Document of The World Bank Public Disclosure Authorized FOR OFFICIAL USE ONLY

Report No: 38158-ET

PROJECT APPRAISAL DOCUMENT

ON A

PROPOSED CREDIT

IN THE AMOUNT OF SDR 86.0 MILLION Public Disclosure Authorized (US$130 MILLION EQUIVALENT)

TO THE

FEDERAL DEMOCRATIC REPUBLIC OF ETHIOPIA

FOR A

SECOND ELECTRICITY ACCESS RURAL EXPANSION PROJECT Public Disclosure Authorized

June 7,2007

Energy Team Sustainable Development Department Africa Region

Public Disclosure Authorized This document has a restricted distribution and may be used by recipients only in the performance oftheir official duties. Its contents may not otherwise be disclosed without World Bank authorization. CURRENCY EQUIVALENTS

(Exchange Rate Effective March 3 1,2007)

Currency Unit = Ethiopian Birr ETB8.89 = US$l US$1.51326 = 1 SDR

FISCAL YEAR July 8 - July 7

ABBREVIATIONS AND ACRONYMS

ADLI Agricultural Development and Light Industrialization AfDB African Development Bank APL Adaptable Program Loan BADEA Arab Bank for Economic Development in Africa CASASN Country Assistance StrategyAnterim Strategy Note CDD Community Driven Development CDM Clean Development Mechanism CFL Compact Fluorescent Lamp DBE Development Bank of Ethiopia DSCR Debt Service Coverage Ratio DSM Demand Side Management EAREP I1 Second Electricity Access Rural Expansion Project EEPCo Ethiopian Electric Power Corporation EIRR Economic Internal Rate of Return EMCP Expenditure Management and Control Sub-program EMP Environmental Management Plan EEA Ethiopian Electric Agency EMU EEPCo’s Environmental Monitoring Unit ENTRO Eastern Nile Technical Regional Office EPA Ethiopian Environmental Protection Authority EPSEMP Ethiopian Power System Expansion Master Plan EREDPC Ethiopia Rural Energy Development and Promotion Center ESMF Environmental and Social Management Framework ETB Ethiopian Birr FA Fiduciary Assessment FIRR Financial Internal Rate of Return FRR Financial Rate of Return FY EEPCo’s fiscal year, beginning July 8 and ending July 7 GDP Gross Domestic Product GoE Government of Ethiopia GNI Gross National Income GPOBA Global Partnership Output Based Aid ICAS Interim Country Assistance Strategy ICs National Interconnected System, namely the interconnected electricity grid IDA InternationalDevelopment Association .. 11 FOR OFFICIAL USE ONLY IFPRI InternationalFood Policy Research Institute IPP Independent Power Producer Iu ImplementationUnit JBAR Joint Budget and Aid Review JB S Joint Budget Study LED Light Emitting Diode LBOP Lighting the Bottom ofthe Pyramid LRAIC Long Run Average Incremental Cost LRMC Long Run Marginal Cost Large Towns Towns with populations ranging from 4,000-1 5,000 MDGs Millennium Development Goals MFI Micro Financing Institution MW Megawatt NBE National Bank of Ethiopia NPV Net Present Value O&M Operation & Maintenance OBA Output Based Aid PASDEP Plan for Accelerated and Sustainable Development to End Poverty PEFA Public Expenditure and Financial Assessment PFM Public Financial Management POM Project Operational Manual PSCAP Public Sector Capacity Building Program PV Photovoltaic RAP Resettlement Action Plan RE Rural Electrification REB Rural ElectrificationBoard REES Rural ElectrificationExecutive Secretariat REF Rural ElectrificationFund ROE Return on Equity RPF Resettlement Policy Framework for the Project, dated February 2006 Rural Towns Large and small towns and villages scs Self Contained Systems, namely isolated electricity grids SDPRP Sustainable Development and Poverty ReductionProgram Small Towns Towns with populations ranging from 1,500 to 4,000 SRMC Short Run Marginal Cost SSMP Sustainable Solar Market Package SWAP Sector Wide Approach ToU Time of Use Rates UEAP Universal Electricity Access Program UEAP Office Universal Electricity Access Program Office, within EEPCo Villages Towns with populations of less than 1,500 5YPSIP Five Year Power Sector Investment Plan

Vice President: Obiageli Katryn Ezekwesili Country Director: Ishac Diwan Sector Manager: S. Vijay Iyer Task Team Leader: Luiz Maurer

This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not be otherwise disclosed without World Bank authorization.

ETHIOPIA SECOND ELECTRICITY ACCESS RURAL EXPANSION PROJECT

TABLE OF CONTENTS

Page A. STRATEGIC CONTEXT AND RATIONALE...... 1 1. Country and Sector Issues ...... 1 2 . Rationale for Bank Involvement ...... 9 3 . Higher Level Objectives to which the Project Contributes ...... 10 B. PROJECT DESCRIPTION ...... 10 1. Lending Instrument ...... 10 2 . Project Development Objective and Key Indicators ...... 11 3 . Project Components ...... 11 4 . Lessons Learned and Reflected in the Project Design ...... 13 5. Alternatives Considered and Reasons for Rejection., ...... 15

C. IMPLEMENTATION...... 15 1. Partnership Arrangements (ifapplicable) ...... 15 2 . Institutional and Implementation Arrangements...... 16 3 . Monitoring and Evaluation of OutcomesResults ...... 17 4 . Sustainability ...... 17 5 . Critical Risks and Possible Controversial Aspects ...... 18 6 . Credit Conditions and Covenants...... 19

D. APPRAISAL SUMMARY ...... 20 1. Economic and Financial Analyses ...... 20 A . Economic Analysis ...... -21 B. Financial Analysis ...... 26 2 . Technical ...... 30 3 . Fiduciary ...... 31 4 . Social ...... 32 5 . Environment ...... 32 6 . Safeguard Policies ...... 33 7 . Policy Exceptions and Readiness ...... 34

iv Annex 1: Country and Sector or Program Background ...... 35 Annex 2: Major Related Projects Financed by the Bank and/or other Agencies ..... 50 Annex 3: Results Framework and Monitoring...... 53 Annex 4: Detailed Project Description...... 55 Annex 5: Project Costs ...... 66 Annex 6: Implementation Arrangements ...... 67 Annex 7: Financial Management and Disbursement Arrangements ...... 81 Annex 8: Procurement Arrangements ...... 90 Annex 9: Economic and Financial Analysis...... 99 Annex 10: Safeguards Policy Issues ...... 124 Annex 11: Project Preparation and Supervision...... 126 Annex 12: Documents in the Project File...... 128 Annex 13: Statement of Loans and Credits ...... 130 Annex 14: Country at a Glance...... 132 Annex 15: Map (IBRD 35496) ...... 134

V ETHIOPIA

SECOND ELECTRICITY ACCESS RURAL EXPANSION PROJECT

PROJECT APPRAISAL DOCUMENT

AFRICA

AFTEG

Date: June 7,2007 Team Leader: Luiz Maurer Country Director: Ishac Diwan Sectors: Power (65%); Energy Efficiency and Sector Managerhlirector: S. Vijay Iyer Renewables (35%) Themes: Infrastructure services for private sector development (P) Project ID: P101556 Environmental screening category: Partial Assessment Lending Instrument: Specific Investment Loan

[ 3 Loan [XI Credit [ 3 Grant [ ] Guarantee [ ] Other: For Loans/Credits/Others:

I BORROWEREEPCo 0.0 I 44.4 I

GPOBA GRANT 9.0 1.o 10.0 CUSTOMERS AND USERS 9.7 6.5 16.2 TOTAL 69.7 131.0 200.7 Borrower: FEDERAL DEMOCRATIC REPUBLIC OF ETHIOPIA Ministry of Mines and Energy Contact Person: Ato Alemayehu Tegenu Tel: 00 251 1 16463357 Email: [email protected] Addis Ababa, Ethiopia Responsible Agencies: Ethiopian Electric Power Corporation (EEPCo) Contact Person: Ato Miheret Debebe Email: [email protected] Tel: 00 251 111 560041 Fax: 251 111 552345 4ddis Ababa, Ethiopia

vi Ethiopia Rural Energy Development and Promotion Center (EREDPC) Contact Person: Ato Asress W/Giorgis Tel: 00 251 1153689 Fax: 25 1- 1-5 17874 Email: [email protected]

I Addis Ababa. Ethiotia I Estimated Disbursements 1 FY 2008 2009 2010 2011 Annual 10.0 45.0 55.0 20.0 Cumulative 10.0 55.0 110.0 130.0

I resDects? I I

Is approval for any policy exception sought from the Board? [ ]Yes [XINO Does the Project include any critical risks rated “substantial” or “high”? [XIYes []No

Does the Project meet the Regional criteria for readiness for [XIYes [ ]No implementation?

