PROJECT INFORMATION DOCUMENT (PID) APPRAISAL STAGE Report No.: AB3607 Second National Water Supply and Sanitation Project Project Name Public Disclosure Authorized EUROPE AND CENTRAL ASIA Sector Water supply (60%); Sewerage (40%) Project ID P109961 Borrower(s) GOVERNMENT OF REPUBLIC OF Implementing Agency AzerSu Joint-Stock Company 67, Tbiliski Avenue Azerbaijan Tel: +994 12 431 4767 Fax: +994 12 498 3814 State Amelioration and Water Management Agency of Autonomous Republic (SAMWA) Public Disclosure Authorized Khatai Residential Block Nakchivan Autonomous Republic Nachivan Azerbaijan Tel: +994 13 644 7303 Fax: +994 13 644 7303 Environment Category [X] A [ ] B [ ] C [ ] FI [ ] TBD (to be determined) Date PID Prepared February 29, 2008 Date of Appraisal Authorization Date of Board Approval May 20, 2008

Public Disclosure Authorized and Sector Background

Country and Sector issues

1. The Republic of Azerbaijan is located on the western coast of the Caspian Sea. About 52 percent of the country’s population of 8.2 million live in urban areas. Azerbaijan has one of the fastest growing economies in the Commonwealth of Independent States (CIS). Its GNP per capita rose to US$1,850 in 2006 from a post independence low in 1995 of US$390 per capita. This rapid growth is mainly attributed to positive developments in the oil industry, which accounts for almost one third of Azerbaijan’s GDP. Growth in non-oil output has also risen since 1999, with an average annual growth rate of more than 10 percent. The Government is seeking to build upon the opportunities provided by its oil revenue, as well as to put in place measures that will ensure growth in the non-oil economy to ensure that the full benefits of the

Public Disclosure Authorized economic growth reach all sectors and segments of society in order to attain a sustainable reduction in poverty.

2. Azerbaijan inherited a relatively extensive water supply system from the Former (FSU). About 95 percent of the population in Baku and about 83 percent of those living

1 in secondary and small are connected to piped water supply. Whilst coverage appears generally high in comparison to most other of similar income, the quality of infrastructure and services has deteriorated severely over the years as a result of lack of investment and deferred maintenance. In many secondary and small towns water treatment facilities are largely dysfunctional or lacking completely, so that the population in these towns do not have access to safe water supply. In addition, almost everywhere in the country piped water supply is unreliable, and is often less than 12 hours a day. Centralized piped water supply systems are rare in rural areas, and less than 33%1 of the rural population has access to piped water supplies.

3. About 55 percent of Azerbaijan’s population has access to improved sanitation facilities. Access to sanitation facilities in urban areas is higher than in rural areas, with coverage estimated at 73 percent and 36 percent, respectively2. The sewerage network in Baku serves about 78 percent of the population3, although only about 50 percent of wastewater in the area is treated.4 Sewerage coverage in other urban areas is only about 32 percent, and a minor proportion of the sewage undergoes any treatment before disposal.

Key Issues in WSS:

• Deterioration in physical condition of Water Supply Infrastructure: The physical condition and performance of infrastructure for water treatment, transmission and distribution systems in most parts of Azerbaijan has deteriorated seriously due to wear and tear as a result of age, deferred maintenance, and damage due to natural calamities such as the year 2000 earthquake. Many water transmission and distribution pipes are now over 50 years old, and have passed or are approaching the end of their economic lifespan. The state of many water pipe networks and the associated problems such as intermittent supplies and heavy leakages affect the quality and reliability of services, and pose risks to public health.

• Deterioration in physical condition of Wastewater Infrastructure and the lack of wastewater and faecal sludge treatment facilities: Most rayons do not have functioning sewerage collection and treatment systems, and the few facilities that are available are in a poor state of repair. This is a serious threat to public health and has severe negative impacts on the environment.

• Utilities lack modern water supply and sanitation management with focus on technical and financial sustainability: Most utilities face challenges related to their lack of financial viability, which has been caused by various factors, including: inadequate price/tariff structures, an inadequate billing system, and poor collection rates, resulting in a heavy dependence on operational subsidies from the Government.

