10.28 0.975 90,986 (426,255) June 1983 (472,248) 9.33 10.33 0.950 (448,770) (875,025) September 1983 (739,933) 10.04 11.04 0.922 (681,899) (1,556,924) December 1983 (1,473,432) 9.80 10.80 0.899 (1,324,489) (2,881,413) March 1984 (1,531,574) 10.30 11.30 0.870 (1,332,430) (4,213,843) June 1984 (2,113,329) 11.49 12.49 0.832 (1,757,303) (5,971,146) September 1984 (962,599) 11.95 12.95 0.800 (770,164) (6,741,310) December 1984 (841,113) 10.01 11.01 0.805 (676,885) (7,418,195) March 1985 (993,881) 9.03 10.03 0.800 (795,305) (8,213,500) June 1985 (538,965) 8.26 9.26 0.795 (428,714) (8,642,213) September 1985 (210,708) 8.14 9.14 0.780 (164,342) (8,806,556) December 1985 (2,307,241) 8.15 9.15 0.762 (1,758,824) (10,565,379) March 1986 (1,275,897) 7.91 8.91 0.751 (958,153) (11,523,533) June 1986 396,989 7.11 8.11 0.755 299,735 (11,223,798) September 1986 (164,837) 6.27 7.27 0.763 (125,811) (11,349,609) December 1986 1,059,746 6.14 7.14 0.753 798,475 (10,551,134) March 1987 (778,220) 6.38 7.38 0.733 (570,331) (11,121,465) June 1987 (558,896) 7.15 8.15 0.696 (388,736) (11,510,201) September 1987 1,412,447 7.22 8.22 0.679 959,667 (10,550,533) December 1987 (41,381) 7.96 8.96 0.642 (26,570) (10,577,103) March 1988 2,746,377 6.98 7.98 0.660 1,813,859 (8,763,244) June 1988 2,726,299 7.48 8.48 0.630 1,718,446 (7,044,798) September 1988 0 8.42 9.42 0.585 0 (7,044,798) December 1988 3,083,689 9.02 10.02 0.552 1,702,901 (5,341,897) March 1989 0 9.81 10.81 0.513 0 (5,341,897) June 1989 2,684,301 9.78 10.78 0.501 1,344,465 (3,997,433) September 1989 0 8.93 9.93 0.516 0 (3,997,433) December 1989 2,703,982 8.62 9.62 0.514 1,389,989 (2,607,444) March 1990 0 8.40 9.40 0.510 0 (2,607,444) June 1990 2,648,006 8.40 9.40 0.498 1,319,118 (1,288,326) September 1990 1,090,207 8.46 9.46 0.485 528,217 (760,109) December 1990 1,076,548 8.46 9.46 0.473 509,548 (250,560) March 1991 1,062,888 8.46 9.46 0.462 491,460 240,900 June 1991 1,049,229 8.46 9.46 0.452 473,936 714,836 September 1991 1,035,569 8.46 9.46 0.441 456,959 1,171,794 December 1991 1,021,910 8.46 9.46 0.431 440,513 1,612,307 March 1992 1,008,250 8.46 9.46 0.421 424,584 2,036,891 June 1992 994,591 8.46 9.46 0.411 409,155 2,446,046 September 1992 980,931 8.46 9.46 0.402 394,213 2,840,259 December 1992 967,272 8.46 9.46 0.393 379,742 3,220,001 March 1993 953,613 8.46 9.46 0.384 365,730 3,585,731 June 1993 939,953 8.46 9.46 0.375 352,163 3,937,894 September 1993 926,294 8.46 9.46 0.366 339,027 4,276,921 December 1993 912,634 8.46 9.46 0.358 326,311 4,603,232 March 1994 898,975 8.46 9.46 0.349 314,001 4,917,233 Jse 1994 885,315 8.46 9.46 0.341 302,085 5,219,318 September 1994 871,656 8.46 9.46 0.333 290,553 5,509,871 December 1994 857,997 8.46 9.46 0.326 279,392 5,789,263 March 1995 844,337 8.46 9.46 0.318 268,592 6,057,854 June 1995 830,678 8.46 9.46 0.311 258,142 6,315,996 September 1995 817,018 8.46 9.46 0.304 248,031 6,564,027 December 1995 803,359 8.46 9.46 0.297 238,250 6,802,276 March 1996 789,699 8.46 9.46 0.290 228,788 7,031,064 June 1996 776,040 8.46 9.46 0.283 219,636 7,250,700 September 1996 762,381 8.46 9.46 0.276 210,785 7,461,485 December 1996 748,72V 8.46 9.46 0.270 202,226 7,663,711 March 1997 735,062 8.46 9.46 0.264 193,950 7,857,661 June 1997 721,402 8.46 9.46 0.258 185,948 8,043,608 -39- [ ATTACHNENT. 1 Page 14 of 15 pages TabIle1 CURRENT VS. CONSTANT $US CASH FLOW - LOAN i.