The World Bank

Document of The World Bank

FOR OFFICIAL USE ONLY

4 A// ;?i f / -P/

Public Disclosure Authorized Report No. 7754-PH

STAFF APPRAISALREPORT

Public Disclosure Authorized PHILIPPINES

MANILA POWER DISTRIBUTIONPROJECT

IMAV4, 1989 Public Disclosure Authorized

Industry and Energy OperationsDivision

Public Disclosure Authorized Country DepartmentII Asia Regional Office

This document hasa restricted distribution and may be used by recipientsonly In the perfonmanceof their official duties. Its contents may not otherwise be disclosed without WorldBank authorization. CURRENCY EQUIVALENTS (As of December. 1988)

Currency Unit - Philippine Pesos (P) US$1.00 = P 21.4 P 1,000 - US$46.73 P 1 = 100 Centavos (Ctvs.)

WEIGHTS AND MEASURES kW = Kilowatt (1,000 watts) MW = Megawatt (1,000 kilowatts) kWh = Kilowatt-hours (1,000 watts) MWh = Megawatt hour (1,000 kilowatt-hours) MkWh Million kilowatt-hours GWh Gigawatt-hours (million kilowatt-hours) TWh = Terrawatt-hours (billion kilowatt-hours) kV Kilovolt (1,000 volts) m e meter (3.2808 foot) km = Kilometer (0.6214 mile)

ABBREVIATIONS AND ACRONYMS

APT Asset Privatization Trust APEX = Apex Development Finance Program BOT = Build-Operate-Transfer Program DBP = Development Bank of the Philippines ECC e Energy Coordination Council ERB = Energy Regulatory Board ERL = Economic Recovery Loan (Loan 2787-PH) ERR = Economic Rate of Return ICB = International Competitive Bidding IGLF = Industrial Guarantee and Loan Fund IRR = Internal Rate of Return UfW = Kreditanstalt fur Wiederaufbau LRMC = Long Run Marginal Cost MERALCO = Manila Electric Company MIS = Management Information System NEA = National Electrification Administration NPC = National Power Corporation NPV = Net Present Value OEA = Office of Energy Affairs OECF = Overseas Economic Cooperation Fund PCIB = Philippine Commercial and Industrial Bank PNOC = Philippine National Oil Company REC = Rural Electric Cooperative SCADA = Supervisory Control and Data Acquisition SOEs = Statements of Expenditures

FISCAL YEAR

January 1 to December 31 FOR OMCIALUSE ONLY

I-i

PHILIPPINES

itANILA POWERDISTRIBUTION PROJECT

Loan and Project Summary

Borrower: Development Bank of the Philippines (DBP)

Guarantor: Republic of the Philippines

Beneficiary: Manila Electric Company (MERALCO)

Amount: US$65.5 million

Lending Terms: Repayable over 20 years, including five years of grace, at the standard variable interest rate.

Relending Terms: DBP would relend the funds to MERALCO under terms thut include a twenty year maturity and a five year grace period, and a fixed spread not to exceed 3.65Z over the Bank's interest rate.

ProJect Obiectives: The proposed project aims to improve MERALCO's subtransmissionand distributionsystems, facilitate better communicationbetween substations,and revitalize the organization'smaintenance capabilities.

Proiect Description: Under the proposed project, HERALCO would undertake the followingactivities: (a) constructionmnd upgradingof subtransmissionlines, and addition of substation capacity; (b) upgrading of existing distribution networks; (c) improvementand expansionof the radio- multiplex facilitiesfor system monitoring and control; and (d) provision of equipment and vehicles to improve maintenance.

This document has a restricteddistribution and may be used by recipientsonly in the performance of their officialduties. Its contents may not otherwisebe disclosedwithout WorldBank authorization. - ii -

Benefits: The benefits of the proposed project are primarily (i) the enhancement of the reliability of supply to existing consumers; (ii) the decrease of system losses to achieve greater efficiency in transmission and distribution; and (iii) the provision of additional distribution capacity to satisfy strongly growing demand.

Risk: No technical risks are foreseen. As a result of the occasional liquidity constraints that are normal to a public utility, MERALCO could have difficulty realizing counterpart funds and thereby keeping to the project implementation schedule.

EstimatelI Costs:

Local Foreign Total ------USS Million------

Subtransmission Lines and Substations 34.3 33.4 67.7 Upgrading of Distribution System 15.1 9.7 24.8 Radio-Multiplex Facilities 0.9 2.0 2.9 Mairtenance Equipment and Vehicles 1.4 4.7 6.1

Base Cost 51.7 49.8 101.5

Physical Contingencies 5.2 5.0 10.2 Price Contingencies 4.1 4.2 8.3

iotal Project Cost /a 61.0 59.0 120.0

Interest During Construction 3.5 6.5 10.0

Total Financing Requirements 64.5 65.5 130.0

Financing Plan:

IBRD 6.5 59.0 65.5 MERALCO 58.0 6.5 64.5

Total , 64.5 65.5 130.0

Estimated Disbursements:

IBRD Fiscal Year 1990 1991 1992 1993 1994 1995 - ______(USS million) ------

Annual 0.5 5.9 12.8 17.0 14.0 15.3 Cumulative 0.5 6.4 19.2 36.2 50.2 65.5

Economic Rate of Return: 32Z

/a The project cost includes an estimated US$9 million equivalent of taxes nt" g,t 4 - - iii -

PHILIPPINES

MANILA POWER DISTRIBUTION PROJECT

STAFF APPRAISAL REPORT

Table of Contents

Page No.

I. THE ENERGY SECTOR ...... 1

A. Overview ...... 1 B. Energy Sector Institutions ...... 1 C. The Power Sector ...... 2 D. Bank Lending for the Sector ...... 4 E. Sectoral Issues ...... S F. Rationale for Bank Involvement ...... 8

II. THE PROJECT.8

A. Project Origin and Formulation .. B. Project Objectives .. C. Project Description.. 9 D. Project Costs .. 10 E. Financing Plan .. 11 F. Project Implementation and Schedule .. 12 G. Procurement ...... 13 H. Disbursements.. 15 I. Monitoring and Reporting...... 15 J. Environment ...... 16

III. THE BORROWER ...... 16

A. Background 1958-1986...... 16 B. DBP's New Role and Strategic Orientation ...... 17 C. Organization and Management ...... 19

This project was appraised originally in August 1987 by a mission consisting of Messrs. Jamil Sopher, Darayes B. Mehta, and Anil K. Malhotra (World Bank). It was reappraised in November 1988 by a mission consisting of Messrs. Jamil Sopher, Vinod Busjeet, Karl Jechoutek, Mihir Mitra, and Joachim Iske (World Bank). This report is based on the findings of these two missions. - iv -

Page No.

D. Personnel Policy and Training .. 19 E. Accounting and Management Information System . . 20 F. Loan Activity and Asset Management . . 20 G. Liability Management .. 21 H. Firancial Position and Performance . . 22 I. Audit...... 24 J. The Proposed Loan ...... 24

IV. THE BENEFICIARY...... 25

A. Introduction ...... 25 B. Ownership ...... 25 C. Organization, Management and Staff ...... 26 D. Training .. 27 E. Operations, Maintenance and Losses ...... 27 F. Accounting System ...... 28 G. Financial Planning and Budgeting ...... 28 H. Commercial Systems ...... 28 I. Audit ...... 39 J. Taxes ...... 39 K. Insurance ...... 39 L. Dividends ...... 30

V. FINANCIAL ANALYSIS OF MERALCO ...... 30

A. Introduction .. 30 B. Past and Present Financi-- Performance ...... 30 C. Tariff ...... 33 D. Revaluation of Assets .. 34 E. Financing Plan ...... 35 F. Future Financial Performance ...... I...... 36

VI. PROJECT JUSTIFICATION AND RISKS ...... 38

A. Design Optimization ...... 38 B. Economic Rate of Return ...... 39 C. Benefits and Risks ...... 40

VII. AGREEMENTS AND RECOMMENDATION ...... 41 v

ANNEXES

1.01 Load Forecast for the Luzon Grid 1.02 Load Forecast for the MERALCO FranchiseArea 1988-97 2.01 Detailed Descriptionof the Project 2.02 Detailed Project Cost 2.03 Project ImplementationSchedule 2.04 Major Project ProcurementContracts 2.05 DisbursementSchedule 3.01 DBP's Annual Financial Statements1984-87 3.02 DBP's ProjectedAnnual Financial Statements1988-94 3.03 OrganizationChart for DBP 3.04 DBP's Policy Statement 4.01 OrganizationChart for MERALCO 4.02 MERALCO - Staffing Profile 5.01 HERALCO'sAnnual FinancialStatements and Projections 1984-95 5.02 MERALCO's Program to Reduce System Losses, Receivabl.esand Payables. 6.01 Economic Rate of Return 6.02 List of Documents in Project File

MAP

IBRD 21390 - Expansion of the MERALCO System - 1 -

I. THE ENERGY SECTOR

A. Overview

1.1 The energy sector's preeminencein the Philippineeconomy grew as a result of the oil crisis of the 1970s. At the time of the first major oil price increase in 1973. imported oil accounted for 95Z of total energy consumption. The Government respondedto that price increase by implementing an iergy diversification/managementpolicy, which was based on: (a) replacingimported oil with indigenousprimary energy; and (b) using pricing as the major means of encouragingthe efficient utilizationof energy. Since then, the ratio of imported oil to total energy usage declined to 562 in 1986 and is expected to drop further to about 482 by 1992; and the price paid by users of petroleum and derivativeproducts, includingelectricity, increasedsubstantially. With the recent economic recovery, energy usage has begun increasingrapidly; in particular,electrical energy consumptionreached 19,337 GWh in 1987, representinga growth rate of 13.4X over 1986. Power consumptionin 1988 and beyond is expected to continue to grow at a rate of about 72 per annum.

1.2 The shares of energy consumptionby sector have remained stable over the years. The residentialand commercial sectors account for about 162 of usage, with the industrial sector consuming 442, and the transport sector, 352. The share of electricityas a proportionof energy consumptionhas increasedconsiderably; electrical energy accountedfor about 472 of primary energy consumptionin 1986, compared to only 222 in 1973.

B. Energy Sector Institutions

1.3 Before the change in governmentin 1986, the Ministry of Energy coordinatedall policies, plans and programs for the energy sector. The ministry served as the parent organizationfor two of the largest Government owned corporationss(i) the National Pcwer Corporation (NPC), which had responsibilityfor power generationani transmission;and (ii) the Philippine National Oil Company (PNOC),which was responsiblefor assuring the adequacy of oil supplies and for developmentof indigenousenergy resources. The National ElectrificationAdministration (NEA), which has been the organization responsiblefor formulatingand implementingthe Government'srural electrificationpolicies, wap sIot within the control of the Ministry of Energy, but ratner under the Ministry of Human Settlements.

1.4 Foilowing the change in Government in 1986, both the Ministry of Energy and the Ministry of Human Settlementswere dissolved; all energy agencies as well as NEA were brought temporarilyunder the Office of the President. In mid 1987, the Office of Energy Affairs (OEA), which was given responsibilityfor planning and coordinatingpolicies and programs for the energy sector,was formally placed under the Office of the President. At the same time, NPC and PNOC were brought under the formal control of the Office of the Pr sident while NEA was placed under the jurisdictionof the Department of Environmentand Natural Resources. The Energy Regulatory Board (ERB) was formed, and was given inter alia price setting authorityover private sector suppliersof electricity. Recently, to develop formal linkages between the -2-

energy sector participants,the Governmentformed an Energy Coordinating Council (ECC) that would (i) be chaired by the Executive Secretary;(ii) have as members NPC, PNOC, and NEA; and (iii) have OEA acting as its Secretariat.

C. The Power Sector

1.5 Overview. The electric power industry in the Philippinesis divided into two segments: (a) generationand transmission;and (b) distribution. The sector has a number of participatingorganizations, some of which are publicly,and others privately,owned. By far, the largest organizationis NPC, which is responsiblefor the generationof bulk power and its transmission through a number of grids that serve virtually the entire country except for remote rural areas and small outlying islands. Power is distributed within major urban areas by a number of investor-ownedutilities. Of these, the largest is the Manila Electric Company (MERALCO),which serves Metro Manila and surroundingtural areas, and accounts for about 70? of NPC's sales in Luzon (about 502 of NPC's sales nationwide). The rural areas are served by 117 Rural Electric Cooperatives(REC), a few of which generated all or patt cf their power. Recently, NPC agreed to take control over these RECs' generating facilities;and the RECs are becoming electricitydistribution outfits exclusively. NEA was establishedto service the cooperativesby (i) mobilizing funds; (ii) providing technicalassistance; and (iii) arranging procurementof common materials.

1.6 At the end of 1987, the total installedcapacity of the Philippine power subsectorwas abo ' 6,600 MW, of which 5,788 MW (88Z) belonged to NPC. Total generation from be,; facilitieswas about 21.0 TWh in 1987, accounting for about 90Z of the Philippinec'total generation. The residentialsector accounted for 23Z of aggregateelectricity sales; the commercialsector, 22Z; the industrialsector, 50Z; and the Government,street lighting and water supply, 5X. Losses exceeded 212 of gross generation.

1.7 As a result of absorbing the franchisesof failing rural electrification cooperativesalong its fringes,MERALCO's service area expanded from 3,244 sq km in 1982 to 8,813 sq km in 1986, and its number of customers rose by 45?, from 1.1 million to 1.6 million during the same n-riod. While its franchisearea remained essentiallythe same in 1987, its number of consumers increasedby nearly 62 to about 1.7 million during that year. MERALCO's energy sales rose from a 1982 level of 8.5 TWh to a high of 9.2 TWh in 1983, and then fluctuatedwith the performanceof the economy; sales declined to about 8 TWh during both 1985 and 1986 before rising again to about 8.8 TWh in 1987. Annual financialperformance has been averaginga healthy 8? return on revalued assets; however, because of liquidityconstraints (para. 5.3), MERALCO's capital expenditureshave been less than 70Z of the company'sown estimate of requirementsfor sustainingits standardsof service, especially during the economic recessionof 1982-86. During that period system losses increased from 11? to 21Z. While MERALCO stabilizedits losses at essentially the same level in 1987, it succeededin reducing them considerablyto an average of 17Z during 1988.

1.8 Load Forecasts for Luzon and the MERALCO FranchiseArea. The strong growth in demalndrecorded in 1987 has continuedinto 1988. As a result of the economic recovery and expectationsthat the deeper economic problems of the mid-1980shave been overcome,growth in electricitydemand is expected to remain strong well into the 19909. The latest system load forecast for the Luzon grid through the year 2002 (Annex 1.01) assumes a growth rate of 7.01 for energy sold for the period 1988-90; this growth rate increasesto 7.52 for the period 1991-2002. An even more robust growth is forecast for the MERALCO franchisearea (Annex 1.02). Total sales are forecast to grow by slightly more than 10? per year during the period 1988-92; this rate would then be expected to drop to about 7.82 for the period 1993-97. The projected growth in demand is expected to be led by industry (whose demand for electricityis expected to grow by nearly 12X per year during 1988-92 and about 8.4? per year during 1993-97) and commerce (whose demand for electricityis expected to grow by nearly 112 per year during 1988-92 and about 8? per year during 1993-97); during the same period, the number of MERALCO's consumers is only expected to increaseby about 4.22 per year (4.72 per year during 1988-92 and 3.7? during 1993-97). These growth rates will require that (a) NPC make substantial investmentsin generationand transmissionequipment between 1989-98; (b) MERALCO expand and upgrade its distributionsystem substantiallyduring the same period; and (c) MERALCO improve substantiallyits system reliability, inter alia by reducing losses, during 1989-92.

1.9 Power Sector Investment Program. The existing generatingcapacity in Luzon is 4,100 MW. NPC's oil-basedpower plants (about 1,925 MW), many of which had originallybeen built and owned by MERALCO, have not been maintained adequatelyduring the recent past and have deterioratedto conditionsof poor reliabilityand low thermal efficiency. Currently,those plants are operating at substantiallyless than their rated capacity, and NPC has begun implementinga program to rehabilitatethem. In addition, about 220 MW at the Tiwi Geothermal plant will be retired by 1990 due to technical problemswith the steam supply. Therefore, the total availablecapacity, after rehabilitationof the oil-firedplants, will be about 3,000 MW. In contrast, the Luzon grid's current peak demand of 2,600 MW is expected to reach 3,700 MW by 1992. New generationdue to be commissionedbefore 1992 includes some 500 MW of gas turbines and the 110 MW Bacon Manito 'eothermal Power Plant (financedin part by Loan 2969-1-PH). As a result, system reliabilityis expected to fall somewhat;the loss of load probability is expected to increase from its present level of about four days/year to about seven days/yearby 1991.

1.10 Meeting increasedload demand and improvingNPC's system reliability will require some heavy investment,estimated at about US$7 billion equivalent between 1989 and 1995, a time when both NPC and the Governmentwill face serious resourcemobilization constraints. Short-termincreases in capacity can only be provided through projects involvingshort lead time for which substantialfinancing will have to be obtained on attractiveterms. Longer- term investmentdecisions need to be optimized in order that available resourcescan be stretchedas far as possible. NPC is exploringways of relieving the Governmentand itself of a part of this investmentburden by creating a climate conduciveto private sector participationin generation through Build-Operate-Transfer(BOT) or Build-Operate-Own(BOO) programs; alternatively,mechanisms are being developed to char..elprivate sector financing into the power sector. The DevelopmentBank of the Philippines (DBP), which has been designatedby the Government to become the nation's principalwholesale bank (para. 3.6), is consideringa number of initiatives for encouragingprivate sector investmentin the power sector. In the context - 4 -

of its role as a wholesale bank, DBP ir participatingin the proposed project as the prospectiveBorrower of the RanK loan and will onlend the proceeds to MERALCO (paras.2.12 and 3.27).

1.11 The plannez:investments in generationard transmissionneed to be supplementedwith investmentsby the private distributioncompanies and the RECs in improvementand augmentationof distributionsystems. Investmentsin reducing distributionlosses are particularlyurgent, as these can delay the need for additions to generatingcapacity. However, throughout the 19809, investmentsin distributionsystem upgradeswere well below what was needed and focussed primarily on adding new connections. MERALCO alone is facing investmentsof about US$460 million during 1989-93,merely to restore its system to its 1982 operating standards. These investmentswould expand the capacity of its transmissionand subtransmissionnetworks as well as its system of substations,ard extend primary and secondarydistribution lines to meet the load. To the extent that MERALCO can obtain financing for this program from commercial sources, the investmentburden facing NPC and the Governmentwould be reduced still further. To ensure not only that MERALCO develops an investmentprogram that addressesadequately the need for system expansionand improvement,but also actually implementsthose investmentsin a timely fashion, at negotiationsMERALCO agreed (i) to conduct not later than December 1 of each year jointlywith DBP and the Bank, a review of its investmentprogram for the next five years as well as its investment accomplishmentsfor the past two years, and (ii) to adopt the reviews' mutually acceptable recommendations.

1.12 While MERALCO'smedium term investmentswill have the biggest and most immediate impact on upgrading the quality and reliabilityof distribution services, the Government also needs to address the issue of inadequate distributionsystems in the rural electrificationsector. To this end, the Bank is consideringincluding in some future operationto finance power investmentsa rural electrificationcomponent targetingurgently needed rehabilitatior.and major maintenance. In addition,a Rural Electrification Sector Study will help prioritize investmentsin system expansion and improvement.The Bank could then consider a program of investmentlending for that sector.

D. Bank Lending for the Sector

1.13 Over a period of 30 years, the Bank Group has made seven Bank Loans and one IDA Credit, aggregatingUS$267.2 million, to NPC. These eight operations financed seven projects, includingone to develop geothermal power, three to finance hydroelectricfacilities, two to support thermal power plants, and one to improve NPC's transmissionsystem. However, between the Seventh Power Project (Loan 1460-PH) and the Bacon Manito Geothermal Power Project (Loan 2969-1-PH),the Bank did not have an active policy dialogue with NPC for about ten years (1978-88). All of the early projects successfullymet their objectives and were completedwithout major problems;however, most encounteredproject implementationdelays caused in part by design changes and in other part by cumbersomeprocedures for contract award. Some of those delays led to cost overruns and delayed loans closings. This was particularly true of the Fifth and Sixth Power Projects during the mid 19709 and, to a -5-

lesser extent, of the Seventh Power Project (the last project to be financed before the ten year hiatus). The Bank Group also made one loan for US$60 million to NEA. PPARs were prepared for (i) the Fourth Power Project (PPAR No. P-0980, january 1976), and (ii) the Rural ElectrificationProject (PPAR No. 5372, June 1985). Both audit reports confirmed that the projects encounteredimplementation delays and some cost overruns resultingfrom design changes and cumbersomecontract award procedures. These problems should be minimized under the proposed project because (i) detailed designs were comprehensiveand thorough,and were either completedor well advanced by project appraisal in November 1988, and (ii) the appraisalmission concentratedon procurementpackaging with the expectationthat bidding procedureswould be completed ahead of schedule,thereby accommodatingsome delays in contract award.

1.14 Another member of the Bank Group, the InternationalFinance Corporation (IFC) has made two loans to MERALCO: (i) one for US$12 million equivalent in 1967, and (ii) a second for US$32 million equivalent in 1588. The recent lTan is intended to finance a time slice of MERALCO's investment program between 1989-91. In addition,IFC has indicatedan interest in taking a lead role in placingwith other investorsfuture MERALCO issues of common stock or equivalentpermanent equity instruments. With IFC as the anchor for its foreign financingefforts, MERALCO is seeking investmentfinancing from (i) the Bank for the proposed project; (ii) the Kreditanstaltfur Wiederaufbau (KfW) for a project to strengthenits system of substations,and (iii) the Overseas Economic CooperationFund (OECF) for projects that will improve and augment distributionfacilities serving depressed areas in Metro Manila and rural areas within MERALCO's franchise. IFC is taking an active role throughout the Philippinepower sect-or. In addition to its activitieswith i MERALCO, IFC is participatingin the first BOT venture to construct and operate generating facilitiesand sell the output in bulk to NPC.

E. Sectoral Issues

1.15 In conjunctionwith the recently completedEnergy Sector Study (Report 7269-PH; September15, 1988), the Governmenthas developeda strategy for exploiting alternativefuels in future power sector developments. As a derivative of that strategy,NPC developeda least cost investmentprogram that was eviewed in detail with the Bank. In conjunctionwith the Bacon Manito Geothermal Power Project (Loan 2969-1-PH),NPC has agreed to annual reviews by the Bank of its investmentprogram. The other issues, which need to be addressed in the context of the proposed project and future operations in the Philippinepower sector, are operationalin nature and concern the need to (i) mobilize long-termfunds, especiallyfrom private sector sources, to finance power sector investments;(ii) reduce distributionsystem losses; (ili) rationalizetariffs in line #ith long run marginal cost; and (iv) restructurethe finances of the power utilitiesand RECs.

1.16 Financing of Power Sector Investments. As mentioned previously (para. 1.10), the power sector's investmentrequirements exceed the financing capabilitiesof the Government. Steps to engage private sector participation in investmentsin electric power are needed urgently. NPC is proceedingon one track to interest private parties in the constructionand operation of - 6 -

generating facilities. In those cases, NPC would purchase the output from these facilitiesat a price based on its own cost of supply; the operator could realize a substantialreturn on investment,depending on the efficiency with which the facilitywas built and operated. If successful,these programs would reduce the extent of power sector investmentsthat the C'vernment would need to address.

1.17 In addition,the Governmentneeds to develop a strategy for financing power sector investments. For the short and medium terms, that strategy needs to emphasizeborrowing from foreign lenders,with an immediatefocus on official sources. NPC is already authorizedto borrow from abroad and has developed direct access to a wide varietv of foreign lenders and development institu'tions.However, the Governmentmust also arrange for the private distributionutilities and the RECs to obtain financingfrom similar sources for their criticallyneeded investments. In the longer term, resourcesneed to be mobilized from the private sector and channeled into instrumentswith maturities appropriateto the longer term needs of the power sector.

1.18 Following its successful restructuringand institutional strengtheningduring the last two years, DBP has been designatedas the financialinstitution responsible for tapping long-termfunds currently available in the Philippines (such as, funds from the Social Security System, insurancecompanies, pension funds, etc.) for channelinginto capital intensivesectors. It would perform this resourcemobilization function by acting as a (i) wholesale bank, providing funds raised locally as well as from official foreign borrowings to retail financialinstitutions for onlendingto eventual borrowers;and (ii) syrndicatorof local currency loans. This strategicreorientation of DBP from a traditionaldevelopment finance institutioninto a wholesale bank will lead to it playing an important role in financingpower sector investmentsin the future. By acting as the prospectiveBorrower and onlender ot the proposed loan, DBP is undertakingits first significantinitiatives toward fulfillingits wholesale banking responsibilitiesin this sector.

1.19 Reducing DistributionLosses. Nationwide,distribution losses exceeded 21? in 1987. System losses within Luzon increasedfrom 14Z in 1978 to 24? in 1987. During the same period, MERALCO's system losses increased from about 9? to about 21Z. The Government,however, has lacked a strategy for investmentin distribution. Whatever investmentwas made during this period, be it within the franchiseareas of the private distributionutilities or the RECs, focussed on adding new connections,frequently at the expense of quality of service for existing consumers.

1.20 In 1987, when MERALCO r.ecognizcithe urgency of addressing this problem, it developedprograms for reducing technicaland non-technical losses. An investmentprogram was developed to improve and augment its facilitiesso that they would be adequate to meet growing demand throughout its franchisearea. Specific investmentswere selected inter alia based on the benefits they would provide in reducing system losses (para. 6.2). The proposed project includesmany components that address the issue of technical losses, either by strengtheningor replacingsystem weak points. In addition, MERALCO has developedand begun implementingsuccessfully a program to reduce non-technicallosses (para. 5.8 and Annex 5.02). In conjunctionwith the proposed project, MERALCO agreed to continue implementingthat program. - 7 -

1.21 In part to assist in developingan approach for reducing rural distributionlosses, the Government invited the Bank to conduct a Rural ElectrificationSector Study. The main field mission for that study was undertaken in March 1989, and the results of the study are expected to be discussedwith the Governmentduring the summer of 1989. That study will seek to help NEA develop a strategy for investment,and identifymeasures that NEA and the RECs can take to improve their operationaleffectiveness.

1.22 Tariff Rationalization. Although NPC's revenuesper kWh are similar to what would be expected from a marginal cost based tariff, and revenues per kWh of the distributionutilities and the RECs often exceed marginal cost based levels, the structureof tariffs is inconsistentwith marginal cost considerations. Demand charges are low and do not reflect the cost of adding capacity; in contrast,high voltage consumerspay energy charges that exceed considerablythe cost of supply. Moreover,virtually all distributiontariffs include (i) extremely generous blocks of electricitybeing provided to low voltage consumers at highly subsidizedrates, and (ii) provisionsto enable the distributionutilities and the RECs to recover from the consumer the cost of purchasing electricitythat has either been subsidizedor dissipatedas losses. Thus, some consumers are paying negligibleamounts for much more than their minimal power requirements,while others are paying much more than the cost of supply for their electricity.

1.23 In early 1987, the Governmentadopted a policy that electricity tariffs should be based on marginal cost. In that context, NPC is restructuringits tariffs to reflectmarginal cost considerations. The distributionutilities and the RECs would then redesign their own tariffs based on the new NPC tariff that applies to them. The Bank has an active dialoguewith the Governmentand NPC regarding this issue. The proposed project does not address this issue specificallybecause the initiativein resolvingthis issue rests with NPC and not MERALCO.

1.24 FinancialRestructuring of the Power Utilities and the REC8. Because of the absence of long-term financialinstruments bearing maturitiesthat are appropriateto the long-termneeds of the power sector, the power utilities and the RECs must necessarilybe more conservativethan their counterpartsin developedcountries in their use of leverage. However, the power utilities (including,in this instance,NFC) have built their equity foundationon revaluationreserves (which are non-cash book entries) rather than on paid-in capital or retained earnings (which representactual cash inflows). In turn, the RECs have only minimal paid-in capital and generally lack the revenues needed to build a solid base of retained earnings.

1.25 Until an appropriatelong-term debt instrument is developed,the power utilitiesneed to be encouragedto raise more permanent capital. Since they will need to pay dividendsto attract that capital, rates will need to be kept high enough to enable the retention of satisfactoryamounts of earnings. The proposed project addresses this issue through the raising of new equity capital and the substantialretained earnings that are vital constituentsof MERALCO's financingplan for 1989-93 (para. 5.13 et seq. and Annex 5.01). The Rural ElectrificationSector Study is examining prospects for the RECs to use electricitypricing to improve their retained earnings. -8-

F. Rationale for Bank Involvement

1.26 The Government is facing major investmentsin the power sector over the next several years. These investmentsare intended to provide major generation and transmisqionfacilities needed to meet existing demand as well qs rapidly increasingnew demand resultingfrom recent and projected economic growth. However, the benefits of new investmentin generation and transmission cannot be optimizedunless balanced by appropriateinvestments in distribution. The Governmenthas developed a strategy far least-costpower developmentand for strengtheningthe policy and institutionalframework in the sector. It would like the Bank to help in implementingthat strategy by supportinga series of projects.

1.27 Through the Bacon Manito GeothermalPower Project (Loan 2969-1-PH; June 23, 1988), this proposed project, and an Energy Sector Loan that is currentlyunder preparation,the Bank has developedclose working relationshipswith the principal sector entities and is thus in a position to assist the Government in achievingmuch needed sector coordination. While the other operationsaddress issues related to generetion and transmission,this project addresses issues facing the entity responsiblefor distributingabout half of the country's commerciallyavailable electricity. In particular,the project will support overdue system extensionsand improvements,and will ensure that MERALCO maintains investmentsat appropriatelevels in the future. Also, the project would enable the Bank to support specific measures for strengtheningMERALCO's operationaland commercial capabilities.

1.28 The proposed loan would also support DBP in its new wholesale banking role. More specifically,the Bank's participationin the project will help develop DBP's capacity to appraise and superviselarge loans to the power sector.

II. THE PROJECT

A. Project Origin and Formulation

2.1 The Bank was originallyasked to consider financingmuch of the proposed project as a componentof the Bacon Manito Geothermal Power Project (Loans 2969-0-PHand 2969-1-PH). Therefore, the proposed project was appraised for the first time in August 1987, in conjunctionwith the appraisal of the Bacon Manito Project. However, the MERALCO componentwas dropped from the Bacon Manito Project when an arrangementfor channeling the proceeds of a Bank loan to MERALCO, acceptableto the Government,MERALCO and the Bank, could not be established. Since then, DBP has been successfullyrestructured and designaW.edas the nation's principalwholesale Bank (para. 3.6); in that capacity, it can serve as conduit for official foreign loans to private sector companies. The Bank reappraisedthe proposed project in that context in November 1988. - 9 -

B. Project Obiectives

2.2 The proposed project is designed to improve MERALCO's subtransmission and distribuitionsystems, facilitatebetter communicationbetween substations, and revitalizethe organization'smaintenance capabilities. In so doing, it will er-ableMERALCO to meet increasingload demands in the coming years, reduce losses and ensure more effectivedistribution of electricitywithin its franchisearea. The proposed project will also support improvementof MERALCO's technical and commercialoperations.

C. Project Description

2.3 The main componentsof the project are:

(a) Constructionand upgrading of subtransmissionlines, and addition of substation capacity;

(b) Constructionand upgrading of distributionsystems;

(d) Provision of equipmentand vehicles to improve maintenance.