1 The figure for rural water supply varies between 10 and 33% depending upon the source. 2 World Development Indicators data, 2004. 3 The United Nations Environmental Performance Review, 2004 gives sewerage coverage in Baku as 72%. 4 Data is taken from the United Nations Environmental Performance Review, 2004.

2 • Poor Demand-side Management Practices: There is excessive water consumption and wastage in most parts of Azerbaijan because the level of metering, which would provide an incentive to save water and an opportunity for monitoring leakages, is still very low. Additional losses in the system are caused by the deterioration in plumbing systems within individual houses and apartment blocks.

Project Objectives

Project development objective and key indicators

4. The objective of the project is to improve the availability, quality, reliability, and sustainability of water supply and sanitation (WSS) services in selected regional centers (rayons) in Azerbaijan. This objective will be achieved through rehabilitation and reconstruction of water supply and sanitation infrastructure in the 21 rayons outside the Greater Baku Area, including five in Nakhchivan Autonomous Republic. Sustainable management of these investments to improve service delivery is expected to be leveraged through a comprehensive Institutional Modernization Component (IMC). An IMC is already part of the National Water Supply and Sanitation Project (NWSSP) which was approved by the Bank’s Board in June 2007, and it will be extended under the proposed Second National Water Supply and Sanitation Project (SNWSSP).

5. Progress towards achieving the above development objectives will be monitored through the following key performance indicators in rayons under the project: • Availability: (i) Number of people served by new piped water supply system, (ii) number of people connected to a sewerage network with an operating wastewater treatment plant. • Quality: Percentage of drinking water samples in project area meeting Azeri water quality standards • Reliability: Daily number of hours of water supply service • Sustainability: Working ratio (operating expenditures divided by collected revenues) of the rayon water utilities.

Higher level objectives to which the project contributes

6. The project contributes to higher-level objectives outlined in the following key strategic documents: (a) the existing Country Partnership Strategy (CPS) (Report No. 37812-AZ) approved by the Bank’s Board on December 14, 2006, (b) the draft Water Sector Strategy, and (c) the Government's Letter of Development Policy (LDP) associated with the Poverty Reduction Support Credit.

7. Country Partnership Strategy (CPS): Country Partnership Strategy: The FY07-10 CPS5 is organized around four main pillars: (i) improving the quality and transparency in public sector governance; (ii) supporting sustainable and balanced growth of the non-oil economy; (iii)

5 World Bank, November 8, 2006. Country Partnership Strategy FY 07 – 10 for Republic pf Azerbaijan, Report No. 37812-AZ, South Caucasus Country Unit, Europe and Central Asia Region.

3 increasing the quality of and access to social services; and (iv) strengthening of environmental management. Improving WSS service delivery through the NWSSP and SNWSSP will support all four CPS pillars. Modernization of AzerSu and SAWMA, including both capacity building and the greater transparency afforded by introduction of IFRS will contribute to the first pillar; and provision of reliable WSS is an essential component of the non-oil growth strategy of the second pillar, the improvement of quality and access to social service goals of the third, and the environmental management objectives of the fourth.

8. Water Sector Strategy: Joint work by the Bank and Government in preparation of the Water Sector Issues and Options Report (footnote 5 above) led to development of a Water Sector Strategy discussed between the Government and the Bank in July 2006, on the management and allocation of water resources in Azerbaijan in the short- to medium-term (2006-2015). The report reviewed key issues facing the water economy and articulated a strategy to improve the operational, financial and commercial performance of the sector, and its institutional effectiveness through a combination of investments in infrastructure and institutional modernization activities. The NWSSP and SNWSSP will contribute substantially to implementation of this strategy.

9. The Government’s Letter of Development Policy (LDP). The Government’s LDP associated with the Poverty Reduction Support Credit (PRSC-I, 2005) includes a commitment to consolidate reforms in the utilities and infrastructure sectors through financial restructuring of large natural monopolies; separation of commercial and regulatory functions; and introduction of proper regulatory frameworks. The Government outlined how it planned to ensure the sustained viability of utility services (WWS, energy and gas) and described its medium-term tariff policy. The Government remains committed to meeting these reforms, and the current CPS provides for continuing dialogue and support to facilitate this.