-6-YU Cash Flov v/ World Bank Cash Flow v/ Cash Flow V/ Calculated Disbursement Calculated Balloon Endina Date Renaymnts Deflator Reayments Reayment Current US$ (1990w100) -------Constant US$------ December 1982 (517,241) 72.6 (375,517) (517,241) March 1983 93,324 71.0 66,260 93,324 June 1983 (472,248) 71.0 (335,296) (472,248) September 1983 (739,933) 71.0 (525,352) (739,933) December 1983 (1,473,432) 71.0 (1,046,137) (1,473,432) March 1984 (1,531,574) 69.5 (1,064,444) (1,531,574) June 1984 (2,113,329) 69.5 (1,468,764) (2,113,329) September 1984 (962,599) 69.5 (669,006) (962,599) December 1984 (841,113) 69.5 (584,573) (841,113) March 1985 (993,881) 70.0 (695,717) (993,881) June 1985 (538,965) 70.0 (377,275) (538,965) September 1985 (210,708) 70.0 (147,495) (210,708) December 1985 (2,307,241) 70.0 (1,615,069) (2,307,241) March 1986 (1,275,897) 82.6 (1,053,891) (1,275,897) June 1986 396,989 82.6 327,913 396,989 September 1986 (164,837) 82.6 (136,156) (164,837) December 1986 1,059,746 82.6 875,350 1,059,746 March 1987 (778,220) 90.8 (706,624) (778,220) June 1987 (558,896) 90.8 (507,478) (558,896) September 1987 1,412,447 90.8 1,282,502 1,412,447 December 1987 (41,381) 90.8 (37,574) (41,381) March 1988 2,746,377 97.4 2,674,971 2,746,377 June 1988 2,726,299 97.4 2,655,415 2,726,299 September 1988 0 97.4 0 0 December 1988 3,083,689 97.4 3,003,513 3,083,689 March 1989 0 97.4 0 0 June 1989 2,684,301 97.4 2,614,509 2,684,301 September 1989 0 97.4 0 0 December 1989 2,703,982 97.4 2,633,678 2,703,982 March 1990 0 100.0 0 0 June 1990 2,648,006 100.0 2,648,006 2,648,006 September 1990 1,090,207 100.0 1,090,207 20,199,262 December 1990 1,076,548 100.0 1,076,548 0 march 1991 1,062,888 102.6 1,090,523 0 June 1991 1,049,229 102.6 1,076,509 0 September 1991 1,035,569 102.6 1,062,494 0 December 1991 1,021,910 102.6 1,048,479 0 March 1992 1,008,250 106.8 1,076,811 0 June 1992 994,591 106.8 1,062,223 0 September 1992 980,931 106.8 1,047,635 0 December 1992 967,272 106.8 1,033,047 0 March 1993 953,613 112.6 1,073,768 0 June 1993 939,953 112.6 1,058,387 0 September 1993 926,294 112.6 1,043,007 0 December 1993 912,634 112.6 1,027,626 0 March 1994 898,975 117.9 1,059,891 0 June 1994 885,315 117.9 1,043,787 0 September 1994 871,656 117.9 1,027,682 0 December 1994 857,997 117.9 1,011,578 0 March 1995 844,337 122.1 1,030,936 0 June 1995 830,678 122.1 1,014,257 0 September 1995 817,018 122.1 997,579 0 December 1995 803,359 122.1 980,901 0 March 1996 789,699 126.1 995,811 0 June 1996 776,040 126.1 978,586 0 September 1996 762,381 126.1 961,362 0 December 1996 748,721 126.1 944,137 0 March 1997 735,062 129.9 954,845 0 June 1997 721,402 129.9 937,101 0 - 40 - Tale12: DISBURS~EN PROILK - LO04 2136-YU Actual Cunlattve CUmuativ Cumulacive Endins Date DitburseMent Cancellation Debursed Cancelled Undiebursed ---------------------- Hltor:LcaI U$$ ------------------------- 35,000,000 December 1982 517,241 517,241 34,482,759 March 1983 517,241 34,482,759 June 1983 632,334 1,149,575 33,850,425 September 1983 739,933 1,889,508 33,110,492 December 1983 1,689,732 3,579,239 31,420,741 March 1984 1,546,727 5,125,966 29,874,034 Jun. 1984 2,495,608 7,621,574 27,378,426 September 1984 962,599 8,800,000 8,584,173 8,800,000 17,615,827 December 1984 1,334,018 2,900,000 9,918,191 11,700,000 13,381,809 March 1985 993,881 10,912,073 11,700,000 12,387,927 Jun 1985 1,139,692 12,051,764 11,700,000 11,248,236 September 1985 210,708 12,262,472 11,700,000 11,037,528 December 1985 3,105,666 15,368,137 11,700,000 7,931,863 March 1986 1,275,897 16,644,035 11,700,000 6,655,965 June 1986 782,983 17,427,018 11,700,000 5,872,982 September 1986 187,532 1,105,000 17,614,550 12,805,000 4,580,450 December 1986 308,516 17,923,066 12,805,000 4,271,934 March 1987 778,220 557,568 18,701,286 13,362,568 2,936,146 June 1987 559,560 836,000 19,260,845 14,198,568 1,540,587 September 1987 247,052 19,507,898 14,198,368 1,293,534 December 1987 54,010 19,561,908 14,198,568 1,239,524 March 1988 35,441 19,597,349 14,198,568 1,204,083 June 1988 502,308 701,775 20,099,657 14,900,343 0 September 1988 0 20,099,657 14,900,343 0 December 1988 0 20,099,657 14,900,343 0 March 1989 0 20,099,657 14,900,343 0 june 1989 0 20,099,657 14,900,343 0 Septer 1989 0 20,099,657 14,900,343 0 December 1989 0 20,099,657 14,900,343 0 match 1990 0 20,099,657 14,900,343 0 '91-4-10 12:16 38 11 195244 ANNEX 1 -41- Page 1 of 1 COP lyrocmamua - 3FR Jugoslavijs CAROWN CMTAPMJAT SA IOBOMPP SAVUNI EURTARUAT