2.4 SubtransmissionLines and Substations. This componententails constructionof about 78 km of 115 kV, 31 km of 34.5 kV and 6 km of 13.8 kV subtransmissionlines, in addition to some small sections of 230 kV and 69 kV lines; reconductoringof about 14 km of 34.5 kV and 4 km of 13.8 kV lines; installationof about 1,355 MVA of substationcapacity; and addition of approximately104 MVAR of reactive compensationdevices. It will enable MERALCO to strengthen its transmissionand distributionnetwork to cope with projected increases in demand for power, reduce system losses, improve quality of service, and enhance the reliabilityof its distributionsystem. While the subtransmissionlines will also relieve overloadingof existing lines and provide additionaloutlets for power, the substationswill assure efficient distributionof energy.

2.5 Upgrading of DistributionSystems. Due primarily to resource constraints,MERALCO's distributionnetwork had not been maintained adequately in the recent past (paras. 4.9 and 5.4), resulting in increased system interruptions,loss of reliabilityand higher system losses. Since mid-1987,however, MERALCO has embarked upon a distributionsystem improvementprogram. Not only are the constituentsof this component intended to reverse the deterioratingtrend, but they also aim to reduce technical losses through optimum design of extensions and improvementsin existing distributionfacilities. Activities included under this program are rehabilitationof lines, conversionto higher voltages, reconductoring of overloaded lines, and improvementof power factor, metering and monitoring facilities. This latter activity involves inter alia installationof voltage regulators,line capacitors,kWh-meters, load break - 10 -

switches, transformercooling fans, conductorsand power cables. This combinationof activitieshas been formulatedas an on-going program for which MERALCO has developed annual implementationplans. This project component envisages financinga time slice of HERALCO's annual distribution system improvementplans for the years 1990 to 1993.

2.6 Radio-MultiplexFacilities. Effective system operationand control includes ensuring adequate communicationfacilities between the electric system control center and the substations. A SCADA (Supervisory Control and Data Acquisition)system is being installedwith the financial and technical support of the suppliers/manufacturersof the equipment; however, the effective use of the SCADA system as well as other equipment for system operation and control requires that the existing communication facilities linkingMERALCO's substationsbe rehabilitatedand expanded to accommodateincreased communication traffic brought about by increasesin the number of customers and the expansion of the franchisearea. A radio multiplex system currently serves as MERALCO's primary communicationlink for supervisorycontrol, pilot-wire relaying, telemetering,and voice and data communication. Rehabilitationand improvementof this radio multiplex system will require purchase and installationof 30 sets of radio multiplex equipment to link the master control stationwith 18 remote stations. Other communicationand control activities included under this component are: (i) installationof a system to monitor remote substations; (ii) replacementof old communicationequipment and cables; and (iii) installationof a voice frequencytelegraph system.

2.7 Maintenance Equipmentand Vehicles. To operate and maintain its vast array of transmissionand distributionnetworks effectively,MERALCO needs specialmaintenance equipment and mechanized constructionand maintenancevehicles as well es spares of importantline equipment. Included in this componentare the purchase of cranes, basket and derrick trucks and a wrecker to facilitateboth constructionand maintenance,and spare transformers,capacitors, switchgear, and circuit breakers to facilitate repairs.

2.8 A detailed descriptionof the proposed project is presented in Annex 2.01.

D. Project Costs

2.9 The total project cost is estimatedat US$120 million (excluding interest during construction),of which about US$59 million is the foreign cost includingthe indirect foreign cost of local components. Detailed cost estimates for the project are presented in Annex 2.02 and summarizedbelow in Table 2.1: - 11 -

Table 2.1: PROJECTCOST ESTIMATE

ForeignCoat Po oUMillion USIJmillion as X of Local Foreign Total Local Forelgn Total Total

Subtran"miaainLines and Substations 784.0 714.0 1,443.6 84.8 18.4 67.7 49.8 Upgradin of DistributionSystem 828.1 207.6 580.7 15.1 9.7 24.8 89.1 Rodlo-MultiploxFel'lltl" n19.8 42.6 62.1 0.9 2.0 i.9 69.0 MeintenanceEquipment and Vehicles 80.0 100.6 180.6 1.4 4.7 6.1 77.1 TotalB*se Coat 1,106.4 1,065.6 2,172.2 61.7 49.6 101.6 49.1 Phyulcl Contingencies 111.8 107.0 216.8 6.2 6.0 10.2 -- Price Contingencies 67.7 86.5 174.2 4.1 4.2 6.8 -- Total Project Cost / 1,806.4 1,269.8 2,6e4.7 61.0 59.0 120.0 49.2 INTERESTOURINQ CONSTRUCTION 74.9 189.1 214.0 8.5 6.6 10.0 -- TOTALFINANCING REQUIRED 1,860.3 1,896.4 2,776.7 64.5 65.5 180.0 50.4

/a The projectcost Includesan estimatedUSS9 million equivalent of taxes and duties.

2.10 All costs are in December 1988 prices and are based on recent price quotations from equipment suppliers. Physical contingencies are computed at 102. The price escalation for all costs expressed in US dollars is calculated according to anticipated international price movements of 5.32 for 1988-90. and 4.12 for 1991 and thereafter. The price escalation for all costs expressed in local currency is calculated according to projected local inflation rates of 7.5Z for 1988. 9Z for 1989-90 and 8.02 for 1991 and thereafter. Interest during construction on the Bank loan is calculated by applying the Bank's current interest rate of 7.652 to the average amount expected to be drawn down in each year of construction. Interest during construction on other loans is calculated similarly, using the aggregate interest rate to HERALCO of 11.3Z. and adding applicable costs including the commitment fee for the undrawn portion of the Bank loan before substracting the amount payable to the Bank.

E. Financing Plan

2.11 The financing plan for the project is presented in Table 2.2 below:

Table 2.2: FINANCING PLAN FOR THE PROJECT (USS Million)

Local Foreign Total Percent

IBRD 6.5 59.0 65.5 50.4 MERALCO 58.0 6.5 64.5 49.6

Total 64.5 65.5 130.0 100 - 12 -

The Bank would finance the entire foreign component of the Total Project Cost (which excludes interest during construction). In addition, the project entails a substantial amount of civil works for the subtransmission and distribution components. The Bank would finance about 652 (about US$6.5 million) of civil works that would be undertaken by contractors.

2.12 The proposed Bank loan of US$65.5 million would be lent to DBP for 20 years, including five years of grace on repayment of principal, at the standard variable interest rate. DBP would relend the proceeds of the Bank loan to MERALCOon terms that include a maturity of twenty years and grace period of five years, and a fixed interest rate spread of not more than 3.65Z over the Bank loan. MERALCOwould finance from internal cash generation the interest during construction associated with the onlent Bank loan and also would bear the full foreign exchange risk. Execution of a Subsidiary Loan Agreement between DBP and MERALCO,that shall have been reviewed and found satisfactory by the Bank, is a condition of loan effectiveness.

2.13 The Government would guarantee the proposed Bank loan to DBP. In turn, DBP would rely on collateral provided by MERALCOto secure the onlending of the Bank loan proceeds (para. 3.30).

F. Project Implementation and Schedule

2.14 The transmission and distribution components are well within MERALCO'stechnical and managerial capabilities for design, engineering and implementation. By June 15, 1989, MERALCOwill appoint a project manager for coordinating its activities in connection with the proposed project. The stringing of subtransmission lines will be undertaken by MERALCO'sown work force. Construction under the project will be managed by MERALCO. In cases where the civil works involved are relatively small and well within the purview of its normal activities, that construction would also be handled by MERALCO'sown work force. Otherwise, the civil works would be undertaken by contractors. Erection of equipment for the substations will be undertaken by the equipment suppliers under the overall coordination of the MERALCOProject Manager. Assembly of the communications system will, be implemented by MERALCO,with supervisory assistance from the equipment suppliers.

2.15 The implementation schedule for the subtransmission and distribution components has been determined according to the order of priority derived for each individual constituent of MERALCO's least-cost development plan. Those two components are scheduled to be implemented entirely during the period 1989-93. For most individual constituents of the subtransmission component, engineering and design as well as procurement will need to be completed in 1989, primarily because of the long lead time involved in the procurement of transformers. In contrast, the design for substations can only be finalized after the equipment is purchased; therefore the implementation schedule for the substations indicate that they will be designed in parallel with implementation of the rest of the project components.

2.16 Implementation of the distribution system upgrade component is scheduled according to annual plans, within which MERALCOhas identified constituent activities needed to address: ' , system loss reduction; - 13 -

(b) enhancementof system reliabilityand quality of service; and (c) requirementsto meet load growth. In effect, the year-by-yearwork scheduleshave been prioritizedbased on current levels of technical losses, service interruptions,and projected load growth.

2.17 The engineeringand design for the radio multiplex facilitieshas already been completed,and tender documents for this componentare under preparation.

2.18 MERALCO plans to procure the maintenanceequipment and vehicles in a phased manner during the period 1990-92.

2.19 Annex 2.03 gives the implementationschedule with key dates for the completion of importantmilestone activitiesfor each component of the proposed project. The project is scheduledfor completionby end 1994.

G. Procurement

2.20 The procurementarrangements for the project are summarizedin Table 2.3 below.

Table 2.3: SUMMARY OF PROCUREMENTARRANCEMENTS (US$ million)

ProcurementMethod Project Component ICB LCB Other/a N/Alb Total Cost

SubtransmissionLines and Substations 43.6 8.3 1.0 27.2 80.1 (41.1) (2.0) (1.0) (0.0) (44.1) DistributionSystem Upgrade 11.5 4.1 1.0 12.7 29.3 (10.5) (2.0) (1.0) (0.0) (13.5) Radio-MultiplexFacilities 2.3 0.5 0.0 0.6 3.4 (2.3) (0.0) (0.0) (0-0) (2.3) MaintenanceEquipment and Vehicles 5.6 0.0 0.0 1.6 7.2 (5.6) (0.0) (0.0) (0.0) (5.6)

Total 63.0 12.9 2.0 42.1 120.0 (59.5) (4.0) (2.0) (O.O) (65.5)

NOTE: Figures in parenthesesindicate financingfrom the Bank loan.

/a Limited internationalbidding, and internationaland local shopping.

Lb Refsrs to expenditureson engineeringand administrativeoverheads and also duties and taxes of the order of approximatelyUS$9.0 million. - 14 _

2.21 For this project, MERALCO will prepare separate procurementpackager for all items to be procured through InternationalCompetitive Bidding (ICB). These packages,which were finalizedat negotiations,include: (i) power transformer;(ii) mobile power transformer;(iii) metal clad switchgear; (iv) gas-insulatedswitchgear; (v) power circuit breaker; (vi) disconnect switch; (vii) station type capacitor base; (viii) transformercooling fan; (ix) undergroundpower cable; (x) wire; (xi) storage battery and battery charAer; (xii) fuse cutout; (xiii) distributiontransformer; (xiv) potential transformerand current transformer;(xv) radio multiplex equipment; (xvi) oill/vacuumcircuit recloser; (xvii)voltage regulator; (xviii) regulator bypass disconnect switch; xix) line capacitorand accessories;(xx) load breaker switch and line disconnect switch; (xxi) transmissionand distribution on-line pole; (xxii) lighting arrestor; (xxiii)insulator; (xxiv) time-of-day meter; (xxv) mechanized vehicle; (xxvi) switchboardmaterial; (xxvii)hardware and accessories;and (xxviii)civil works for transmissionand distribution systems. Many of these procurementpackages will be bid concurrentlyso that potential bidders are able to obtain bidding documents for as many packages as they like and bid on any number of packages. The procedures to be followed will be ICB as specified in the Bank's ProcurementGuidelines, except in those instancesnoted in para. 2.22, in which Local CompetitiveBidding (LCB), Limited InternationalBidding (LIB), and/or internationaland local shopping (accordingto procedures that 'havebeen reviewed and found satisfactoryby the Bank) might be used. Annex 2.04 identifiesthe mode of procurementto be used for each of the proposed packages togetherwith a list of the equipment included in each package and the expected delivery schedule for each category of equipment. All civil works to be financed by the Bank will be bid according to ICB. For all ICB procurement,local suppliersand contractors will be permitted to participateand, at MERALCO's option,will be eligible in the evaluation of bids for the lower of: (a) a preferenceof 15? on the CIF cost of the imported goods; or (b) the prevailingcustoms duties and other import taxes. All essential procurementdocumentation for goods being financed by the Bank and having an estimatedcost of over US$1 million equivalentwill be subject to the Bank's prior review. Procurementpackages valued at approximately80X of the loan amount are likely to be reviewed.

2.22 While MERALCO intends that most of the major packages of materials and equipmentwill be procured through ICB, some exceptionsare possible for contracts for (i) small lots of low value items where a large number of foreignmanufacturers are well representedin the Philippines;(ii) equipment and materials that are proprietary;or (iii) purchasesthat are needed to ensure standardizationand compatibilitywith existing equipment. In particular,for the distributionsystem upgrade component,many small items, such as voltage regulators,line capacitors,kWh-meters, and load break switches,need to be purchased on an annual basis. Also items in constant demand, such as hardware and accessoriesneeded for constructionand installationof equipment, are usually availableoff the shelf and MERALCO should be capable of procuring them at short notice. The administrative burden involved in procuring these items accordingto ICB may negate the benefits of using that procedure. Contracts for these goods, not exceeding US$200,000 up to an aggregate of US$4 million may be procured through LCB procedures that have been reviewed and found acceptableby the Bank. Equipment standardizationmay also call for LIB proceduresthat have been reviewed and found acceptableby the Bank, to be followed in some exceptional - 15 -

cases. Contracts for these goods, not exceedingUS$200,000 up to an aggregate of US$1 million, may be procured through LIB. Finally, contracts for goods not exceedingUS$50,000 up to an aggregateof US$1 million, may be procured through internationalor local shopping,based on price quotations obtained from several foreign and Local suppliers (usuallyat least three) to ensure competitiveprices.

H. Disbursements

2.23 The Bank loan would be disbursedagainst (a) 100X of the foreign expendituresof directly importedequipment and materials; (b) 100? of local expenditures(ex-factory cost) of locallymanufactured items procured through ICB; and (c) 802 of local expendituresfor other items procured locally; and (d) 652 of the cost of civil works to be performedby contractorswhose services would be procured through ICB.

2.24 Disbursementsfor small contracts,with a value of USS 200,000 or less, would made on the basis of statementsof expenditures(SOEs). Documentationsupporting the SOEs would not be submittedto the Bank but would be retained by DBP and made available for review by the Bank supervision missions. To facilitateproject disbursements,a SpecialAccount in a fully convertiblecurrency will be establishedby DBP on terms and conditions satisfactoryto the Bank. The authorizedallocation to the Special Account will be US$4 million, representingfour months' average project expenditure. Replenishmentsto the Special Account would be made quarterly or whenever the account is drawn down by about 50Z of the initial deposit. The otandard procedure for auditing SOEs will apply.

2.25 Annex 2.05 gives the disbursementschedule for the proposed Bank loan. Since no specific disbursementprofile has been compiled for power projects in the Philippines,the Asia regionalprofile for power projects was used to derive the disbursementschedule for this project. However, given that the project consists of discreet components that are characterizedby standard materials and equipmentand relativelyshort constructionperiods, this project is not likely to span the seven years implied by the Asia Regional profile. Therefore, that profile has been followed for the first five and a half years and the remainderof the loan is assumed to be disbursed in the last semester of the sixth year. The project completion date for the proposed loan will be December 31, 1994 and the closing date of the loan will be June 30, 1995. During appraisal,MERALCO indicatedeloquently the urgency of these investmentsand its commitmentto implementingthem even ahead of schedule. This commitment combinedwith the approach used in packaging procurement suggests that flieloan could be disbursedfaster than projected and that the project could be completedas early as December 1993.

I. Monitoring and Reporting

2.26 Satisfactoryprocedures for monitoring (i) the physical execution of the project; (ii) project expenditures;and (iii) MERALCO's technical, commercial,and financialperformance were developedat appraisal. HERALCO will furnish proaress reports to the Bank every six months. - 16 -

J. Environment

2.27 In and around Metro Manila, the subtransmissionlines will traverse existing routes of N.PC-owned230 kV lines or MERALCO-owned115 kV and 34.5 kV lines. None of the new lines will traversevirgin territory. They constitute either second circuits of existing systems, or new lines supplementing existing distributionnetworks. New substationsare mostly additions to existing NPC or MERAEf-Ofacilities. As such, no significanttenvironmental impacts are associatedwith these projects. The transmissionlines will be designed according to internationalstandards. Within urban areas, high voltage lines will be run on poles meeting necessary safety codes.

2.28 Noise pollution from distributionsubstations is the one possible environmentalhazard that could exceed prescribed limits. After receiving detailed design informationon the trah.sformersfrom the potential suppliers, MERALCO will conduct environmentalimpact studies for each of the substation project components under this project. These studieswill determine if, with the installationof the new transformers,the noise level at the boundary of any substationwould exceed allowablelimits. The results of these studies will be available for discussionwith the Bank. In the event the studies find noise pollution that exceeds prescribed limits,MERALCO will take measures to enclose transformerswith adequate sound barriers so as to ensure compliance with environmentalregulations concerning electrical substations. These arrangementsare expected to ensure that the installationsto be built will meet the Bank's environmentalguidelines and that the proposed project will not have an adverse impact on the environment.

2.29 Although MERALCO owns most of the land it needs for the project, it will need to purchase some additionalsmall parcels in connectionwith a number of the substations. In those cases, it has already identifiedthe parcels and is negotiating their purchasewith the present owners. MERALCO has confirmed that each of these parcels is vacant. However, in the event that these parcels should become occupied by squatters,MERALCO will ensure that they are adequatelycompensated. This is satisfactoryto the Bank.

III. THE BORROWER

A. Background:1958-1986

3.1 Established in 1958 as a Government-owneddevelopment bank, DBP's financing operationsuntil 1986 encompassedalmost all segments of the economy, and both large and small-scaleenterprises. In addition to its industrial,agricultural, real estate and transportationlending, DBP engaged heavily in lending to social sectors such as educationand health care. Starting in the seventies,under the guise of its developmentalmission, DBP financed high risk and low return Government developmentprograms ('directed' or 'behest" lending),and the takeover of financiallydistressed firms at Government'sdirection. - 17 -

3.2 This lack of financialdiscipline in its lending, compoundedby seriousweaknesses in internal organizationand procedures (notably credit appraisal and supervision),led to serious financialproblems. In the early 1970s, the total debt to equity ratio rose to over 10:1; the current ratio fell to 0.2:1; and arrears in the 1. a portfolio and defaults in the guarantee portfoliowere high. With its resourcemobilization capacity undermined,DBP had to rely mainly on Governmentdeposits for funding its activities.

3.3 Several capital increaseebetween 1972 and l180, substantial governmentdeposits to support its liquidityposition, and strengtheningof its organizationand procedures all failed to stop DBP's deteriorationin the eighties. Considerableproblems of portfolio arrears and poor collection rates persisted,as did the more intractableissue of high-risk and low-rate behest loans. As part of the Bank financed IndustrialFinance Project (Loan 1984-PH; 1981), the Government and DBP were asked to implementan "Action Program",which included further organizationalchanges, measures to reduce DBP's dependenceon Government deposits, and actions to improve the collection performance. The financialeffects of behest lendingwere to be made transparent,and Governmentwas to provide financialassistance if DBP's financialviability would be impaired as a result of behest lending. However, continuationof DBP's problems, exacerbatedby the economic and political crises of the period, led to DBP losing its accreditationas a participating financial institutionin the project. DBP's financialsituation in 1985 remained poor, with a net loss of P 6.9 billion (US$370million equivalent), representinga negative return on average net worth of -182.3Z. Annex 3.01 presents the details of DBP's financialperformance for the period 1984-87.

3.4 Following the change in Government in 1986, the severity of DBP's problems and its technicalbankruptcy were addressedby a comprehensive rehabilitationand financial restructuringprogram developed in conjunction with the Bank financed Economic Recovery Loan (Loan 2787-PH) (ERL). Major componentsincluded: (i) a new charter and policy statement, (ii) installation of a new management team and Board of Directors, (iii) transfer of P 74 billion of nonperformingaccounts to the Asset PrivatizationTrust (APT), created by the Governmentto sell those assets; (iv) implementationof a drastic cost reductionprogram through staff reductionand sale of branches; (v) an internal reorganizationand strengtheningprogram focussingon credit policies, legal procedures,financial controls,accounting and internal cor.trols.and personnelmanagement; and (vi) phasing out of subsidized Governmentdeposits.

B. DBP's New Role and Strategic Orientation

3.5 DBP's financial restructuringand the major elements of its internal strengtheningprogram under the ERL have essentiallybeen completed,with DBP being solvent during the last two years. Despite its profitability,however, DBP has been seeking to define its role in the financialsystem. Not endowed with the financial,organizational and personnel resourcesnecessary to undertake commercialbanking, DBP was also not sure that traditional developmentbanking activities (with the higher risks attendant on term lending) would be adequate to sustain its profitability. - 18 -

3.6 A recent Bank study of the financialsector (IBRD Report No. 7177-PH, August 23, 1988) identifiedthe lack of institutionalarrangements for mobilizingand channelinglong-term funds as a major constraint to investment. The study recommendedthat a revamped DBP could be developed to fill this institutionalgap. This would involvemandating DBP to act primarilyas a wholesalefinancial institution, catering to financialintermediaries rather than directly to business enterprises. Agreementwith Governmenthas been reached on this new orientation.

3.7 The wholesale DBP would mobilize and channel term funds to the private s,ztor through retail financialinstitutions. Given the availability of domestic long-termfunds from the Social Security System, insurance companiesand pension funds, DBP is expected to play a major role in domestic resource nobilization.However, DBP's increasedreliance on domestic resource mobilizationcan only be gradual; in the near future, the lack of a developed capital market and the Government'scontinuing needs to tap domestic savings through high-yieldTreasury bills would impede DBP's raising significantlong term peso funds. In such an environment,DBP will have to fund itself to a significantdegree through foreign sources in the coming years. In this context, DBP has been designatedas a conduit for official foreign borrowings, the proceeds of which are to be channeled through retail financial institutionsfor use in financingprivate enterprises. In line with this, the Government has agreed to the transfer from the Central Bank to DBP of the existing credit programswith foreign funding -- the Apex DevelopmentFinance Program (APEX) and the IndustrialGuarantee and Loan Fund (I6LF). As part of the Financial Sector AdjustmentProgram, IBRD has helped DBP formulatean InstitutionalDevelopment Plan that would define and make operationalDBP's wholesale banking strategy, includingan action plan for mobilizingdomestic term funds.

3.8 DBP's transformationto a primarilywholesale bank will be accomplishedthrough a gradual reductionof its tetail loan approvals and outstandingretail loans to enterprisesrelative to the wholesale loan appro-alsand outstandingwholesale loans to financial institutions. By the end of 1993, DBP's portfolio is to be predominentlywholesale. Subject to the availabilityof expected ODA funds, DBP projects that 692 of its outstanding loan portfoliowill consist of wholesale loans by 1994. Annex 3.02 provides details of the gradual reduction,in relative terms, of retail lending and the concomitantgrowth of wholesale loans.

3.9 The transitionwill also entail the gradual disinvestmentfrom DBP's br&nch network. With the exceptionof 15 regional and metropolitanbranches, all brancheswill be pooled into five regional developmentbanks, which are to be privatized accordingto a schedule agreed under the ERL. By 1993, DBP's equity stake in these regional developmentbanks would have been reduced to 302. - 19 -

C. Organizationand Management

3.10 Before 1987, the Board of Directors held day-to-dayoperational responsibilities.Under the revised charter, the Board is a policy making body distinct from management;only the Chairman and the Vice Chairman of the Board are also bank managers. Composed of nine members appointedby the President of the Republic of the Philippines,the Board now includes five members from the private sector.

3.11 DBP has developed a revised organizationalstructure (Annex 3.03) that is appropriatefor implementingits wholesale banking strategy. The guiding principlesbehind the new organizationstructure are: (a) clear separation of funding and lending operations;and (b) upgrading of the resource mobilizationfunction by creating a Capital Markets Department. Given the increased importanceof resourcemobilization, which has to be carried out in the financialmarkets by an individualof high standing,the Capital Markets Departmentwill be headed by an officer holding the rank of at least Vice President,reporting to the ExecutiveVice-President in charge of the Treasury Gioup. On the lending side, an Executive Vice Presidentfor Marketing will oversee the FinancialInstitutions Department that will manage wholesale loans; the EntrepreneurialBanking Departmentwill be in charge of i the Metro Manila Branch, and the Corporate Banking Departmentwill be in charge of project management. The IndustrialRestructuring Unit, which will form part of the Strategic Planning Center, will report directly to the Chairman. The two Executive Vice Presidentsand the Senior Vice President in charge of Accounting and AdministrativeServices will also report to the Vice Chairman,who in turn reports to the Chairman. An Internal Audit Department reports directly to the Board of Directors.

D. Personnel Policy and Training

3.12 Under the ERL, DBP has reduced its staff from about 3500 to 2000, mainly through an early retirementscheme. The new wholesale orientationof DBP is expected to lead to a furthernet staff decrease of about 250: selectiverecruitment of a small number of qualified individualsto handle the new wholesale banking functionswill be offset by reductionsin staff resultingfrom DBP's disinvestmentfrom the branch network and reassignmentof existing staff from retail banking to wholesale banking.

3.13 A job and performanceevaluation system as well as a merit oriented financialreward system are in place, with the integrationof the two systems planned for 1989. The Chairman and senior managementare aware that the reorganizedDBP must be able to offer compensationcompetitive with the private financial sector, if it is to attract and retain the high caliber staff necessary for it to perform its functionseffectively.

3.14 DBP has engaged in extensive training of its staff in corporate finance, loan packaging,financial analysis and legal issues. Aware that the training effortswill have to be reorientedtowards DBP's new activitiesin wholesale banking, DBP's management is reviewingits training needs for the period 1989-92, in the context of the InstitutionalDevelopment Plan currently under preparatior..This assessmentwill take into accounts (a) the - 20 -

incorporationof the APEX and IGLF units currentlyin the Central Bank; (b) the increased importanceof resourcemobilization efforts; and (c) DBP's role in conductingindustrial restructuring studies and acting as a wholesale channel for loans to support industrialrestructuring programs.

E. Accountingand Management InformationSystem

3.15 The flow of accountingdata has improved substantiallyover the last two years. Revised Branch and Head Office Accountingand ProceduresManuals have been completed. Liquidity and reserve summariesare generated daily; financial statementsof branches and head office are consolidatedmonthly. The general ledger is computerizedand closed daily. Subsidiaryledgers for loans, which had been booked separatelyby lending groups and industries before the reorganization,have been centralizedin the Transactions ProcessingDepartment. A central mainframe computerizedinformation system, acquired from Citibank, is expected to be operationalby 1990. This state-of- the-art system will provide an integratedManagement Information System that allows immediateaccess to all transactionsiJrrmation that is stored in a centralizeddata base. The system will also ...... egrate(i) on-line authorizationand printing of customer advices, and (ii) contract administrationfor loans, placeinents,bonds, deposits,commitments, receivablesand sundries until final maturity, thereby eliminatingthe need to keep track manually of interest accruals,principal payments, liquidationsand billings. The system will also incorporatean automatedaccounting service. Internal communicationswithin the head office and between branches and head office are expected to be computerizedby the end of 1989. In the meantime, the branches operate with stand-alonemicrocomputer systems for the general ledger, loans and liabilitiesand the savings and current accounts. The ongoing computerizationand a system of account profitabilityanalysis are expected to improve the management informationsystem considerably.

F. Loan Activitiesand Asset Management

3.16 The DBP loan window was reopened in mid-1986 after a hiatus of four years during which no new loans were released. Since then, DBP's investment policy has been conservative,with lendingbeing primarily short term and excess liquiditybeing invested in securities,primarily Governmentissues. In 1987, DBP realizedno positive new net lending,while its securities portfolio grew by P 2.8 billion. In 1988, outstandingloans grew by P 1.2 billion, while investmentsin bonds and securitieswere reduced by P 880 million.

3.17 DBP uses resourcesfrom its "RegionalDevelopment Fund" to extend loans that do not completelysatisfy commercialbanking risk or collateral criteria.Considered essential from a developmentalpoint of view, these loans involve concessionsin one or moie of the followingparameters -- interest rates, repaymentterms, or collateralrequirements. The Regional Development Fund comprises30? of each year's net income after taxes and repaymentsof loans sourced from the Fund. In the first three quarters of 1988, P 517 million or 18.5 Z of new loans were approved under this "Window III" facility. However, as of December 1988, only P 74 million of Window III loans were - 21 -

actually outstanding.DBP has agreed that (i) the risk exposure of these loans and compliancewith the 30% net income ceiling will be monitored closely; and (ii) appropriateprovisions will be made to take into account the potentially higher risk. These provisionswill amount to not less than a level of 10-202 above the average provisioningon conventionalperforming loans.

3.18 Loan recovery of non performing loans, entrustedto branch loan workout taskforces and the Remedial ManagementGroup at head office, has met with some success. Out of 6000 non-performingaccounts, representing P 4 billion, that remained on DBP's books after the transfer of the bigger accounts to APT, collectionsrepresenting P 1.2 billion were made on 3,800 accounts. In addition to standard loan collectionand foreclosureactivities, an 8incentivescheme for pretermination"has been devised. By offering the debtors a roll-back of interest to 1984 ( retroactivecomputing of interest due on the basis of 1984 rates) and condonationof penalties in exchange for a 202 downpaymentand an agreed schedule of repaymentof the recomputedpast due, DBP has succeeded in collectingon about 300 formerly doubtful accounts. Loan loss reserves cover 112 of the performingportfolio and 982 of the non performing portfolio. Given DBP's past history, the conservativeprovisioning policy is appropriate.

G. Liability Management

3.19 The current average maturity of funding liabilitiesis about 1.8 years, against an average loan maturity of 3.8 years. DBP's balance sheet is now exceptionallyliquid, with cash and due from banks representing552 of deposits and investmentsin bonds accountingfor 372 of total assets. Liquiditywill decrease somewhat as (i) countrysidebonds issued by DBP mature and the interest-freeGovernment deposits are repaid, and (ii) wholesale lending activitiesgrow. Investmentsof over P 5.1 billion in bonds and securitiesat 1987-end have fallen to P 4.3 billion at 1988 end and are projected to fall further. Wholesale lending is projected at P 3.8 billion in 1989, P 13.2 billion in 1990, P 18.0 billion in 1991, and P 23.9 billion in 1992. To fund its projected lending, DBP intends to supplementits foreign currency sources by actively tapping the domestic capitalmarket.

3.20 As a wholesale institution,DBP aims at playing a major role in domestic resource mobilization. In addition to promoting an active secondary market and lobbying for appropriateregulatory changes designed to open up the primary market, DBP will enter the market for its own account by issuing a variety of instruments,specially designed to tap differentcategories of institutionalinvestors. Through recruitmentof a few experts in its Treasury Group, DBP would acquire the required capabilitiesfor designing,packaging, timing, pricing and placing its debt instruments. Given investors'current preference for short-termpaper, DBP envisages that it would initially launch a P 300 million, 3 year, listed bond issue to re-establishits presence in the market. Favorable receptionin the market would then be followed up by further issues with longer maturities and lower coupons, to the extent allowed by market conditionsand crowding-outeffects resultingfrom Government funding requirements. - 22 -

H. FinancialPosition and Performance

3.21 DBP's financialstatements for the perlod 1984 to 1987 are given in Annex 3.01. Unaudited results for 1988 are given in Annex 3.02. Its recent financialperformance is summarized in Table 3.1.