Which safeguard policies are triggered, if any? The Environmental Assessment (OP/BP/GP 4.0 1) and Involuntary Resettlement (OPBP 4.12) safeguard policies are triggered under the Project. Significant, non-standard conditions, if any, for: Board Presentation: None Credit effectiveness:

The main conditions of effectiveness are:

0 Execution of a GoEEEPCo subsidiary agreement, in form and substance satisfactory to the Association, providing for GoE’s injection ofthe proceeds ofthe International Development Association (IDA) credit to EEPCo to assist in financing the UEAP.

vii 0 EEPCo’s appointing one additional accountant to handle financial transaction and two additional procurement specialists to strengthen UEAP capabilities.

Covenants applicable to Project implementation:

The main Credit covenants for the Project are:

The ESMF and RPF will be implemented in a manner satisfactory to the International Development Association (IDA).

EEPCo will maintain the UEAP Office with appropriate staffing as agreed with the Association, including environmental, procurement, accounting and monitoring and evaluation expertise.

EREDPC will maintain the REES Office with appropriate staffing as agreed with the Association, with expertise in the areas of environmental, procurement, accounting, monitoring and evaluation, and hydro engineering.

GoE will provide a summary note describing the composition, roles, responsibilities, and governance mechanisms for the recently created Committee on grid and off-grid electrification. Key coordination and integration processes are also to be highlighted.

EEPCo will ensure that ongoing operating expenses and investments to be financed from revenues (other than from grants, equity contributions and other similar sources) do not exceed available revenues.

The Borrower will contribute funding (including the proceeds ofthe IDA Credit) to EEPCo for not less than 80 percent ofthe capital costs ofthe grid-electrification component ofthe Project.

... Vlll

A. STRATEGIC CONTEXT AND RATIONALE

1. Country and Sector Issues

Country Background

1. Ethiopia is one of the most populous countries in Sub-Saharan Africa and also one of the poorest. Ethiopia’s US$130 per capita GNI is significantly less than the Sub-Saharan Africa average. Although the country has abundant resources and good potential for development, poverty is pandemic and often linked to environmental and natural resource degradation. Approximately 44 percent of people fell below the basic needs poverty line in the last comprehensive national survey (1999/00).

2. Ethiopia’s economy rebounded in 2003/04 and 2004/05 with rapid broad-based growth. Real GDP growth was 8.9 percent in 2004/05, following an 11 percent growth rate rebound in 2003/04. Growth was driven by a strong agriculture sector (1 2.1 percent growth), but also reflects good performance across sectors (6.6 percent in industrial production, and 5.8 percent in services).

3. Macroeconomic stability has been a critical underpinning both to the foundations for economic growth, and increased levels of development assistance that have flown through the budget until recently. Exports grew strongly in 2004/05, but imports have grown even faster. Due to rising oil prices, increased demand for imports due to fast economic growth, and an ambitious infrastructure investment program, Ethiopia’s balance of payment situation has shown increasing fragility.

4. Over the last decade, the Government of Ethiopia (GoE) has been implementing a reform program aimed at poverty reduction through rapid economic growth and macroeconomic stability. The program was making good headway in poverty reduction in the 1990~~but was interrupted by the conflict with Eritrea in the last decade. GoE resumed its efforts following the conclusion of the conflict by developing the Sustainable Development and Poverty Reduction Program in 2002. Despite numerous shocks, such as the drought in 2002-2003, implementation of the SDPRP has resulted in important recent gains, especially on human development indicators, transport, the investment climate, small town development, and the fight against food insecurity. Pro-poor spending as a share of the budget has risen from 28 percent in 1999/2000 to 57 percent in 2004/05. The World Bank Country Economic Memorandum 2006 (CEM) on Growth and Governance finds that important progress has been achieved in the past decade, largely driven by improved institutions, including at the regional and local levels, which have been able to deliver a scaling-up of services and infrastructure.

5. GoE is nearing completion of an ambitious new poverty reduction strategy, called the Plan for Accelerated and Sustained Development to End Poverty (PASDEP). The five year program centers around eight priority themes: (i)commercialization of agriculture and promoting much more rapid non-farm private sector growth; (ii)geographical differentiation; (iii)population; (iv) gender; (v) infrastructure-especially roads, energy, and irrigation; (vi) risk management and vulnerability; (vii) scaling up service delivery to reach the Millennium

1 Development Goals; and (viii) employment. Cutting across these themes is an important emphasis on good governance, with plans to strengthen the civil service, accelerate local empowerment, and increase transparency and accountability.

6. The country’s first openly contested elections were held in May 2005. Voter participation was high. Under the announced election results, the ruling Ethiopian People’s Revolutionary Democratic Front (EPRDF) retained a majority in Parliament. Most of the opposition disputes this result. The aftermath of the elections has demonstrated the fragility of the democratization process. Election-related violence began in June of 2005. Many members of the largest opposition party, the Coalition for Unity and Democracy Party (CUDP), boycotted Parliament, and refused to take up the administration of Addis Ababa. The simmering tensions boiled over in early November, when clashes occurred between civilians and government security forces in Addis Ababa and several other cities. Thousands of civilians were arrested, including journalists and key opposition leaders such as the CUDP’s President and Chairman. Political tension had some adverse impacts on donor’s continued commitment. The situation returned to a state of normality. Recent military incidents with armed groups in Somalia have not affected donor’s confidence in the country.

7. The Interim Country Assistance Strategy (ICAS), approved in 2006, aimed at supporting GoE in further strengthening its institution building and governance reform agenda, as part of a coordinated multi-donor effort. The ICAS underlined the important role of governance in fostering development of the private sector, enabling improved service delivery by local governments, and underpinning an expansion of critical economic infrastructure. Elements of the ICAS included support for: merit-based civil service; public financial management; provision of stand-alone basic services in a fair and accountable way; promotion of free enterprise; improved agricultural productivity; and development of infrastructure as reflected in this rural electrification Project.

Energy Sector Specific Issues

8. Like many other Sub-Saharan countries, a striking feature ofEthiopia’s energy sector is the high proportion of biomass (more than 90 percent) in the energy matrix. Modern forms of energy such as electricity, natural gas or LPG are responsible for less than 10%. This pattern of consumption has led to increasing deforestation, shortages of wood fuel, and degradation ofrural ecosystems - a problem worsened by inadequate supply-side measures for improving forest stocks.

9. The limited supply of modern forms of energy and their high costs relative to the low average income per capita has reinforced the dependence on biomass energy. LPG is not widely used in Ethiopia for heating or cooking, due to the high import costs and the barrier represented by the acquisition of millions of metal containers for household use. In the absence of this form of energy, widely used in other countries, customers face the reality of using fuel wood or electricity for basic need such as heating or cooking. From a country’s perspective, the latter is also a very expensive way to meet household energy needs, except for the most affluent.

2 10. Furthermore, energy in Ethiopia is not used in a very efficient way. In 2006, one kg of oil equivalent produced US$2.1 in GDP, when compared to US$2.8 in Sub-Saharan African Countries and US$4.2 in Low Income Countries worldwide. Energy efficiency in Ethiopia has slightly declined over the last four years.

2002 2003 2005 2006 Ethiopia 2.2 2.6 2.4 2.1 Sub-Saharan Africa 2.6 2.9 2.8 2.8 I LOW Income Countries 1 3.6 1 4.0 14.1 1 4.2 Source: World Bank Green Books

11. Hence, the Government strategy for development of the sector is aimed at improving the supply and use of electricity and biomass energy in an efficient and cost-effective manner. A shift towards hydro-generated electricity may alleviate part of the environmental degradation problem, but the Government is cognizant ofthe fact that the cost ofelectricity is a barrier to replacing wood fuel at the household level, unless the tariff becomes heavily subsidized. The Government is also working (with support from the Energy Access Project) to develop energy efficient stoves and to promote the use of bio-fuels (such as ethanol) for cooking (with the support from the private sector) to relieve the pressure on wood fuels. Those are meant to be relatively simple actions that have a significant impact on fuel efficiency and people's quality of life. As part of this EAREP I1 Project, the GoE wants to further investigate how to make the Ethiopian economy more energy efficient.