Rationale for Bank involvement

10. The Government of Azerbaijan is fully committed to strengthen performance in the WSS sector through modernization of management and significant allocation of resources to improve infrastructure service provision, as part of its effort to ensure sustainable growth of the non-oil economy, meet the 2015 Millennium Development Goals (MDGs) for health and water, and improve the quality of life of its citizens, with particular attention to the regional development outside of the Greater Baku area.

11. The Bank has been a longstanding partner with Azerbaijan in the water sector and is therefore well placed to support reforms and investment efforts at this time. Until recently, the cooperation in water supply was limited to the Baku area,6 because Azerbaijan’s fiscal situation and the volume of IDA resources which it could access did not permit more ambitious investments. As discussed in para. 7 above, in 2007 the Bank approved the NWSSP, covering 22 rayons across Azerbaijan, and the proposed SNWSSP would extend the same activities into a

6 Greater Baku Water Supply Rehabilitation Project (Credit 2751-AZ co-financed by EBRD and the Swiss Development Agency, with supplemental financing from IDA following the 2000 Baku earthquake; closed in January 2007).

4 further 21 rayons thereby ensuring a comprehensive nationwide approach to technical issues and institutional modernization plans.

12. The proposed project will be the third Bank operation in the water sector in Azerbaijan and the second one outside Baku. It follows the Greater Baku Water Supply Rehabilitation Project (GBWSRP) completed in January 2006, which financed the upgrading of WSS facilities in Baku and its environs, and the National Water Supply and Sanitation Project (NWSSP) approved by the Bank in June 2007, covering 22 rayons across Azerbaijan.

13. In addition to the Bank, the main development partners active in the water sector in Azerbaijan include: (i) KfW and the Swiss Government (Euro 54 million) for the towns of Sheki and Ganja; (ii) Asian Development Bank (ADB), (US$ 29.9 million) for WSS facilities in three secondary cities, , Agdash, and Nakhchivan city; and the Japanese Bank for International Cooperation (JBIC), which is preparing a project to cover WSS in ten rayons. Altogether 37 of Azerbaijan’s 58 rayons are covered with on-going or planned investments in WSS, and the Government intends to cover the remaining 21 rayons through the proposed project in order to have a comprehensive nationwide approach. In order to leverage IDA funds available for Azerbaijan in FY08, the Government has requested the Bank to provide financing in the amount of US$ 150 million, to finance investments in these rayons. Bank support for this project will leverage the knowledge and analytical tools developed from similar projects in the region and elsewhere.

Project Description

Project components

14. The proposed project components would be as follows:

Component A: Rayon Investment Component (Estimated Cost USD 410.92 million)

15. This component would finance the rehabilitation and reconstruction of water supply and sewerage systems in at least 21 rayons, as well as water, wastewater and septic sludge treatment facilities in these rayons. Rayons to be covered under the project include; , , , Aghsu, Ismayili, Udjar, Zardab, Lenkoran, Masalli, Astara, Jalilabad, Yardimli, Lerik, Davachi, Dashkesan, and Gedabey, and Sadarak, Kangarli, Shahbuz, Djulfa and in Nakhchivan Autonomous Republic. The project would cover the rayon centers and the located in close proximity of the urban centers or along the transmission mains supplying the centers. WSS services of the five rayons belonging to the Autonomous Republic of Nakhchivan are managed by SAWMA. Given the Government’s approach to cover WSS improvements in all of Azerbaijan’s rayons, all remaining rayons for which financing had not been previously identified were selected.

Component B: Institutional Modernization Component (Estimated Cost USD 12.30 million)

16. This component would further support development and implementation of activities needed for capacity building and modernization of AzerSu and its subsidiary companies and to

5 SAWMA, to improve the efficiency and sustainability of WSS services. It will assure that modernization measures already included in the NWSSP can be extended to cover the additional rayons and to also cover the time after the closing of the NWSSP. It would specifically include training in management, financial management, customer service, procurement, preventive maintenance and other subjects pertinent to effective and efficient management of the utilities, as well as provide continued support to activities such as development of performance monitoring, preventive maintenance and leak detection and repair. It will also finance costs of technical support for construction management including procurement support and contract supervision for the investments.