Table 3.1: SUMMARYOF DBP'S FINANCIAL PERFORMANCE--1986-88 (P billion; Ratios in Percent )

Year 1986 1987 3988

Total Loans Outstanding 5.27 4.39 6.15 Total Debt 6.82 7.07 6.63 Total Equity 2.68 3.46 5.2

Ratios: Debt/Equity 2.5 2.0 1.3 Cash and Due from Banks/Depositsand Short Term Borrowings (Z) 35.5 26.8 45.3 Provisions for Doubtful Accounts /Total Loans (2) 47.3 53.6 48.9 Net InterestMargin/Total Assets (Z) (29.5) 9.7 8.3 Return on Average Net Worth (2) (157.7) 25.5 20.1 Operating Expenses/TotalAssets (Z) 81.8 9.2 7.3

3.22 With the significantrelief resultingfrom transfer and workout of old non-performingaccounts and its conservativeinvestment policy of the last two years, DBP's debt to equity ratio is now a very conservative1.3:1, compared to the ceiling of 5:1 set under the ERL.

3.23 In 1988, DBP generatednet pretax income of P 898 million, compared to P 800 mil'.ionin 1987. Earnings indicatorslook impressive:return on assets is 14.02; return on net worth, 32.32. However, if the sale of DBP's holdings in PhilippineCommercial and IndustrialBank (PCIB),one of its subsidiaries,is excluded from the calculations,DBP's return on assets drops to 7.22 and return on net worth to 20 12.

3.24 Nonetheless,this performanceis not fully indicativeof DBP's long term earning capability on a going concern basis. Of the total operating income of 2.6 billion, only 282 is interest from loans, whereas 362 comes from gains in asset sales and 182 from investmentin securities,primarily Government issues. On the revenue side, this reflects the cautious investment approach taken in the first year after the financialrestructuring, as well as exceptionalgains of P 93' million realized through sales of shares in PCIB. Moreover, P 42 million of penalty intereston overdues contributedto 1988 earnings; this source of income will decline as more accounts are brought current in future years. As for expenses, about P 2 billion of interest free Governmentdeposits, or 192 of total funds, were on DBP's books in early 1987; - 23 -

as these free deposits are graduallybeing repaid (the schedule calls for full repaymentby the end of 1989), these funds will have to be replacedwith higher cost funds, which would decrease the spread DBP is realizing. This combinationof factorswhich reduce revenues and increase expenses will lead to lower, though still positive,net returns in the future. Detailed projectionsof DBP's future financialperformance are presented in Annex 3.02 and summarized in Table 3.2. These projectionsare of an indicativenature, as the assumptionsunderlying them are dependent on generalmacroeconomic conditions,the developmentof the local capital market, and the availability of ODA funds.

Table 3.2: SUMMARY OF DBP'S PROJECTED FINANCIALPERFORMANCE (P Billion; Ratios in Percent)

Year 1989 1990 1991 1992

Wholesale Loans Outstanding 3.85 13.23 18.03 23.90 Retail Loans Outstanding 7.51 8.75 11.40 13.72 Total Debt 9.45 18.50 24.86 31.93 Total Equity 5.94 6.82 7.58 8.63

Ratios: Debt/Equity 1.6 2.7 3.3 3.7 Cash and Due from Banks/Depositsand Short Term Borrowings (X) 20.7 27.5 31.5 37.3 Provisions for Doubtful Accounts/ Total Loans (X) 8.1 3.9 4.0 3.7 Net Interest Margin/TotalAssets(Z) 6.6 6.7 6.6 6.4 Return on Average Net Worth (2) 15.1 15.0 12.2 14.6 OperatingExpenses/Total Assets (2) 8.3 7.8 10.3 10.2

3.25 Though DBP's performancestill has room for improvement,its results for the last two years show that DBP is now endowed with features that enable real optimism regarding its future prospects. It has a new management that has demonstrateda willingness and an ability to make hard decisions; it has developed a focused strategy and has restructuredits organizationto implement that strategy;and it has developed and is implementingimproved controls and procedures. Of equal importance,its operations are to be governed by a set of policies designed to ensure that it avoids the mistakes of the past. On April 5, 1989, DBP's Board approved a new Policy Statement (Annex 3.04) which reflects its wholesale lending orientationand which deals with inter alia DBP's investmentpolicies, financialprudence limits and capital structure. Salient features of the Policy Statementprovide for: (a) private sector orientationwith autonomy in decision-making;(b) an interest rate and fees policy that is consistentwith prevalentmarket rates and that ensures full recovery of all its direct and indirect costs, includingprovisions as required,plus an adequate profit margin; (c) prudent interest rate and maturity match between its assets and liabilities;and (d) a debt-equity ratio not exceeding5:1. Barring a deteriorationin the macroeconomicenvironment, DBP is now poised for growth. - 24 -

I. Audit

3.26 In addition to the audit performedby the GovernmentCommission on Audit, a private independentfirm audits DBP's annual financial statements. The independentauditor for 1987, Joaquin Cunanan and Company, a member of the Price Waterhouse group, qualified its opinion by remarking that the volume of loans from the National Government,mainly in the context of the transfer of non-performingassets to the APT, could not be establishedand audited. DBP expects that this qualificationwill be dropped from the 1988 audit. At negotiations,DBP agreed to furnish to the Bank by June 30 of each year, its annual financial statementscertified by an auditor acceptableto the Bank.

J. The Proposed Loan

3.27 DBP would be the Borrower of the proposed Bank loan and would onlend the proceeds to MERALCO. As lender to MERALCO, DBP would bear the MERALCO credit risk. MERALCO would bear the full foreign exchange risk and pay the commitmentfee on the Bank loan as well as other costs related to the proposed Bank loan. The terms and conditionsof onlending are given in para. 2.12.

3.28 The SubsidiaryLoan Agreement between DBP and MERALCO would cover, inter alia, (i) the proceduresto be followed in executingthe project; (ii) adequate arrangementsfor securing the Loan (para. 3.30); and (iii) the conditionalityto which MERALCO agreed at negotiations (paras.1.11, 4.16, 5.8, 5.17 and 5.18). The Bank would conduct its project supervisionjointly with DBP.

3.29 As the proposed transactionwould lead to DBP exceeding its single borrower limit, the Bank explored various alternativesfor channellingthe Bank funds to MERALCO. The only feasible option which met the requirementsof all parties concernedwas for DBP to act as the Borrower with the Government guaranteeingthe loan. Given that the investmnentsto be financed by the loan are needed urgently and that MERALCO is one of the nation's better credit risks, DBP has sought, on an exceptionalbasis, a waiver of the single borrower's limit for purposes of this project. The Monetary Board has approved the waiver.

3.30 DBP would secure the onlendingof the proposed Bank loan with first mortgage bonds that MERALCO would issue against its Trust Indenture. Taken togetherwith the first mortgage bonds DBP will receive in connectionwith a US$35 million equivalentKfW loan to MERALCO that is being channelledthrough DBP, the exercise of rights from the bonds issued in connectionwith the proposed loan offers DBP a sound and potent security that mitigates substantiallythe MERALCO credit risk. - 25 -

IV. THE BENEFICIARY

A. Introduction

4.1 The beneficiaryof the proposed Bank loan will be the Manila Electric Company ("MERALCO"or "the Company"). MERALCO is a large corporationowned by the private shareholders. The Company was founded as the Manila Electric Rail and Lighting Company by U.S. interestsin the early 19009. It was awarded, inter alia, a franchiseto provide electric servicewithin Metro Manila; this franchiseentitled the Company to own and operate generating stations as well as distributionfacilities within a defined area. In the late 19609, prompted by Government action for economic reform, ownership of the Company was sold to local interests;by then, MERALCO had become a full service electric utility that was well regarded throughoutthe region. In the late 1970s, in connectionwith the Government'sreorganization of the power subsector,NPC purchasedmost of MERALCO's generation facilities;MERALCO was then recast as a distributionutility. In 1982-86, the Company nearly tripled its franchise area when, at Government'sbehest, it absorbed the activitiesof several failing electric cooperativesalong its fringes (para. 5.5); even so, with about 30% more customers,peak demand and energy sales did not increase (para. 1.8). As a result of (a) an aging rate base; (b) inordinatelyhigh system losses; and (c) poor credit,MERALCO's performancehas ;ufferedin recent years.

B. Ownership

4.2 About 98.5% of the company's 43 million shares (followinga 702 stock dividend paid in late 1988) are owned by one institution,the MERALCO Foundation (the Foundation). The Foundationpurchased this stock from the First Philippine Holdings Corporation (Holdings)using loans that were secured by the shares themselvesand were to be repaid using the company'sdividends. As of August 1987, four financialinstitutions had about 61Z of the Foundation'sstock pledged to them; the remaining392, representingshares that were purchasedby the Foundationbut for which payment had not been remitted,continued to be retainedby Holdings as collateralto be released when the payments are eventuallymade. In turn, Holdings has used the 39? of shares it holds as collateralto secure borrowings of its own from DBP. In all, on a post-splitbasis, DFP retained about 28 million shares or 65.1? of the outstanding43 million MERALCO shares as collateral for loans advanced to both the Foundation and Holdings.

4.3 In January 1987, in accordancewith governmentpolicy concerningnon- performingassets, DBP transferredthese loan accounts, togetherwith the stock being retained as collateral for these loans, to the Asset Privatization Trust (APT) for disposition. In mid-1987, Holdings and the Foundation arranged with a syndicateof banks led by the Bank of the Philippine Islands and the Morgan Guaranty Trust Company (the BPI-MorganGroup) to purchase from APT these loans togetherwith the stock being held as collateral,and liquidatethe loans by selling about 20 million MERALCO shares to the public over a period of three to four years. Under this arrangement,the BPI-Morgan Group would provide Holdings and the Foundation the bridge financingof P 690 million needed to liquidatethe loans held by APT. In return, the MERALCO shares being held as collateralby APT would be transferredto the BPI-Morgan - 26 -

Group. The BPI-MorganGroup would then sell the MERALCO shares into the market; after its financinghas been liquidatedand it realizes a stipulated fee based on predeterminedthresholds, the BPI-MorganGroup would share with Holdings and the Foundation,the proceeds from the sale of the remaining shares. In the process, MERALCO's ownershipwould become widely dispersed in a manner consistentwith the Government'sstated objective.

4.4 This scheme was finally approved by the Governmentin December 1988 after delays of nearly fifteenmonths. During that time, the scheme was reviewed by several statutoryand ad hoc committees. Those committees recommendedseveral adjustmentsto the scheme, including: (i) Government receiving,after liquidationof the P690 million principle amount, a 30Z share in the proceeds from the further sale to the public of the MERALCO stock; and (ii) shorteningof the period during which MERALCO shares would be retained by the BP:-MorganGroup. After these changes were agreed by the Foundation, Holdings and the BPI-MorganGroup, the Government authorizedAPT to proceed with the transaction. Currently the shares are being registeredfor listing on the various local Stock Exchanges;they are expected to be approved for listing by mid 1989. At that time, the purchase of the loans togetherwith the shares from APT will be completed;and the Foundation,Holdings and the BPI-MorganGroup can begin selling the shares to the public.

4.5 In the course of the various committees'reviews of the aforementionedscheme, the Government clarified the issues surrounding (i) the potentiallyconflicting liens on MERALCO's stock; and (ii) the Company's ownership. Albeit that the Foundationhad collateralizeda number of large obligationswith MERALCO's stock, the Foundationretained its rights and privilegesas owner of the shares because neither DBP, Holdings,nor any of the three other local banks retainingMERALCO shares as collateral for the Foundation'sdelinquent obligationsever formally declared the Foundationin default. Therefore,the Foundationcould Pnd did properly exercise its right to appoint MERALCO's Board and oversee the Company's affairs. Although the Foundationhad been constitutedas a non-profitorganization acting for the benefit of MERALCO's consumers,the Governmentdeclared that it was better qualified than any alternativeparty to act in the best interest of the Foundation'sbeneficiaries; therefore, the Governmentassumed the responsibilityfor nominatingthe Foundation'sBoard and overseeingthe Foundation'sactivities. During implementationof the aforementionedscheme, the Foundationwill retain ownershipof the shares being offered for sale until the shares are actually sold. Upon completionof the privatization scheme, the Foundationwill continue to own about 54Z of MERALCO's stock, and the Governmentwill continue to control the affairs of the Foundationon behalf of the beneficiaries. These clarificationshave satisfactorily resolved the apprehensionsof DBP and the Bank regardingMERALCO's ownership.

C. Organization,Management and Staff

4.6 MERALCO's corporatepowers are exercised by its eleven-memberBoard of Directors. Although the Foundation,Holdings and DBP have all had claims on major blocks of MERALCO shares, the Foundationhas given considerable representationto Holdings, DBP and the Governmentwhen constitutingthe Company's Board in recent years. As a result, the Company has not suffered a - 27 -

legal challenge to (i) the compositionof, (ii) any decision made by, or (iii) any agreemententered into by, its Board. The present MERALCO Board, which consists of bankers and businessmen,was endorsed by the shareholders at the company's 1989 Annual Meeting. Each Board member is elected to serve until the next Annual Meeting and may be re-electedwithout limitation. MERALCO's management is vested in its President,who is himself a Director and serves as the company'sChief Executive. He is reappointedeach year at the first meeting of the reconstitutedBoard of Directors following the Annual Meeting.

4.7 MERALCO's organization chart is presented in Annex 4.01. The structurepresented therein is appropriate. A profile of staff, allocated accordingto organizationalgroup, is presented in Annex 4.02. As of September30, 1988, MERALCO had a total staff of 7,034; its 248 customers for each employee, as of that date, represents steady improvementin that ratio since 1982.

D. Training

4.8 MERALCO has an ample in-house training program. The program focuses on (a) orientationof new staff; (b) skills developmentfor working level and clerical staff; (c) technicaldevelopment for engineersand other professional staff; (d) managerial skills developmentfor (i) existing managers, and (ii) staff identifiedas having potential for promotion to managementsand (e) organizationalbehavior and communicationscourses and workshops for staff of speciallytargeted units. In addition,MERALCO arranges for on-the-job or external training for deserving staff to cover topics that are not available in the in-house program. These arrangementsare appropriate.

E. Operations,Maintenance and Losses

4.9 While MERALCO has registered some recent declJnes in its forced interruptionfrequency rate and its forced cumulative interruptiontime, it continues to have considerablescope for improvingthe quality of its service. MERALCO's service has suffered as a result of its failure to (a) renew aging facilities,and (b) extend its system to keep pace with the developmentof demand (para. 5.4), and not because of factors relating to operationand maintenance. In fact, HERALCO has operated and maintained its system satisfactorily,especially considering its resource constraintsin recent years.

4.10 MERALCO's system losses,which in 1982 averaged about 112 of system output, reache about 212 in 1986, and then dropped to about 20.8Z in 1987. This improvemenLstrengthened during 1988, so that the company recorded losses averaging172 for the year. MERALCO believes that technical losses, which were about 82 in 1982, increased to the range of about 122; the remaining losses are believed to result from pilferageand other non-technicalcauses. The company has been seeking to reduce technical losses through (a) the proposed project, which is expected to strengthen inadequatelines and upgrade some of its substations;and (b) a second project, being financed by KfW, which is expected to upgrade its remainingsubstations. In addition, the - 28 -

Company is seeking to improve its quality of serviceby implementingtwo projects being financed by OECF: (a) the first project will strengthen existing distributionnetworks and build new lines to serve depressed areas in Metro Manila; and (b) the second project will improve existing networks and provide new lines in rural areas served by MERALCO. At the same time, MERALCO is in the midst of implementingan action program, begun in August 1987, aimed at reducingnon-technical losses (para. 5.8 and Annex 5.02). Through various measures included in this action program and the investmentsbeing undertaken to reduce technical losses, MERALCO aims to reduce its aggregate system losses to about 122 by 1992.

F. Accounting System

4.11 MERALCO's accounting system is based on accepted power utility principles and procedures. It was modeled after the Uniform System of Accounts prescribed for public utilitiesby the Federal Energy Regulatory Commission of the United States of America, and adapted to suit local conditions and requirements.

G. Financial Planning and Budgeting

4.12 MERALCO has well staffedunits for financialplanning and budgeting. The financialplanning unit has developedan integratedcomputerized financial model, which it uses primarily to test the impact of investmentand financial decisions and to provide informationto external financiers. MERALCO prepares budgets annually. The budget is revised periodicallyduring the year and comparisonsof actual performanceagainst budget is a regularmanagerial exercise.

H. CommercialSystems

4.13 As of September30, 1988, MERALCO had about 1.7 million customers. More than 902 of these customers subscribeto residentialservice; most of the remainingcustomers are national or local Governmentunits. MERALCO has about 7,000 customers (0.5Z of its total) with loads of 40 kW or more. These 7,000 consumers, including large Governmentand commercialas well as industrial establishments,account for more than 65? of revenues.

4.14 As of appraisal,after deducting receivablesdeemed uncollectiblebut still on the books (about 17? of all private sector receivables),about 90? of private sector accountswere current. MERALCO follows a policy of disconnect- ing delinquentprivate sector customers,with action being taken more quickly against those with large arrears. In contrast, only about 172 of receivables from Government sector customerswere current. Past efforts to disconnect delinquent public sector establishmentshad resulted in adverse consequences; therefore, the Government has decided to use a clearing-houseapproach to settle agreed obligationsfrom public agencies against MERALCO's obligations to NPC. Agencies of the national Governmenthave so far cooperatedwith this approach;however, local Governmentunits, which account for about 60? of MERALCO's sales to the public sector, have not been as forthcomingin provid- - 29 -

ing the agreementsneeded to settle their bills in this manner. The program for strengtheningMERALCO's commercialoperations (para. 5.8 and Annex 5.02), includesmeasures to address this problem; however, progress in regularizing these accounts is expected to continue to be slow.

4.15 Through 1986, MERALCO financed the shortfallcreated, inter alia, from the slow payment of public sector obligationsby stretching its own obligationsto NPC. By September1987, its arrears to NPC reached P 1.7 billion; and, as a result of Government intercession,the two parties concluded a reschedulingof those arrears. The terms of that rescheduling includedMERALCO's making cash payments of about P 0.9 billion and issuing a six-year 17? note for the remainder. The reschedulingagreement carries penalties to dissuade MERALCO from failing to meet current obligations. MERALCO is current with its other obligationsand has been meeting its current obligationsto NPC on time since executionof tte reschedulingagreement.

I. Audit

4.16 HERALCO has its annual financial statementsaudited for inclusionin its Annual Report and presentationto its Annual Meeting. The audit is normally performedby a well reputed independentaccounting firm, not necessarilythe same one every year. The 1987 statementswere audited by Sycip, Gorres, Velayo and Company, an accountingfirm enjoying a strong professionalreputation region-wide. The audit included a review of accounting policies and practices, as well as transactions. At negotiations,MERALCO agreed that, by June 30 of each year, it will furnish to the Bank audited financialstatements for the previous year, together with the certification and related report prepared by an acceptableauditor.

4.17 MERALCO has an internal audit department. This unit has broad responsibilities;yet, its primary activities involve reviewingblocks of transactions. On a special assignmentbasis, it will review policies and practices,systems and procedures,and the operationsof specifiedorganiza- tional offices or units. Inputs to the computerizedaccounting system are verified by the internal audit departmentand reviewed by the external auditor.

J. Taxes

4.18 Since February 1987, MERALCO has become liable for income tax, assessed at 352 of net income. In addition, the company must pay a franchise tax, assessableat 22 of gross revenues,and real estate taxes. Customs duties in the range of about 15-302 are assessableon all imports.

K. Insurance

4.19 MERALCO insures its assets through a combinationof self-insurance and commerciallypurchased policies. Risk managementstudies are performed regularlyby divisions responsiblefor the assets being insured. At appraisal,these practiceswere reviewed and found satisfactory. - 30 -

L. Dividends

4.20 In the 1980s, the Company suspendedpayment of dividends, first on common stock and later on preferred stock. During 1987, the Company met its arrears for preferred stock dividends and has been meeting these obligations in timely fashion thereafter. Different issues of preferred stock carry different dividend rates, ranging between 10% and 182. To enhance the marketabilityof its shares, MERALCO would like to resume paying dividendson common stock; and it expects to resume these payments after the conclusionof 1989 if that year is as successfulfinancially as 1987 and 1988 have been. Under the indenture that it uses to collateralizeborrowings, dividends on common stock cannot exceed the previous year's earnings.

V. FINANCIALANALYSIS OF MERALCO

A. Introduction

5.1 MERALCO maintains its own accounts and manages its own financial affairs. As such, it has authority to set prices, formulateits investment program, enter into contractwith suppliersof goods and services,and borrow from foreign, as well as domestic, lenders. However, its financialautonomy is limited. As a utility, its pricing policy is subject to ERB's approval. Because of its difficult financialsituation, MERALCO has recently been relying on Government guaranteesto raise foreign loans from official and commercial sources; this dependence gives the Governmentconsiderable influence over MERALCO's investmentdecisions. Finally, the reschedulingof its arrears to NPC has resulted in more constraintson MERALCO's financial freedom.

B. Past and Present Financial Performance

5.2 MERALCO's financialperformance for 1984-87 is presented in Annex 5.01 and summarized in Table 5.1. - 31 -

Table 5.1: MERALCO'S KEY FINANCIAL INDICATORS- 1984-88

Financial Year Ended December 31 1984 1985 1986 1987 1988 ------(Actual)------(Proj)

Energy Sales (GWh) 8,428 7,880 7,938 8,967 10,313 Average Revenue (Ctvs./kWh) 131 180 169 166 160 Capital Expen. (P Million) 562 420 636 702 747 operating Revenue (P Million) 11,029 14,165 13,455 14,843 16,459 Operating Income (P Million) 351 814 950 1,180 985 Net Income (P Million) (231) (70) 244 500 694 Rate Base (P Million) 7,377 9,230 10,504 11,420 12,209

Rate of Return - Revalued Assets 4.762 8.82% 9.041 10.332 9.83? Debt Service Coverage 0.06 4.06 11.82 0.98 2.31 Self-FinancingRatio -1982 832 2812 -99? 1572 Debt/Debt Plus Equity: Including RevaluationReserve 42Z 242 37% 40? 30? Excluding RevaluationReserve 632 542 66? 622 46? Operating Ratio 972 94? 932 90? 922 Current Ratio 52? 47? 63? 77? 96? Accounts Receivable- Months 2.19 2.07 2.08 1.87 1.64 Accounts Payable - Months 1.00 1.52 2.59 0.92 0.80

5.3 Although the key indicatorsmight suggest that the Company was a strong performer throughout the period, a more detailed analysis indicates that MERALCO experienceda dramatic turn around toward financialviability in 1987 that continued even more vigorously in 1988, after some years of weak financialperformance characterized by severe liquidityconstraints. The rapid accelerationof technical losses during 1983-86 combinedwith declines in the quality of service in those years attests to serious underinvestment before and during that period. The high Self-financingRatio realized during 1985-86 resulted from a combinationof (i) a constrainedinvestment program; (ii) a roll-overof short term loans and currentmaturities of long-termdebt, instead of meeting those obligationswhen scheduled!and (iii) stretchingof accounts payable to NPC. During 1987 and 1988, the Company began planning and implementingan investment programwhile also (i) restructuringits arrears to NPC; (ii) making timely payments to NPC for its current electricity purchases; and (iii) meeting its amortizationobligations on time. Thus, the low Self-Financingand Debt Service Coverage Ratios recorded in 1987 are actually indicatorsof improvingfinancial viability, given the need to channel internal cash generation into the front end payments associatedwith a return to financial discipline. In fact, the high ratios expected to be recorded for 1988 indicate remarkableperformance in view of the acceleration of amortizationpayments due in that year. Given that long term debt instrumentsbearing maturities of appropriatelength for electric utilities are not readily available,MERALCO's Debt/Paid in Equity (Equitynet of RevaluationReserves) should be in the range of 402-50?. The improvingtrend in MERALCO's financial performanceis confirmedby the drop in that important ratio from 66? to 46? during 1986-88, indicatingthat the Company has realized impressive increasesin retained earnings during these two years. - 32 -

5.4 MERALCO's financialdifficulties began in the mid-1970s, when the Foundation purchased some sizableblocks of stock from other shareholders (para. 4.2) and financed these purchaseswith borrowings,the repaymentof which was to be met from dividends. While these transactionsdid not infuse any new equity capital into the Company, they did result in increasingthe pressures on the Company to pay dividends. At the same time, margins declined because growth in demand was lower than expected; thus, dividendswere paid, on occasion in lieu of making necessary investments. This began a pattern of undercapitalizationthat preventedMERALCO's system from expanding in parallel with demand growth and caused the quality of its service to decline.

5.5 In 1983-84, the Governmentpressed MERALCO into absorbing the businesses of several failing cooperativesalong the fringes of its franchise area. As a result, W'RALC0 needed to raise substantialinvestment finance just when it was unable to raise loans with appropriatelonger maturities, either on its own credit or with Government guarantees,or raise sufficient amounts of equity capital in depresseddomestic capitalmarkets. To solve this problem, the Company chose to borrow extensivelyfor short and medium terms from local and foreign commercialbanks.

5.6 In the meantime,MERALCO's quality of service continued to decline. Technical losses rose sharply (para. 4.10), and outages remainedhigh. At the same time, collectionsslowed. In effect, the businesswas increasingly inefficientat producingcash. Although a return to financialdiscipline should have begun with the reschedulingof the Company'soutstanding loans, neither the former Governmentnor MERALCO's top managementwere prepared to support the initiativesneeded to bring pilferage and consumer delinquency under control. As a result, faced with heavy cash requirementsand restricted in its access to short term borrowings,the Company generatedcash by delaying its payments to NPC for power purchases. By the end of 1986, MERALCO was obligated for a restructuredloan of US$148 million owed to a group of banks headed by the Bank of Montreal,with the first of 17 unequal quarterly payments due in December 1987. At the same time, arrears to NPC reached about P 1.7 billion, or two months billings over and above current charges.

5.7 In 1987, after changes in both the Governmentand MERALCO's top management,the Company faced the inevitableneed for financialdiscipline. Programs were developed and implementedto address the problems of increasing non-technicallosses and accounts receivable;by the end of 1987, those two problems had stabilized. In 1988, substantialimprovement was re.orded in both of these areas. Amortizationpayments were met, reducing the balance outstandingon the restructuredloan to US$141 million at the end of 1987 and US$112 million at the end of 1988. MERALCO rescheduledits arrears to NPC, making various front end payments aggregatingP 915 million by September 30, 1987, and issuing six year first-mortgagebonds for the .emainingP 800 million. As importantly,the Company has since then been paying its current bills for power purchaseson time.

5.8 Recognizingthe special importanceof MERALCO's service, the Govern- ment has evolved a policy of enabling MERALCO to reverse the harm of under- investmentby providing it with ausrantees for borrowings from official lenders; however, the Governmentwants the Company to continue its positive - 33 -

actions towards financialdiscipline. The Bank supports this approach. MERALCO expects to continue strengtheningits commercialand operational practices. In August 1987, the Company began to implementan action program, acceptableto the Governmentand to the Bank, tot (a) reduce losses: (b) maintain accounts receivablesat existing or improved levels; and (c) remain current in meeting its accounts and debt service payable. That action program is given in Annex 5.02. At negotiations,MERALCO agreed to continue implementingthat actiGn program throughoutthe per'!odof project implementation. MERALCO will also be expected to increase its capital by selling substantialnew equity, and thereby develop for itself the capacity to borrow as much as it would need for financingsatisfactory levels of investment. To support this objective,MERALCO has furnishedto the Bank an action program for increasingits proportionof permanent capital (throughthe sale of new common and preferred stock) during the period 1989-93 (Annex 5.01 and Table 5.2).

C. Tariff

5.9 MERALCO's tariff includes: (a) two lifeline blocks to enable domestic and small commercial consumersto purchase initial amounts of energy at subsidizedrates; (b) a generationcharge, related to its cost of purchasingpower from NPC; (c) an adjustment to the generationcharge to allow MERALCO to recover from the consumer the cost of purchasingfrom NPC incrementsof energy that were subsidizedor lost; (d) a distributioncharge, related to its own system operationand administrativecosts: and (e) an exchange rate adjustment. MERALCO's charter allows the company to set rates at levels that cover operating costs (includingdepreciation) and provide a maximum rate of return of 122 on revaluednet fixed assets. HERALCO's average revenue of about US¢ 7.8 per kWh is currentlyhigher than most other utilities in the region; however, this level of revenues includes generous blocks being supplied to residentialand small commercial consumersat highly subsidized rates. As a result, poorer consumers receive considerableamounts of electricityat affordablerates. In the meantime, industrial and large commercial consumers,who are cross-subsidizingthe brunt of the lifeline blocks, are paying very high rates by regional standards. The Governmenthas asked MERALCO to reduce to levels consistentwith what has been evaluatedas the minimum requirementthe amount of power being sub idized; in turn, any savings resultingfrom those reductionswould be passe] on to the higher paying consumers. The resultant level of rates was reviewed at appraisaland found appropriate.

5.10 To implementthe new Governmentpolicy of marginal cost pricing (para. 1.23), MERALCO will be adjusting its rate structureafter NPC has promulgatedits own adjustments. The new tariff will likely have three predominantfeatures aimed at ensuring that more consumerspay for electricity at rates that reflect long run marginal cost: (a) the subsidizedportion of MERALCO's rates will be reduced substantiallyover several years; (b) the rate structurewill continue to be based on NPC's, with an added distribution component designed to meet MERALCO's financialcosts and provide an adequate rate of return; and (c) MERALCO will only be able to recover from the consumer losses based on an efficiency indicator (currentlyexpected to be 152). Because the new formulawill provide MERALCO with the incentive it currently - 34 -

lacks to operate efficiently,the expected adjustmentsare viewed as an improvementover the current tariff.

5.11 MERALCO normally resets the adjustmentsevery month automaticallyin accordancewith parameters published in its tariff; however, it must obtain ERB's approval for changes in either the basic rate or the formulas for adjustments. Whenever MERALCO asks for a tariff increase,ERB conducts its own professionalreview of the proposal and then holds public hearings at which MERALCO's right to a rate of return as high as 122 is balanced against the public interest and Governmentpolicy. In this case, the regulatory process appears to function appropriately. At negotiations,the Government gave an undertakingthat, in future regulatoryreviews of tariff proposals, MERALCO's financial requirementswill continue being cons dered.

D. Revaluationof Assets

5.12 MERALCO revalues its assets yearly followingan acceptable .aethodology.Prior to 1988, the revaluationwas made in memorandum form and only taken into the books of accounts in conjunctionwith requests for tariff increases;however, beginningwith 1988, the revaluationwill be taken into the books annually. Either practice is approptiateand acceptable;still, MERALCO'snew methodologyof booking the revaluationannually is preferable. - 35 -

E. FinancingPlan

5.13 MERALCO's financingplan for 1989-93, the period of expected expenditureon the proposed project, is presented in Table 5.2.

Table 5.2: MERALCO'S FINANCINGPLAN - 1989-93

P Million $ Million Percent

Sources of Funds 20,752 988 100

Operations (Net of W.C. Reqs.) 14,262 679 69 PreferredStock Issues - Net (80) (4) - Common Stock Issues 850 40 4 Long Term Borrowings: = Bond Issues 1,550 74 7 World Bank 1,380 66 7 _ KfW 760 36 4 - IFC 672 32 3 = OECF 1,172 56 5 Other Borrowings 186 9 1

Applicationsof Funds 20,752 988 100

ConstructionExpenditurest - World Bank Project 2,056 98 10 - Other Works 7,555 360 36 Debt Service 8,415 400 41 Repayment of Notes Payable 730 35 4 Dividends 1,996 95 9

The proposed project represents222 of MERALCO's investmentprogram for the period. The proposed Loan accounts for about 72 of its financingrequirement for the period. During 1988, IFC approved a loan to MERALCO of US$32 million equivalent (P 672 million equivalent). MERALCO expects that this loan will be disbursed fully during 1989-91. In addition, IFC has indicatedthat it might be interestedin taking a lead role in placing with other investorsfuture MERALCO issues of common stock or equivalentpermanent equity instruments.