12. Ethiopia faces several key fiscal pressures driven by the energy sector for which adjustment is desirable from an economic point of view but problematic from a political perspective. While global oil prices have risen, government has not increased domestic fuel prices since December 2004, resulting in a large fuel subsidy. Similarly, while Government has recently approved an electricity rate increase of about 22 percent, tariffs remain below the level that would ensure sustainability of the state-owned Ethiopian Electric Power Company (EEPCo), given its ambitious expansion plan, and further tariff adjustments will be required over time.

Electricity Sub-sector Issues

13. Access and ElectriJication Rates. The percentage ofthe population with connection to electricity is extremely low, currently about 6 percent. Only about 17 percent' of the population lives in electrified areas (Le., areas with some form of electricity supply for residences and businesses). The low level of access to electricity is a major barrier to economic development, as well as to the provision of social services in rural towns and other rural areas.

14. Ethiopia is expanding service and consumption. The per capita yearly consumption has steadily grown from 22.3 kWh in 2001/02 to 32.9 kWh in 2005/06. System losses have decreased from a historical 20 percent to 18.4 percent in 2005/2006. Total energy production

3 in 2005/06 reached 2.9 TWh. In the last 5 years, it has grown at a high rate of 9.6 percent. Peak demand has grown at a higher rate of 10.7 percent, suggesting a higher percentage of residential consumption and also some potential for demand management and energy efficiency.

15. The majority of the people are supplied by EEPCo, the vertically integrated power utility. EEPCo has about 1,130,000 customers, including 360,000 in Addis Ababa where the connection rate is 33 percent. In other urban areas, the rate is about 20-30 percent. However, 85 percent of the population lives in rural areas, where the access rate is less than 2 percent. The major load centers are in Addis Ababa, Nazereth, Dire Dawa, Harar, Bahar Dar, Mekele and Awassa. The Addis Ababa load center accounts for over 60 percent of the total demand.

16. Ethiopia is presently in a comfortable position as far as its supply and demand balance is concerned. There is enough generation capacity and hydrology has been favorable in the last couple of years. However, the GoE is cognizant about the vagaries of rainfall and the fact that demand may significantly increase. The ICs system faced supply deficits in the past, which led to power rationing. In order to alleviate this problem, EEPCo introduced 80 MW diesel fired power plants in selected parts of the grid. To cope with those risks, GoE is also developing an aggressive generation and transmission program which will be described later, and looking at possible energy efficiency interventions to relieve pressure on power system expansion.

Grid Based Electrification and UEAP

17. UEAP is an umbrella program within EEPCo designed to provide grid-based electrification on most rural towns and villages over a ten-year horizon. It has been operational since 2005. The objective of UEAP is to increase the access rate from the current 17 percent level to 50 percent over a five-year period, with a view to connecting virtually all rural towns and villages to the grid with a 10-year horizon. To this end, GoE is proposing to allocate about 17 billion Birr (about US$2.0 billion) over the next 10 years, with further allocations in later years. With those resources, UEAP will be able to provide access to 4.8 million customers, representing a population of almost 22.5 million inhabitants. This represents about 16 percent of EEPCo’s overall investment program for the corresponding period.

18. One of the challenges of UEAP is to assure that electricity is used by everyone when it is made available in a certain community. Some customers are able to afford the upfront fee (average of USS$ 75) to get hooked up to the system. However, for others this is a barrier to entry and they prefer to get connected indirectly via their neighbors or not get connected at all. EEPCo has been providing a credit facility whereby low income households receive a loan to repay the connection fees within a five-year period (recently reduced to two years to help strengthen EEPCo’s financial position). This approach has allowed a significant number of poorer residential customers to connect, as evidenced by higher connection rates (exceeding 40 percent) in recently electrified rural towns.

19. About 900 towns and villages had access to electricity in 2006. As of April 2007, this figure increased to 1,200. About 120 of those are within EEPCO’s Self-contained Systems.

4 EEPCo has about 1,200,000 customers, including 360,000 in Addis Ababa. The low level of access to electricity is a major barrier to economic development, as well as to the provision of social services in rural towns and other rural areas.

Table 2: Number of Customers & Electrified Towns

Fiscal Year 2002 2003 2004 2005 2006 Total # of customers directly connected 654,885 698,360 797,697 947,697 1,126,464 # ofcustomers directly connected per year 29,389 43,475 99,337 150,000 178,767 Electrified towns per year 23 66 74 32 227 Number of electrifiedtowns 492 558 632 664 89 1

20. The objective ofUEAP is to increase the access rate from the current 17 percent level to 50 percent over a five-year period, with a view to connecting virtually all rural towns and villages to the grid with a 10-year horizon. To this end, GoE is proposing to allocate about 17 billion Birr (or almost US$2.0 billion) over the next 10 years, with further allocations in later years.

21. The cost of carrying out UEAP mainly involves expenditures to expand the network beginning with 132 kV substations, down through the sub-transmission grid and into more localized distribution systems (including lines and transformers) at the rural town and village level. The estimated unit cost of rural UEAP rural electrification program is about US$500 per connection, and tends to decline as more customers have access to the grid. This figure is relatively low by international standards, since EEPCo is serving towns and villages in rural areas, as opposed to a more scattered population. EEPCo has been seeking opportunities to reduce unit investment costs to extend the grid.

22. EEPCoNEAP has been supported by several donors and financiers, including the World Bank, African Development Bank, Kuwait Fund, Arab Bank for Economic Development in Africa, and the Indian Government. So far, those institutions have co-funded specific projects encompassing about 4.13 Billion Birr to serve 780 towns and villages. This amount represents about 23 percent of the overall UEAP requirements and 13 percent of the total number oftowns and villages to be electrified.

23. Significant additional funding is required to develop UEAP in its entirety. Conscious ofthe potential stress on EEPCo’s finances of electrifying rural towns with limited loads, GoE and EEPCo have developed a financing plan under which 80 percent ofthe capital cost ofthe UEAP will be borne by GoE.

24. EEPCo is cognizant of the administrative challenges of coordinating such an ambitious program. Therefore, UEAP has been managing the universal access program through a combination of force account and turn key modalities. There is a preference in Ethiopia to use force account as much as possible, due to its lower cost and to develop in- house technical capacity. As part of the diversification objective, GoE has agreed to carry on EAREP I1under the turn-key modality.

25. Carbon Finance Project Prospects, A carbon project related to this rural access expansion project is potentially eligible under the Kyoto Protocol’s Article 12 which

5 establishes the Clean Development Mechanism (CDM) allowing public and private sector parties in industrialized countries to invest in greenhouse gas mitigation projects implemented in developing countries. Electrification displaces hydrocarbons, such as kerosene or diesel oil. Since most customers in Ethiopia are served by hydropower generation, rural electrification contributes to reduce greenhouse gases emission.

Off-Grid Electrijkation and EREDPC

26. A two-track strategy for rural electrification is under implementation. The first encompasses extension to the main grid to serve communities in rural areas. The second involves the provision of electricity using mini-grids in isolated communities, using decentralized generation sources, such as diesel powered machines or hydro plants.

27. Off-grid private sector solutions are being promoted under the auspices of the ongoing Energy Access Project. A detailed Off-Grid Master Plan was finalized in 2006, showing the potential and importance of Ethiopia embarking on a more aggressive off-grid electrification program. Given the extension of the country, and the low electrification levels, the study ascertains that it is virtually impossible to reach out to some ofthe more isolated communities relying solely on grid-extension, no matter how aggressive the UEAP turns out to be.

28. The Ministry of Energy is working to better coordinate the existing grid and off-grid investment master plans. This coordination should provide clarity regarding the areas to be connected to the grid in the short and medium run and those to be developed under off-grid solutions. The Ethiopian Electric Agency (EEA), in conjunction with the Ministry of Energy, has identified the need to prepare a clear regulatory framework to address the physical integration of grid and off-grid systems in the future.

29. There has been a growing interest from private entities, in particular rural cooperatives, to develop and supply off-grid electrification services, as a result of the funds being made available as part of the ongoing Energy Access Project. What is been proposed now under EAREP I1 is to build upon the basic institutional and business models developed under Energy Access Project, and provide additional funds to support the development of renewable based mini-grids. The World Bank acknowledges the importance of off-grid electrification, which should be seen as complementary to UEAP efforts.