Component C: Project Implementation and Management (Estimated Cost USD 1.2 million)

17. This component will support project implementation by financing project management activities including incremental operating costs and project audits.

Financing

Source: ($m.) BORROWER/RECIPIENT 165.00 International Bank for Reconstruction and Development 230.00 International Development Association (IDA) 30.00 Total 425.00

Implementation

18. AzerSu will be the primary implementing agency for the project. Project implementation activities will be carried out through a Project Management Unit (PMU) set up within the company’s International Relations and Development Department (IRDD). AzerSu will carry the main responsibility for overall implementation of the project, including overall responsibility for financial management of all loan and credit proceeds, and procurement of goods, works and services for the project rayons under the jurisdiction of Azersu/Birleshmish Sukanal. The investments in Nakhchivan will be implemented by SAWMA, who will be responsible for the procurement of goods, works and services for the project rayons under their jurisdiction. Both implementing agencies will be supported by an internationally recruited Construction Management (CM) company in carrying out procurement and construction supervision activities.

Sustainability

19. As is the case for the ongoing NWSSP, the long term sustainability of the SNWSSP will depend inter alia on the following factors:

• The extent to which the water utilities and the Tariff Council continue to pursue a sound cost recovery policy. In January 2007, water tariffs were substantially increased with the aim of recovering at least O&M costs. The proposed rehabilitation of infrastructure under the NWSSP and SNWSSP (and other donor supported WSS projects) will help in this respect because they are designed to minimize operational costs and provide the

6 utilities with tools to (i) carry out successful demand management through universal metering, and (ii) implement leakage reduction by providing water supply systems with different pressure zones and meters to detect and manage leaks. The computerized billing and collection system to be installed under NWSSP will also aid in increasing collection rates. • The extent to which social protection activities are successful in offsetting any negative impacts which tariff adjustments could otherwise have on the poor. As Azerbaijan’s fiscal situation has improved with the increase in oil revenues, it has raised salaries and pensions, and begun implementation of a targeted social assistance scheme in June 2006.7 The Bank has also been cooperating closely for several years with the Government’s National Statistical Service, through a set of programmatic poverty assessment activities aimed at capacity building to monitor poverty trends and identify related issues; the CPS envisions continuation of this analytical work and technical assistance. • The extent to which WSS utilities staff can be motivated by training, improved human resource management, competitive and performance based salaries, the development of a corporate identity, and recognition by Government officials and the public.

Lessons learned and reflected in the project design

20. Several lessons emerge from the design and implementation of the Greater Baku Water Supply Project, the NWSSP and several other WSS projects in Europe and Central Asia:

• Assumptions used to project future performance and project implementation pace should be realistic and take account of prevailing political, economic and social conditions. • Technical assistance alone cannot bring about reforms unless it is combined with strong political support and the commitment of all stakeholders. Ultimate responsibility for reform lies with the Government and implementing agencies/utilities, and success depends not only on the advice given but also on the advice taken. • Prospects for achievement of the development outcomes of investment projects can be enhanced when supported in parallel by strong and consistent policy dialogue and close coordination with other related investment and technical assistance projects.

21. The SNWSSP takes these lessons learned into consideration in the following ways:

• The investment program is accompanied by the IMC which was developed for the NWSSP, extended to support the broader set of activities to be implemented under the SNWSSP. The IMC is realistic in scope and very focused on capacity building of sector institutions through continuous training in overall management, financial management, procurement, and skills aimed at improving operational efficiency, such as customer service and preventive maintenance. Capacity building for performance monitoring and monitoring and evaluation for the project is also included. • The need to strengthen AzerSu’s and SAWMA’s capacity to implement and monitor the combined NWSSP and SNWSSP investment program is fully recognized. To secure good

7 Design and implementation of the social assistance scheme have been supported by the ongoing IDA-financed Pension and Social Assistance Project (Credit 3923-AZ, approved June 10, 2004).