5.14 During this period, MERALCO expects internal cash generationto meet about 69? of its aggregate financing requirement. Most of this internally generated cash will be used to meet debt service requirements;as a result MERALCO is expectingto self-financeonly about 32Z of its investmentprogram. The Company expects to meet more than 90? of its foreign exchange requirements for capital expendituresvith loans, the bulk of which it expects to raise by - 36 -

borrowing from the Bank, KfW, IFC and OECF (providing7Z, 42, 32 and 52 respectively,of MERALCO's financing requirementfor the period). MERALCO is expecting to meet 42 of its total financingrequirement with equity, including about P 850 million from new sales of common stock (or the equivalent)while retiring about P 80 million of redeemablepreferred stock. The remaining 72 of its financingneeds would be raised from bonds or other local instruments. To use the tariff's currency exchange rate adjustmentto best advantage, HERALCO is planning to expense interest during construction.

F. Future FinancialPerformance

5.15 Financialprojections for 1988-95 are presented In Annex 5.01. A summary of key financial indicatorsis given in Table 5.3.

Table S.8: MERALCOS KEY FINAL IICATORS - 1987-95 Financial Year Ended 1988 1989 199 1991 1992 199J 1994 199S December 31 ------(Projections)------

Energy Sales (OWh) 10.313 11.504 12.860 13.310 14.340 15,420 16,530 17.690 Avere Revenue (Ctv./k) 160 163 le 173 160 187 190 193 Capital ixp en. (P Ion) 747 1,835 2.254 2.198 1,954 1,930 1.992 2.341 Operating Revenue (P Hi II Ion) 16.459 18.779 20.542 23,020 2S.812 28,6835 81.407 84.142 Operating Incose (P HiII ion) "5 1.100 1.,22 1,S8W 2,020 2.642 2.824 2.997 Not In o.*/(1.a) (P Hl li on) 694 712 993 1,520 1,780 2,528 2,776 3.014 Rate b s (P IIlion) 12,209 14.186 16.731 19.434 22 112 24 ,744 27,895 80 155 Tote at (P Milliln) 14,643 l6,632 19.339 21.670 24.1t8 27.460 3.480 860026 Retained Earning. (P Nil lIon) 2,426 3,248 4,853 6,070 8 145 11.102 14.463 18,202

Financial Ratio.: Current ratio 0.96 1.1s 0.96 1.21 1.42 2.09 2.69 8.20 Debt/rotal Cspiual W/ Reval. Surplus 301 26S 2S3 22m 193 174 14t 12S W/o Raval. Surplus 4611 Se9n 341 82 271 24S 19i 1511 quick ratio 0.87 1.01 0.85 1.06 1.24 1.85 2.48 2.94 Nat profit argin 4S 4t 5i 7S 71 91 9S 91 Interest coverage 1.58 1.60 2.05 2.82 8.90 7 62 11.40 17 65 Return en rate bass 9.683 7.786 9.483 10.8311 10.013 11.1911 10.65t 10.163i Debt service eoverage ratio 2.81 1.82 1.87 1.85 2.72 3.47 6.46 8.46 Self-financln? ratio 157i II O3 323 67S 1313i *70 1663 Operating rat o 92S 92S 921 891S 871 853 q5 651 Accounts r eeivable - month- 1.64 1.55 1.54 1.48 1.43 1.86 1.85 1.82 Accounts payable - months 0.80 0.71 0.74 0.72 0.69 0.68 0.66 0.65

These projectionsare based on t;.cfollowings

(a) The Company has not yet succeeded,despite substantialeffort, in refinancingits outstandingforeign loans; therefore,the projections presume that those loans will not be refinanced;

(b) MERALCO generallyapplies to ERB for increases in its distribution charges once every two to three years. Therefore,to ensure that the Company'scharges are adequate to meet its financialperformance targets in years when it does not apply for increases,the increases themselvesare projected to be large enough to yield financial performancethat exceeds the agreed targets in the years when they are granted; and - 37 -

(c) Under the IndentureTrust that MERALCO uses as security for its borrowings (para. 3.30), the Company is required to meet financial performancetargets different from those that will sought in conjunctionwith the proposed loan. Those different targets include interest coverage, divided limitationand various operatingand liquidityratios. Through 1993, the projectionsin general as well as the increases in the distributioncharge are designed to meet the targets contained in the indenture trust as well as those to which agreementwas reached at negotiations(para. 5.17 and 5.18).

5.16 These results indicate that MERALCO is facing several years of adjustment on its road to financialrecovery. During 1989-91, it expects to face tight cash flow while (i) completingthe projects needed to restore its system; (ii) taking the steps needed to improve its operationaland financial efficiency;and (iii) repaying its outstandingrestructured loans to both the Bank of Montreal syndicateand NPC. The cash flow stringencyis expected to be especiallysevere in 1989-90. In those years, MERALCO's self-financing ratio is expected to be zero and its debt service coverage ratio is expected to be slightly above 1.0. MERALCO has already secured most of the external financingneeded and is in advanced stages of developingthe remaining adjustmentsor external finance needed to meet its 1989-90 cash requirements. Assuming the Company performs in 1989-91 as expected, the projectionsfor the post-1991 period indicate a properly capitalized,profitable company with ample scope to finance an appropriateinvestment program.

5.17 During the projectionperiod, MERALCO expects to follow a policy of seeking rate increases aimed at meeting the 122 rate of return allowed under its charter. Based on NPC's rates remainingconsistent with current levels, continuingthis policy implies that MERALCO's distributioncharge per kWh would increase at a compound annual rate of about 62, somewhat less than inflationprojected for the period, to about 502 above current levels. To encourage this policy while acknowledgingthe inevitabilityof delays in matching cost increaseswith tariff increases,at negotiations,MERALCO agreed that it will maintain its annual operatingrevenues at levels sufficientto realize, after meeting operating costs (includingdepreciation) and taxes, an 82 rate of return on revalued net fixed assets in operation. After 1993, this rate of return implies that MERALCO would accumulatelevels of cash that ERB could consider excessive. As a result, an undertakingwas provided that, after January 1, 1993, MERALCO could request that DBP, MERALCO and the Bank conduct a joint review of the continuingappropriateness of the rate of return target, with the prospect that the target itself could be adjusted according to the consensus reached during that review.

5.18 The projectionsalso assume that MERALCO will collect its receivables effectivelyand pay its bills on time. Still, MERALCO is expecting to generate cash sufficientto enable an average self-financingratio of only about 102 during the period 1989-91, and more than 802 thereafter;during 1989-91, debt service coverage is expected to average about 1.3, rising to much more substantiallevels thereafter. To raise new equity capital, the Company will reed to resume the timely payment of dividends;however, the extent of these payments is limitedby MERALCO's IndentureTrust. To encourageefficient cash and debt managementas well as sound dividend policy, - 38 -

at negotiations,MERALCO agreed that it may incur additionaldebt only if a reasonableforecast of its net revenues after expendituresfor each year during the term of the debt to be incurred shall be at least 1.0 times its projected debt service requirementin 1989-91, and 1.3 times its projected debt service requirementthereafter. These targets, which are somewhatbelow MERALCO's expectationsprovide some cushion in the event that (i) tariff increasesare either lower or approved later than expected, or (ii) MERALCO encounterscash flow distortionsas a result of succeedingin its efforts to refinance its existing foreigr.loans.

VI. PROJECT JUSTIFICATION AND RISKS

A. Design Optimization

6.1 Planning for MERALCO's InvestmentProgram has been done in the context of a ten-year time horizon. Expansionof the transmissionand distributionfacilities is based on a methodogicallysound load forecast and the franchisearea's industrialdevelopment program. The upgrade and rehabilitationcomponents aim at reducing transmissionand distributionlosses while enhancing system reliability. The performanceindices used to establish the need for these projects are: (a) line loading should be less than 752 on an interconnectedsystem, or less than 85Z on an isolated system; (b) the allowable voltage drop should be less than 1O on industrialand commercial circuits; (c) the interruptionfrequency rate should be less than 30 times per circuit per year, with less than 30 hours total cumulativeinterruption time per year; (d) circuit kilometerexposure should be less than 50 km on all circuits; (e) there should be no unserved demand during the outage of a power transformeron priority industrialand commercialcircuits; and (f) technical losses should be less than 82 throughoutthe distributionsystem.

6.2 Capacity optimizationsimulations for Metro Manila's complex transmissionand distributionnetworks were run on a Feeder Routing OptimizationProgram, using several alternatives. A load forecastingprogram was then used to simulate the ten-year period. This iterativemethod was repeated until the optimum combinationwas reached,which ensured the least- cost alternativefor the Metro Manila system expansion.

6.3 Voltage drop calculationsfor the high load density areas of Manila were made utilizingCAPCAD software,while the approximatemethod of voltage calculationfor the low density areas was programmedusing more elementary software. Where the voltage drop was found to exceed the limit, new substationsor feeder facilitieswere added. However, where the voltage drop exceeded the permissible limit even while system capacity remained adequate for the load, the less costly solution of installingcapacitors and voltage regulatorswas chosen.

6.4 The method used to analyze the flexibilityof the system was to simulate individualline and power transformerbank outages in the system and then compute the unserved demand arising from the outages of that component. Since there should be no unserved demand on priority industrialand commercial - 39 -

circuits due to the outage of a power transformer,distribution feeders have been appropriatelysectionalized to allow maximum load transfer during faults in one section without excessive overloadingof the sections remaining in service.

6.5 MERALCO's technical loss target for 1992 is 82. The strategyof raising distributionvoltages and locating substationsnear the load centers is designed to achieve a substantialreduction in the level of technical losses as these projects get implemented. Quantifyingtechnical losses for the Metro Manila area was done utilizing the CAPCAD program,while calculationsfor the low load density areas were done using a simple formula programmed on PCs. The loss reductionwas calculatedby comparingthe technical losses with and without the project. The resultingdifference between the two scenariosyielded the technicalloss reductionbenefit derived for the proposed project.

6.6 Apart from the transmissionand distributioninvestment, the project has other components,including improvement of system operationmonitoring and control and provisionof maintenancefacilities, which are needed for improvingMERALCO's operationaland institutionalefficiencies. Thus, the proposed project constitutesan integratedapproach to strengtheningthe transmissionand distributionfacilities; rehabilitating and upgradingsome of the old facilities;and improvingthe technical, commercialand financial performanceof MERALCO's transmissionand distributionsystem.

B. Economic Rate of Return

6.7 The proposed project consists of a number of componentswhich form an integral part of MERALCO's total investmentprogram, covering its entire franchise area. Most major transmissionand distributioninvestments in the MERALCO area are interrelated,and yield joint benefits of loss reductionand incrementalsupply to consumers. For this reason, the MERALCO investment program for 1989-93 is evaluated as a whole, rather than attemptingto isolate individual componentsartificially.

6.8 Investmentcosts during the 5-year time slice of MERALCO's program are valued in border prices or their equivalents,applying a standard conversion factor and shadow wage rates as appropriate. Operating and maintenance costs are based on MERALCO's records and amount to about 2Z of new asset value. The cost of power supply to the MERALCO system is the long-run marginal cost of NPC supply in the Luzon grid, adjusted for the demand pattern in the MERALCO franchisearea. Recent preliminaryNPC estimates indicate a LRMC of about P 0.97/kWh at high-voltagesupply points to MERALCO. System losses, including technicaland non-technicallosses, are assumed to decline gradually to 142 in 1993.

6.9 Tariff revenues,projected to reflect the restructuringby mid-1989, are used as proxy for the benefits accruing to consumers from incremental electricityconsumption. In MERALCO's urban setting,with a long-established supply system in place, and a stock of consumerswell conditionedto the availabilityof reliable electricitysupply, this approach is adequate to establish a close approximationof consumers'valuation of supply. However, - 40 -

an element of consumers' surplus exists which would increase the benefit per kWh sold. The strong demand growth makes advisablelimiting benefits to incrementalsales, as any loss reduction savings yielded by specific investmentsare absorbed by the net growth.

6.10 The internal rate of return (IRR) of the 1989-93 investmentprogram, yielding incrementalsales benefits with a one-year time lag, is about 322; this reflects the high economic priority of transmissionand distribution system strengtheAng under circumstancesof strong demand pressure. The IRR is very sensitiveto changes in the LRMC of power supply and in the value of sales, but not to variations in the investmentcost. Because the level of its charges are already so close to LRMC, NPC's supply price is not likely to change by more than 10? in real terms; however, the final bulk supply LRMC rate structureis still quite uncertain. On the benefits side, although energy demand was severely affected by the decline in GDP recorded during 1984-86, current economic projectionsindicate healthy GDP growth in the medium term, and the risk of sustaineddemand growth reduction is very small. Any reductionin demand growth for the period would not likely be so severe as to depress benefits by more than 10Z. An increase in the LRMC by 10? reduces the IRR to 22?, a similar decreaasein sales would bring a reductionto 18X. If both deviations occurred simultaneouslyand were sustainedfor a long period, the IRR would fall to 5?, well below the opportunitycost of capital (Annex 6.01). However, such a scenario is very unlikely.

C. Benefits and Risks

6.11 The benefits of the project, as an integral componentof the optimizedMERALCO investmentprogram, are primarily (i) the enhancementof the reliabilityof supply to existing consumers; (ii) the decrease of system losses to achieve greater efficiency in transmissionand distribution;and (iii) the provisionof additionaldistribution capacity to satisfy strongly growing demand. While the reliabilityincrease affects consumers'quality of supply and diminisheseconomic losses from outages or voltage fluctuations, the loss reductionand capacity additionsenable increasesin electricity sales at least cost.

6.12 The project faces no substantialphysical risk in implementation. Acquisition of land and rights-of-wayfor substationsand transmissionlines is not expected to cause any serious problems, as most of the transmission lines are either second circuits of existing systems or new lines supplementingexisting distributionnetworks. However, as a result of its liquidity constraints,MERALCO could have difficulty realizingcounterpart funds and, thereby, keeping to the project implementationschedule. The restructuringthat MERALCO has agreed to implement (and is assumed in the financial convenants)is a major step toward minimizing these risks. - 41 -

VII. AGREEMENTS AND RECOMMENDATION

7.1 Agreements regardingthe following items were reached during negotiationst

(a) By December 1 of each year, MERALCO would (i) conduct jointly with the Bank and DBP a review of its investmentprogram for the next five years ane2its investmentaccomplishments for the previous two years, and (ii) adopt the mutually acceptablerecommendations from those reviews (para. 1.11).

(b) DBP will furnish to the Bank, by June 30 of each year, its annual financial statements,certified by an auditor acceptable to the Bank (para. 3.26).

(c) MERALCO will furnish to the Bank, by June 30 of each year, audited financial statementsfor the previous year, together with the certificationand related report prepared by an acceptable auditor (para. 4.16).

(d) MERALCO will continue implementingan action program, acceptableto the Government and to the Bank, to (a) reduce losses; (b) maintain accounts receivableat existing or improved levels; and (c) remain current in meeting its obligationsto suppliersand lenders (para. 5.8).

(e) MERALCO will maintain its annual operating revenues at levels sufficientto realize, after meeting operatingcosts (including depreciation)and taxes, a 8X rate of return on revaluednet fixed assets in operation (para. 5.17).

(f) MERALCO would incur additionaldebt only if a reasonableforecast of its net revenues after expendituresfor each year during the term of the debt to be incurred shall be at least 1.0 times its projected debt service requirementin 1989-91, and 1.3 times its projecteddebt service requirementthereafter (para. 5.18).

7.2 The followingundertakings were included as sections in the minutes of negotiations:

(a) The Governmentwarranted that, in future regulatoryreviews of tariff proposals,MERALCO's financial requirementswill continue being considered (para. 5.11);

(b) After January 1, 1993, MERALCO could request that DBP, MERALCO, and the Bank conduct a joint review of the continuingappropriateness of the rate of return target (para. 7.1 (e)), with the prospect that the target itself could be adjusted according to the consensus reached during that review (para. 5.17). - 42 -

7.3 The executionof a SubsidiaryLoan Agreement between DBP and MERALCO that shall have been reviewed and found satisfactoryby the Bank, is a condition of effectivenessof the proposed loan (para. 2.12).

7.4 On the basis of the aforementionedagreements, the project constitutesa suitable basis for a Bank loan of US$65.5 million equivalent to be lent to DBP. This loan would have a term of 20 years, includingfive years of grace on repaymentof principal, and carry the standard variable interest rate. - 43 - ANNEX1.01

PHILIPPINES

MANILA POWER DISTRIBUTION PROJECT

Load Forecast for the Luzon Grid

Sales level Generation level Assumptions Energy Energy Demand factor Losses /a (GWh) (GWh) (HW) (2) (7)

Actual 1980 12,164 13,115 2,074 72.2 7.25 1981 12,687 13,666 2,225 70.1 7.16 1982 13,121 14,398 2,364 69.5 8.87

1983 13,908 15,294 2,478 70.5 9.06 1984 13,245 14.655 2,374 70.5 9.62 1985 13,135 14,449 2,311 71.4 9.09 1986 13,461 14,756 2,435 69.2 8.78 1987 14,967 16,281 2,592 71.7 8.07

Z growth rate (1983-87) 2.67 2.49 1.86 - -

Forecast 1988 16,015 17,580 2,799 71.7 8.90 1989 17,136 18,810 3,023 71.0 8.90 1990 18.336 20,127 '3,265 70.4 8.90

2 growth rate (1988-90) 7.00 7.32 8.00 - -

1991 19,711 21,637 3,510 70.4 8.90 1992 21,189 23,259 3,773 70.4 8.90 1993 22,778 25,003 4,056 70.4 8.90 1994 24,486 26,878 4,360 70.4 8.90 1995 26,322 28,894 4,687 70.4 8.90

Z growth rate (1991-95) 7.50 7.50 7.50 - -

1996 28,296 31,060 5,039 70.4 8.90 1997 30,418 33,390 5,417 70.4 8.90 1998 32,699 35,894 5,823 70.4 8.90 1999 35.151 38.585 6,260 70.4 8.90 2000 37,787 41,479 8,730 70.4 8.90 2001 40,621 44.589 7.235 70.4 8.90 2002 43,668 47,934 7,778 70.4 8.90

2 growth rate (1996-2002) 7.50 7.50 7.50 - - (1988-2002) 7.38 7.46 7.62 -

00-^04" ,iq 4raqnmisqjon lnss and pumping loss. Lod Fo...ca. for Uh. ihi_ ,ac,- *0-7

tt s*1a4 Pe" LOW gr, inpt 1oad fantwo I_ M.t.. of '-'s '°"°' m.a I1 Tal s (WS) s (I) C Ra.l I Cam'l 9 Zad' I Others S t.i s a'S U Coa'I £ la1I S OWNar" S

2.7t 2.0 as 6.967 11.367 1.9, 67.6 20.a 1967 1.529 I9 4 a 1.696 3,046

15.9 1.6 1122 10.6 s. 4.2 (1.0 Crowth rote (a) 5.5 7.0 6.6 31.S 5.7 7.9 10.5

14.1 3.305 15.6 87 4.6 10.072 12.3 12,266 7.2 2.094 6.9 66.4 17.0 so9" 1.611 5.4 166 4.0 4 6.5 a 7.6 1.765 S 3 3.282 7.8 3.39 12.3 3.72 13.6 9 4. 11,202 11.2 13,001 6 7 2.249 7.4 e.o 0 s1. 1969 1,692 5.0 171 3.0 4 4.7 4 5.0 1.671 4.6 3.53S 7.7 3.616 9.7 4.162 10.6 96 5.1 12,233 9.2 13.954 7.3 2.420 6.0 65.6 L2.0 199o 1.773 4.S 176 3.3 B 4.2 4 5.2 L.O6W 4.7 3,769 7.2 4. 17 9.6 4.602 10.6 0oo 4.8 1.369 9.3 14.909 6.6 2.6 7.3 65.3 10.0 1991 1.6" 4.6 l1s 5.6 5 4.4 4 5.3 2.046 4.5 4.076 7.6 4.591 4.978 6.4 5,027 9.2 104 4.7 14.466 8 4 15.975 7.2 2.M 6.3 5.6 9.0 1992 1.936 4.5 190 5.9 5 4.6 4 5.4 2,137 4 4 4,376 7.4

Growth rate (3) 11.9 4.8 10.1 7.0 7.6 (0-S) (15.4 199211967 4.9 3.6 4.9 5.r .5.7 7.6 10.6

6.5 5,497 9.4 109 4 5 15,704 8.4 17.316 8 4 2.99s 6.1 ".0 90 1993 2,019 4.2 196 3.4 5 4.0 4 4.5 2.226 4.1 4.697 7.8 5.401 a8.3 s .077 .6 114 4.3 11.970 8.1 16,712 6.0 3.207 7.1 6U. 9.0 1994 2 100 4.0 202 3.0 5 3.5 a 3.6 2.312 3.9 5,02t 7.0 5.64 S.2 6.476 6.8 1I1 4.1 18.293 7.6 20.169 7 a 3.442 7.3 6.9 9.0 1995 2.1S0 3.6 207 2.6 6 3.0 5 3.3 2.96 3.7 6.370 6.6 6CM6 6.0 6.992 7.9 123 4.0 19.671 7.6 21.666 7.5 3.s4 7.0 67.2 9.0 1996 2.268 3.6 212 2.3 6 2.6 5 2.9 2.461 3.5 5.721 6.5 6.*,6 7.6 7.50D 7.5 1tt 3.6 21.06l 7.2 2s.242 7.2 3,931 6.7 57.5 9.0 1997 2.335 3.4 216 1.9 6 2.2 5 2.6 2.662 3.8 6.076 6.2 7?.57

Greowt rat. (U) 6.1 6.4 4.1 7.8 7.6 7.2 0.5 0.0 1997/I1M9 3.a 2.6 3.1 3.4 S.7 6.6 9.5 10.2 4.5 6.9 7.4 7.4 0.0 (.0o 1997/1967 4.3 3.1 4.0 4.6 4.2 7.2

-~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ ANNE 2 01 -45 - Pos 1 of 2

PPILIPPINE

iMXILA POWV DISTRIWTION P hSA

Detai led Description of the Proiect

Eat. qnual *oduction ; n l ol- NXMw Content Objectivo 1fh PO0O0

.Subtranaalaa;on Linac and Subatationa

A. NV Transgassion Lines. tlS kV

1. Construction of the Construct 3.2 km eingl-eircuit Relieve lln overloading. iUpr,vo 246 251 Salint-aekleg of line on steel poles (SC-SP) to reliabillty, reduce losses. Marikine-Novalichee- replace present 1-500 "CM ACSR Salintemak line conductor by 1-795iKCF ACSR conductor

2. Construction of NOC- Construct 7 km, single circuit on Rainforce exieting lin- to pro- 5,026 5,127 Parang line, end steel poles (SC-SP) with 1-795 vide aIternative feed and improve expansion of HOC *ubat- HOI ACSR, *nd awitching bays at reliability. tion, Pereng substation the tereinal aubstations.

3. Rebuilding of Arsn-ta- Replace 1.6 km of 2-336.4 MMCF Relieve line overloading. 936 955 St. mea" line ACSR by 2-105 HCM ACSR por phase. strengthen 5uoport for the lines, Revpie* woodpol-e (VP) with reduce lose". steel poles (SP).

4. Construction of xardner- Construct 15 kh of SC-SP with Reinforce existingline to pro- 6.649 6.06f KCRPt lfine,nd 2-795 MMCFACVj per phe, and vide additional power outlet from expan-ion of arJdnerand awitching boys at the terminal Sucat and Celeac Unit 2 (when W-CRRPIeubstations substations. completed), improve reliability, reduce oases.

5. Rebuilding of C rdner- Replace 11.9 km of SC-VP with Relieve line overloading, 640 658 Psaplona line. 1-795 M1C ACSR on SP. strengthen support for the lines, reduce losses.

6. Construction of ginan- Construct 5.1 km of SC-SP. 1-795 Reinforce xiating line, relieve I,m 1,860 Salibego line, and MOr ACSRper phase. and smitching overloading, reduce Iosaas. expansion of Sinan and bays at the terainal substations. Ssl ibago ubstations

S. Subgtation Proiecta (15)

W-CCRRPI,C lalun, Taysbas, Conatruct substationo with Meet power upply requireanta in 65,000 66,500 Ou;guinto, Parang, Araneta, transformere, switching bysy, the ares, relieve ovorloading. Ortega-. Salintwak switchgeors, *asociated cables provide alternate sources of Switchboard espansion, San and controls, connecting lines power, ;mprove reliability, and Miguel, Los Ssnos, Sante includingreconductoring; increase operational flexibility; Crux. Ayals-Albang, Lgapui installing capacitorswhere reduce distribution locaes. VMilage/SR-Peranequo. and necesa ry, and wmtering Kayb;ig. facilitias. - 46 - P3g 2 of 2

at. *annual reductlon

Re" Content Objective tWb Plow

IL U-erodingof Otributlon

Priority projects for strengthen- Provide cegacity for load growth, 6,399 0.719 Ina the dit.sibution system in improve system reliability, year. 1990-93tncludting reduce losses.

- converslon to higher ,lttage; - reconductoring of lines; - new powereourcew; - power fector improvewt: - reconfiguration of feeders end eectionuliaing; end - rehabilitationof lines. - iprovent of metering faciIities.

III. R1dio.4t*lti;rea Eseilitiea Rebabtiltetlon and expansion of Iprove mystes operstion and exietingcoaunication control. facilitie7,Including: - S3 sets radio-multiplex equipment; - voice frequency telegraph System. - aontoring systes for remote subatention-; - ante tao, cables. and acceeor i so.

IV. Maintenancae Euipment and Purchseb of esentiol spares and Revitalize esintenarce I.hjeMla mecbmnizedvehicle comprising: capabilities. - Power transformers; - cepeItors' - owi tchor; - circuit breaker.' - crene - Basket truc.s and Derrick trucke; - Wrecker. 47- ANNEX 2.02 Page 1 of 2

PHILIPPINES

MANILA POWER DISTRIBUTIONPROJECT

Detailed Project Cost (US$ million)

Item Local Foreign Total

I. SubtransmissionLines and Substations

A. High-VoltageTransmission Lines, 115 kV Upgrade Marikina-Novaliches-Balintawakline 0.65 0.54 1.19 Strengthen NGC-Parang line 1.91 1.57 3.48 Rebuild Araneta-SantaMesa line 0.36 0.29 0.65 StrengthenGardner-MCCRRP1 line 3.52 3.68 7.20 Rebuild Gardner-Pamplona 2.77 2.18 4.95 StrengthenBinan-Balibago line 1.18 1.05 2.23

Subtotal 10.39 9.31 19.70

B. SubstationProiects ICCRRP1 subtransmissionand distribution 1.56 1.80 3.36 Calauan 200 MVA, 2301115 kV substation 0.91 1.33 2.24 Tayabas 100 MVA, 230/115 k' substationand distribution 1.40 1.65 3.05 Guiguinto 230/115 kV substaionand distribution 4.86 4.60 9.45 Parang subtransmissionand distribution 2.32 2.14 4.46 Araneta 2501115 kV substation 0.92 2.41 3.33 Ortigas subtransmissionand distribution 2.24 1.95 4.19 Balintawak 230/115 kV substation 1.83 1.32 3.15 San Miguel subtransmissionand distribution 0.37 0.27 0.64 Los Baffossubtransmission and distribution 0.33 0.26 0.59 Santa Cruz subtransmissionand distribution 0.35 0.27 0.62 Ayala-Alabangsubtransmission and distribution 1.03 1.01 2.04 Legaspi Village/ForbesPark subtransmission and distribution 2.70 2.09 4.79 Sucat BF Paranaque subtransmissionand distribution 2.42 2.23 4.65 Kaybiga subtransmissionand distribution 0.67 0.73 1.40

Subtotal 23.91 24.06 47.97

Total Base Cost 34.30 33.37 67.67

Physical contingencies 3.34 3.34 6.77 Price contingencies 2.73 2.88 5.61

Total Subproiect Cost 40.46 39.59 80.05 - 48 - ANNEX 2.02 Page 2 of 2

Item Local Foreign Total

II. Upgrading of Distribution System Expansion of the execondary distribution systems (1990-93 annual plans) 15.12 9.69 24.81

Total Base Cost 15.12 9.69 24.81

Physical contingencies 1.51 0.97 2.48 Price contingencies 1.20 0.83 2.03

Total Subproject Cost 17.83 11.49 29.32

III. Radio System Monitoring and Control Expansionldevelopment of radio-multiplex system 0.93 1.96 2.89

Total Base Cost 0.93 1.96 2.89

Physical contingencies 0.09 0.02 0.29 Price contingencies 0.07 0.17 0.24

Total Subproject Cost 1.09 2.33 3.42

IV. Maintenance Equipment and Vehicles Maintenance spares 0.53 2.13 2.66 Construction and Maintenence vehicles 0.84 2.58 3.42

Total Base Cost 1.37 4.71 6.08

Physical contingencies 0.14 0.47 0.61 Price contingencies 0.11 0.41 0.52

Total Subprolect Cost 1.62 5.59 7.21

V. Total Project Cost Total base costs 51.72 49.73 101.45 Total Physical contingencies 5.17 4.98 10.15 Total Price contingencies 4.11 !.2.9 8.40

Total Project Cost 61.00 59.00 120.00

Interest during construction IDC on Bank loan - 6.50 - IDC on other loans 3.50 - -

Total Financing Requirement 64.50 65.50 130.00 PHIUPPINES MANILAPOWER DISMIDUMON PROJECT 11S IMSubftransmiuonUnes

NOW c 18 1O 1991 192 1993 194 K IDESA _ PROR con t1~~~~~~~~~MA4 I -SIO-D sM AI A 1.0 -M J IOD 10-D TIA41Mllo S 104Dt1A,141 1 SMI AJI i-s 1- SIs- I s BAUNIAWAXLEG OF 11I6/89

NGC-PARANGI.IN Ns I 1.1/92 II 2/92

2. 2.4/92 2.5/92 AsocIad S stos I I* I3II I 4.10/I939410/93 II040 I1 I I I I

1./9141 3. ARANEIA-SANT4AMESALIK a2oil 2.4/91 I- 3.11/91i _ 4.6/92 0 U) s-

GARD)NER-MCCRRPLINE - - - - 6Illt E______| …------2_I/9042 -22 5/90 CI 4. ~~~~~~~~~~~~~~~~~~~~~~~~~~3.12/903 4/911 ~ N 4 12(91 4. 12/91R AssockatedSubE3ation: 5 see IIs Is U (Gardne MOCRRPI) '

1.11/92 0 5. GAACW-PANPLONALREw 2.4/92 UU U * m 3.~~~~~~~~~~~a111/92, tEGE:ENGINEERNS~III , PHS KE- 1./9SDIVWIN° 1.2/90. 71 1 ~~~~~~~~~~~~~~~~~~~4.12/93

8tNANBAUIAGOLINE *3U . * m *1.11/92 1. 2/92 2.4/92 2.5/92 6. 3 11/92 3.4/93 AssoclatedSubstatlons- - - - - I ------4.6/93/93 4.6/93~~~~~~~~~~4.619

LEGEND: - EGINERINGPHASE XEYDATES: I. BIDINVITATION BDDINGCYCLE 2. COTRC AWARD CONTRAClNGPROCESS 3. PIROCUREMVENTCOMPLETION I5l81lIl1 PROCLIREMENTCYCLE 4. IN SERVIC CONSI'McONKX)IVI.3SSIONING PHASE W)IIdBOI*-43944:5 PHIUPPINES MANILAPOWER DISTRIBUTION PROJECT Subdaton Component

l 1 I -i-'-'9 1991 1992 i 1993 199 m

mca_asSon 1.6/89 .i6/89 2.9/89 2.9/89 1. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~3.8/903.4/90 AMOCkOod4 Urms ~~~~~~~~~~~~~~~~~~~4.12/90412/Z90 (115W & 34.5Wk)