30. Off-grid electrification is under the purview of EREDPC, which reports to the Ministry of Energy. EREDPC has established a core team as the Rural Electrification Executive Secretariat (REES) responsible for project assessment and implementation. The REES core staff has provided extensive advisory services, capacity building, and training to Regional Energy Bureaus and cooperatives, while the Development Bank of Ethiopia (DBE) operates as a Trust Agent. A GEF grant was designed to buy down the interest rate for renewable energy projects to be funded by IDA.

3 1. Off-grid projects under the Energy Access Project have entailed the development of a small-scale power generation source (e.g. diesel or hydro) and a mini-distribution grid to serve a group of customers in nearby communities. Typically, 300 to 800 customers benefit from each mini-grid, the average being close to 500. Diesel generators’ capacity is usually

6 below 100kW, while hydro plants vary on a site by site basis, but they are typically 200kW in size. So far, sixteen projects are in operation, providing electricity to about 9,000 users. Those projects have disbursed a total amount of US$0.74 million. Thirty-seven (37) projects have been appraised by the REF (both REES and Trust Agent) and amount to a total investment cost ofUSS4.3 million.

32. As of February 28, 2007, two-hundred-seventy-three (273) schemes were at different stages of implementation and appraisal 52 percent being hydro-based projects; 4 1 percent diesel-based; and 7 percent solar PV systems. This portfolio represents a total estimated investment cost in excess ofUS$50 million. In addition, two-hundred-and-five projects, out of more than one thousand requests, have been placed in the pipeline for pre-appraisal by the REES.

33. Given the increasing interest in the development of mini-grids, it is unlikely that the funding provided under Energy Access Project (both IDA and GEF) will suffice. It is very difficult for cooperatives to raise funds in the domestic market even at commercial rates. Therefore, additional IDA resources of about US$15 million are contemplated under the scope ofthis Project.

34. Private developers are responsible for preparing the business plans, including feasibility studies, economic and financial analysis, marketing, financial, operations and organization plans, as well as environmental impact assessment. The RE Fund Project Operational Manual provides some basic guidance on how the business plans should be developed. The REES, the Regional Energy Bureaus, and Regional Water Resource Department jointly assist the developers in preparing their proposals. REES appraises the applications, taking into account EEPCo’s grid expansion plans, customer’s willingness-to- pay, and the potential for economic development.

35. Rural cooperatives have emerged as a suitable business model to electrify remote communities, but opportunities are also open for any qualified private developer. Over 200 communities have organized and registered themselves as Electric Cooperatives.

36. Despite the apparent success of this business model involving cooperatives, there are several issues that deserve further attention as the off-grid program is scaled up. Some of those issues include: (i)limited participation from other private developers; (ii)the need to improve the joint planning process of grid and off-grid electrification; (iii)the need to have a good regulatory framework when off-grid assets are taken over (or other commercial arrangements); (iv) limited technical capacity of the cooperatives, and (v) tariff setting and regulation. A more detailed description ofthose issues is presented in Annex 4.

Other Investments in the Electricity Sector

37. EEPCo, who is the sole vehicle for the implementation of UEAP, remains committed to increasing the country’s hydro generation capacity. Ethiopia is endowed with cheap hydro resources. Given Ethiopia’s high altitudes, favorable rainfall, and topography, opportunities to develop hydro generation are considerable. Ethiopia’s hydro sites represent the most economic way to harness Blue Nile resources and make those available to neighboring

7 countries. Hydro generation in Ethiopia costs about US$1,200 per installed kW, or about one third of other plants’ costs being built in East Africa. Paradoxically, many of its neighbors are suffering the penury of load shedding and/or investing in expensive generation, while others face very high operating costs based on thermal generation.

38. The GoE is cognizant of the opportunity to “monetize” this potential and has intensified efforts in developing hydro generation. So far, EEPCo has been the primary vehicle for generation expansion as well, either acting as a builder and owner, or possibly in the future as a single buyer for energy to be produced by third parties. The government welcomes the possibility of having more active private capital participation in generation, but so far it has been alleged that the interest from private investors has been modest.

39. EEPCo is building four large hydro plants: Tekeze, with installed capacity of 300 MWand 980 GWh of firm energy, and Gilgel Gibe 11, with installed capacity of 420 MWand 1,500 GWh of firm energy. These two projects are scheduled for commissioning in 2007 and 2008, respectively. Additional projects include Tana Beles, with a capacity of 460 MW and 1,830 GWh in energy, Gilgel Gibe 111, with a capacity of 1800 MWand 6,300 GWh. EEPCo is drawing on different river basins, which is designed to reduce the hydrological risk and also create surplus energy for exports. More energy trading in the region would contribute to economic integration and to reducing generation costs. An interconnection with Sudan and Djibouti is planned for the next few years and with Kenya in the more distant future. A detailed study connecting Ethiopia to Kenya is underway, which will benefit several countries in East Africa.

40. The overall investment program involves resources of US$12.5 billion for the next ten years. Generation represents 64% of the total program, and UEAP about 16%.

41. EEPCo alone will not have the financial capacity to generate resources to support such an ambitious undertaking. It is expected that GoE will make significant equity or other forms of contributions to support the planned investments in generation, transmission and distribution, as well as in rural electrification, thereby relieving the financial pressure on the utility.

42. Budgetary resources have been tentatively allocated to the power sector, representing about 45.6 million Birr or US$5.2 billion for the next five years, as shown in Table 3. There is a firm commitment from GoE to fund 80% of UEAP via equity contribution, but EEPCo will be responsible to financing the bulk of its investment plan. Details about the investment program allocation are presented in Annex 9.

8 Table 3: GoE Investment Support to EEPCo 1-1 1-1 GoE Investment Support to EEPCo 2006 8.614 990 2007 11.013 1.266 2008 9.091 1.045 2009 10.219 1.175 2010 6.690 769 2006-1 0 45.627 5.245 Source: PASDEP

43. The World Bank has been working to assist EEPCo and GoE to rationalize the electricity sector expansion plan. The dialogue has emphasized the following points: (i) strengthened least-cost integrated development planning; (ii)development of a master expansion plan that is driven more by projections on growth in demand rather than supply side generation targets - to this end, EEPCo should continue refining its Least Cost Development Master Plan; (iii)assessing domestic needs and energy export possibilities; (iv) achieve a better integration between the grid and off-grid electrification; (v) examine demand side interventions, such as energy efficiency and load management on a level playing field with supply options; (vi) carry on studies on syndication (as part of EAREP 11) to assess the potential contribution from multiple donors; and (vii) develop a glide path towards cost- reflective tariffs.

2. Rationale for Bank Involvement

44. The Bank has already been partnering with GoE and EEPCo in the effort to increase energy access. The Bank is providing about US$137 million for the Energy Access Project (with a related GEF component), which includes both grid and off-grid rural electrification. The Bank has recently provided an IDA credit ofUS$133 million for grid-electrification, with about 400 new towns and villages to be connected, in support to UEAP.

45. The rationale for Bank involvement is five-fold. First, the World Bank would provide critical financial support-needed to enable EEPCo and EREDPC to scale up electrification over the next four-year period, in particular given the increased balance of payment constraints being faced by GoE. Second, the Bank’s engagement provides a vehicle to support GoE and its implementing agencies designing and carrying on the several modalities of electrification schemes in a manner that enhances both the efficiency and effectiveness, leveraging on the Bank’s international experience in grid and off-grid electrification. This support is being provided through the capacity building component of the Project, and also through project preparation activities that have emphasized the need for a stronger analytic framework in some key areas, such as the selection of towns and improved technical standards for construction activities. Third, the Project will provide a vehicle for continued dialogue between the Bank and the GoE on key institutional, regulatory and energy policy issues. Fourth, Bank involvement is viewed as catalytic to attract other donors. Several donors have expressed interest in the area ofrural electrification, and would likely be willing to contribute

9 with funds provided that the UEAP can demonstrate the analytic rigor and results consistent with Bank requirements (including its safeguard policies). The Bank is committed to working together and in coordination with those donors and has recently established a dialogue of mutual collaboration with AfDB. Fifth, the Bank involvement in the ambitious UEAP provides a vehicle to assist GoE and EEPCo in rationalizing the scope and pace of implementation of the overall investment program, encouraging GoE to look for alternative business models to develop and monetize Ethiopia’s hydro potential. GoE has started conversations with potential IPPs on the development ofhydro plants.