XA POIJOPRIVRDU ZVEEE SETARUIAT ZA XMXTISTVO COJER COKPRTAKIJAt SA sMCoaacTSO St 01 19-I ro4"godJAst. Noorpan - Beograd - Searpa THE WORLD BANK 1818 H. Street NW Washington D.C. 20433 USA Graham Donaldson, Chief, Agriculture, Infrastructure and Human Resources Division Operations Evaluation Department Dear Mr. Donaldson, We have received the Draft Final Report on the Revision of the Agricultural Development Project of Bosnia-Herzegovina (Loan YU-2136), of March 4, 1991. In this connexion, we contacted the Secretariat 'or Agri- culture of Bosnia-Herzegovina and the Privredna Banka Sa- rajevo, involved in the implementation of this Project, and agreed that they submit their possible comments, sug- gestions and proposals concerning the Draft Report to you by April 17, 1991. Yours sincerely, * Antun seda, Deputy Fe rNI Secretary for ic - 43- ANNEX 2 Page 1 of 8 PRIVREUNA BANKA SARAJEVODD -lC1 O)ffice Our R05/2748 Duc R.Ic ki'j 6 711(11 SA\RAJEVO THE WORLD BANK Vpc: 071213-011 Mr. Graham Donaldson, Chief 17 Agriculture, Infrastructure and Human Pesources Division C,ihlc: PRIVREDBANK Operations Evaluation Department 1818 H Street N.W. 11.04.1991. WASHINGTON D.C. 20433 U.S.A. Dear Mr. Donaldson, Thank you for your letter dated 04.03.1991. that reached us on 25.03.1991 relating to Draft Project Performance Audit Report on performance of PPAR project - Loan 2136-YU. The reasons for our delay in replying to your letter were partly because we received your letter with delay, and partly due to the changes that were made within PBS, on which we informed The World Bank in January, but you have obviously neglected that facts. The same situation is with the changes in the Government of SR B&H. Mr. Martinovid has taken a new office, and Mr. Spaho has retired. General Manager of the Bank is Mr. Djordje Zarid; responsible Assistant General Manager is Mr. Safet Arslanagid, and Mrs. Fikreta Popovid is Divisional Manager, International Division. The gentlemen from the Government would probably reply to your letter, but Messrs. A.Mandi6 and T.Jurigid have taken other duties outside the Government. Along with our comments on Draft Project Performance Audit Report on performance of PPAR project, we would like to say that we hope we shall be able to cooperate in future and we are looking forward to that business cooperation. The opinions and suggestions are given in the same sequence as explained by yourselves. Yours faithfully, Safet Ars agid Assistant en Manager -44 - ANNEX 2 Page 2 of 8 PRIVREONA BANKA SARAJEVO DD -ead office Our Re&: ur Rvf: Dure Dakoviea 6 7101(l SARAJEVO P.O. Box 161) Telephone: (171/213-fl I Telex: 41289 yu pbs Fax: 071/219-517 SWIFT: PBSCYU22A Cable: PRIVREDBANK )ate:10. 04.1991 COMMENTS AND SUGGESTIONS to the Draft of the Project Performance Audit Report PPAR - Loan 2136 YU 1. Preface - page I During the first stage of negotiations when the loan was ..initially discussed, we pointed out a few suggestions,which should be incorporated into your PPAR: - to consider the possibility for the Government of SFRY to be the borrower instead of PBS UB, just as a result of the reasons ocured during project completion(devaluation, currency pool,impossibility to have real evaluation of required funds, and similar things) - loan funds are relatively expensive which would influence decreased disbursement amounts and "escape" to domestic sources - also sub-projects should be financed within the project, however in those cases where it would be considered useful for the main project; the case of Popovo Polje and the application to finance a cold storage. 