CALAU.ANSILUS M I m mmi 1.6/89 1.6/89 2. 9/89 2.9/99

2. |14/90 3.8/90 AssockAt3d UL . ; 4.12/90 4 12/90 (230 W &1 15W

|AYABAS SUBSTATTON mEX 1.6/89 11.6/89 2. 9/89 2.9/89 3. 3.8/90 3.4/90 Unes 4 12/90 4. 12/90 Assockded(230W & 34.5 W)

GUlGUIN1OSUBSSPAl '1.,2/90 1. Z/90

- __l - - - 4. -,4.kV ------2.5/90~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~IS2.8/90 4, &~~~~~~~~~~~~~~~~~~~~~~~~~~~~~4/91 3.12/90 Asuckted LInes 4 112/911 (230W. 145W. 34.5W. 13.8k) r" a4,12/911

PARANGSUBSDkTION W ml III 1111111 0 1~~~~~~~~~~~~1.2/91 1.1i/91i 2.5/91 2.4/911 6. ~~~~~~~~~~~~~~~~~~~~~~~~~~~4/923,11/911 AssockatedLIneI 4.10/92 4 10/92 (415W. 34.5W)

ARANETASUBSTATION mlmlwelolI W129 i.i9 2.5/90 2.4/91 0

6. 34.5 kV)d1.515/92 4.5/92

WOtIdBO*--43944:2 MANILAPCOWER DISTRIWTION PROJECT SubfttlkonComponent

1989 1990 1991 1992 1993 1994 KEYDAWE FrCTCOMO- w -E - - - - JM AJ I J6 10.0 AJ J.i-S JIM AJ .1410.0D. A.J .1 10.0 AJ i- .1400 J.M A-JI .1-sI- S/S W'JE

OmTIGASVJSLJSATIN M 1.6/89 1.6189 _ _ - _ 2.9/89 2 _7/89 (5 V 5 ------_ - _ _ _- _ - _ _ _ _ 3.8/90 1.4/90 7 I 4~~~~~~~~~~~~~~~~t11/90411/90 Associated Lines (115W & 34.5 W)

a LVh13hz l l |t , [ 2.5/9092.5/90 AssociatedLines Ig o,li I I T 34/91 3.12/90 (230 WV& I4SkYI Ai411/91

-SAN MIGUELSUBSTATION -Aa -oe so al -1-2-90 -i - 2 9a 2.5/90 2.5/90 3.4(91 3.12/90 Associated Unes ~ ~~~~~~~~~~~~~~~~~~~~~~~~~~~411/914. I1/91

LOS BANOS SUBSTATION IM W~~~~~~~~Aless Imlll I.5 1.2/90 i. i/91

2-4/91 AsMkFtedLWM owl~~~~~~~oil goaal 4.2/9225/902. 4,2/92

SANTACRUZSU 3N3mil CRUZSUBSUAIlON ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~1.2/911. 1/92 (115 kV & 34.5 WV) _s-tit 2-5/9i 2.4/92 111. 3.4/92 3.11/92 AssociatedLines me333 4-4/93 4.4/93 (69kV & 113.8W)

AYALA-ALABANGSUMMAION I i12/90 1.2/190 2-5/90 2.5/90 12. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~3.4/913 112/90 12. ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~4.8/91468/91 A:soclafedLines US i (115WV & 34.5W)

LEGASFISuBSTATiON A3 1 2/91 11i/91 2 5/91 2 4/91 D 13 ~ 4/92~~~~~~~~~~~~~~~ 3'11/91 ~~~~~~~~~~3>X 4 12/92 4 12/92 AssociatedLirnes p8 gain = m0 (11 I.V& 34.5kV)

W41dSOflk-43944:3 PHIUPPINES MANILAPOWER DISIRIBUtON PROJECT Subsation,Dtdbuton Sytem, RadioMuMplex and Mantenance EquWient and VehklebsComponent

PROIC COKVOWO 199 199 1991 .9 1093 1994 KEFDAES

______~~~~J A 116 W JJ- 0 AJ O" J 4i AJ 06 S/S UNES

BFM4RANAQUESUBSTATION - 11ll 2/91 1 1/92 2.5/91 2 4(92 3 11(92 4. 4.8/93364/92s. 4 8/93 AssIoite unes m (145kV & 34.5 kV)

KAYDIGASUBSOAIION mm 1 2_90 1.1/91 2 5190 2 4/91 3 4/9`1 3.11/91 4.4(92 4.4/92 Assockited Lines M.Bsel Ln (145W St 34.5 kcV)

UPGRADI~NGOF DISTRWI0UIN.... SYSTEM - / i / // Sz'7$/ S// i OngoingPtocess

RADIOMULTIPLEX - 3.5/902.8(89 4.12/90

MAITENANCE EQUIPMENT of AU oiii ss Ongoing Posess SI

I ~~~~~~~ ~~~~~~~~~~~~~~~~~~1.8/89 MANNANCE VEICE I l I12.10/89 I Tl I Ho

WBSwu*-43944: 4 - 53 - ANNEX 2.04 Page 1 of'4

PHILIPPINES MANILAPOWER DISTRIBUTION PROJECT

Major Project ProcurementPackages and Scheduleof Delivery

Procurement Descriptionof Qusntity required Total Mode of Packages Equipment/Msterials per year quantity Procuremant 190O 199 192 1993

(a) Power Transformer ICD 200 MVA, 230 kVY-115 kVY-13.8 kVD 1 1 - - 2 100 MVA, 280 kVY-115 kVY-13.8kVD 1 - - - 1 100 MVA, 116 kVY-84.SkVY-13.0 kVD 2 - 1 - 8 83 MVA, 116 kVY-34.6kVY-18.8 kVD 1 2 4 - 7 20 MVA, 116 kVY-13.8kVD - 1 - - 1 20 MVA, 84.5 kVY-13.8kVD - - 1 - 1 20 WVA, 84.6kVY-6.24 kVY-2.4 kVD - 2 - 1 8 12.6 MVA, 69 kVD-13.8kVY - 2 1 - 8 '2.5MVA, 34.5 kVY-13.8kVD - - - 1 1 12.6 MVA,34.5 kVY-13.8kVD - - - 1 1 12.6 MVA, 84.6 kVY-6.2 kVY-2.4KVD - - 1 - 1 6.26 MVA, 84.6kVY-13.2 kVY - - - 1 1 6.26 UVA, 84.5kVY-4.8 kVD 1 - - 1 2 6.25 UVA, 13.8 kVD-4.8 kVY-O.8kVY 1 - - - 1

(b) Mobile Transformer ICB 50 MVA, 115 kVY-34.6kVY-13.0 kVD - 1 - - 1 20 MVA, 84.6 kVY-6.24kVY-2.4 kVY - - 1 - 1

(c) M tel-CladSwitchgear ICD/LCB 34.6 kV MCSWGR with 6 PCBs - 1 1 - 2 34.6 kV MCSWOR with 6 PCBs - 2 1 - 8 84.5 kV MCSWOR with 8 PCBs 1 - - - 1 84.5 kV MCSWGR with 1 PCB 1 1 8.7 kV MCSWOR with 2 PCBs 1 - 1 - 2 6.24 kV MCSWOR with 6 PCBs - - - 1 1 4.8 kV MCSWOR with 2 PCBs 1 - - 1 2

(d) Oa* InsulatedSwitch ear ICB (wth associae disconnect switches,PTs, CTs, etc.) 116 kV IS with 8 OCs - - 1 - 1 116 kV GIS with 4 GCBs 1 - 1 - 2 116 kV OIS with 8 aCBs - 1 - - 1 116 kV GIS with I GCB 1 - - - 1 U4.5 kV GIS with 8 GCBs 2 - - - 2 (e) Power CircuitBreakor ICa 230 kV, 2,000 A, 8,000 MVA (SF6) 6 8 - - 14 116 kV, 2,000 A, 8,000 MVA (SF6) 6 15 8 6 85 69 kV, 600 A, 1,600MVA (oll/SFO) - 2 1 - 8 34.6 kV, 1,200 A, 1,600 MVA (oll/SF6) 16 4 6 5 80 6.24 kV, 1,200 A, 860 MVA (VCO) - 6 - - 6

(f) DisconnectSwitch (8 each per set) iCe 230 kV, 2,OOOA 10 1S - - 25 ll5 kV, 2,000 A 6 26 13 12 s6 69 kV, 2,000 A - 2 1 - 8 84.5 kV, 1,200 A 18 12 21 8 54 5NNEX2.04 -54 - Feig 2 ofr4

Procurement Descriptionof Quantlty required Total Mode of Package. Equipment/Materlsl- per year Quantity Procurement 1990 1991 19M 1993

(g) Station-TZED CaeacItor Bank ICB U4.S kV, 7.2 MVAR 6 2 7 1 15 18.8 kV, a.eVVAR - 2 1 - 8

(h) TransformerCooling Fen ICB/LIB 1/4 W , 16Oin., zao VAG so Be so - lee

(I) Underground Power Cable (kmn) ice 500 MCM, a5 kV, CU 8.8 8.1 8.8 1.0 16.2 600 MCM, 15 kV, Cu 0.4 1.8 0.7 0.2 8.1 1000 MCM, 16 kV, Cu - - - 0.5 0.6 1000 MCM, 8 kV, Cu 0.4 0.9 - 0.2 1.5 SOO MCM, 8 kV, Cu - - - 1.1 1.1

(j) Wtro (km) ice 795 MN Bnar ACSR 269 112 219 86 676 386.4 MCM Bare ACSR 229 84 68 69 880 8/0 Bare ACSR 182 84 8a 72 274 1/0 Bare ACSR 72 28 66 41 197 716 Bare ACSR 128 82 72 49 281

(k) Storege Battery and Battery Charger ICe 60 Cell, load-acid, 5OO amp-hr. 1 1 - - 2 60 Cell, lead-acid,240 amp-hr. 2 2 4 - 8 60 Cell, lead-acid,160 amp-hr. - 2 1 1 4 b0 amp., 129-140VOC, Battery Charger 1 1 - - 2 26 amp., 129-140VDC, Battery Charger 2 4 6 1 12

(1) Fume Cutout ICB/LCB 34.5 kV 265 246 862 818 1,188 7.8 kV 19 el - - to

(i) Distributlon Transformer ICB 20 kY, 120/240 V, 1W kVA le 17 4 7 48 20 kV, 120/240 V, 15 kVA 89 48 48 87 167 20 kV, 120/240 V, 25 kVA 65 47 47 84 188 20 kV, 120/240V, 87.5 kVA 11 19 81 85 96 20 kV, 120/240V, 50 kVA 29 28 61 44 147 20 kV, 120/240V, 76 kVA 18 16 40 86 11l 20 kV, 120/240V, 100 kVA 26 18 40 89 122 20 kV, 189/277V, 167 kVA 18 18 19 7 62 20 kV, 189/277 V, 260 kVA 9 - - - 9 20 kV, 189/277 V, 888 kVA 1 8 6 4 14 20 kV, 120/240 V, 189/277V, 87.5 kVA 6 10 16 16 60 20 kV, 120/240 V, 189/277 V, 60 kVA 15 11 26 22 78 20 kV, 120/240 V, 189/277V, 76 kVA 9 9 20 17 6C 20 kV, 120/240 V, 189/277V, 100 kVA 18 9 20 19 el 7.6 kV, 120/240 V, 10 kVA 14 - - - 14 7.6 kV, 120/240 V, 16 kVA 2 80 - - 82 7.6 kV, 120/240 V, 26 kVA 8 19 - - 22 7.6 kV, 120/240 V, 87.6 kV - 12 - - 12 - 55 - ANNEX 2.04 pae a o4

Procurement Descriptionof Quantityrequired Total mod. of Packages Equipment/Materials per year quantity Procurement 1990 1091 1992 1998

(n) Potentialand Current Transformer ICB 230 kV PT 6 15 - - 21 230 kV PT, meteringclose 6 a - - 9 116 kV PT 6 6 9 - 21 69 kV PT, meteringclose - 6 8 - 9 34.6 kV PT 2 2 6 - 9 230 kV CT 6 a - - 9 69 kV CT (3each) - 6 8 - 9

(o) Radio Multiplex(lot) 1 - - - 1 IC8

(p) Oil/VacuumCircuit Recloser ICB 31.5 kV, 560 A, 8-phase 6 6 6 6 24 20 kV,6SA, 1-phase 6 6 5 6 20 16.6 kV, 400 A, 8-phase 6 6 5 6 20

(q) Voltage Roaulstor Ice ZO kV, 200A, 400 kVA, I-phase 6 6 9 9 80 1J 8 kV, 200 A, 276 kVA, I-phase 6 6 9 9 8O 6 kV, 200 A, 100 kVA, 1-phaose 6 9 9 sO

(r) RegulstorBypess DisconnectSwitch IC6 38 kV, 400 A O e 9 9 so 16.6 kV, 400 A 12 12 16 18 60

(s) Line Capacitorand Accessories ICe 1,800kVAR, 84.5 kV 6 5 9 9 29 100 kVAR, 7.96 kV 1S 15 18 18 6e 100 kVAR, 4.6 kV 15 15 16 19 66 Voltage Sensor 90 90 120 120 420 86 kV Capacitoroll/switch 6 5 9 9 28 14.4 kV Capacitoroil switch 60 60 76 76 270

(t) Load Break Switch and Line DisconnectSwitch ICB/LCB 84.5 kV, 1,200 A 81 81 86 70 327 13.8 kV, 600 A 6 6 10 10 80 Primary line switch 86 12 6 - 54

(u) Tranemissionand DistributionOn Line Pole ice Steel Pol- 45 feetWbttom 14 - - 14 80 test top 418 115 829 - 882 80 fest middles 465 126 864 - 957 80 feet bottom 567 166 475 - 1,228 Wood Pole gO feet 1 20 - - 21 60 feet 195 112 146 128 678 66 feet 469 278 869 807 1,480 60 feet 783 487 589 492 2,801 45 feet 469 278 869 807 1,488 40 fest 659 101 21 270 1,061 go feet 106 87 40 65 287 ANNEX2.04 -56 - P*g-O4 ot 4

Procurement Descriptlonof Quantlty required Total Mod Of Package Equlpment/Materials per y r Quantity Procurement 1990 1991 1992 1998

(v) LiohtninaArrestor ICB UV 'IV - 6 a -9 so kV 46 24 51 15 185 27 kV 284 270 989 a80 1,802 16 kV 21 67 25 a8 146 (w) Insulator ICe 11S kV horizontal(single) 482 227 882 - 1,071 116 kV horizontal(double) 809 46 270 - 624 Suspension 2e,095 10,991 19,949 8,991 67,916 84.5 kV pin 5,986 4,182 4,658 4,832 19,602 18.8 kV pin 1,180 294 46 564 2,078

(x) Time of Day Moter ICe It8r "ter 5 6 10 10 s0

(y) MaintenanceVehiclos 1 - - - 1 ICB/LCB DerrickTruck 1 5 - - e Boaket Truck (Heavy) 6 6 - - 11 Basket Truck (Medium) 5 2 - - 7 Crane 8 2 - - 5 Wrecker 1 - - - 1

(z) Switchboardmaterials (lot) IC0/LCB Staggered deliveries - - - - 1

(so) MiscellaneousHardware 1 - - - 1 LCB andAccessories (lot) (sb) CivilWorks to be bid accordingto ICe implementationschedule. ANNEX 2.05

- 57 -

PHILIPPINES

MANILA POWER DISTRIBUTION PROJECT

Disbursement Schedule (US$ million)

Asia Regional Disbursements Profile (Power) Fiscal year Semester Semester Cumulative Cumulative 2

1990 I - - II 0.5 0.5 0.6 1

1991 I 2.2 2.7 3.3 5 II 3.7 6.4 6.5 10

1992 I 3.8 10.2 11.2 17 II 9.0 19.2 19.6 30

1993 I 9.0 28.2 29.5 45 II 8.0 36.2 34.7 56

1994 I 7.4 43.6 43.2 66 II 6.6 50.2 49.1 75

1995 I 5.8 56.0 53.7 82 II 9.5 65.5 58.3 89

1996 I - - 62.2 95 II - - 65.5 100 - 58 - Annex 3.01 Page 1 of 7 PHILIPPINES

MANILA POWER DISTRIBUTION PROJECT

DEVELOPMENTBANK OF THE PHILIPPINES Balance Sheets 1984-85 (Pesos Million)

1Ti4 1985

ASSETS Cash and due from banks P 2,477.6 P 2,459.0 Investments in securities 11,557.1 9,537.4 Loans 35,827.6 24,757.9 Contract mortgage receivable 2,974.7 2,693.0 Miscellaneous investments 2,627.6 2,648.9 Other properties owned 5,312.2 8,165.8 Bank premises, furniture & fixtures (net) 154.7 157.3 Other resources 4,528.2 21,623.8

Total Assets K5.459.6 P72,043.0

LIABILITIES AND SHAREHOLDER'S EQUITY Short-term borrowings -Foreign P 2,850.2 P 2,704.6 -Domestic 2,870.8 6,769.4 Current maturities of long-term borrowings 3,021.4 3,343.0 Time and savings deposits 978.3 1,519.1 Interest and other payables 5,477.1 4,728.0 Long-term borrowings, net of current maturities -Foreign 28,853.2 32,295.9 -Domestic 14,954.6 12,704.6 Deferred credits 1,282.6 1,373.7 Special funds 87.8 134.0

Total Liabilities P60,376.0 P65,572.2

Special Funds-National Government P 2,000.0 P 2,000.0

SHAREHOLDER'S EQUITY Capital stock - par value P1,000; authorized 50 million shares P 9,935.1 P18,208.1 Surplus/Deficit (6,851.5) (13,737.3)

Total Shareholder's Equity 3j083.6 4,470.8

Total Liabilities & Shareholder's Equity P65,459.6 P72,043.0

Contingent Liabilities P20,032.3 P18,254.0 Trust Funds P 1,533.6 P 1,922.6 Conversion Rates P19.76 to $1.00 P19.03 to $1.00 _ 5, _ Annex 3.01 Page 2 of 7 PHILIPPINES

MANILAPOWER DISTRIBUTION PROJECT

DEVELOPMENTBANK OF THE PHILIPPINES Income Statements 1984-85 (Pesos Million)

1984 1985

OPERATINGINCOME Interest - Agriculturalloans 199.6 188.6 - Industrial loans 414.6 435.1 - Miscellaneous loans 517.2 672.9 Miscellaneousbank fees 196.8 147.1 Earnings on funds and securitif 355.6 531.9 Income from other properties owned 67.9 99.7 Other income 917.9 1,064.8

TOTAL OPERATING INCOME 2,669.5 3,140.2

OPERATING EXPENSES Interest and other financial expenses 7,995.2 8,006.6 Salaries and other personnel expenses 290.4 321.3 other administrativeexpenses 321.9 448.8

TOTAL OPERATINGZXYDNSES 8,607.5 8,776.7

Net operating income (loss) (5,938.0) (5,636.5)

Profit (loss) on assets sold, net (1,841.1) (1,235.4) Operating loss before income tax (7,779.1) (6,871.9) Provision for income t-.x -Deferred ( 27.3) ( 27.3) -Current 35.4 41.3

NET INCOME (LOSS) (7,787.1) (6,885.9)

Funded by National Government 5,400.0 7,445.4 Net Income after Government Contribution(los) (2,387.1) 559.5

NET INCOME - TRUSTS PUND8 185.4 195.7 PHILIPPINES - 60 -

MANILA POWER DISTRIBUTION PROJECT Annex 3.01 Page 3 ot 7 DEVELOPMENTBANK OF THE PHILIPPINES Statementsof Changes in FinancialPosition 1984-85 (PesosMillion) 1984 1985 FINANCIALRESOURCES WERE PROVIDED BYs From portfolio sales & repayment3 Sale of loans, equities & acquired assets P 1,304.1 P 1,559.4 Loan & guarantee repayments 1,636.8 1,266.5 Collectionson contractmortgage receivable 197.3 190.1 Bond redemptions 2.8 3.2 From other sources Transfer of MKIC accounts to new companies - 9,587.3 Increase in paid-in capital 5,635.5 8,273.0 Assumption of guaranteedobligations 1,615.6 6,444.9 Revaluation& other adjustmentson loans, equities & contract mortgage receivable ^ 1,524.6 Revaluation& other adjustments on borrowings 10,727.9 491.3 Domestic borrowings 2,543.5 312.1 Foreign borrowings 457.4 141.9 Decrease in contract mortgage receivable - 96.0 Increase in deferred credits 181.2 38.2 Increase in liability reserves and special funds 40.0 33.5 Total FinancialResources Provided 24,342.2 29,962.0 FINANCIALRESGURCES WERE USED FOR: Net loss from operations P 5,976.5 P 5,665.6 Non-cash charges included in net loss Amortizationof deferred charges ( .8) ( 695.4) Provision for doubtful accounts & investment ( 78.0) t 78.0) Depreciation ( 22.8) ( 30.9) Deferred income tax 10.7 17.3 Financial resourcesused for operations 5,885.7 4,878.6 Portfolio investments Loan & guaranteedisbursements 3,291.8 3,263.8 Equity & long-termbond investments 671.5 249.5 Payment of long-termdebt maturities Roll over from long-term to short-term 1,786.2 1,528.7 Domestic borrowing 2,362.0 1,184.4 Foreign borrowings 299.1 1,566.0 Others Increase in other resources,net 731.1 15,963.3 Increase in other propertiesowned 3,603.7 2,855.0 Revaluation& other adjustmenton loans, equities & CMR 4,494.4 - Increase in bank premises 11.1 24.8 Increase in miscellaneousinvestments 349.6 5.2 Increase in contract mortgage receivable 745.1 _ Total FinancialResources Used 24,231.3 31,519.3 Changes in working capital 110.9 (1,557.3) TOTAL P24,342.2 929,962.0 - 61 -

Annex 3.01 Page 4 of 7 PHILIPPINES

MANILAPOWER DISTRIBUTION PROJECT

DEVELOPMENTBANK OF THE PHILIPPINES Balance Sheets 1986-87 (Pesos 'illion)

1986 1987

ASSETS

Cash and due from banks P 1,169.4 1 558.2 Loans and advances 5,271.1 4,394.5 investmentsin bonds and other governmentsecurities 1,498.5 4,459.7 Equity investments 687.7 396.5 Real and other property owned or acquired 293.6 118.5 Bank premises, furniture,fixtures Lnd equipment 165.2 213.7 Other resources,net of allowance for probable losses 418.0 90.4

Total Assets P 9,503.6 10,531.6

LIABILITIESAND STOCKHOLDER'SEQUITY

Liabilities Short-term borrowings P585.3 0727.5 Deposit liabilities Time 243.9 259.6 Savings 317.6 272.0 Interest and other payables 1,198.6 2,184.3 Longterm borrowings 2,025.7 1,340.0 Unearned income and other deferred credits 307.7 341.0 Special Funds National Government 2,000.0 1,800.0 Other funds 146.5 146.3

Total Liabilities 6,825.3 7,070.8

Stockholder'sEquity Paid-in Capital 2,500.0 2,500.0 Retained Earnings 178.2 960.8

Total Stockholder'sEquity 2,678.2 3,460.8

Total Liabilitiesand Stockholder'sEquity 19,503.6 310,531.6 - 62 - Annex 3.01 Page 5 of 7

PHILIPPINES

MANILA POWER DISTRIBUTION PROJECT

DEVELOPMENTBANK OF THE PHILIPPINES Income Statements 1986-87 (Pesos Million)

Years Ended December 31 1986 1987

INCOME Interest on loans and advances 1 723.8 1 586.6 Earnings on securities and investments 562.7 687.6 Other income 852.1 502.9

TOTAL OPERATING INCONE 2,138.5 1,777.2

EXPENSES Interest and other financial charges on borrowings and deposits 4,095.0 252.8 Provision for probable losses 3,049.8 135.0 Compensation and fringe benefits 352.5 265.3 Taxes and licenses 50.3 8.7 Rent 8.3 5.4 Other administrative expenses 220.6 298.3

TOTAL OPERATING EXPENSES 7,776.4 965.5

Income (loss) from operations (note 11) (5,637.9) 811.7

Share in Net Income (loss) of equity investment ( .9) 1.0

INCOME AFTER DISPOSITION OF ASSETS (5,638.8) 812.7

Provision for Income Tax (30.2)

NET INCOME (LOSS) FOR THE PERIOD P(5,638.8) I 782.6 - oj - Annex 3.01 PHILIPPINES Page 6 of 7

tANILA POWERDISTRIBUTION PROJECT

DEVELOPMENTBANK OF THE PHILIPPINES Statements of Changes in Financial Position 1986-87 (Pesos Million)

1986 1987

SOURCES OF FUNDS Operations Net income (loss) for the period P(5,638.8) P 782.6 Charges not requiring outlay of funds Provision for probable losses 3,049.8 135.0 Depreciationand amortization 19.9 23.6 Funds provided by (used for) operations (2,569.1) 941.1 Increase in surplus as a result of bank rehabilitationprogram 19,680.2 - Increase in: Interest and other payables - 985.7 Unearned income and other deferred credits - 33.3 Special funds 12.5 - Decrease in: Cash and due from banks 1,289.6 311.2 Loans and advances 21,778.9 741.6 Investmentsin bonds and other governmentsecurities 1,668.3 - Equity investments 5,682.8 291.2 Real and other property owned or acquired 7,872.2 175.2 Other resources 21,079.4 327.5

Total 76,494.9 3,806.8

APPLICATIONOF FUNDS Decrease in capital stock as a result of bank rehabilitationprogram 15,708.1 - Increase int Bank premises, furniture,fixtures and equipment 27.9 72.1 Investment in bonds and other government securities - 2,961.2 Decrease in: Short-termborrowings 9,474.0 539.3 Deposit liabilities 957.6 29.8 Interest and other payables 3,535.2 - Long-termborrowings 45,732.4 4.1 Unearned income and other deferred credits 1,059.6 - Special Funds - 200.2

Total P76,494.9 P 3,806.8 - 64 - Annex 3.01 Page 7 ot 7

Notes to FinancialStatements

1. DBP rehabilitationprogram: Since January 1984, funding responsibility for DBP's non-performingaccounts (NPAs) was assumed by the National Government by way of equity contributionsat year end equal to the total losses on NPAs over the preceeding year. These amounts are given in the income statements under the item labelled "Fundedby the National Government" (in effect, tbese are extraordinaryadjustments to the 1984 and 1985 accounts, taken after the computationof net income). Total yearly governmentequity contributionsappear in the Statements of Changes in FinancialPosition under the item "Increasein Paid-In Capital."

2. Reserve for possible losses on accounts and investments: reserves provided and charged against operations are based on possible losses computed as follows: (a) excess of total recordedbank exposure (includingoutstanding guarantees and preferred shares) over the loan value of the collateral appraised value; (b) excess of acquisitioncost of equity investmentsover realizablevalue.

3. Reserves for possible losses on equity, loans and acquired assets: these reserves are small and do not reflect the size of DBP's portfolio problems. Since possible losses on these accountswere covered by Government equity contributionsunder the rehabilitationprogram, they did not need to be provided for through charges against DBP's income. - 65 - ANNEX3.02 Page 1 of 10

PHILIPPINES MANILA POWER DISTRIBUTION PROJECT

DEVELOPMENTBANK OF THE PHILIPPINES PROJECTED BALANCE SHEET 1989 - 1994 (MILLION PESOS)

ACTUAL BUDGET ------P R O J E C T I O N S------

1988 1989 1990 1991 1992 1993 1994

ASSETS

Deposits with & Due from Banks 1,195 321 317 386 452 421 493

Investment in Bonds & Securities Securities 4,289 2,189 1,889 1,889 2,189 2,389 2,389 Commerclil Papers 0 0 0 0 0 0 0

Wholesale-Relendlng to PFIs 0 3,851 12,602 17,470 23,412 30,713 39.413 -Receivable from RDBs 0 0 628 558 488 418 348

Retail-Loan PortfolLo - PAs (Outstanding) Window 1 1,187 1,745 1,968 2,433 2,864 3,257 3,616 Window 2 3,444 5,069 5,593 7,293 8,870 10,292 11,513 Window 3 74 559 838 1,075 1,283 1,572 1,942

MERALCO Loan From KFW & WB 0 127 503 784 706 635 572

Loan Portfollo - NPAs (Old) 1,449 0 0 0 0 0 0 - NPAs (New) 139 349 596 708 813 909

Equity & Bond Investments-PAs 409 385 320 266 214 170 133 NPAs (Old) 37 0 0 0 0 0 0 NPAs (New) 20 7 6 5 4 4 RDBs 0 0 70 70 70 70 70

CMR & Other Investments-PAs 765 704 384 308 237 180 135 NPAs (Old) 533 0 0 0 0 0 C NPAs (Nev) 37 30 19 16 13 10

Other Properties Owned-PAs 74 70 11 9 7 6 5 NPAs (Old) 856 350 175 0 0 0 0 NPAs (New) 4 4 2 1 1 1

Allow. for Doubtful Accounts-PAs (303) (399) (414) (515) (610) (695) (770) NPAs (2,704) (440) (312) (499) (583) (664) (739) Window 3 0 (84) (126) (161) (192) (236) (291)

Premises 242 411 310 279 250 227 209

Other Assets 187 337 174 174 174 174 174

TOTAL ASSETS 11,734 15,396 25,320 32,441 40,559 49,760 60,135 ANNEX 3.02 - 66 - Page 2 of 10

ACTUAL BUDGET ------P R O J E C T I O N S------

1988 1989 1990 1991 1992 1993 1994

LIABILITIES & STOCKHOLDER'S EQUITY

Purchased Funds Deposits - Private 480 893 717 867 1,017 1,167 1,317 NG 1,681 331 247 272 297 322 347

Borrowings Existlng-WB/ADB (Long term) 1! 431 285 221 184 149 114 79 Countryside Blls 11 477 327 190 85 0 0 0 Others 21 1 1 1 1 1 1 1

New - Domestic Borrowlngs 0 0 300 800 800 500 700

ODAs/Multi/Bilateral Funds APEX 21 0 571 550 529 508 487 466 IGLF 31 557 3,276 4,598 6,184 6,710 6,610 AJDF 0 3,121 7,944 7,944 7.944 7,944 7,944 I R U 223 1,486 3,145 6,277 6,277 6,277 DLBS 0 0 0 0 2,504 3,756 Kreditanstalt fur WeLderaufbau(MERALCO) 127 515 847 847 847 847 WORLD BANK (MERALCO) 0 0 0 0 0 SWISS LINE 892 892 892 892 892 892 AdditLonal Financing 0 0 0 2,370 4,779 9,597 17,109

Interest & Other Payables 1,556 1,526 1,748 1,913 1,818 2,037 2,244

Deferred Credits 581 581 397 397 397 397 397

Special Funds 19 19 19 19 19 19 19

Special Funds - NG 1,400 0 0 0 0 0 0

Stockholder's Equity Paid-in Capital 2,500 2,500 2,500 2,500 2,500 2,500 2,500 Retained Earnings 2,608 3,443 4,316 5,077 6,129 7,444 8,629

TOTAL LIABILITIES & EQUITY 11,734 15,396 25,319 32,441 40,559 49,759 60,134 0 0 0 0 1 1 1

1/ Already borrowed 2/ APEX - Transferred portfollo during 1989. 31 Includes IGLF portfollo transferred in 1990

. .~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ - 67 - ANNEX3.02 Page 3 of 10 PHILIPPINES MANILA POWER DISTRIBUTION PROJECT

DEVELOPMENT BANR OF TEE PHILIPPINES PROJECTED INCOME STATEMENT 1989 - 1994 (MILLION PESOS)