7 quality of workmanship, the bidding documents will be drafted and reviewed carefully and the number of AzerSu and SAWMA staff engaged in project implementation will be increased and trained. In addition, the construction management contract(s) will be carried out by a company with extensive international experience in order to support AzerSu and SAWMA in procurement and construction supervision. • The design of the NWSSP and SNWSSP has taken into account linkages to other Bank supported projects and initiatives, including for instance: (i) availability of appropriate WSS services for the hospitals under the ongoing Bank-financed health project; (ii) the support AzerSu will also receive for introduction of IFRS under the planned Corporate and Public Sector Accountability Project (CAPSAP); and (iii) the need for close coordination with the ongoing Azerbaijan Rural Investment Project (AZRIP) to ensure AzerSu’s and SAWMA’s early involvement in the planning and subsequent O&M of WSS investments in rural areas. The Bank has also maintained close coordination with other donors in the WSS sector (footnote 7 above) to ensure a common approach to policy issues and synergies in implementation (e.g., development of a unified billing and accounting system for AzerSu that will be used in other donor financed projects as well).

Safeguard policies

Environmental Assessment [OP/BP 4.01]: (See para. 41 above.)

Involuntary Resettlement [OP/BP 4.12]:

22. No resettlement of persons is anticipated, and the project does not foresee any demolitions of commercial or private buildings. However, depending on the outcome of the public consultations for the wastewater treatment plant sites, acquisition of unoccupied land (fallow land, used agricultural land and/or pastures) may be needed. As the exact location, land type and size have not yet been determined; a Resettlement Policy Framework (RPF) was prepared by the Borrower. In the event that OP/BP 4.12 is triggered, AzerSu and/or SAWMA will prepare a specific resettlement plan for that locale based on the RPF.

Safety of Dams [OP/BP 4.37]:

23. The SNWSSP will not finance any new large dams, but in some rayons rehabilitation of water supply schemes supplied from existing small dams might take place. In the event OP/BP 4.37 is triggered, investigations of the safety of such dams will be carried out by an independent dam safety expert in accordance with the Operational Policy.

International Waterways (World Bank OP 7.50):

24. The SNWSSP triggers the Operational Policy on International Waterways and falls within the exception to the notification requirement under Paragraph (7a) of the Operational Policy, as approved by the Bank’s Regional Vice President for Europe and Central Asia. Several project rayons depend on canals linked to the Kura River or its tributaries for their drinking water supply, and raw wastewaters from some of them are discharged untreated into receiving water bodies ultimately linked to the Caspian Sea. The works to be carried out under the project

8 are not expected to have adverse impacts on the quality and quantity of water to the riparians, and will not be affected by other riparians’ water use. It is expected that the water intake from the rivers will actually be reduced because of the reduction in leakages and improved demand management under the project. Proposed investments are also expected to improve the quality of wastewater discharged into the relevant waterways, resulting in overall improvements in their water quality.

Safeguard Policies Triggered by the Project Yes No Environmental Assessment (OP/BP 4.01) [X] [ ] Natural Habitats (OP/BP 4.04) [ ] [X] Pest Management (OP 4.09) [ ] [X] Physical Cultural Resources (OP/BP 4.11) [ ] [X] Involuntary Resettlement (OP/BP 4.12) [X] [ ] Indigenous Peoples (OP/BP 4.10) [ ] [X] Forests (OP/BP 4.36) [ ] [X] Safety of Dams (OP/BP 4.37) [X] [ ] Projects in Disputed Areas (OP/BP 7.60)* [ ] [X] Projects on International Waterways (OP/BP 7.50) [X] [ ]

* By supporting the proposed project, the Bank does not intend to prejudice the final determination of the parties’ claims on the disputed areas.

9 Contact point

Team Leader: Andreas Rohde Title: Sr. Sanitary Engineer Tel: (202) 473-6672 Fax: (202) 477-1386 Email: [email protected]

For more information contact:

The InfoShop The World Bank 1818 H Street, NW Washington, D.C. 20433 Telephone: (202) 458-4500 Fax: (202) 522-1500 Email: [email protected] Web: http://www.worldbank.org/infoshop

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