3. Higher Level Objectives to which the Project Contributes

46. The Project will bring grid and off-grid full electricity access to 295 towns and villages (265 grid and 30 off-grid), and will provide limited services (e.g. lighting or electricity to schools and clinics) benefiting a total population of 1.8 million inhabitants. Those figures do not include the benefits to be accrued to farmers as a result of the implementation of the productive uses of energy in post-harvest agriculture productivity. An overview ofthe population impacted by the Project is presented in Table 4.

Table 4: Population by Project Component

1. Grid Access Expansion 1 a. Provide access to about 265 rural towns (and villages) 1,001,000 1.d. Connect 73,000 new customers (in addition to the 213,000 above) 343,000 1 2. Mini-grid and Off-grid Electrification I I 1 2.a. Develoo about 30 mini-uids serving. about 40.000 new customers I 188,000 I 2.b. Install 200 small PV systems for social services 267,000 2.c. Pilot 1 - 5,000 Stand alone (decentralized) systems (e.g. LEDs) 24,000 Grand Total 1,823,000

47. Access to affordable and reliable electricity will improve the quality of life and create new business opportunities, including shops, artisans, flour mills and other services. It will also provide enhanced income-generating opportunities, support strengthened health care, improve agricultural productivity (e.g., through improved irrigation points and more efficient localized livestock vaccination services), and support improved education services. Better and cleaner lighting will have a positive impact on the operating hours of the schools and on the hours available for children to study at night. Public street lighting will also improve the quality of life and safety ofthe population living in the communities.

B. PROJECT DESCRIPTION

1. Lending Instrument

48. The proposed lending instrument is a four-year Sector Investment Loan (SIL). The IDA credit would assist GoE, through EEPCo and EREDPC, in the continued implementation of the grid and off-grid solutions for the electrification of rural towns and villages. The

10 Project includes cross-sectoral links with agriculture, health, education, telecommunications, water, and private sector development.

2. Project Development Objective and Key Indicators

49. The Project’s development objective is to establish a sustainable program for expanding access to electricity in rural communities, thus supporting broad-based economic development and helping alleviate poverty. The Project will significantly expand access to and services provided by electricity in rural towns and villages. The objective ofthe GoE is to increase the 17 percent figure to more than 50 percent grid-based access over the next 5 years. The grid-based UEAP electrification approach appears reasonable in closer, more concentrated communities. However, there is greater cost uncertainty as electrification reaches out to more distant and scattered areas, where mini-grid and off-grid solutions start to become economically more attractive.

50. Key indicators for the Project will be monitored separately for grid and off-grid electrification, unless stated otherwise, and will include: (i)number of connections in the electrified towns and villages, both in grid and off-grid systems; (ii)domestic consumption in grid connected localities; (iii)commercial and industrial consumption in grid-connected localities; (iv) increase in the number of towns and villages electrified (grid and off-grid); (v) number of towns and villages in which monetary incentives were offered to help customers afford connections; and (vi) adoption rate of CFLs under alternative subsidy schemes.

51. The Project will include two Pilots. The first will address the issue of deployment of stand alone systems (e.g. LED lighting) in remote, off-grid areas, and the second will address the issue of how to increase agricultural productivity in electrified towns and villages. Indicators for the Pilots should be determined as part of the Project design. Some indicators might include:

0 Pilot 1 - number of stand-alone systems deployed (target of 5,000), customer satisfaction, and lessons learned for the establishment ofa business model, addressing supply chain and distribution logistics issues, to enable a scale up ofthe initiative.

0 Pilot 2 - number of identified and tested successful post-harvest schemes, and lessons learned for the establishment of a CDD business model to scale-up agricultural productivity in other electrified towns and villages.

52. Some ofthe above indicators will be measured directly by EEPCo or EREDPC, while others will be evaluated on a sample basis through on-site surveys. Institutional arrangements for the monitoring and evaluation of the key indicators are detailed within the description of the Project’s capacity building component.

3. Project Components

53. The Project would have three major components: (1) Grid-Access Expansion; (2) Mini-Grid (Off-Grid) Electrification; and (3) Stand-alone Systems and Productive Uses of Energy (via pilots), Capacity Building, and Technical Assistance. Those components and respective costs (including contingencies and taxes), are described as follows.

11 1. Grid Access Expansion - (US$171.10 million, IDA = US$103.54 million). The first component would extend the grid to connect customers in rural towns and villages not currently electrified, and would include the following three sub- components:

a. Connecting about 265 rural towns (and villages) (US$139.24 million, IDA = US$103.54 million), including 252,000 potential customers (21 3,000 household) and a population of about 1,100,000 inhabitants, to EEPCo’s interconnected grid, involving building sub-transmission lines to electrify the towns and villages, and erecting distribution networks (including transformer and LV lines).

b. Installing efficient public street lighting (US$8.72 million to be financed by EEPCo and GoE) in the towns and villages electrified under component (a) above.

c. Connect 286,000 new or indirect household customers to the grid distribution system, (US$23.14 million, GPOBA = US$10 million) including installation of meters and drop-down wires as well as distribution of up to 2 CFLs per household in rural towns and villages being electrified under the umbrella of UEAP. Those customers include the ones under l(a).

2. Off-Grid Access Expansion - (US$20.48 million, IDA = US$17.39 million). The second component would provide customer access to mini-grids and some basic electric services such as lighting and cooling to remote clinics and schools, as well as lighting and other very basic services to households. It would include the following three sub-components:

a) Developing about 30 mini-grids (US$17.63 million, IDA = US$14.54 million), serving 40,000 customers, based on mini-hydro, solar PV, or other renewable sources.

b) Installing 200 solar PV systems (IDA = US$2.85 million) in remote, off-grid areas for social services (schools, clinics).

3. Stand Alone Systems and Productive Uses of Energy (via pilots), Capacity Building, and Technical Assistance (IDA = US$9.07 million). The objective of the third component is to create capacity building in key technical and institutional areas related to scale up of electrification and efficient use of energy. It would include the following sub-components:

a. Providing Supervision Engineer for EEPCoAJEAP (IDA = US$0.54 million) to oversee implementation ofthe grid component.

b. Technical Assistance and Capacity Building to EREDPCmES (IDA = US$l.OO million).

12 c. Develop and propose a framework for Grid and Off-Grid Regulatory, Legal and Physical Integration (IDA = US$0.83 million).

d. Develop options for a syndication strategy of the power sector in Ethiopia (IDA = US$0.70 million).

e. Identify opportunities and barriers for energy efficiency (EE) and demand side management (DSM) for the energy sector in Ethiopia and propose specific actions to rationalize energy consumption (IDA = US$1.25 million).

f. Design and implement a pilot to provide low-cost stand-alone basic electricity services to scattered rural customers. (IDA = US$2.38 million).

g. Design and implement a Community Driven Development (CDD) pilot on productive uses of energy in areas to be electrified (grid or off-grid), focusing on post-harvest agriculture productivity (IDA = US$2.38 million).

54. A summary of those components and funding sources is shown in Table 5. A more detailed description of Project components can be found in Annex 4 and a detailed cost breakdown can be found in Annex 5.

Table 5: Cost Estimates and Funding Sources (US$ Million)

Estimated EEPCo (*) Customers Component Total Costs and GoE IDA and OBA (*) (excl. IDA) Developers

~~ ~~ ~~

Component 1. Grid-Access Expansion 142.72 37.39 85.85 11.06 8.42 Component 2. Off-Grid Electrification 17.24 0.00 14.64 2.60 0.00 Component 3. Pilots, Technical Assistance and 7.64 0.00 7.64 0.00 0.00 Capacity Building Contingencies 33.06 7.03 21.88 2.57 1.58

Total L 200.65 44.42 130.00 16.23 lO.0Ol

4. Lessons Learned and Reflected in the Project Design

55. There are several lessons to be drawn from the Bank’s engagement to date in Ethiopia’s electricity sector and in other countries electrification programs.

0 First, effective programs require strong capacity from the implementing entities. The proposed Project would rely on existing EEPCo and EREDPC organizational structures. EEPCo has strong implementation capacity and experience in managing grid electrification of rural towns in the Ethiopian context. EREDPC has been effective in marketing, appraising and following up implementation of mini-grid projects. EAREP II will rely on those well established and functional institutions, enhancing their capacity.