ACTUAL BUDGET ------P R o J E C T I ON S ------1988 1989 1990 1991 1992 1993 1994

OPERATING INCOME Interest on loans 716 1,234 2,643 3,882 5,000 6,228 7.072 Earnings on funds end securities 470 147 204 189 204 229 239 Miscellaneous bank fees 57 23 67 71 74 78 82 Profit from sale of assets 101 32 49 45 10 8 7 Other lncome 394 715 295 328 371 408 397 TOTAL 1,738 2,151 3,259 4.515 5,659 6,950 7,796 OPERATINGEXPENSES Interest & other fin. expenses 214 369 1,160 1,930 2,601 3,335 4,165 Salaries & other personnel expenses 292 409 343 360 378 397 417 Other Administrative expenses 255 209 186 195 205 215 226 Gross receipts taxes 45 60 114 158 198 243 273 Prov. for doubtful accounts-PAs 0 96 15 102 94 86 75 -NPAs 0 (0) 32 498 583 664 739 -Windov 3 0 84 42 36 31 43 55 Depreciation 34 53 88 65 59 53 48

TOTAL 840 1,279 1,979 3,345 4,149 5,037 5,998

NET INCOME BEFORE TAX 898 872 1,280 1,170 1,510 1,914 1,799

PROVISION FOR INCOME TAX 37 37 323 294 326 421 390

NET INCOME FOR THE YEAR 861 835 957 876 1,183 1,492 1,409 ANNEX3.02 - 68 - Page 4 of 10 PHILIPPINES MANILA POWERDISTRIBUTION PROJECT DEVELOPMENTBANK OF THE PHILIPPINES PROJECTEDCASH FLOW STATEMENT 1989 - 1994 (MILLION PESOS) ACTUAL BUDGET ------P R O J E C T I O N S ------1988 1989 1990 1991 1992 1993 1994 BEGINNINGCASH 882 1,19S 321 317 386 452 421 RECEIPTS: PrincipalCollections| On loans-PAs-Windov1 ) 367 213 215 267 306 343 Windov 2 ) 1,065 596 643 822 973 1,111 Window 3 ) 1,162 23 56 78 94 105 126 MERALCO 0 13 50 78 71 64 -NPAs (Old) ) 58 -NPAs (Nev) 28 70 119 142 163 -Releadingto PFIs 83 154 584 1,284 1,8 9 2,552 -Rec'ble from RDBs 0 70 70 70 70 70 C1R & Other Inv - PAs ) 24 106 58 55 44 36 NPAs (Old) ) 8 NPAs (Nev) 7 6 4 3 3 Repaymentsof C '.l Papers Loans 930 0 0 0 0 0 0 Interest Income-PAs-Window1 ) 250 334 396 477 551 293 Window 2 ) 650 803 960 1,160 1,455 1,725 1,252 Wlndov 3 ) 92 84 115 141 171 785 MERALCO 4 21 44 51 46 41 MR & Other Inv 54 97 87 55 44 33 25 -NPAs (Old) 90 18 -1PAs (New) 47 81 108 125 67 -Relendingto PFIs 36 1,069 1,955 2,657 3,518 4,558 -Rec'blefron RDBs 0 41 77 68 59 50 SalelRedemption of Assets Equity In. -PAs- Book Value ) 4 58 48 47 39 33 Profit ) 1 12 10 9 8 7 -NPAP-Book Value ) 0 4 1 1 1 1 Proflt )0 1 0 0 0 0 -RDBs 0 105 Other Prop Owned-PAs-BookValue ) 143 0 11 2 1 1 1 Profit ) 699 0 2 0 0 0 0 -NPAs-BookValue) 225 175 1/ 175 1/ 0 0 0 Proflt ) 45 35 35 0 0 0 Monetizationof Securities 217 2,100 300 Sale of SecuritizedAssets 500 500 Earningson Funds & Securities 390 147 204 189 204 229 239 Other Income Fees & ServLce Charges 57 64 67 71 74 78 82 On Loans 171 100 149 177 217 253 240 Dividends 23 11 35 29 24 .9 15 DivLdends-RDBs 0 4 8 8 8 8 Deps vith Banks 58 40 16 18 21 22 23 Forelgn ExchangeGains 40 29 Miscellaneous Income 105 264 91 96 101 106 111 Incremental Deposits-Private ) 413 150 15U 150 150 150 NG ) 1,467 25 25 25 25 25 Borrowings

DomesticSources 153 300 500 700 ODAM/Multi/BilateralSources IGLF (Retail in 1989) * 557 919 1,.22 1.686 626 AJDF (Wholesale) 3,121 4,824 I R U (Wholesale) 223 1,263 1,659 3,132 DLBS (Wholesale) 2,504 1,252 Kreditantalt fur WeLderaufbau(MERALCO) 127 388 332 WOULD BANK (MERALCO) SWISS LINE (Retail) 892 AdditionalFinancing Gap 2,370 2,409 4,818 7.512 AddltlonalPayables 328 312 280 TOTAL RECEIPTS 6,409 12,120 13,834 13,253 15,904 18,658 21,933 TOTAL AVAILABLEF UNDS 7,291 13,315 14,155 13,570 16,290 19,110 22,354 ANNEX 3.02 - 69 - Page 5 of 10

ACTUAL BUDGET -P R O J E C T I O R S ------1988 1989 1990 1991 1992 1993 1994

DISBURSEMENTS: Releases-R lending to PFIs 3,344 7,006 5,451 7,227 9,130 11,252 Window 1 ) 966 773 811 852 873 895 Window 2 ) 2,551 3.284 2,627 2,759 2,896 2,969 2,969 Window 3 (301 of Net Inc.)) 489 306 287 263 355 448 Window 3 (On Collections) 23 56 78 94 105 124 MERALCO 127 388 332 0 0 0 Repayment of New Domestic Borrow. 0 300 500 Capital Expenses-Premises 58 222 53 35 30 30 30 Cash Operating Expenses 522 618 529 555 583 612 643 Repayments-Borrowings Long term(WBIADB) ) 146 64 37 35 35 35 CountrysideBills ) 1,002 150 137 105 85 0 0 APEX (on transferredliability) 21 21 21 21 21 21 IOLF (on transferredliability) 100 100 100 100 100 Purchase of SecurLties 300 200 Cash Dlvidendsto NG 83 115 131 177 224 Special Funds-NG 400 1,400 Payment of Time Deposits-SG 146 300 -Others 1,050 FinancialCharges 232 364 962 1,738 2,433 3,151 3,957 Taxes-GrossReceipts 86 147 101 147 188 232 265 Inc,er 37 66 251 302 318 397 398

Other Payables 1,062 278 328 312 280 0 TOTAL DISBURSEMENTS 6,096 12,994 13,786 13,184 15,838 18,689 21,861 ENDING CASH 1,195 321 317 386 452 421 493 - 70 -

Annex 3.02 Page 6 of 10

List of Acronyms Used In Financial ProJections

ADB m Asian Development Bank

AJDF 8 Asian Japan Development Fund IGLF a Industrial Guarantee and Loan Fund NG = National Government NPA Non Performing Account PA - Performing Account PFI - Participating Financial Institution RDB - Regional Development Bank

Window 1 loan 8 Loan with maturity not exceeding 12 months Window 2 loan - Loan with maturity exceeding 12 months Window 3 loan - Loan that does not completely satisfy conmercial banking risk or collateral criteria; limited to a maximum of 30S of DBP's previous year's after tax net income. See para 3.15. - 71 - ANEX 3.02 Page 7 of 10 ASSUMPTIONS

1.) Projected Releases (In Million P)

ACTUAL 1988 1989 1990 1991 1992 1993 1994

Retail:

Window I 966 773 811 852 873 895 Window II 3,284 2,627 2,759 2,896 2,969 2,969 Window III 512 362 365 357 460 572

Sub-total 2,551 4,762 3,762 3,935 4,105 4,302 4,436

Wholesale - 3,344 7,006 5,451 7,227 9,130 11,252

MERALCO - 127 388 332 - - -

TOTAL 2,551 8,233 11,156 9,718 11,332 13,432 15,688

2.) Collections

a. Existingperforming accounts (PAs) as of 12-31-88assumed collected at the rate of 15% p.a.; average interest rate of 18% p.a. b. Existing non-performingaccounts (NPAs) as of 12-31-88 assumedphased out by 1989; 20% collected;80% written off. Average interest rate of 16%.

c. New Releases

Retail (Wl & W2) - assumed collected at the rate of 10% p.a., average interest rate of 18% p.a.

Retail (W3) - assumedcollected at the rate of 10% p.a., average interest rate of 12% p.a. (Inflationof 10% + 2%)

Wholesale - assumedcollected at the rate of 10% p.a., with two years grace period; average interest rate of 13% p.a.

3. Status of Accounts/Provisionsfor Doubtful Accounts

a. 2% of performing(PA) equity investmentsto turn into non-performing (NPA) annually; 5% for loans and all other investments.

b. NPAs assumed phased out in the year followingtheir set-up as such; 20% collected;80% written-off

c. 5% allowance for doubtfulaccounts for Windows 1 and 2 PAs; 15% for Window 3 PAs; 80% for NPAs. - 72 - ANNEX 3.02 Page 8 of 10

4. Deposits

a. Incrementaldeposits assumed at P 413 MM in 1989; all private. In 1990 onwards, private deposits to increase p150 MM annually and interest-bearinggovernment deposits to increase P25 MM annually; to cost average rate of 10%.

b. Reserve requirementsestimated as follows:

Private - 14% in cash, to earn 4% p.a. Government - 14% in cash, to earn 4% p.a. 61% in GovernmentSecurities, to earn 15% p.a. or an average rate of 5%.

5.) Funding Sources a. Source ProjectedAvailments

1989 1990 1991 1992 1993 1994

IGLF $25.0 $40.0 $60.0 $ 70.0 $ 25.0 $ - AJDF 140.0 210.0 - - - - IRU 10.0 55.0 70.0 130.0 - - DLBS - - - - 100.0 50.0 KFW 5.7 16.9 14.0 - - - SWISS LINE 40.0 - - - - - ADD'L. FIN. GAP - 100.0 100.0 200.0 300.0

$220.7 $321.9 $244.0 $300.0 $325.0 $350.0

DOMESTIC - P300.0 0500.0 - - P700.0

b. Funding Cost To Relending Rate to Sources DBP PFIs

IGLF, 10% 13% AJDF 10% 13% WB/Multilateral 10% 13% Domestic Sources 15% 3-year maturity c. All sourcesassumed to carry 5-yeargrace period;only interestto be paid. ANNEX 3.02 - 73 - Page 9 of 10 d. Repayment of existing ADB/IBRD and countryside bills to follow actual maturity schedule as follows:

1989 1990 1991 1992 1993 1994

CSB 150 137 105 85 - - IBRD/ADB 146 64 37 35 35 35

296 201 142 120 35 35

6. Branch Privatization

a. All five (5) RDBs to be set up in 1989; 25% of total equity to be sold in cash end 1989 and 45% in 1990.

b. The retained equity holdings, in common stocks,assumed to earn 12% p.a. in dividends. c. Outstandingbills payable to DBP of RDBs to be paid over 10 years at 13% interestp.a.

d. Projectedbalances sheet for 1989 assumed to include RDBs. DBP is still the majority shareholder.

7. Fixed Assets (Premises/Others)

Acquisitions (ITN/COSMOS) 1989 - 9 222 MM 1990 - 53 MM Provision for Annual ) 1991 - 30 MM ) 1992 - 30 MM Capital Assets ) 1993 - 30 MM ) 1994 - 30 MM Depreciation - over 5 years

8. Foreign Exchange Rates

1989 - 9 22.29 : $1 1992 - 9 24.09 : $1 1Q90 - 9 22.97 : $1 1993 - 9 25.04 : $1 1991 - P 23.70 : $1 1994 -9 25.04 : $1

SOURCE: 1989-1992- CRC "EconomicBriefing to DBP" in Oct. 1988 1993-1994- Assumed 4% inflationrate - 74 - ANNEX 3.02 Page 10 of 10

9. Operating Expenses

Projected expenses are on accrual basis. Accrued interest and other financial charges during the quarter shall be paid the next quarter.

Operatingexpenses (interest,personnel and other administrativeexpenses) of the RDBs are excludedbeginning in 1990 when DBP's equity shareholdings are assumed to be down to 30%. A reductionof nearly 700 employeeswill result from the branch privatization,which will cause the reduction in salaries and other personnel expenses in 1990. Thereafter,a 5% growth in all administrativeexpenses is assumed.

10. APEX and IGLF Existing Portfolio

APEX existing portfolio (PAs only) of P 592 MM assumed to be transferred during 1989. Transferredliabilities assumed to be equal to transferred portfolio. Repaymentsamount to P 21 IDMper annum.

IGLF existing portfolio of P 1.90 B assumed to be transferred in 1990. Transferredliabilites equal transferredportfolio. Repaymentsamount to P- 100 MM per annum.

11. Cash Dividends to National Government

Cash dividends to be paid to the National Government is assumed to be in the following rates:

Year

1990 10% of Previous Years Net Income 1991 12% 1992 15% 1993 15% 1994 15% _ _-5 ANNEX3.03