2. Introduction - page V The reasons why the project was reduced from 17 agro- industrial sub-projects to-the scope financed were explained by PBS US during the initial negotiations, mentioning out the causes exactly as given above under point 1. -45 - ANNEX 2 Page 3 of 8 Tt also explained that, when taking it reasonably, 17 sub-projects had different scope which was not dependent upon PBS UB and that such an investment structure wouls lead to delays even longer than those already ocured. Anyhow, long standing experience in investment business and in work with IBRD, stated by you too, had certain influence to decision making.It is a fact that PBS UB was not the exclusive decision maker concerning these projects. 3. Design - page VI BiH Government had previously planned the agricultural development too, therefor it seemed logical that the investor performed certain works even before the negotiations and prior to Board presentation. These facts turned out.to be for the benefits on the part of the Investor, which was appreciated by IBRD on that occasion. In addition to the reasons set out under point I hereof, the above situation influenced the utilization of disbursed funds. Under such circumstances, it was fully logical for PBS UB as a borrower to, at that time, insist upon reduction of foreign exchange investment costs, strictly because of the fact that in case of a failure on the part of any sub-borrower to effect its obligations, full risk would have been born by PBS UB. That was pointed out at that time, and I believe it should be incorporated into the Report. 4. Implementation Experience - page VII we think that missunderstandings about the flour mill at Modri6a and difficulties with International Competitive Bidding (ICB) resulted rather out of bad understanding, because the intention of PBS UB was not "avoidance" of the rule but cost saving. Project implementation process - 46 - ANNEX 2 Page 4 of 8 and average interest rate of financing at 19-22% is an argument that was perhaps indentified by PBS US, however IBRD would not accept it as a logical development. These findings were, in a certain way, made in your Report, confirming that ourperception became reality now (in your description of RESULTS- page IX) 5. Findings and Lessons - page IX During the construction stage, the project must have been based on the annual crops,although it also provided for the change of perennials. That was the reason why the most profitable technology was not"forgotten" but it was even distribution of Investment costs per hectarewanted at that time, however the crops change would dictate the technology. Therefor we agree with your statement that expecting farmers to consolidate their land was highly unrealistic. It was also unrealistic, regarding the acuracy at least, to give the opportunity cost of water used for irrigation in that stage, and it was not reflected in the economic analysis. We believe that findings disclosed in Paragraphs 2.21 and 2.22 could not be accepted as such.First, the Bank was informed about the comments concerning the capital cost by PBS UB. Second,nobody could possibly anticipate such a high depreciation between Dinar and other foreign currencies. Neither the depreciation among foreign currencies was predictible, nor such a high inflation in Yugoslavia. The descrepany between the construction period in relation to grace period was also pointed out. We think that the Bank should find the possibility to support and help the investors under these projects, since we cannot see other solutions, -47 - ANNEX 2 Page 5 of 8 1. Context - page 1. We believe that IBRD was aware of the cirsumstances that were present at that time in Yugoslavia; as for PBS - UB, it entered into those projects not for the altruism, but in expectation that the financed projects would enable the export and that the production would encourage the development of other branches, as well. Therefore, the interest of PBS - UB was to burden the projects as little as possible with the foreign exchange component, but not in the cases when the project (1.5) should have suffered, however IBRD failed to realize the actual wish of PBS - UB(1.7). In your consideration of the project as a whole, you pointed out in "Procurement" section, page 9., that the Bank evidently provided insufficient support to PBS. In terms of the findings that you have made, it is clear that the Borrower (PBS - UB) was unable to provide additional information, and not that it was not prepared to give the same ( page 8. - relates to 2.12 and 2.14). 