13 Second, the size and magnitude of UEAP and other programs carried on by EEPCo impose management and procurement constraints on the utility. It is necessary to maximize EEPCo’s resources by preserving a well balanced approach involving force account and turn-key projects. Grid electrification of EAREP 11 will be designed using the turn-key approach therefore relieving demands on EEPCo.

0 Third, affordability of connections can often present a barrier to poor customers to have access to electricity. EEPCo has previously, in line with lessons learned from other countries, offered an interest free loan to customers to pay part of their connection costs, currently over a period of two years. The Project will make available additional resources (GPOBA) to allow EEPCo to provide 5-year, interest free loans to help customers pay for the connection costs.

0 Fourth, scaling-up access in a country like Ethiopia requires a combination of grid and off-grid electrification, which involves coordinated planning and decentralized execution, leveraging on multiple players, such as EEPCo, rural cooperatives, and the private sector. The recent reorganization of EREDPC under the Ministry of Energy has provided better coordination and additional momentum to off-grid electrification. EAREP 11 will leverage the recently created coordination mechanisms for grid and off- grid electrijkation.

0 Fifth, very remote, scattered areas are unlikely to benefit from electricity in the foreseeable future. Partial benefits of access to electricity, such as lighting, can be provided in those areas leveraging on new technologies, such as LEDs, which are commercially available and may be tailored to the specific uses ofthe rural population in Ethiopia. EAREP 11 will develop a pilot to satisfv customer needs using those new products, as well as proposing a sustainable supply chain.

0 Sixth, economic development and productive uses of energy do not immediately follow electrification in many rural communities. A concerted effort at the government level should be carried out to foster the rapid introduction and development of technologies that will boost economic development. A pilot will be carried out under EAREP 11 to increase income generation by accelerating the introduction of post-harvest technologies following grid or off-grid electrijkation.

0 Seventh, electricity does not address the entirety of the country’s energy needs and challenges. A significant role is still expected to be played by fuel wood in the foreseeable future, particularly in cooking (and water heating) among domestic users. Due to the high cost of electricity, its contribution to displace fuel wood and reduce deforestation should be perceived as modest. Furthermore, fuels such as LPG or natural gas are not disseminated in Ethiopia, due to their high costs and availability. In other countries those fuels have met the household needs for heating and cooking, contributing decisively to reduce deforestation. Therefore, rationalization in the use of fuel wood will remain as an important part of the dialogue between the Bank and the GoE (initiated under the Energy Access Project). This dialogue should be extended to the production of ethanol and other biofuels, which seems to be gaining momentum in Ethiopia and in Africa. The Project economic and financial analyses were conservative in terms of

14 demand forecast, not considering the potential use of electricity for cooking applications.

5. Alternatives Considered and Reasons for Rejection

56. This Project could have mirrored EAREP I and focused on grid extension only. However, Ethiopia is a large country with a scattered population. Only 16 percent of people live in urban settlement areas with more than 2,000 inhabitants. For many of the remaining 84 percent, off-grid options (mini-grid) should be considered as complementary to the grid extension approach. Despite GoE’s view of grid-electrifying every single town and village in a ten year timefiame, this Project adopted a more conservative approach, therefore emphasizing the role of mini grids in areas unlikely to be reached by grid connection any time soon.

57. The EAREP I1 Project initially considered scaling up the off-grid electrification effort, by developing mini-grid schemes and by a massive deployment of stand alone systems, primarily relying on a new, energy efficient lighting technology based on LEDs. A market survey conducted for the Energy Access Project demonstrated that 10 million rural households use kerosene and dry cell batteries for lighting, with an average monthly expenditure on lighting of US$13.6. This alternative was rejected given the early stages of development of a business model to deploy those new technologies on a large scale. A successful deployment would demand a good knowledge about the product, physical distribution and supply chain. IFC is conducting two pilots in Africa, but still at early stages. Given the fact that the Bank’s collective knowledge needs to be enhanced, the Project will carry on a US$2.0 million pilot. Lessons learned should enhance the Bank’s collective knowledge about the subject and enable future scale-up interventions in Ethiopia or in other countries.

58. For grid-electrification, different implementation approaches have also been considered. Under the Energy Access Project, EEPCo combined the electrification of numerous towns and villages into two large turn-key contracts. In EAREP Iand in a recent loan granted by AfDB, EEPCo has carried out electrification activities using both its own workforce and supervising local contractors undertaking smaller and more geographically limited activities. Force account imposes a strain on EEPCo’s management resources. To provide a better balance, it has been agreed between the World Bank and EEPCo that a turn- key approach would be chosen.

C. IMPLEMENTATION

1. Partnership Arrangements

59. Currently, EEPCo is working with other donors on rural electrification, such as the African Development Bank (AfDB), the Kuwait Fund, and the Arab Bank for African Economic Development (BADEA), as well as IDA through the existing Energy Access Project and EAREP I,as shown in the Table 6. EAREP I1will complement those activities.

15 Table 6: UEAP Donor Supported Programs

Number of Investment Target Areas Towns and Scope of Project Financiers status (Million Birr) Villages

Extension of Subestations EAREP I Around Approved by WE - MV and LV lines existing 17 382 1438 IDAand Board in June Efficient Lighting GoE subestations 2006 Capacity Building

Approved by 'awla-Key Afer and Extension of Subestations 335 1479 ADB and AfDB Board in kista Alem Ketema HV, MV, and LV lines GoE 2007 Indian Hagare Mariam- 27 Electrification 604 Government Active Mega and GoE Extension of National Grid Kuwait Fund Active Afar Region 27 580 Electrification and GoE BADEA and Active Weliso Area 8 Electrification Sub-projects 29 GoE

Extension of Subestations EAREP II- Around MV and LV lines IDA and Under existing 14 265 1096 Efficient Lighting GoE Preparation subestations Capacity Building

u b-Total 1044 5226

2. Institutional and Implementation Arrangements

60. The grid electrification component will be implemented by the UEAP Office, which was established within EEPCo in 2005 for the specific purpose of rolling out the grid-based rural electrification program. This includes, inter alia, all the tasks pertinent to the customer connection program, which will be funded by GPOBA. The UEAP Office has one Deputy General Manager who reports to the General Manager ofEEPCo. There are four department directors and three project coordinators reporting to the UEAP DGM along the following substantive teams: (i)Engineering and contract administration department; (ii)Projects coordination department; (iii)Finance and administration department (iv) Procurement and logistic department; (v) IDA financed EAREP IProject coordinators, (vi) ADB-financed project I1 coordinators; and (vii) Kuwait fund financed project coordinators. Currently there are about 47 professionals and 96 support staff working for the UEAP. The UEAP Office liaises with and relies on the other specialized departments within EEPCo, including the financial management functions, and the construction units. The UEAP also works closely with the Planning Department of EEPCo for the design and implementation of the procurement and installation activities required as part of the electrification programs under implementation. The functioning of the UEAP Office is described in greater detail in Annex 6.

16 61. The off-grid component of the Project (Le. mini-grids, solar PV, the provision of stand-alone services, and productive uses ofenergy pilots), will be implemented by EREDPC, which has been responsible for the implementation of the off-grid component of the Energy Access Project. EREDPC will be responsible for implementation and management ofoff-grid electrification it has developed the necessary capacity and put the key processes and systems in place. It is now a functional institution, and it should be leveraged for the off-grid component of EAREP 11. Continuity of existing key staff at REES and additional capacity building to REES , regional governments, and cooperatives are required, particularly on technical and financial evaluation of mini-hydro sub-projects. In addition, EREDPCREES needs to strengthen its capacity in environmental and social impact assessment. Furthermore, EREDPCREES will have to hire a dedicated staff to manage the implementation of the pilot low-cost stand-alone systems component that will provide basic electricity services to the remote poor customers.

3. Monitoring and Evaluation of OutcomesDIesults

62. The objective of Monitoring and Evaluation is to measure the impact that the Project has on the welfare of the population, and to investigate whether some specific interventions are more effective than others in achieving positive outcomes. The impact evaluation of the Project will be used both as a fiscal accountability tool by estimating the overall impact of the activities, as well as a management tool to test alternative features ofthe program and provide recommendations for modifying the design during implementation to strengthen its effectiveness. An interactive approach is anticipated under which the outcomes will feed into the analysis of opportunities to improve design and implementation aspects, and which in turn may lead to some refinements in approach (e.g., the deployment of a modified installment payment plan for connection fees).