Iff~ ~~ilit S EI |}~11. 1iiE Luljjj

~~~~~~L 16 -76 - ANNEX3.04 PAGE 1 OF 6

PHILIPPINES

MANILAPOWER DISTRIBUTION PROJECT

DEVELOPMENTBANK OF THE PHILIPPINES

POLICY STATEMENT

Objectives

1.01 The DevelopmentBank of the Philippines (DBP) has substantially completed its rehabilitationand financial strengtheningprogram which aimed at making it a viable and self-sustainingfinancial institution. The principalobjective of DBP is now to providemedium and long-termfinancing to the private sector. The DBP hopes to attain this objectiveby evolving into primarily a wholesale bank, i.e., an institutionchannelling funds to other financial institutions for on-lending to private business enterprises. As a wholesale bank, DBP shall help fill a major gap in the financialsystem of the country: the provisionof long-termcredit to the private sector.

1.02 More specifically,DBP will:

a. bring togetherproviders and users of medium and long- term capital;

b. help develop the capitalmarkets by promotingmedium and long-term capital market instruments(e.g. bonds) to which institutionaland individualinvestors can subscribe;

c. relend the funds it mobilizes primarily to accredited financial institutionswhich will act as lending conduits for on-lending to enterprises;

d. act as a major conduit for, and manage, official development assistance funds which the private sector will use;

e. manage industrial sector credit programs funded by multilateral developmentfinancial institutions;and

f. undertakeall other activitieswhich are conduciveto achievingits broad aims and objectives.

1.03 DBP will gradually expand its wholesale lending activities in line with the objectives stated above; the gradual reductionof its retail lending in relative terms will be undertaken in an orderlymanner. Over time, DBP plans to leave most retail development lending to other financial institutions such that DBP's outstanding portfolio will have a predominantlywholesale configurationby the end of 1993. ANNEX 3.04 PAuG Z OF 6

- 77 -

General Operational Principles

1.04 As a development bank, DBP has to submit to the test of financial viability. Thus, it will pursue policies that wtll ensure a sound capital structure and the generation of sufficient earnings to cover costs, earn a profit margin, build up appropriate reserves and protect its equity base from erosion.

1.05 The wider social consequencesfrom the developmentalrole the DBP must play dictate that while it has to pass standard market tests, it also has to assess its operational and financial results in terms of their economic and developmental impact.

1.06 DBP will operate on an equal market footing with its private sector counterparts. These two fundamental principles of ensuring financial viability within a competitivemarket framework and of continuing to play a developmeat role Jointly define the place DBP will occupy within the financial system. As a financial institution with a development mission and as a development institution with financing responsibility and viability, DBP is a development bank with the usual functions and duties of banks under the thrift category.

1.07 DBP shall increasinglyconcentrate on wholesale lending activitiesin close partnership with private financial institutions duly accredited by the Central Bank according to pre-agreed criteria from. The accreditation criteria shall includes (a) a track record of profitable operations and sound capitalization; (b) an ability to maintain a sound and healthy portfolio as shown by the institution's level of arrearages; (c) a qualified management team of good reputation and (d) adequacy of trained staff, established systems and procedures to be an efficient and reliable purveyor of retail credits. DBP shall be active in syndication with private banks and shall work closely with them to efficiently on-lend development funds to the private sector. DBP will premise its participation in the syndicate on the need to ensure that program lending is fully carried out and to cover gaps that private banks may not be able to fill.

1.09 Except when specifically allowed under Monetary Board (MB) regulationsor by virtue of agreements that the Government and DBP will enter into with multilateral or bilateral institutions, DBP will not enjoy special privileges. Thus,

a. Its obligations will not enjoy government guarantees;

b. It will have no preferentialaccess to the funds of the Central Bank;

c. It will not benefit from special tax privileges;

d. It will not enjoy undue preferential treatment for deposits of the Philippine government and of Philippine bovernment corporations; ANNEX 3.04 - 78 -

e. It will not receive additional government equity to cover losses that DBP might incur in the future.

This would not preclude DBP however, from akranging for equity increases from the National Governmentwhich may become necessary to maintain a sound capital structure as its development lending activities increase.

1.09 DBP will have a private sector orientation with autonomy in its decision-makingwithin the regular regulatory framework and significant private sector representationin its Board of Directors.

1.10 DBP will avoid lending to the public sector.

RehabilitationPeriod

1.11 Although its rehabilitation has been substantially completed, DBP reiterates its commitment to carry out the remaining elements of its rehabilitation plan. DBP will scale down the number of wholly-owned branches, agencies and offices it will maintain from the current level of 70 to 15. The pooling of its remaining branch network into five regional development banks for privatizationis to be given top priority. Through the process of privatizationof these regional developmentbanks, DBP shall gradually give way to increasing private sector participation through equity holdings. A target for such private sector participation is set at 25Z of the total equity base of the five (5) regional development banks combined in 1989 and 45Z in 1990. By the end of 1992, DBP shall have reduced to minority position its holdings in each of the five regional development banks. xnvvetment Policies

1.12 DBP shall adopt a lending policy that would achieve a balanced regional, sectoral and industrialdistribution of its funds consistent with national development priorities. DBP shall gear its financial help towards the promotion of economic development of the country. This will relate tot

a. provision of its funds for investmentand working capital purposes; and

b. establishment of new enterprises and expansion/rationalizationof existing enterprises.

1.13 In its lending activities,DBP shall adopt an interest rate and fees policy that:

a. ensures full recoveryof all its direct and indirect costs, including provisions as required, plus an adequate profit margint and

b. is consistent with prevailing market rates for loans of similar maturity and risk.

1.14 For its retail lending, DBP shall base its investmentdecisions on its own analysis of the viability of the project and the enterprise. Towards this APPEX 3.04 - 79 - PAGE 4 OF 6

end, DBP will apply specific lending criteria that include lending only to projects with (a) proponents of good credit standing5 (b) sound management; (c) satisfactory financing and marketing plans; (d) adequate financial rates of return; (e) technical soundness. DBP shall maintain a Risk Asset Management Manual(RAMH) that sets out credit policies and procedures embodying these lending criteria.

1.15 For its wholesale lending operations, DBP shall lend only to duly accredited institutions. It will develop and apply uniform guidelines, policies and procedures for each loan program to ensure a consistent approach in dealing with accredited institutions. DBP will rely on the credit judgment of the accredited institutionsand not pass upon individual loan applications, except for large projects involving amounts beyond a threshold loan amount of not less than 85 million pesos.

1.16 DBP will carry out adequate monitoring of borrowers and will require these borrowers to keep proper records of accounts and furnish operational and financial data to DBP as it may reasonably request.

Pinanclal Prudence Limits

1.17 Within the broader limits provided for by law and4by the DBP Charter (Executive Order No. 81), DBP establishes the foliowing exposure limits in order to maintain a prudent and diversified 'Loanportfolios

Except as otherwise agreed by the Monetary Board,

a. DBP shall limit its total exposure to a osngle client or group of companies, retail or wholesale, inclumlve of loans, guarantees and equity investment, to 15 per cent of DIP's unp aitred capital and surplus.

b. DBP shall limit its total equity innestments in a single enterprise to no more than 15X of DBP's own total equity and shall not seek majority ownership or management control of any entity except in cases where its exposure in the enterprise is In jeopardy. DIP's lnvestrment In its operating subsidiaries will be exempt from these limits.'

c. Rules fully consLstent with prudent banking traneactLons shall govern Lisuance of guarantees or similar comitmnts.

1.18 DBP agrees to the transfer to it of the IGLF and Apex Loan programs which the Central Bank is now managing. After the transfer of the IGLF and Apex loan programs, DIP shall manage the acquired portfolios on an agency basis and undertake for lts own account new lending under the programs, applying its normal investment policies and lending criteria, including protection against foreign exchange risk.

Operations on An Agency Basis

1.19 DBP may undertake specific lending operations at the request of the Government in support of governmentprograms/projects. Such operationswill be undertaken only if (i) the Government earmarks funds for such projects; - 80- ANNEX3.04 PAGE 5 OF 6

(ii) the Go-ernment pays the DBP an appropriate fee for undertaking that function and (iii) such lending does not entail any financial risk for DBP's own account and the resultant loans are kept off DBP books.

Socio-Economic Proiects

1.20 DBP may constitute each year a portion not exceeding 30Z of its net income after te- for the previous year into a special fund for loan, equity and quasi-equity financing of projects of great socio-economic benefit but which do not fully meet the financial return criteria of DBP's regular loans. This is clasified as Window III lending. DIP may add back to the special fund any loan or investmentexclusive of earnings, previouslymade from the fund and subsequently repaid. DBP will charge an interest rate for projects in this category that will cover the overhead cost and the projected inflation rate for the year to preserve the real value of the fund.

1.21 Within the framework of Window III lending and consistent with its developmentmission, DBP seeks to establish long-term relationships,mainly by lending medium and long-term funds to entrepreneursengaged in projects with high developmental impact, but subjected to market discipline. Some of these projects may be in newer fields and with higher risks such that private financial institutions may be less willing to commit their resources into such projects over the medium and long haul.

Retail Operations

1.22 Subject to the predominantlywholesale nature of its operations,DBP shall continue to engage in direct lending operationswhere it shall simply serve as a catalyst, especially in the strategic sectorswhere the private sector may still be hesitant to enter iully. But it must ensure that it does not erode its equity base and that it gradually withdraws from tse economic areas which the private sector can take over.

Financial Policies

1.25 DBP will ensure a prudent interest rate and maturity match between its assets and liabilities.

1.24 To ensure high standards of financial management, DBP will maintain a planning and budgeting system, an effective and efficient system of asset and liability management, and a liquidity management system.

1.25 To finance its operations, DBP shall mobilize private sector funds and funds from other government financial institutions such as SSS and GSIS on market terms.

1.26 To diversify fund sources by investor type and maturitv, the bank shall introduce appropriate term instruments.

Capital Structure

1.27 The debt-equity ratio for DBP consolidated with that of its subsidiaries ANNEX 3,04 - 81 - PI1EX30

and taking into account contingent liabilities,shall not exceed 51.

1.28 The Bank shall not expose itself to uncovered foreign exchange risks.

Organizationand Staff Developwrnt

1.29 tBP will have an effective system of controls, a sensitiveand responsive monitoring mechanism, and a decision-making process that assigns accountabilitiesand respGnsibilities.

1.30 It will also develop technicallyqualified staff, taking into account the special skills required for effective fulfillmentof its functions. It will provide a compensationpackage commensuratewith responsibilities dischargedand competitivewith private sector remunerationto attract and retain competent staff members.

1.31 DBP shall maintain its credit committeeto undertakeevaluation of all loan proposalswhich require the approval of the Chairman or the Board, before submission to either of the latter, without in any manner affecting the prerogativesof the Chairman or the Board;

Accounts and Audit

1.32 The Bank shall use generallyaccepted accountingprinciples in recording its transactions,consistent with Central Bank regulations. It will have a private external audit conducted annually.

Modificationto the Policy Statement

1.33 The DBP will not change this Policy Statementwithout prior consultation with, and approval of, the proper relevant authorities.

1.34 This Policy Statementand any modificationthereof, and its implementation shall be subject to Philippine laws and the rules and regulationsof the appropriateregulatory government entities. - 82 - ANNEX4.01

PHIUPPINES MANILAPOWER DISTRIBUTION PROJECr OrganhiotfonChart of MERAICO

BOARD OF DREaDRS|

ICORPORATE SEC.ETAaY EXECUTiVECOMMITEE

PRE DENT

ALCOUNS MEDICALSERVICS [ U vYECONOMICS srAff

[ MANAGERiALPAYROUL DIV rLEGALSERVICES 1 DEPARTMENT [ INSPECTONDM9SION

PATROLDIVISI0 N| PUWJCINFORMATION DIVl

| COMMUNITYRELATIONS DIV

| CORPORATEAUDITS DIV

TECHNICALSERVI CUSTOMERSERVICES ADMINISMTIVE MANAGEMENT FINANCIAL GREMNUP GROCEP SERVICEGSOEUP CSEND GROP SESVICESGROUP

SYSTEM GROSER CONTQOL __ASSURANCE CENTER STAFF

MAEIALS - CUYOE5 ;; MANAGEMiENTI MANPOWER PLANIN MANAGEMENTI SeiERVICES SERVICES| SERVICES PLANNING|H ANDCONTROLI |DEPARTMENT PLANNINGSTAFF PLANG SrAF|AFF FF l ZAND |||DEPARlrMENT|

ENGINEERING CENTRAL | GENERAL STAFF DESIGN COLLECTIONS SERVICES TESR DEPARTMENT DVISION DEPARTMENT DEPARMEW

I M wT CUSTOMER | | | §EMPLOYEE COMPUTER PLANNING SERVICESQUAUITY AN EVBDEPARTMENTEPRrE DEPLANNINT | |ASSURANCESAF DEPARTMENT PERSONNEL NORTHSPECtAL BIWNG ~~~~~~MANAGEMENT DiSTRifBuTiON DEPAMMEW~~~~~~~~~~~~~~~EARMNANALYSISSTAFF DEPARAGMEIM

SOUTH NORTH-EAST DISTRiBUTION |B ERANCHES | DEPARTMENT DEPARTMENT

EAST |SOUTH-WEST DSTMSTION | q gANCHES | DEPARTMENT DEPARTMENT

OPERATIONS | SALESSEW1CES| DEPATMENT DEPARTMENT Idd oI *-43944 1 ANNEX 4.02 - 83 -

PHILIPPINES

MANILA POWER DISTRIBUTION PROJECT

MERALCO - Staffing Profile (as of September 30, 1988)

Organizational grouping Number of staff Percent

Office of the Chairman of the Board 20

Office of the President 582 8

Technical Services Group Z,972 42

Customer Services Group 2,002 29

Administrative Services Group 557 8

Management Manpower Services Group 267 4

Financial Services Group 298 4

* Seconded Staff 83 1

Manpower Pool 11 -

Probationary Staff 180 3

Temporary Staff 62 1 ANNEX 5.01 - 84 - Page 1 of 15

PHILIPPINES

MANILA POWER DISTRIBUTION PROJECT

MANILA ELECTRIC COMPANY

Annual Financial Statements and Proiections 1984-95

Table of Contents

Page No.

Key Financial Indicators .... 2

Income Statement ...... 3

Cash Flow Statements .... 4

Balance Sheet ...... 5

Common Stock Summary .... 6

Share Valuation Ratios .... 7

Restructuring Agreement Requirements .... 8

Principal Assumptions ...... 9

Assumptions to Financial Projections ...... 13 AMlIM 5.01 f'1hL.PPINES KELRRPOEP DISTRISUTI2I PROJEET Palo 2 2.11L ELECIRICcEP ot 1! 196439"5 VEYFIOMt4C62 INDIEATIS

Financial Ter E*Mdec. 'I 199 2q6 :96 2967 919 1989 2990 1991 1M 1M l994 1993 **------Aktual------__ f t - -

Ir 690.0 "ERSI SMIS IBM,) 6 42.d I 679.5 7 93s. AM61.0 14 313.2 1t 54.0 12 340.0 s 310. 14 340.0 15 420.0 16 530.0 SOU ffE ICtvs. /IlN) itO.66 179.I1 169.49 165.33 159.59 163.24 166.20 In.95 117.00 719.60 193.00 EWITALEIPENITUIES 562.0 420.0 636.0 702.0 746.7 1.135.2 2.54.2 2,139.0 1,95.9 1,930.3 1,992.5 2,341.3 WIIITIS2U fE15 12,o29.0 14.1l5.0 13,455.0 14,943.0 16 4se.s 9.'I7.9 20.'A2.3 23,019.6 25.112.0 23,15.4 Slt407.0 34,141.7 P501I11 E59261 10.679.0 1335.1.0 12.M0.0 1'.663.0 15.43. 27,679.2 19,220.6 21,6. 23,19.3 26,193.6 23,6. 31,14. IPATIE O1 05l.kit14.0 12 0.0 I'160. 1 964.* 1.07997 1,321.7 1 .1 2,019.7 2, 41.9 2,323.9 2 6 NET 151 f (LOSS) 2231.0) 170.01 244.0 0.0 693.9 712.2 99.4 1,19.6 ,7 .7 2,2. 2760 3,1.3 P1A NE 7e3t71-. 9,229. 10,504.3 11,419.7 122209.2 24.136.5 16,730.6 19,433.9 22,111 24,744.0 2 ,4. 30,1. TOTAL11111 9,101.0 11.A3'. 13.526.2 13.716.0 14,643.4 16,:631.5 19.33.6 21,670.5 24,17. 2746. 31476 36,063 REIIIIED1511115 119.0 223.0 775.0 1,411.'. 2,422.6 3,242.6 4,352.9 6,069.6 6,14. 10:1.5 14,42. 1121.6

FItl^AL 211710: Current Ratio 0.52 ,,.47 0.63 0.77 0.6 1.13s 0.6 1.21 1.42 2.0 2.69 3.20 0t"ITot.Cap. Ii No Renl. Surplus 423 243 m7 403 So0 261 2 2n 19t In 143 123 2) U00Rual. sogl,' 633 542 t6%672 462 S6 3 323 m 241 191 5t hick stiao 0.46 0.42 0.57 0.69 0.B7 1.01 0.E5 2.06 1.24 1.65 2.43 2.94 ht Profit hriogt -23 et 22 3n 42 43 53 n n 92 n29 ltweet CEorage -1.36 -0.06 1.26 1.61 1.5E 2.60 2.05 2.82 3.90 7.62 11.40 17.65 Return0 Rate Base 4.762 P.62o 9s.4% 10.'I 9.63 7.M12 9.132 10.832 10.013 11.192 10.652 10.16 DethtS'v,tk Eoveap Aat,e 0.06 4.06 11.62 0.98 2.31 2.32 1.37 2.65 2.72 3.47 6.46 6.46 SelfftununligRatio -Itt? s:z 2801 -99s 157 1 2 322 6an ISI2 1703 266i wiwatin Ratio 972 9422 902 92 922 9n2 92 672n1 o5n en kcmnts RKeulvable- Ibnths V.19 2.0? 2.06 1.87 1.64 1.55 1.54 1.48 1.43 1.38 2.35 l.2 Payable- Kutbs 1.0.! 1.52 2.59 0.92 0.90 0.71 0.74 0.12 0.69 0.69 0.66 (.6! Accounts , £,Wtttrt77==tS0t's...... fltfltctttt:sU=sflSnttlhl.s:,-lt.ttt::t: rns::s:::::tS tr:=:a::B:::::s:t:t£g:tt:t'*5m:s:==tStl_0=5st FPIIL3PPIUES -1I 3.01 L PUWPRDISTRIIJTIUN PRECT mIo -asuc wmv his I1o35 3994-1995ONUL Zimam ITATEIEWS

Fiold Yewaehd Dec.St 3964 1995 906 13997 1993 1m 1990 1991 3992 1993 1999 19 ---ta------?sflCtflttflflt lCst?ftts fltt.fl:rst:,..,.:.Bt=ttSS=:=ttB lS S w l*stllD1swl1l_ X Wttg t*SS ------rjte------31831 EWEWI 33.029 34,365 33.55 14,343 .16.459 19,779 20,542 23,020_ 25,932 20,935 3,401 14,142 VIUT1WIEUPESEE PvrtasgPour 9.4114 11,914 10.116 11,372 12,619 14,55 1556 16,7531 19,060 39,42 20,313 22,279 guciatim 273 3 470 551 670 9 930 A 1,Ot 1 'M Taxesmthw thlanne'a t. 2:9 233 1,112 149 -w 4s 4nW 5I5 : I 1 ?013 PrenuesiroriInw tcn T_i 0 _ §_ 340_29 319 m416 624 1-,t39 I,69 1,90 2,163 total Owatlf Epiotus 10,9 13,351 2,25 33,663 15.474 17,679 19,221 21,167 23,792 26,3 U,3 3l,345

W TlIt lawE 353 914 950 I,190 95 1,100 1,322 1, 2,020 2,642 2,24 2,9? AidledKti Cerraq REchoqeiitt AdgUstust 59 19 199 144 129 0 0 0 0 FORERLoss t Interest (331 399 3393 3233 39) 0 0 0 0 FOESLoss an bowrtiation (a) (39) 11501 31211 3123) 0 0 0 TotalIcome SI34 9 19----0 5 1,,100o 1.322 3.953 2,020 242 2,24 2,997

OTWEhEm I MKITIONS Interest a Lq-Tern Iebt *47 307 219 249 534 564 5t5 579 44 369 294 244 Iti ontSt ort 1l. Dbt 2 637 563 459 Ito 117 152 150 SO 22 2 0 ther Inteet Expone '5 le 22 26 3.5 30 I3 16 19 It 19 I9 lnternst locoa 0 1. 0 0 3593 3303 3123 3393 (24) (33) 3343 3373 hertuzationofDbt Espens 4 9 7 9 1s 35 19 39 t9 )7 39 14 OD IsterostCharge to Construction M'P 't63 342) 3123 3221 (35) 3306i (91) 179) '74) 11773 30 UsKe3ll so. IncOs. '203 Ei) 363) (50) 3203 324) M23 132' (36) 340) 3443 (4n, E;itv in t Enrings of Sbs,d,ar,tn 6131 340) 3401 403 340) t(O4 340) (401 Provis,onfor lnoui Tai 32413 3249) 3256 MUI 3194 13263 id) Fnwhtontor~~z ~ ~ ~ ~ ~ ~ ~~ ~~~~~~...... -- -- ...... ------! ------tttl-- 393- --- TotalDe*t,timos-Wt S9. 994 706 690 29t 397 329 334 240 139 49 (1)

NETItCOIIE (LuSS) BEFORE EITIUERDIMARV ITEN t:2li (70) 244 50( 694 ?12 993 1,520 1.780 2,523 2.776 3.034 Estrarwdaist Item - Saona Sale o F.A.. 0 g0 0 0 0

WETE I t OWEtM t.. 4 50':X9! 712 q' 1.520 13780 2,523 2,776 3,014 tttSC:ttfltflzUutflsts:ttt.n:s::..t...... e...... n...... ,....:.n.,.....

RETAINtEDEAPKIWES

oeomnolilace 617 IN7 223 775 1,411 2.426 3,243 4,353 6070 9,145 11.102 14.463 tdd: Wt IntesI(Loss) 32S' 70) 244 5We 695 712 99 1,520 13790 2.523 2,776 3.014 RealiztdRelltluton srlus 104 152 236 7,2 395 4 521 61l '25 B49 997 1.133 ProlrYew Ad)sstmnt of Intoe tax Prc. 199 0 0 0 0 0 0 0 Total 49i 261 703 1,577 2,699 3.571 4,757 6,493 8.575 11,517 14,964 i9,615 71, tnLs:Ca Dividends - Cosmn ISO A 0 214 2_1 299 ,01 317 326 5 - Preferred 105 1I9 5 0 0 0 0 0 0 0 - Preferred16? 13 57 58 58 3 42 26 26 PreferredlO 3J2 35 I3 47 71 57 60 62 65 51 vY 52 StoKtDiVitns 0 175 0 Total .12 393 166 264 329 405 419 430 415 403 413 closing alm" li9 223 775 1.411 2,426 3,243 4,353 6,070 9.145 33,102 14.463 13,202 3805C5U558AC2ft3tlsttS22tf;lItDDnn2A7t|ltlttStCf=sslf|lft|lCSlg8t3 2 ttX-%lt- e fgtlCXA A111 5.01 PFtLIPPINES Pw 4 Pow1 DISTRIWI0OPO T W11A musiECTPICCIP6NT rI 1984-I"StQ5 CANWFLC SH TWA l S In4r,tll" Fncs) 1993 I9 1993 1S4 1915 1986 9197 1988 11B9 19W( 1991 1992 ~ FirinulaV Ewd wt. 51 ------ktud ------rlt tn------~~~~-

CMasProvided lyt - 1I3M 1,U 2,01 2,601 2,U7 3,044 )brtdiu.s 372 832 9V4 1.230 13246 1.125 1,32 1,240 1,4 1,S 1,78e aewatin?I OtherIncm 273 3sn 70 557 U7 79e 93 15 ewrec^|tom 1.300' 5 III (321 316 24 55 52 in Ibrku Ctit 612) t174 1.154I Increase(Oweasel 4,4 4,64 2,58 417 2.433 2,090 2,247 3,282 3,54 4,t172 Total CasProvided blv rati 33 1,38 24 M93 77 (63) 121 24 24 24 24 (1713 24 Pref d ty ln - oft 18 450 i5 0 O 0 0 Ce_mmE4dt!r Is325B 531 444 3512 311 263 Lwq-T arrmi- World ant 650 0 0 ° 0 302 350 650 450 450 LoW-Terorromgi- bnd lss.n 0 0 0 0 0 0 0 0 NEW LOAN a 33 -E F IC 5 420 35 -It F 0 300 572 - F C 0 53 120 421 2n0 -O Ct F - rSed 104 1O0 123 132 154 EC F Rural 24 24 I9 - 4 34 (2201 0 O Slrt-twru Brrowing -8 8 P .174 204 (1.6251 362 (9821 140 50 11301 1570) Additioal Shwrt-t ru brromon (Pavunts) 8an RentrfcturedPC Oned. PayaIs ---- Sources of Cash~ ~~~~------4,643 5,024 Total ~ ~ 1,342 1,815 2,m 3,438 4,577 4,795 3.4 6,432 Total Seurc l Ego t1,725 1,494 c CaetService Shwt-awaLaoas 4 34 24 24 19 0 Xe I Pi (32) (37) PrinCipal- Existiq - Local 560 459 52 107 140 133 66 (1) Isternst 284 637 0 I I I tLosar toreLm 189 38 0 32 1 0 0 0 iecip I - Ei1stin I' 518 7I9 745 743 - onRt uredLoans 0 0 0 0 0 a 0 0 eEWlwo 267 267 267 P Pastles 31 219 - Retructured 0 250 :!3 3715I 49S 14 - 8ondIsusn 0 -t H 34 67 67 67 67 I f C to -E F I E 2 It -lerd 8ntk 411 369 24 2U 547 355 219 249 534 54 585 579 Intmunt 23 34 St Louiet Coeratvm fIromPC 1 13 16 1U 19 U9 i9 25 26 35 30 -__ __ _ le 19 _ ...... _ . _ Init rst on EntustwDwesits .………__…... _ 802 943 1,174 1,75 1.834 2,177 1,414 1,237 701 55 TotalkIt Srut:, 83 e97 I,1 2,144 420 3 702 747 1,087 1.172 1,045 2*7 88 CaetructiomEpwdatarn - Electric 562 0 248 283 324 m 7 0 0 etrcto E andtUres- 06PIHom-eloctnc 0 0 65 536 ale 3 a 0 Contrurtio Exsdatures- wtrld akhProjcts 47 t0o 165 216 217 CmstraKti edtorts - wnsed 13; 1229 I 3i 197 Ea wiu - Pral 2" 3 3? 326 336 CoUtructi i 0 0 214 287 00 vivideadi - Cot 119 5 a 0 0 0 0 *PrefrredII 13 57 5 58 5a 42 26 2 - Preerd 16 57 b0 62 is 57 4 52 38 47 71 _ . .. _ 132 __. …….….. _- _------Prefrrd 201 _ . . _… . . 1,811 2,09 S,416 4.4903 C.M 3,'9S s,5" 3,09 3,30 Total lie Of Cab 1.710 1.455 1,434 21 84 62 56 149 1,547 1,714 tl ASHIIcm RIASE 15 39 9 55 213 RAUfLAELECTRIC CUPUI of15 19904-299OWI SlUICEMMET

FisanialYee, EndedDec. 3kI 1984 1915 1986 1987 299 19319 2990 991 199 1993 194 1995 ---- ktat ------

UItmiityPlont to Sawvice/21,dgrConstruction 9.533 12.M9 14,442 17,094 20,421 24.559 29,072 33,560 30,201 43,175 43,603 54.829 KiIltL PlIt not to kSwi:o 374 :14 3174 374 374 374 374 374 374 374 374 374 Ins ukmaltgdDeweciation 2,q74 5.045 1,004 7,500 9,815 22,422z 14,431 16,815 19,32 22,169 25,454 29,171 hbtIltilat, Plant 6.93 8,311 ?9,10 9,948 10,910 22,311 14.8114 27,119 29,252 21,361 23,524 4b.033

Perausoolayetgsts 47 so 282 195 250 299 290 290 290 290 2 290 Ewrrtntkuts Ca,4 112 151 55 I10 323 335 420 4182 538 1,38? 2,934 4,6481 Shscial posztn 1IE 28 14 47 0 2 5 7 9 12 14 24 AccautsEhcivahle - Net 2,012' 2,438 3.336 2,3-14 2,252 2,425 2,638 2,879 3,069 3,306 3,528 3,753 OtberRKcOVARtle I249 I!) 274 153 124 124 134 145 153 146 176 187 oub~rlptionRecevable v. 225 75 0 0 0 0 0 N2aterialsI Sopolins 213 312 21 304 298 369 444 514 S78 641 706 781 Prepapuets i 21 25 10 129 129 131 132 133 135 136 131 Total Cvreatksses 2.65 3.080 2.949 2,938 3,204 3,610 31,84? 4,118 4,483 5,447 7,494 9.52 OtherAssets 44 81 149 89 115 124 134 143 153 143 172 182 OtherDhfsrrd Debits 24 27, 436 524 445 296 253 0 0 iOa)le

Total kssets adi OtherDebits 9,701 22.803 13,524 13,716 24,843 24,632 29,339 21,470 24,2711 27,460 31,480 Writ2

Frogi9 staryCqital C meterdStock 520 427 503 440 541i 55 609 433 457 481 505 299 ComonStock 234 -34 254 254 429 459 499 509 509 59 s0o 509 SubscribedPregwrgdStKck 2! 25 It 50 238 238 59 59 59 19 59 5 S%bscribedri'rn. StWc C :25 75 0 0 0 0 0 Prism on Saleof CuamStock 51 51 51 51 51 346 756 821 B21 821 321 Mt1 A rulsl Sutrplus 1,397 2.5811 3.436 3,33Z ,716 4,110 4,463 ,203 5,Al7 6,413 7,170 7,83 knteeadfarnhas 279 223 775 1,421 2,426 3,243 4.1153 6,0170 8.145 11,202 14.443 28,202 TotalProprietary Cupital 2,424 3,5b2 5.230 5.546 7,421 9.20 11,014 13,,295 16,008 19,430 2352 23,004

Loaq-Irs Debt- Rit of furrmntRaturities 1.245 1.143 :.O.,: :,86 3.209 3.161l 3.239 3,819 3,318 4.054 3,65? 3,648 CarrostUsbilities krceutsPaabit 894 .,ot8 2.696 1,052 2,033 2.353, 2,919 1,274 1,374 1.4sf 1.579 1.690 Ntotspai Ie 2.7149 ;,9315 I.31.. i1.6' 690 934 924 "74 204 (21, (40) %40) AccruedIstwrot Payable ;Gb 335 265 I"1 192 186 102 161 li l8t 181 Cutup Donsts 4 4 4 4 12 ?2 28 34 40 45 kccrud laxns 484 1,93 205 118 22 146 159 172 Incemelaxes Payable qb C.~~~~~~~~~~~~~984 204 154 335 425 483 541 mlibab pAvable 17 6 1) ~ ~~29 ~ ~~~~~~~~~~36 36 37 38 32 24 26i CurrentWaturities al i.2q;-TeraOth, 1,059 i,543 III 723 1.276 m8e 1,415 821 833 401 329 327 OtkwrCurrant L.abil;t:v, 28 :I 83 32 24 25 27 28 29 3I 32 33 TotalCarreot Liabilities 5,1118 4,593 4.612 S.62Q 3,232 3,2M 3,994 3,423 3,153 2,704 2,798 2,976

OtherLiabilities 414 504 591 488 991 1,036 2.090 1,'4 1,29 2,253 1,307 1.36 TotalLiabilittus sd Other Crtdits 9,701 22,803 13,524 12,716 14,843 16,e32 29,339 21,670 24,178 27,460 31,480 76,026 PNtLPPINES ll 5 .01 rAII. MDE DISIU1IUTIONPIOJET Pap O WNILAELECIRlt CW1 of 15 194-lnr5 tn ST= ISARY (ir Nillien Pess fiunacial VOarEO Det. ti 595 1841986 198? 1908 1989 1990 9 1m9 199 19 1995 ------c tual------Pr-a--hjgctiMS ------nStflflUCtfl U .... tt.fl...... m?tstC.fl... Rw9x8"*M..Sr ComoStock, iaw I 254 254 254 254 254 429 45 4 9 5so 509 S0 Stolk Doi9Po (kStWr 1) 0 0 17e Comn StockEqity at Par '0 ( 0 0 so to 0 0 0 0 Cotse Stocl,Iecue*r 31 254 254 254 254 429 459 49 0 s 50w 590 towutatis of bhised Cis%lo iengs 2 I criat In Camor"Stock 0.00Q o.on t.OOt 0.00 68.901 6.9 9.72 2.001 D.00M 0.00L 0.00, 0.001 koupaUlCash ividus4s 250 250 250 250 20 m 210 vtsseCtnb Dividends 267 237 2" m0e I 321 3S

SUar of itwstvIssue (Osrktt1 total Earolop er Sture- Prior ear lPesosi 24.01 23.71 29.16 40.74 47.95 4i5.i 00.9% [s"e Price- S Tien Prior artEPS IPesosI 125.00 150.00 145.79 203.69 239.77 325.67 364.30 Vilu of Eott Ists. lfNliloi FPeso) 0 0 250 S0o 0 0 0 0 0 Ito of Sare sswd(million? 0.00 0.00 2.00 2.00 O.Q 0.00 0.00 0.00 0.00 Can StockEritY At P r 0 0 20 20 0 0 0 0 0 Pritls snCome Stack 0 0 230 280 0 0 e 0 0

Sas eo Eattt hIssts 'eplce Total Earninpwr Share- Prior Year iPem) 2411 23.71 29.t6 40,74 47.95 95.1s n.9 Issw Prce - 4 Ties PriOrTeair ES ;Peos, 100.00 100.00 I00.00 162.95 191.82 260.53 291.0 V1lst Equity lss iNlillionPewso 0 0 s 150 n o 0 0 0 Ut. of SharesIssoeo Isilior.1 0.00 0.00 0.o7. 1.0 0.75 0.00 0.00 0.00 0.00 CaOMMrStack Equity a' Par 0 0 10 20 to 0 0 0 0 Prmehrins Corie StotA e 0 130 65 0 0 0 0 n,tntthf.mnty#eSn_ .=::±sts:nt=t:.ns..fl.:nns.:n:.:::, r.n.fl.ss=-:-:.t=sns-stennnnnnB.h.sc. es.s. tWC,f sssan.sa s. cm.Snn...s esf. AM= 5.01 lUNILUPM1E 92SlPI1TIOl PROJECT Pap PUILUELECtRIC tLi 04 Is 2984-19S5SW MOTILUATNP RATIoS (Ir NlUI:unPsan,s uasial lowvEsdd OK. 31 1984 192 2986 1967 1998 I9S9 1290 l9 I992 MI93 I994 2995

_i OFP 3 VAUEPEA SWi OFCOM STOEt, Total PrapresntrCoital 2t424 .256U 5.226 5,54S 1,421 9,206 11,014 134295 1o006 19,416 23.53 23,04 Less: PrefurradStKb Equit% Prefrred StaKh 520 427 503 440 5s1 5so 609 633 67 431 505 52 SiaKribedPreferred StKu 2! 5 It 59 238 233 59 SS9 59 3 59 D niuedson PreferredStwo 87 87 i7 e87 4 57 f 62 i5 57 4S 52 Prefsr?edStacK Esiaty 60 539 U02 516 849 Bet 729 755 72I 5u7 114 64

lashVsl f Cof Stask 1.794 .02; 4.6S9 4.962 6.572 .325 10.216 12540 13,W 185,2 22,914 27,3M

perof rSaStSarf IsssuedaimaOutstaidang 8 8 25 .4 44 48 16 51 51 51 51

Bu WILI oERSeME Of :tOn 7T1D :2:.sS9 !56.93 54.93 195.39 192.47 127.54 214.77 246.85 2".20 370.43 450.23 57.U

Appralul Surplus I.I97 2.581 3,136 .3 :,lt 4,10 4.663 5,203 5,617 6.47 t7,1O 7,.114 80DtValue lIt ef Rea1utioao3 397 £41 993 1,t29 2.851 4.215 5.623 7.33, 9,410 12,374 15,743 19,480

80 VAIIEPER SNARE 2ET OF fEVALi!TA!ON 46.t9 5i.0' 121.1 6U.15 83.65 94.96 117.41 145.61 184.91 243.15 30.34 782.76 .. fl.....2....~~-- --- ==fn;,t....:-

CEIIIJTTIOIF E3II548 PER StARE OF CONMM STOCi: bt Incos far the Year Q2:! 06) 244 509 694 712 993 1.52f) 1,73( ;.523 2,t76 3.914 Lnst Dvidendson Preie1d StccI e7 87 87 4S79 ' e c5 57 4S S2

But14cs Ovaiable fat ommonStock '318) 4157' 257 41 644 655 934 1.457 1,715 2,466 2,n7 2.96

Ralized evalutionSurplus Ir'4 152 236 i2 S85 4 521 616 r75 t49 937 1,153

Ie_ of Coma ShasnIsied andOutstanding z i5 25 25 4 46 50 5t 51 51 St 51

E4332439PER 9WIE AVAIABLE. FOP 'ASH 2.1'1tEE -12.5. -6.19 6.1S 16.26 tS.02 11.27 16.71 28.64 33.7? 49.45 53.58 58.21 T-z --- szc.:e.t:et .. M- ts...s...... , ns:n.cn...... :. a...sn .. :;sts.n tt,..:n ... c...e... GOh:SALlAEO REVALUATION SPWLUS PER SHAFE 4.09 5.S. 9.29 11.89 1.8 .44 10.45 12.10 t4.25 16.68 19.39 22.36 nns .nn.s.....,...s.t.; .*.n-..---- U...... ::ttt t. . ... StZt...fl.Stt:Slt.Z.Sttfllffftft..S...... ta.ftnn...n TOALEAtNIS PER SHARE CF C(2I0 SOC -8.42 -0.20 I5.49 29.15 21.4..1 23.72 .2 40.74 47.9n 65.13 72n96 80.57 r ~ ~ ~ ~ fltsGGwsSw=:::s:::S=:S=:=:: :::flt==:=stn..a - t..t.t=s=fw::==S S*:* sh.nr.:*s.=safnn::nnnnn:wlsS2 a SeG Sts=ss.n nn Gase.nnSSSt ns tan.= .s.ss=.g*tSr. PHfILI90INES * m 50 ILA P5R DISTRIBUTTIONFRUltT lap0 11A11ELECTRIC COFUt If15 6EST TUP1IUAUREEUI R6EIIDETS (isIhblso Puce FlsaiL st r Esd Pc. 31 19F4 1915I9 97 isee 1919 IO9 Isn9m i9 IN4 195 ctul-_tl------

Oeartlag loco s 351 14 "950 1,190 955 1.100 1,322 1.3 2.020 2,642 2,624 2,99

Total 371 532 1,011 1.230 1,003 1.133 1,30.2 1,192 2,079 2,j2 2,91 3,011 an.. Isn ussua issr=sin .m m Wsussan .SfbtSt wsSfSSf SsSaf s .n¢g DD_sBa insf _ otaint ud Fiucalal Chargn laturnt cmLool-tare kIt 347 303 219 249 534 50.4 V 579 464 30.9 294 244 lutrnt an W rt-taro Dibt 285 037 501 459 110 1I? ..2 1500 22 2 Othar IntwrestECpe.t 15 to 22 26 35 50 i3 10 19 1t 19 19 Internt E rwp to onslructton (49) (l5) (42) (12) (221 (35) (10.) (911 (791 (74) (71) 103 kt Iotrant EIauLs 591 693 7tO 722 t57 074 45 5 514 30 23 It1 Ai: Amrtizatio0 ofDebt Erponu 4 7 8 15 35 19 19 IQ 19 17 la total 602 92 7s67 '30 671 711 664 674 ¶24 35 254 Ir5 StS.sm ...... s..... =- f. . .. n ...... 1 z.X. ttst..fltltta =-n. fh. nh..tf ttattn ==*nt. INltE5t COVERAERATIO I1.6l 92.21 13.1? U 66.St 158.53 1'9.52 2t1.01 32.412 36. 70.2.1t 110.11 170.4.1

IIIIIII REIRMEITPEF FES%!UCTURIR6 ASPEEKEIT O0.01 l0t).tl 1C0.Ot 100.01 100.01 IC0.0 lOV.('2 100.01 100.'42 I 0".0 103.02 1;.0* ,n...... == ... ------tt COIIIATIONOF PITLIZIT"A PA':L3!

140t4 I Fr#erred51cc' 5:. 4K; 30 440 561 5'. SO9 633 05 4fE 505 529 CoumStott 254 254 54 254 429 459 49 5- 5uq 509 X59 SO SubscribedPreterred Stari 525 1' '9 235 26 59 59 59 59 59 59 PremiumanSale of Cono. St,ik Si 21 51 !I 51 340 -50 921 621 321 321 921 RtainedEarnapgs . ! 9 ".5 1.4,! 2,42. 3,243 4,353 6,0_ 8.145 114102 14,4c 16,202 Total Eou:it i.027 9O 1.595 2.215 3,705 4,6?1 6.276 6,092. 10,192 12,972 16,257 20,120

Logl-terDebt I1urrent1kn-Current: 1,70. ,I151 3,033 '.0.1 4.365 4.041 4.*,4 4,t39 4,651 4,454 4,1t3 4,011 Lass:Uar^luteaI FORE! L.s (OtherOfd. t*tsi 14 272 436 5226 46! 290 25- 0 0 0 (o)0 Admtd Loo-tersDet 1,746 87 2,590 3,135 3.920 3,705 4,402 4.639 4,051 4,454 4,130 4,011 ------.. .. _...... ------.-...- _-__-__ _ _ _ HatesPaqal6 2,'49 -,955 1.310 1,673 690 834 914 774 204 (2) (40) (40) 'iotalCeottal 5,524 4,793 5.501 7.022 5.314 9,471 11,52 13,55 15,00 17,405 20,503 24,091

CtITALIZAtIkRATIO 1U.U .20.4? 29.0? 31.51 44.6U 51.41 54.12 59.9n t7.7; 74.51 79.0t 53.5?

M1INIMRED. PER RESTRCtURWI 06REENIENT 20.02 20.02 20.02 20.01 20.01 25.0t 25.0t 25.01 w:n=B:*Dsgs:S::_:D::::::::::=::::e: s =X:::s::::S=:::s:::::=::::::|:s:s::t::t:gawBssswn-a:X:r asD :tasssm#X::7DS...... sss5# £ S.O1 P331LIWIUtES- UILA PME DIISTRIDIDTIONP ECT losp, 11114ELECTRIC CUPAU of 1 3984-1995PRCIPFL ASSWIItNtS tin Cilliso Peo) Fifatciai lear ERm Dec.'1 1M5 15 193 13 193 19SI9 190 1991 1992 19 1994 1915 ---ktol ------ProKctiM ------1. GroftlaRate in Sales (KW1' -3.02? -6.51S 0.75? 1.%% 15.01 11.55S 17.441 7.69 7. 7.55 7.20i '.021 2. E Sales imillmiol B.42E 7,979 7,93 59,967 10.1'3 11,54 12,30 il,310 14,30 15,420 10,560 17,69 I. Icrems ianG r Exuen 3I.32 12.3? 23. 19.72 26.61 3.7n 14.31 3.0? U.n 17.3t 17.21 17.01