2. Cost Savings ( page 11.) We are still of the opinion that IBRD should have considered more carefully the proposal to include in Vegetable Oil Plant Brako Subproject the financing of margarine production, but there is nothing we can do about it now. We could not accept your statements on page 16. (2.10) that the problems that were encountered during implementation of the project were caused by PBS - UB and the investor. Primarily, taken into the account that the projects were evaluated as the goods ones, despite the fact that during the discussions PBS pointed out the elements that might affect the profitability of the project and it resulted in objective requirement for U larger participation of PBS' capital, although that might have been avoided should IBRD had shown more understanding. - 48 - ANNEX 2 Page 6 of 8 Therefore, we cannot accept complete findings on page 19.(2.15) as the conclusion was made without knowing the competences of the bank's staff in administration of the project(example: biddings are done by the investor, and not by Yugoslav bank) and certain Yugoslav regulations, that caused the misunderstandings; so, it should not be considered as PBS - UB's refusal to provide something that it is, by its nature, obliged to do. However, you, in a way, stated the same on the page 19.(2.17). Therefore, we disagree with your finding that the mill was not needed in any case and it should not be identified with the time for replacement of the old equipment. With relation to 2.21 and 2.22 and the incentives given by PBS and the Investor, we are also interested to see what had happened with the applications - is it possible to determine the statements from item 2.24 that the projections were completed, submitted to the Bank and then filed. In evaluation of this project by the Executive Board of Directors this should be taken into the amount. We also cannot accept the statements from item 2.25, page 25. We insisted upon that subject often and even during the visits to our Bank by esteemed Vice Presidents of IBRD Mr. W.P. Thalwitz and Mr. W.A. Wapenhans, but without any success. In items 2.22, page 23. you elaborate the disputable relations with PBS and you quote that at the end of a page marked with 7. We do assure you that statements,as the ones that were mentioned,could not have been given by PBS - UB, particularly by the responsible employeps. However, it is true that we were unable to provide always the required information, as the same have not been at our disposal and it should not be qualified as our refusal or something similar to that, particularly if that is ascertained on the basis of the telenhone conversation.(7.11.1985) -49 - ANNEX 2 Page 7 of 8 Your statements under 3.3, page 28., despite all our efforts, remained vague, and we would kindly ask you to give us more detailed explanation. With respect to project performance, it should be expected that better knowledge and confidence would shorten the period between negotiations and completion of works. In this regard, we are confident that the Executive Board of Directors would more easily understand the policy and would be able to act effeciently. Apart from the above mentioned, we would like to point out that PPAR did not include certain issues that PBS raised in its correspondence with Mr. W.P.Thalwitz, Vice President, and that were specified to Mr. W.Candler, Principal Evaluation Officer, during his visit in September 1990. Taking into the account the nature of the issues,the same could not have been discussed with other representative of IBRD, and they