63. The UEAP and EREDPC will monitor the key indicators for the grid and off-grid components of the Project, such as the number oftowns and villages provided with access to electricity, the number of customers connected by market segment (for grid electrification), and their consumption patterns. Some of these indicators will be measured directly (e.g., customers and consumption levels), while others will be evaluated on a sample basis. UEAP and EREDPC, will collate this information on a semi-annual basis, in some cases using sampling techniques.

64. Also, as a coordinator of both Pilots, EREDPC will monitor their pertinent performance indicators. Indicators will be detailed during the detailed design phase.

65. EEA will be responsible for monitoring the average price of electricity charged to customers in each mini-grid and for defining a light handed regulation on tariff setting and quality of service.

4. Sustainability

66. The Project is designed to provide the inhabitants of rural towns with access to electricity on a sustainable basis. There are several dimensions that are critical to the sustainability :

17 a) Sustainability of Grid-ElectriJication. The economic and financial rates of return for this component are higher than GoE and EEPCo‘s cost of capital, respectively. That means that grid-electrification generates net societal benefits, and incrementally contributes to strengthen EEPCo’s financial position.

b) Sustainability of the Mini-Grid Developments. The financial feasibility of mini-grids depends on the tariffs charged to the end-users, which are in most cases higher than the tariff levels charged by EEPCo for the grid-system. Therefore, the sustainability of mini-grids depends on their customer’s paying a cost reflective tariff. Given that their willingness-to-pay is higher than the tariff requirements, this business model is likely to be sustainable and scaled-up. However, it cannot compete with grid electrification, since the latter receives 80 percent of the investment from GoE as equity contribution, while mini-grid users have to pay a cost reflective tariff, which should remunerate 100% of the investment base. The sustainability of mini-grid schemes depends on a well designed regulatory framework dealing with future physical integration between mini-grid and grid electrification.

c) Operational Capacity and Financial Sustainability of EEPCo. The utility is the ongoing implementing unit for the provision of grid-based electricity to the rural towns connected under the Project. EEPCo has demonstrated its operational capacity over the longer term, in terms of building and maintaining the network. However, EEPCo is also implementing an ambitious generation and transmission program, on behalf of GoE, which will stretch its financial capacity unless GoE funds are provided on a timely basis. In the case of UEAP, there is already a commitment that the Government will provide 80 percent of the investments in the form of equity. Under this sharing arrangement, the Project itself generates value to EEPCo, since its financial return is higher than EEPCo’s cost ofcapital.

5. Critical Risks and Possible Controversial Aspects

67. Given that the target of the proposed Project is rural populations living in towns without electricity, the Project with its pro-poor orientation appears to be largely non- controversial, and the targeted beneficiary towns reflect a reasonable distribution across regional and other criteria. Therefore, most of the economic benefits should indeed accrue to the poor. The Project has been rated as a Category B under the Bank’s safeguard policies. The overall Project risk is “Moderate.” The principal risks, their ratings and related mitigation measures are shown in Table 7:

18 Table 7: Principal Risks, Ratings and Mitigation Measures

Risks Risk Financial S Government has committed to providing equity contribution equivalent to 80 sustainability of percent ofthe investments in rural electrification, which assures Project EEPCo financial feasibility, assuming subsequent tariff increases, yet to be confirmed by GoE As a government policy, EEPCo’s commitments in expanding transmission and generation system should be self-financed, but the government has systematically restructured EEPCo’s debt (indirectly, a form of equity contribution) Project covenant limit EEPCo’s ability to borrow to avoid deterioration in the company’s maintenance and operations Impact of political M Electrificationof rural towns, given its pro-poor characteristics, appears to unrest enjoy general support Project meets criteria of equity distribution (geographic, etc.) when benefiting rural towns and villages as well as off-grid customers Faster electrification pace to provide economic opportunities and reduce political tension in rural areas Lower financial M EEPCo will continue monitoringtariff levels and appropriate timing for returns for the Project subsequent tariff increases, taking into account technical aspects and political as a consequence of considerations. failure to implement Sector continued dialogue, including importance oftariff issue in BanWGoE subsequent tariff adjustments discussions of fiture support Affordability of L Support via GPOBA to compensate EEPCo for the 5 year interest free loans connection costs for offered to customers who can not afford to pay for the US$50-100 the poor, reducing connection cost (still being a potential barrier for connection) potential benefits of access Distribution of energy efficient devices (e.g. CFLs) to reduce recurrent costs for the poor EEPCo’s ability to M Use ofturn-key approach to relieve pressure on EEPCo’s management and implement the operational capabilities accelerated pace of More balanced combination between grid-and off-grid electrification, electrification bringing a larger number of players and finding sources to join the electrification effort Overall Project Risk M Givenabove isk Rating: H-High; S- rbstantial; 4-Moderate L-Low

68. Overall, the project risk is moderate.

6. Credit Conditions and Covenants

69. The main conditions of effectiveness are:

0 Execution of a GoEEEPCo subsidiary agreement, in form and substance satisfactory to the Association, providing for GoE’s injection ofthe proceeds of the IDA credit to EEPCo to assist in financing the UEAP.

19 0 EEPCo’s appointing one additional accountant to handle financial transaction and two additional procurement specialists to strengthen UEAP capabilities.

70. The main credit covenants for the Project are listed below. Covenants (a), (b), (c), (e), and (f) are on an ongoing basis. Covenant (d) is expected by November 2007.

(a) The ESMF and RPF will be implemented in a manner satisfactory to the International Development Association (IDA).

(b) EEPCo will maintain the UEAP Office with appropriate staffing as agreed with the Association, including environmental, procurement, accounting and monitoring and evaluation expertise.

(c) EREDPC will maintain the REES Office with appropriate staffing as agreed with the Association, with expertise in the areas of environmental, procurement, accounting, monitoring and evaluation, and hydro engineering.

(d) GoE will provide a summary note describing the composition, roles, responsibilities, and governance mechanisms for the recently created Committee on grid and off-grid electrification. Key coordination and integration processes are also to be highlighted.

(e) EEPCo will ensure that ongoing operating expenses and investments to be financed from revenues (other than from grants, equity contributions and other similar sources) do not exceed available revenues. a The Borrower will contribute funding (including the proceeds of the IDA Credit) to EEPCo for not less than 80 percent of the capital costs of the grid-electrification component ofthe Project.

D. APPRAISAL SUMMARY

1. Economic and Financial Analyses

7 1. This section is organized in three parts, as follows:

0 The first part, Economic Analysis, provides a summary of the overall project economics, and examines the grid and mini-grid components separately. This is due to the fact that those sub-components have very different cost structures and implementation arrangements. Grid basically involves an extension of the sub-transmission and distribution network, while mini-grid involves the implementation of the entire supply chain. The contribution of each to societal benefits is presented.

0 The second part, Financial Analysis, provides a summary of the overall project feasibility. Grid and mini-grid components are also examined separately. For grid electrification, which is implemented through EEPCo, the objective is to know whether or not the Project incrementally adds value to the utility, which reflects the project cost structure and the adequacy of the tariff levels. For mini-grid, developed by independent

20 entrepreneurs, the objective is to know if the full cost recovery tariffs (including remuneration ofassets at market based interest rates) are within the customers’ reasonable range ofwillingness-to-pay.

The third part provides an overview of EEPCo’s Financial Situation and future prospects. EEPCo will be the only implementing agency for the grid component. The Project expected impact on the utility’s finances is modest (some incremental value added). However, the long term sustainability of the grid extension depends on EEPCo’s ability to supply reliable energy and incur the necessary operational and maintenance expenses in the future. A special section was devoted to EEPCo’s financials given the fact that this issue has been identified as a substantial risk factor.

72. Details about both the economic and financial analyses are provided in Annex 9.

A. Economic Analysis

73. Summary Results. The Economic Internal Rate of Return (EIRR) for the project as a whole is 15.9 percent, for a Net Present Value (net societal benefits) of US$ll7 million. The mini-grid component presents an EIRR of 19.4 percent and contributes with about US$7 million to the NPV. The EIRR for the grid electrification component is 15.7 percent, and contributes with an NPV ofUS$l 10 million. Results are depicted in Table 8.

Table 8: Economic Analyses

EIRR NPV (US$OOO) Mini-grids 19.4% 6,773 Grid Electrification 15.7% 1 10,063

Mini-grid and Grid 15.9% 116,836 Electrification

The Potential Electricity Market

74. Number of Consumers. There are about 213,000 potential household customers (FY OS) living in the 265 rural towns and villages to be grid-electrified. Assuming an average household size of4.7 people, these towns and villages represent about 1.1 million inhabitants. Given an initial estimated population growth of 4.9 percent in rural towns in the first years reducing to 4% in subsequent years, there will be about 293,000 potential household customers in FY 15.