4. Inflation Rate 0.01 7.51 9.01 9.01 3.O0 L.01 L. L.es LK 5. Cqital Eoandatrn fin Rilito resosi 562 420 636 702 1?7 I,5 2,254 2,13 3,95 ,9 I,92 2,341 e. Itstrnt 0 Eo s Ihrepl ) Loe -terst Forav7.00% 13.00? 9.31 9.061 121 12? U2S 12t 121 l2t 12m 12 - Morala t1n- yace/I ir. r utl 5 .IS ;oan III III IL% IIS III - VFt Loan1 5 ,rs. gate, 15srs. '-N utnated 01173.2531 3.81111 . t 6.311 6.11 s .3? 0 E tF Loau I0 irs. race. 20 irs. repavstl *10 5.01 5.0S 5.011 3.0 5. 5.0 5.02 - EPFI C Loan 5 yrs. grace 5Yrs repabmt I 4.71 3.58 3.5? 3.5 3.1 3.51 3.51 3.5 I' 51art-tare 1) Loal 31? 4n 211 142 in in In In in In In In 7. bte Iea (tio llion Pasn) 0.00 ctvs. Rate InKreas elf. 0 0 0 0 0 0 0 S.00ctvs. Rate Intreanto. I0-1-SO 275 1,938 1291 1,4b l 1,592 14.00 ett. RAteIntreat ef. '-1-92 1,004 2,159 2,'t14 2,477 6.00 ctvs. Rate Increase off. 7-1-4 49 1,063 L. CMIIto coer F debt service above P1FitSsI 9. berae Exca Ratn/tS/ItSO. 16.9 39." 20.30 20.90 21.00 21.50 21.50 21.50 21.50 21.50 21.50 2X50 10. IE LOU ntmpg- $101.0 flillion is the balsce of Rntructured Loan. payable su-an llv in five yes strting 12/89. It. Rentrtured et NC OverduePyabesn P750 Null lie able malty mcthe th, 5th 6th years - 181 interest 800 12. Asst AMAsMl -Jan.J 1999 327 -Jan. . 1990 1.0?4 - Jan. 1. I19I ,155 Jan. 1. IW. 1.360 - Jan. 1. IM 1,510 - Jan. 1. 1994 1.679 - Jan. It 1995 1,0 23. lnsace of omaStudt. ':a0wi:1am Pesos) 15 150 75 0 0 0 0 250 300 14. Cas dividen on cmn to antrease by S n r near. 13. Isane of 5-er bnds payable rterlv 50 650 450 450 650 0 0 fer 4 years t 22 above lKal rate. 16. IFt loan - 13 years Kinldi 1 mers 300 n2 arms. .S75M bnternt Rate - ?l98q1 17. Isuae of 15-314? 5-var redeeale refureds 200 0 0 20-*r-11t fl.flnnnhn.mln,:,fl.flfltnflsta=ct. NSsS9St WtaSS£XSa Ntlt wa % AUD 5.01 lap 10

1M9O 191 12 1093 9Q4 1995 1wciKi lwr ESi Wt. S3 19g 1

.____ .___ ~.. . . StEDIILEII 1111SASIS .. ~~~ ~~~~ ~~~~~~~~~~~~~~~~~ 5,1i1 5,474 5,559 ~~~~~~~~~~~~3,629 ~~~~~~~~~3.319 4,325 4,593 4,8964,4 5,n4 5 701 * .17 Cainrctall Soaadutual 3.342 3.919 4.174 4524 3,548 I3,94 3.724 4.051 4,422 4. 4 1, 5,125 Imdstrlal '0 0 13 1A 14 15 17 1t Sllelrnole 125 3 143 156 170 172 Strut Lig,ts 86 94 10.313 11,504 12,30 13,310 14,389 15,420 16,53 17,6W =*" anw*m =_88 lotal *=%$. atz=== =sm." *B a 15.01 1 i.55S 107.441 107.691 1017lM 107.531 107.20t 107.02S uONsv micIBM 1,025 1,09 1,164 Untiusttal ~~~~~~ ~~~702 ~ ~~~~O5N ~~~912 ~ ~~1.199966 1,066 1,58 1695 1,957 1,9 2,150 2,317 2,450 tomwr.la 934 1,469 1,434 1560 1702 1,996 1,999 2,127 lobatria 0 0 0 0 0 0 0 0 saleMnals 0 0 0 0 Strut Liq9ts 17 0 0 0 ,5 ,2 ,9 7 titil 3,217 31,77 ,9 ,0

31 1f211 3333333 23132 133133333133333 KOM11IF CUNFCrE~~~~~~~~~~~~~~~~~~3333ElIlEE 9911AIIS1O -MA*) _ . ... _ __ ...~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ 2B.401 29.401 29.401 p0.99 29.402 29.401 29.401 29,40

23 24 263 tai 79 Is 1" 206 211 hstiid so 456 499 529 573 619 "I1 714 Cosuita 31 436 420 457 493 50 592 623 MaMtrlid 0 0 0 0 kelsnt ------0 0 0 0 1,290 1,391 1,9I,66 Total 246 1,050 1,102 1,192 AM= 3.01

.~~~~~~~~~~~~~~~~~~~~~~1 "is,

F a l TVrWEuadd Oc. 31 i93 lop 199 3991 9 399 I"4 399 ------P FroJ ct i ------… ------…

AIIItlV. DATAG PICf D P0R 94.423 91.16? 62.30? 33.01, 33.511 63.11 64.3 54.0n2 Xtu LOsS 16.763 16.261 15.8 5.U 14.3? 14.31 1LK 3L? a 'cbamw 12211 133001 35001 10021 IT7171 1 333 1993 20311 fwt Cast,Stu CostA fP91I AdjustbtsAl (002A463(0.03i) (0.03157)(0o.0 5 40.0i1515(0.0315) 10M.I) (0.05) ra. Cost tEst Aj. I FUI aut 1303 150212 i(5791 619) (2) 4109) 117511 (301) bsicElart CfirgeRlill Por^&S 1.059 1.05W 1 1.0511 L.01 3.091 10 I.0s hscEu,t~a vis/KU2Purtas 8:4fiH8;4?i S:?i 8S:3 4? 8:4ti o 4?S 8:4?i 84N aic Eawrl VD Franhis Tax ll1,1i2 31,99 13,730 14,664 15,717 13,0 17,9" hofFranchise Tax 19,124 Ol huratud 1111aul Statil) 0 0 0 0 0 0 0 0 kcrual (luldirq n Franctse Ta) f.l CMnt ij. St.. Cost Mi. I R E ountl (381 1512) I591) (631) 671 (724) 4771) l(3) bsic Esp Chvrp 11,410 12,143 14,036 134,93 10,03 17,19 3,2m 1,5314 Poyul Fat Cst dj. StH Cost dj. I FR1E I4401nt 502) (5l4) 127) (0723 1720) M7D7) 3153l bas Enwp E;rp I1.53 12,0F2 13,90 14,334 15,948 17.075 13,201 19,413

bdc Ea Chr 12 m 137637 3580 13695 o 179 19460 20 736 22 1'9 Fwl CastCij., Sa EastIi. I FUEI buut 1314; 1502) 1579) 16139 1662i 17091 1116 l30) ntlat Prcohasd Por 12,619 13,261 15,307 16,341 17,515 13,751 1998 21,312

Su-kbujle 2 LKClU ilF GENIERIATINlE iEOUIUEN totl kcrul 9.03 11,631 13,425 14.332 15,362 16.44 17,524 10.692 burial Total bural 9.259 11.409 13,276 14.257 15,Z76 6,35 27,434 16,595 lht kcrualih sal 4*35 11 150 76 b 90 9 97 tWTIMTI OF OEMiTION OSECREVEIIE

KEIaTIPOCHiE 30,76 2,I*469 13;77 14.257 15,2?6 16,35 17,474 10.55 =3-,:.l: :na.tD0 .acgDtaa naaCSCS nahc.c0 anU Sala:a anDA8tt:3t a0D AmnN S.O1

0a415

1939 1990 1991 19%: 1993 1994 IS FVloital 1VW E0etd Dir. It -frojechtons------

SCIEDILEOFAlTIU REVENK ',217 3,772 3,998 4,309 4,657 5,021 5,32 5,771 5sit Rnme "i9S2 1,094 1,179 1,269 1,33 1463 1,56 Rate Iucrea/CeA 11,6 13.276 14.251 1MM7 16.:55 17434 18,59 leouatian Charge0.6 1,452 2,462 3 657 4,560 068 ell51 Rate luruaul 0.0i' 0.10 990 1064 1,60 0.09 0.14 0.06 24U 1.00 1,102 1,192 1,29A) 1.391 1,45 t E R ^ 53 36 36 36 6 36 36 iscollams lntou i6 86 s 0 97 435 1U 150 ----..-- _-..... kcr"lRmursal - SenratioeCbarp -- -- ... _... . - .... - ..------23,509 26,270 29,119 31,77 34,476 Total Uperat1s Rayrun 16,459 18,545 21,098 20542 23020 29112 2U35 31407 34142 1.763 1.8U20 1.O4 1.225 I.9 SCIEOULEI LI TSRECEIVABLE 1.55S 1.1.U? 1.7070 3,306 I,53 Supniair 2,314 2,251 2,425 2,431 2.839 3,069 Ilace 10,767 11.469 13,276 14,257 15;2J6 163.M 17.434 19,59 kcraal of Somation Chrp 0 0 0 ofdAto Intreae 0 0 0 0 0 kctrual 5,692 7,075 7,822 9,252 50.994 12.764 14,345 15.551 RuculavbleIrma Cuvunt Wals 32 1I 35,0 318,04 Total k6cats Rictivable 18.772 20 79 23,523 26.147 29,109 10.369 11.411 1 ,125 14,175 15,195 16.205 17,344 1e,49 ruiadof muatns arp 0 0 0 of Rte lrtnass 0 0 0 0 0 k'tizatioe 0 0 allcti0M Of tachIVAb11 0 0 0 0 0 0 0 0 6.152 6.96O 7,760 9.133 50,849 12,616 14,213 153.n1 26,00 28.U2 31,557 30,251 Total Cu1uttion le,521 lB,SI 20,--5 2S33- 3.06S 3,30 3,523 3.753 twill dalac 2,251 2.425 2,638 2,839 li .UOr CCNs PATAILE 1,276 1.'4 1.477 1,579 Payable omung 1.051 1 03S I,! ,1' kcmes 12.614 1;,26! 5537 56.341 17,515 18,751 I9s O 21.3S2 1haudPow fr beNott 720 720 720 720 bterlas VA Splin I Oti 720 72.3 720 72n 0 0 0 0 0 0 a ~~~~~~.__...... --- -. --...... ------...... 20,M35 22,177 23.011 TT 14,390 15.014 11,e00 18,251 19.511 17.516 58.315 19.536 paid dring thevemr 12.603 12,156 14,032 14 s9t 16,056 Purom Psr 0 1,052 1.105 1,216 1,S32 1,40 1,563 1,65 atVwt PrhadPew r 0 0 0 0 0 0 0 0 Intretuid Ordo Ptyabne to EC n 20 720 720 720 Last am" fateiralsad SuppliesII otrs 720 720 720 720 0 0 0

0 0 0 0 tdof tp tLons 34 34 34 0 16,975 18.S37 19,36 20,598 21,921 L5, 136 1 I,033 l,0 1.1-- t,27 1,374 1,47 1.579 1,690 kcdrutsPayable, End 28151: 552tt * SSC SJat2211 1 1355 S2351 hhSSUd B551*1 AMII5 3.01

rimcl&l Ym Ewidcdkc. 'I 1i99 I"9 I0 IS91 1992 :Im 299 215 a,msfnn.::.f:..sdhs.fhl.sn.:a:: ~-~------Prou--- etions ------_- sa:sna*snhmnf:::nnnnzfltt:ss nsgnnnrnufllRfSinsflhfltflflfluflsuminnsni SOEDIE UTILITYPLANT Dhilitp Plaot,beginin tippaiial t7,094 20,421 24, '9,072 3,560 1.201 43175 41.603 2,643 2.819 2, 10 2,326 2,66 3,056 3,454 S3I,O CuuIVitr Ux 6usd 539 hru is trwrn 970 1,684 1,589 1,447 1,426 1,472 1,741 ;31 I 676 641 596 579 598 702 Capita1EIpsitwus Lw froW U UK 0 0 tCital apeitwrn Leo frowK 0 O 0 0 0 0 1N 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 tlifersets 0 0 0 0 0 0 0 (411 (511 (57) (67) (77) (362 (962 11061 566t Aijus t, __ .44_ 0 kility Plant td 20,421 24,559 29,072 33,560 58,202 43,175 46,603 34,629

t tiuut bm Depreciation- Prvmt Value 670 7% 930 2,O92 1.20 1,406 1,586 1.707 3t wKacitiwn 670 7t 930 I,062 1.240 1.406 2,53 2I

OFENP KINIATED WEIAT(P

Zcnldw hsrucltuu. fpanin 36sthI 7I5CO 9985 12,622 14.631 16,215 19,323 22,219 25,454 2,95 I,99 1,136 1,170 I1,345 1,54 1,775 2,036 Irtileted kothlv AwKistion ~~~~670796 930 1,062 1,240 1,404 1,596 2 797 % CItrtiro s 2412: (51) (57' (67) t77 (61 (96 1106I Otbwer dsteents (t19.1 0 _---- ... .. kci lated preci1ati. EN 9S, 12,622 41,631 1-,9- 5 IS,323 22,1 s 25,454 29,11- swse:ses=aS: :"stls statussst: * Imn. Ialln:2=3 cm=mmmnw 8xz=smx

lEWlt er eCWITLE1h)TURES

Cb Gbtlan J Oc 747 0 0 0 905 970 1.O 1,436 22 35 106 91 79 74 77 103 Total Caittal Ezp ditturs 769 35 106 91 t#4 1,044 1,34' 1, i *=ss=mIVn S9mcZcss Gmw.9=nSa 2ws 21323we 10=2022 131w2s232: 222*19-u2 2.-SO t122 Ot Ox et f52 692 9Ol lot 619 747

IlowAR (XEMA) tiN 1312 1 WPIT _... .. _.__...... Uthwr sats - 11almoe 3,019 3.536 3.735 3,79l3 4,061 lKrnute 41,345 4.65 4,991 biralm 0 519t I" 4E 271 234 269 294 94 0 0 0 0 0 0 0 Othr Liabilitien - Balance 2,620 3.0St IKcroW 3,025 3,156 3,50S 3.771 4,000 4.245 433 475 0 132 352 263 229 245 i7 uaw 0 0 70 .t4 (cram. 0 0 0 0 0 (41) t4(269) 74 (21 (401 (39) 364hireas 533 0 0 0 0 Iurtih tim ofdbtt 0 0 0 b n 1(1i (35 (19) !I9) Provisio for lepreciat l (19) (193 (171 114) 0 24S 256 251 I94 126 99 60 _ _ __ _ . ~~---- ...... _. - ---- ...... -- --- _ ----- S9rceI(o,licati) 5319 171 32) 316 249 05 3322122 32 i5 2238* I322S fl2 1812* 32N 333231 3se 283ss 332122sss 3e*2223 - 97 - ANNEX 5.01 Page 14 of 15

PHILIPPINES

MANILA POWER DISTRIBUTIONPROJECT

MERALCO - Assumptionsto FinancialProjections

A. Income Statement

1. Operating Revenue - based on derivationsof energy sales, basic revenues, foreign exchange adjustments,purchased power and generation revenue (presentedin pages 10 and 11, and summarizedon page 12 of this annex).

2. System Losses - assumed to declitnegradually from current levels to 16.52 by 1995 (page 11 of this annex).

3. Purchased Power - derived on page 11 of this annex.

4. Operation and Maintenance- projected to increaseby amounts approxi- mating 182 per year.

5. Depreciation- 3.33Z of revalued fixed assets in service at the begin- ning of the year (page 13 of this annex).

6. Taxes other than Income Tax - primarily the franchise tax, assessed at 22 of gross revenues a-8 real estate taxes. The aggregateof these is projected at about 2.75Z of operating revenue.

7. Income Tax - assumed at 351 of net income.

8. Interest on Long-Term Debt - assumed at 11 for borrowings from IBRD, 112 on borrowings from KfW, and at 122 on other foreign debt (page 9 of this annex).

9. Interest on Short-TermDebt - assumed at 152 (page 9 of this annex).

B. Cash Flow Statement

1. Changes in Working Capital - projectednet of changes in cash (page 13 of this annex).

2. PreferredEquity Issues (Net) - reflects amounts presented on page 9 of this annex less retirementsestimated on the basis of financial requirements. ANNEX 5.01 - 98 - Page 15 of 15

3. Common Equity Issues - presentedon page 9 of this annex.

4. Long-Term Borrowing - is based on the expenditureschedule of expenditures to implementMERALCO's InvestmentProgram.

5. Notes Payable and Other HarketableDebt - the plug figure of these projections. Because of other sources of funds that have been projected, this differentJalcan be met from revolvingcredits or over- drafts.

6. RestructuredNPC Payables - amounts to be repaid to NPC between 1989 and 1991.

7. ConstructionExpenditures - assumed on the basis of 1052 of depreciation plus the annual proceeds of the World Bank and FkW financings.

8. Dividends on Common Stock - based on former level of payments of P 10 per share, increasingby 3Z per year up to limits allowed by the MERALCO indentureor by the proposed project's debt service covenant.

9. Dividend on PreferredStock - payable at coupon rates, rangingbetween 10-182, carried on the particularpreferred stock issue.

C. Balance Sheet

1. Utility Plant in Service - includes Fixed Assets in operat:.onand Work in Progress. Fixed Assets in service are assumed to be retalued on July 1, 1988 and July 1, 1991 (page 13 of this annex).

2. Accounts Receivable- are projected on page 12 of this annex.

3. Inventories- are assumed at 32 of net utility plant in service.

4. Other Deferred Debits - adjustmentsfor foreign exchange fluctuations applicableto MERALCO outstandinglong-term debt.

5. Appraisal Surplus - same as revaluationreserve.

6. Accounts Payable - are projectedon page 12 of this annex. - 99 - ~~~~ANNEX5.02 Page I of 9

PHILIPPINES

MANILA POWER DISTRIBUTIONPROJECT

Manila Electric Company

Action Program to Reduce System Losses, Receivables and Payables

Introduction

1. Since August 1987, in connection with the appraisal of the Bacon Manito Geothermal Power Project (Loans 2969-PH). MERALCO has begun vigorous implementationof a coordinated action program to reduce system losses, accounts receivable and accounts payable. Section I hereunder outlines the program to reduce system losses. Action on all steps have already begun. Significant improvement,however, will only be recorded when implementationof the program is well advanced. Section II describes the accounts receivable situation. In effect, any problem related to private-sector receivables results from accounting practices which, while generally recognized as appropriate throughout the Philippines,give a somewhat misleading picture of what is actually collectible. With the Government'shelp, the problems associated with receivables fron agencies of the National Government has been eliminated. Receivables from agencies of Local Government remains a problem; HERALCO is taking some steps to improve these but will need help from the Natior.nlGovernment to realize significant improvement. The accounts payable problem has been limited to arrears owing to NPC. Under the restructuring arrangementwit 1i NPC, this problem has been eliminated; the guarantees given by HERALCO to NPC effectively preclude a recurrence of the problem.

I. SYSTEM LOSSES

A. Coord.nating Task Force

2. On August 17, 1987, a Task Force on System Loss Reduction was created with the following memberships

Atty. Pastor S. del Rosario - Chairman Mr. Jesus P. PFancisco - Hember Mr. Magsikap B. Mole - Member Hr. Virgilio C. Flordeliza - Member Mr. Delfin S. Brigino - Member Hr. Orlando S. Valenzuela - Member Mr. Rodolfo N. Quetua - Member Management Services Division - Secretariat

This group is responsible for monitoring, analyzing and prescribing solutions to system loss problems on a corporate-widebasis. The task force is still operational; it meets regularly to ensure that top management's high priority on loss reduction is shared throughout the Company, and to direct and monitor the Company's loss reduction efforts. - 100 - ANNEX 5.02 Page 2 of 9

B. Constraintsto the Implementationof the System Loss ReductionProgram

3. The Company's capacity to implementits program to reduce system losses is limited by the amount of finance available to undertake the development of physical facilitiesneeded to reduce technical losses. In fact, one of the reasons for the rise in losses in the 1980s is the overextendedand critically loaded power transformersand lines due to the Company's inability to construct substationsand lines in the 19709. Physical facilitieswere built only to the extent permittedby available funds, and then only to meet the load requirement. And even this would not have been met adequatelyhad the load not dropped drasticallyin 1983 as a result of the economic crisis.

4. Solutions to the nontechnicallosses require millions of Pesos of capital expenditures. Initial appropriationis estimatedat P 8 million ir 1987 and an annual budget of P 3 million neaded to sustain the program. To date, more than 700 Company personnelare directly involved in the system '.-se reductionprogram. However, the equipmentneeded to implementthe program fully is still to be acquired.

S. The other constraintsto the system loss reductionprogram are nonfi- nancial in nature. These ares

(a) Legal procedureshave hampered the prosecutionof cases involving theft of e-ergy. Moreover, there are inherentweaknesses in the existing !...s covering energy pilferage. Like other classes of theft, pilferageof energy is consideredonly as a misdemeanor;as such, the correspondingpenalty is relativelylight and does not serve as deterrent. Also, trial courts tend to be lenientwith defendants in energy pilferage cases, a reflectionperhaps of the culture which views the consumersas the "underdogsin Lourt cases in contrast to MERALCO's image as a bullying giant.

(b) The inabilityof the Company in prosecutingsuccessfully cases of energy pilferagehas acted to encouragepilferage, as this implies low risk to the pilferers. The general attitude of avoiding involvementin suits is often encounteredby Company lawyers. The Company has experiencedsevere difficulty in getting witnesses in cases involvingthird parties.

(c) Organized theft often involvingCompany employees is difficultto detect because data which would reveal such theft has been altered. Some such cases have been detected and the Company is vigorously pursuing other leads.

(d) Pockets of slum areas in the Company's franchisearea cannot be served by the Company, mainly because of legal requirements. These communitiesoften are found to have makeshift connectionsdirectly to MERALCO lines, of course without meters. ANNEX 5.02 - 101 Page 3 of 5

C. Improve Hethodologyfor Assessing System Losses

6. At present, technicallosses are determinedby calculation. Nontech- nical losses are derived by subtractingthe technical loss (as calculated) from total system losses.

7. Currently, a project is on-stream to improve the calculationof technical losses thtough the following:

(a) Minimize resortingto estimatingenergy by installingkWh meters and standardizationof locationof meters at substations. For instance, subtransmissionline losses can be directly obtained from meters at primariesof substationpower transformers. Those losses would then represent the differencebetween the in-ut to the 115 kV system (from NPC) and the kWh of substationmeters.

(b) Installationof meters on all primary lines to obtain power transformer losses and primary line losses.

(d) Research on current methodology for calcuilatingsystem losses.

(e) Improve the TransformerLoad Monitoring system for distribution transformers.

(f) Use ot ,CADA system to obtain simultaneousreading of delivery and substationmeters.

D. Technical Losses

8. Causes for the rise in technical losses during the 1980ss

(a) overextendeddistribution lines;

(b) underrated primary and secondarydistribution lines;

(d) extensiveuse of repaired transformers;

(e) use of multiple distributiontransformation voltages;

(f) acquisitionof new franchiseareas;

(g) reduced generation of Metro Manila plants; and

(h) insufficientnumber of NPC delivery points. - 102 - ANNEX 5.02 Page 4 of 9

9. Actions taken:

(a) conversionto higher primary distributionvoltage;

(b) reconductoringof lines to larger sizes;

(d) phase out multiple distributiontransformation voltages; and

(e) installationof new substationsand lines.

10. Planned actions:

(a) use of computer-aidedplanning;

(b) use of more efficient transformers;

(d) increase generationof Metro Manila plants.

11. To reduce technical losses (specificprojects are shown in the report submittedby MERALCO entitled "MERALCO Project Formulationfor World Bank"):

(a) On subtranmissionlines:

(i) Installationof additionaldelivery points, where load concen- trations are identified.

(ii) Constructionof additionallines to meet single-linecontingency (indirectly).

(iii) Use of larger conductors (as determinedby economic studies).

(b) On distributionlosses:

(i) Relieve overloadedlcriticallyloaded power transformers

- Constructionof additionalsubstations at strategiclocations

- Redistributionof loads between adjacent substations.

(ii) Shorten overextendedlines as a result of Item A.

(iii) Serve industrialilargecommercial loads at higher distribution voltage.

(iv) Maintain high power factor at all distributionvoltage levels (95Z at primaries) - 103 - ANNEX 5.02 Page 5 of 9

(i) Optimize power and distributiontransformer and conductorcombi- nation

(ii) Enhance accuracy of TransformerLoad MonitoringSystem (TLMS)

(iii) Program replacementof secondarywires in new acquired areas

(iv) Computerizemapping system which will enhance accuracy of TLMS area-loadingestimate.

E. NontechnicalLosses

12. Ways of pilfering electricity:

(a) Direct connection

(b) Use of jumper

(d) Destroyingthe me3ter

(e) Removable tamperingdevice

(f) Substitutionof recordingdemand chart

(g) Use of reversingtransformer.

13. Immediatemeasures to be taken by MERALCOs

(a) Declarationof amnesty

(b) Investigationof erring employees

(c! Increase manpower complementdirectly involved in detection,appre- hension and settlementof cases

(d) Intensifiedsurveillance of service installation

(e) Securing service installationsin metal cabinets

(f) Seek assignmentof special prosecutors

(g) Research on practices of neighboringAsian utilities.

14. Needed Government assistance:

(a) Issue stern warning to the business communitythat theft of electricity is economic sabotage and will not be tolerated. ANNEX 5.02 -104 - Page 6 of 9

(b) Send strong request to the judiciaryto enforce the full force of the law.

(d) If necessary, give mandate to civil authoritiesand law enforcement agencies to assist the utilities.

15. Reduce nontechnicallosses over the next five years:

(a' Continueduse of Hexguard, securing ring and similar devices to include all GP customers eventually (adoptedin 1982).

(b) Installationof enclosingmetal boxes, with key-less padlocks and seal on all CT installatiors.

(d) Continued research on seals to obtain a better tamper-freedesign such as Tyden ball-type seal (started in 1986).

(e) Replacementof active/reactivemetering cabinet (ARMC)with new design (adopted in 1986).

(f) Complete installationof kWh meters on all primary feeders for monitoring of losses.

(g) Continue with the "Found Connected'campaign by meter readers.

(h) Conduct periodic audit of meters.

(i) Intensificationof saturationdrive on inspectionof metering installation.

(i) Increasedfrequency of inspectionon all General Power customers to at least once every quarter and all other customersonce every 2.5 years.

(k) Xeeping alert against organizedpilferage (resortingto covert operation when necessary)and monitoring of recidivistpilferers.

(1) Conductingof researcheson methods of pilferage and develop counter measures.

(m) Increase manpower and mobility of InspectionDivision as necessary.

(n) Research on type of meters that will be difficultto tamper with, such as the GE digital meter for possible conversionof meters of customersprone to pilfering. - 105 - ANNEX 5.02 Page 7 of 9

(o) Associationwith utilities of neighboringcountries, such as those in Pakistan and Indonesiaon counter measures being institutedor planned against pilfering of energy.

(p) Lobbying in Congress to revise statute of theft of electric energy.

(q) Lobbying in Congress for enactment of the proposed law to rationalize electric rates and to place all utilities under a common regulatory body.

(r) Maintenanceof the Task Force Commitlee on System Loss.

(s) M'.nimizationof contributionof administrativeloss (a subcomponent of nontechnicalloss due to lapses in administrativefunctions, such as absence of bills of consumers,computer errors, error in calculat- ing Company use, etc.).

F. Annual Target for System Losses

16. Based on the action plans intended to reduce system losses in the next five years, the followingare the estimates of the losses in percent annually:

1988 1989 1990 1991 1992

Technical loss 11 10.5 10 9.5 9 Nontechnicalloss 9 8.5 8 7.5 7

Total System Loss 20 19.0 18 17.0 16

II. ACCOUNTS RECEIVABLE

17. Generally,MERALCO has accounts receivableoutstanding from three separate consumer segments: (i) private-sectorindividuals and establishments; (ii) National Government agencies;and (iii) Local Government agencies. The measures being undertakento realize collectionsfrom each of these segments is describedhere below:

(a) Receivablesfrom the Private Sector. As of September 30, 1987, the Company had outstandingreceivables from the private sector amounting to about P 1.68 billion; of these, about P 1.26 billion, or about 752, are current. About P 0.15 billion, or about 9Z, represents accounts that are under discussion and that will probably be resolved in the next few months. Another P 0.27 billion, or about 162, are more than 120 days past due. The Company considersthat most of the ANNEX 5.02 - 106 - Page 8 of 9

arrears are uncollectible,even though these have not yet been written off the books of accounts. The Company's proceduresfor accounting for these arrears has followed accountingpractices that are generallyaccepted in the Philippines. During 1988, the Company will take the followingmeasures with regard to these arrears.

(i) The arrears will be examined case by case to determinethe exact status of the consumer. Any still receivingelectricity will be disconnectedunless payment in full is received. The Company will use all reasonablemeans to pucrsueconsumers that have been disconnectedbut who can be located. The Company will prepare a summary of consumerswho have been disconnectedand known to be bankrupt, or who cannot be located.

(ii) The Company will examine the legal, as well as the accounting, implicationsof writing off all of these arrears as an extraor- dinary loss.

(iii) If not explicitlyprescribed, the Company will take the afore- mentioned extraordinarywrite-off in 1988.

(b) Receivablesfrom National GovernmentAgencies. As of September 30, 1987, the Com,any had outstandingreceivables from Government-sector consumers amounting to about P 0.53 billion; of these, only about P 0.11 billion, or aF)ut 21X, were current and another P 0.07 billion, or about 13X, was less than 30 days late. Of the arrears, about 30? were incurred for the account of agencies of the National Governmentand the remainderfor agencies of Local Governments. Since early 1987, the Company has been able to make use of procedures, establishedunder the UtilitiesAccounts Committee,to have the national agencies in question certify their receivables;once certified,these receivablesare remitted to NPC which, in turn, arranges for their settlementthrough the Treasury and corresponding adjustmentsto HERALCO's accountwith NPC. The Company has been availing itself of this mechanismwith good results and hopes to reduce arrears from this class of customersto less than 102 by the end of 1989.

(c) Receivablesfrom Agencies of Local Government. Although the same methodology is available for MERALCO to settle some bills from agencies of Local Governments,those agencies are not required to certify their bills in the same way as agencies of the National Government. As a result, improvementin these accounts has been realized only very slowly. The Company has only limited leveragewith these customers. In the future, it will continue trying to use the Utility Accounts Committee'sprocedures with these customerswhile also pressing the National Governmentfor help in persuadingLocal Govern- ments to make use of this mechanism. The Company hopes it can reduce agencies of Local Governmentarrears from present levels by about 52 per year over the next ten years. ANNEX 5.02 - 107 - Page 9 of 9

III. ACCOUNTS PAYABLE

18. Although MERALCO has had sizable accounts payable in recent years, it has kept current with all creditors except its lead supplier,NPC. On Octo- ber 22, 1987, the Company entered into an agreementwith NPC that had the effect of restructuringits arrears, amountingto P 1,715 billion, retroactive to August 31, 9187. Under this agreement,MERALCO made three front-end payments, amounting to P 915 million in the aggregate. according to the following schedule:

July 31 P 400 million September30 P 100 million October 31 P 415 million

19. MERALCO will issue first mortgage bonds to NPC in payment of the remainingP 800 million in arrears. Those bonds will carry a 172 interest rate and will be repayablein six equal semiannual installmentsbeginning March 31, 1991. Upon the occurrenceof any of the followingconditions, and after a written notificationthereof, MERALCO shall be in default:

(a) failure to make the front-endpayments;

(b) failure to pay any principalor interest on the due date;

(d) failure to pay/settle all bills ;rom NPC within ten working days of the due date.

In that eventuality,NPC could begin proceedingsto liquidateMERALCO's assets to force payment of the remainingbalance of the bonds. With this agreement, MERALCO is current with all creditorsexcept where a question regardinga bill may be under discussion. ANNEX 6.01 -108 - Page 1 of 3

PHILIPPINES

MANILA POWER DISTRIBUTIONPROJECT

Economic Rate of Return

Assumptions

1. Demand Growth. Based on the MERALCO Economic and Planning Department's medium-term forecast 1988-97. Average growth rate of electricityconsumption for 1988-92 is 102 p.a., and 8Z for the period 1992-97. Commer- cial and industrialconsumer categoriesshow fastest growth.

2. System Losses. From a 1987 high of about 20?, MERALCO's losses in 1988 are estimated to have been reduced to about 172 in 1988. Although the target for 1993 is 8-92, it is realisticto assume that current efforts at loss reductionwill result in a gradual decrease to about 14X by 1993.

3. InvestmentCosts. Where available,investment expenditures are valued in CIF terms. Local materials and services,where no border prices are available,are convetted to border terms by using the standard conversion factor (SCF). The skilledportion of the labor component is valued at full market price, the unskillec,portion at 502 of market price. All labor costs are adjusted by the SCF.

4. O&M Cost. Two percent of cumulativeassets in the previous year, reflectingthe incrementalexpenditure on new transmissionand distribution equipment.

5. Shadow Prices. SCF = 0.86. Shadow wage rate for urban unskilledlabor about 50? of market price.

6. Exchange Rate. $1 = P 21.

7. Cost of High-VoltagePower. At the margin, MERALCO obtains power supply from NPC at high voltage, to be distributedin its system. The NPC price to MERALCO at the end of 1988 was P 0.98/kWh,having steadily declined from more than P 1.00. A recent Energy Sector Study (7269-PH)calculated long-run marginal costs of power supply in the Luzon Grid that would result in an LRMC-basedcost of MERALCO supply of about P 1.00/kWh. NPC is in the process of completingLRMC calculationsfor all their grids, and preliminaryresults indicate a cost of P 0.97/kWh for MERALCO. This analysis uses the latter figure as the cost of power entering the MERALCO Grid.

8. Retail Tariffs. A major restructuringof tariff levels in different consumer categorieswill be completedby 1990. Average projected revenues per kWh in 1989 reflect the new structure,and are used to value the benefits of power supply to consumers. This representsa proxy for the -10O9 - - 109 ANN~~~MIIEXPage 26.01 of 3

lower bound of consumers'valuation of power supply, as consuaers'surplus is not taken into account. The SCF is applied to all bfnefits.

9. Program Approach. As the proposed project constitutesan integral part of MERALCO's investmentprogram, a rate of return calculationfor the project alone is not suitable. MERALCO's five-year investmentprogram consists of many interrelatedcomponents, and thereforeis evaluatedas a whole. Transmissionand distributioninvestments are assumed to yield benefits of loss reductionand incrementalsales with a one-year time lag.

10. Sensitivity. The program rate of return is highly sensitiveto changes in the LRMC of power, and in the benefits from incrementalsales. Rates of return are thereforepresented for scenarioswith an increase in LRMC, and a decrease in incrementalsales. NPC's tariff is already generating revenues at levels that are consistentwith LRMC pricing. Although NPC's long-run marginal cost-based tariff structuresis in the process of being refined, it is unlikely that the level will rise by more than a few percentage points for MERALCO. In the most extreme instance,NPC might increase its rates by 10? in real terms. Benefit fluctuationswould arise mainly from a lower than projected demand growth. In the past (1984-86),energy demand was severely affected by the absolute decline in GDP. Projectionsindicate a healthy GDP growth in the medium term, consistentwith MERALCO's forecastingassumptions. The maximum likely reduction in demand growth should not depress benefits by more than 102.

Results IRR NPV (MillionPesos) (i2 10? 13? 15? Base case 32 8,603 6,045 4,762 LRMC plus 102 22 4,277 2,591 1,755 Sales minus 10? 18 2,808 1,420 737 LRMC plus 10? and sales minus 102 5 -1,518 -2,033 -2,270 ANNEX 6.01 - 110 - Page 3 of 3

MERALCO'S INVESTMENT PROGRAM, 1989-93: COSTS AND BENEFITS (Million Pesos, 1989 constant prices)

1989 1990 1991 1992 1993 1994-2009

Investment Foreign exchange 457 809 689 615 697 - Local materials/services 355 628 535 477 541 - Labor 79 141 120 107 122 -

Total Investment 891 1,578 1,344 1,199 1,360 -

Incremental operating cost (22) - 18 49 76 100 127 Purchase from NPC (GWh) - 1,243 2,580 3,864 5,235 6,707 Marginal cost (P million) - 1,206 2,502 3,748 5,078 6,506

Total Cost 891 2,802 3,895 5,023 6,538 6,633

Incremental Sales (GWh) Residential - 256 543 844 1,164 1,495 Commercial - 371 775 1,162 1,585 2,032 Industrial - 401 840 1,265 1,735 2,218 Other - 4 9 13 18 23

Total - 1,032 2,167 3,284 4,502 5,768

Incremental Sales (P million) Residential - 337 716 1,114 1,536 1,973 Commercial - 638 1,333 1,999 2,726 3,495 Industrial - 589 1,234 1,860 2,550 3,260 Other - 2 5 8 11 14

Total - 1,566 3,288 4,981 6,823 8,742 I - 111 - ANNEX 6.02

PHILIPPINES

MANILA POWER DISTRIBUTIONPROJECT

Selected Documents and Data Available in the Project File

A.l The Philippines: Selected Issues in Public&ResourceManagement; July 1987; World Bank.

A.2 Staff Appraisal Report: Bacon-ManitoGeothermal Power Project;May 1988.

A.3 The Philippines: Issues and Options in the Energy Sector; September 1988.

A.4 The Philippines: Issues and Options in the FinancialSector; August 1988.

A.5 EnvironmentalImpact Assessment Handbook;Ministry of Human Settlements, National EnvironmentalProtection Council.

B.1 MERALCO - Annual Reports; 1984-87.

B.2 MERALCO DistributionSystem - TechnicalConsiderations.

B.3 MERALCO - Executive Summary of Electric System RehabilitationProjects; 1987-91.

B.4 MERALCO CorporateCharter; December 31, 1986.

B.5 MERALCO Bylaws; December 31, 1986.

B.6 MERALCO Training and DevelopmentManual.

B.7 Trust Indentureof MERALCO.

B.8 MERALCO - FeasibilityStudy for Projects Complementaryto NAPOCOR Planned General Additions.

B.9 Project Support Data for MERALCO Projecs.

B.10 ComputerizedFinancial Models:

- MERFINC - IntegratedModel Assuming RestructuredLoans are Refinanced

- MERFIND - Integrated Model Assuming Restructured Loans are Not Refinanced

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