are relating to: 1. Taking over a part of the risk by IBRD in the cases when the negative effects arise as a result of inappropriate skilled and other work of the IBRD's representatives(unrealistic evaluation, unacceptability of justified PBS' proposals for inclusion of new subprojects, improper reaction to PBS' proposals, etc). It is an unacceptable attitude that Mr. Thalwitz gave in his letter addressed to Mr. Martinovid, President of PBS, on 5.1.1989. that the World Bank had a guarantee issued by the Borrower's Government. This issue was raised not from the formal point of view, but having in mind the role of the World Bank as the developing bank, the role that is different from the one of a commercial bank. - 50 - ANNEX 2 Page 8 of 8 2. Reduction of loan costs through decrease of commitment fee and front-end-fee: - for a loan portion that was cancelled for being irrelevant loan portion as the evaluation of required funds was unrealistic, - with respect to the Flour Mill Modri6a project as a consequence of unacceptance by the World Bank of the same ICB evaluation procedure as the one applied for the similar project of Mill in Ljubade, that was implemented out of the same loan. PBS did not raise possible decrease of interest rate, as the same was stipulated by the Agreement, and the rate was (11,6%) the highest ever applied by the World Bank and it was for the very short period. In PPAR you identified that the rate was, in realistic terms, very high with relation to LIBOR. 3. Issue of strict application of Article 4.01 of the General Conditions is relating to the obligation of withdrawal of funds in the currency in which the payment is made. An explanation given in the above mentioned letter sent by Mr. Thalwitz is unacceptable as it has no legal grounds to connect 4.01 and 4.02 of the General Conditions, as these two articles regulate different issues and it is easy to be understand. PBS did not ask for anything else but the legal opinion of the lawyer from the World Bank or more appropriately a neutral lawyer, as a sort of arbitration under this issue. We would like this to be done now as well that would probably induce the Worle. Bank to make appropriate amendments in General Conditions, should it would continue with frequent defaults of Article 4.01. Finally, we would like to say that it comes out from PPAR that The World Bank probably did not have more profitable loan as you stated in item 12, under 38. that the net present value, calculated on the basis of LIBOR + 1% was higher by $ 103,7 mio with relation to the amortization requirements. MAP SECTION .... ------ - I-BRD J1 7- .....0\5UG LAVIA BOSNIA - HERZEGOVINA AGRICULTURAL DEVELOPMENT PROJECT POPOVO POLJE IRRIGATION COMPONENT Irrigation Boundary \00 Area I Area II ----limit of Area under each Typhon \)0 Number of Typhon Blocks Typhon Run Underground Pressure Pipelines . PumpÌ - j- ra AVC 10rå A s10 ro av arvora,se rC Ra 0) T0 i A Bono B O S N l A ASRA HUNGARY \o HE RZIEGOVINA \'iNROMANIA O HERMEGOVINA griTia\ YU GOS Ay V A METERS C 0 zoo 400 600 80 0 Id- _11ýMO~NTENEGRO ',t1~ TEIS ABN MACEDONIA bon es s r hs map do n pi, on t he w a ? ~ REECE To Korlovac RATo Zogreb • T ZAb i To Os:ek SAD Slav. Brod Ik ( Ros Dubico v V O JVJD l A Bos.Nov BosGradlška 'OJ\cVC) -N -5p osonsk\ Dervente - som c LjubijcModrica PANCEVO Bos Krupa -- O Gorad Contours in rneters Kony -, > ...Foco * F c- 1 SPL OT - MSTAR BAC H uNýG AR Y PROJECT COMPONENTS: ( o VEGETABLE OIL EXTRACTION PLANT 9 ANA Metkov -- 43° VEGETABLE PROCESSING. FREEZING 3( pl " AND COLD STORAGE PLANT - 0 VEGETABLE PICKLING PLANT M 0 N T E On KCULA PEESAC N E G R O serzegno- FLOUR MILLY,U GO 0 A_, ÄV A POULTRY PROCESSING PLANT POPOVO POLJE IRRIGATION Ten -e9Nikšc -- 0 DubrovnikTrebm- e'A. eg - c 0 20 40 60 Dubrovruk TALY KILOMETERS -----Be. ec, Ru b ro,escd ALA i AEdeofemobccd AAVAi'Onus Provrces ~ , 6 Herceqnov 0 Kt °. -- ernot.onal boundres GREECE