75. Market Penetration. Newly electrified rural towns and villages present relatively modest growth in the number of household connections from the date access is provided. It takes about two years for the connection rate (percentage ofmetered customers) to reach one third of the potential market. Residential customers, who account for 80-90 percent of the number of customers, move slowly, since they: (i)are not always able to pay the high upfront fees for customer connection; and (ii)have the possibility to get an indirect connection from

21 their neighbors. Nearly all existing commercial and small industrial enterprises and public facilitieshuildings connect within a short period when electricity supply becomes available. Recent empirical observation has shown that financing the customer has had a positive impact on market penetration. EEPCo’s provision of 2- or 5-year, interest free loans for the customer to finance its upfront costs has spurred connection rates. Currently EEPCo is providing two year loans.

76. Expected residential and non-residential customers for the base case (higher market penetration scenario) are presented in Table 9.

Table 9: Projected Total Number of Electrified Customers, FYOS-FY15

Potential Household All Potential All Metered Metered ~~~e~~ Tot1 Customers Connection Percentage Of Customers Customers Customers Household with Access Rate (Metered) cus~~~~~th Customers Connected

77. Consumption Levels. It was assumed that demand forecasts for residential, commercial and industrial customers are basically driven by population and its growth. The use of metered residential customers as the base for calculation of other customer’s demand was confirmed by empirical data. EEPCo is working to refine this methodology, taking into account the economic growth potential ofeach sub-region. An analysis was undertaken on the average consumption levels in rural towns, using both econometric and survey data. Metered residential users consumed on average 304 kWh per year (which includes the consumption of indirect households), and consumption levels are expected to grow 2.6 percent per year. Commercial customers consumed about 176 kWh per year per metered residential customer, with consumption growing by 3.0 percent per year. Industrial customers consumed about 222 kWh per year per metered residential customer, growing by 1.7 percent per year.

78. Households normally account for about 45 percent of total consumption, with commercial and (small) industrial accounting for the balance. Of the rural residential customers, about 85-90 percent consumes less than 50 kWh per month, mostly for lighting. With the distribution of CFLs among rural customers, the market share of the residential segment is expected to decrease to about 25-30 percent in the initial years ofdeployment.

Costs and Benejts of Grid Electrijkation Program

79. All investments were considered for the economic analysis, regardless ofthe source of funding (EEPCo, GoE or customers/users). Net of taxes, total investments for the grid component represent about US$187 million.

80. Other relevant costs included (i)annual O&M (estimated at about 0.75 percent of total non-depreciated asset base); (ii)major revamping and some expansion of the distribution

22 network every 10 years, at a cost of about 6 percent of the non-depreciated asset base; and (iii)cost of electricity generated and delivered at the consumption point (losses included) valued at about 6.0 US centskWh, representing approximately the long run marginal cost of bulk supply in Ethiopia.

8 1. Benefits. Electricity consumption was valued at consumers’ willingness-to-pay. For households, the willingness-to-pay was based on a comparison of the net benefits of lighting using kerosene and gas lamps, and the improved net benefits from electricity supply. The willingness-to-pay by households was estimated to be about 17 US cents/kWh (Le., US$l70/MWh). A similar approach has been adopted to estimate the willingness-to-pay for commercial and industrial customers, and draws primarily on the relative costs associated with electricity supply from oil-fired diesel generators to meet their production needs. The willingness-to-pay for these consumers is estimated at 20 US cents/kWh (Le., US$200/MWh).

82. GPOBA Grant. US$10 million GPOBA grant is designed to provide EEPCo the necessary working capital to finance the cost of grid connection to poor household customers. EEPCo is eligible for the OBA subsidy when the connection takes place in tandem with a 5 year subsidized loan. The average subsidy being proposed should be US$35 per connection. It is based on the capital costs that EEPCo has to incur to provide the customers 5-year, interest free financing for their US$75 connection charge. The subsidy offsets EEPCo’s working capital cost. Therefore, it is not explicitly considered in the cash flow stream ofcosts or benefits. However, the 5-year plan accelerates the pace of connections and as a consequence the economic and financial attractiveness ofthe project.

83. Compact Fluorescent Lamps (CFLs). Those lamps are designed to save energy and improve the quality of lighting. The deployment of CFLs reduces the economic cost to produce the same number of lumens, therefore increasing EIRR. It produces benefits to the customer (uses fewer kWh) and to EEPCo (energy sold to the poor customers is priced below the short run marginal cost). It is a “win-win” situation. Up to two CFLs per poor household should be provided as part ofthe above OBA Grant.

Sensitivity - Economic Analysis

84. Market penetration has a significant impact on the Project economics. The Project considers two scenarios regarding the pace of market penetration among residential customers. The first, or the base case, assumes a higher pace of electrification (connections), given the fact that poor customers will be receiving 5-year interest-free loans to pay for connection costs. The second scenario assumes that 2-year loans will be provided by EEPCo, resulting in a lower pace of connections therefore electrification rate.

85. Those two scenarios are depicted in Figure 1. Extending the loan terms from the current 2 years to 5 years would enable market penetration to grow about 10 percent faster than if the current 2-year loan terms are offered in the future.

23 ------P-year Loans

' 5-year Loans I

2000 2010 2020 2030 2040 2050 Year

86, The: results for the analysis are shown in Table 10. In the higher ~l~ctri~~cat~on scenario, thc Economic inter~aiRate of Return is 15.7 percent, atid falls to 13. ~Ie~tri~ca~~~nscenario, tvith 8 co sponding reduction in XPV of about 10 to US$65 million). 'The eco~~o~~~~are robust under both scenarios,

~~~~~~~?~~~~.~"The economic feasibility for the grid on grotnsfh, and wi Rcsuks for EAREP I (a similar project) are sh the Table 11. ~~op~~~tjo~~grcsw-th ~s~~~~ip~i[~~i~(with direct ~~~~ii~~~atio~i oil overall c~nsu~p~ion) have the imst ~~markabi~ impact on NPV, For example, a p~p~~at~o~growh OS 2.3'' pa. reduces NPV by SO percent. In general. the Project is very robust given the range of ~~e~~riosbeing considered.

24 Grid Electrification - EAREP I N PV EIRR Base Case 100% 100% Reduction in 10% of electricity consumption 73% 92% More modest population growth of 2.5% 50% 86% Reduced willingness-to-pay (by about 30%) 73% 90%

Mini-Grid Electrijkation

88. Unless otherwise stated, the economic analysis of mini-grid schemes follows the same general principles and many of the assumptions adopted for grid electrification. For the 30 mini-grid schemes, it is assumed that a total population of 40,000 customers will be served by an installed capacity of 4,000 kW, running at an average load factor of 30 percent.

89. Generation and distribution costs represent approximately US$2,300 per kW installed. Under EAREP 11, developers (Rural Cooperatives or private firms) are potentially eligible to receiving a loan from the Trust Agent covering up to 90% of the project’s investment costs. The balance should come as equity financing from the developers.

90. Given the way rural electric cooperatives are organized in Ethiopia, as well as the level of community engagement in implementing those projects, it is assumed that a much higher market penetration takes place, when compared to the one observed in grid based electrification. The analysis assumed a market penetration of 70 percent in the first year growing up to 90 percent in the third year.

91, Based on those assumptions, the mini-grid component presents an economic return (EIRR) of 19.4 percent for an NPV of US$6.8 million, Those relatively high figures reflect, inter alia, a higher consumer willingness-to-pay when compared to the price of energy to be charged to customers.

92. Sensitivity Analysis. For mini-grid schemes, EIRR is very sensitive to the generation factor, which in turn is a function of availability of water on a long term basis. The base case suggests a generation factor of 30 percent, resulting in an EIRR of 19 percent. Since micro- and pico-hydro systems are sized for a series of driest years, results seem to be robust for a wide range of unfavorable hydrological scenarios, as shown in Table 12.

Table 12: Sensitivity Analysis - EIRR versus Generation Factor Generation Factor EIRR 40.0% 30.2% 35.0% 24.7%

25.0% 14.2% 20.0% 8.8%

25 B. Financial Analysis

93. Summary Results. The Financial Rate of Return (FRR) for the project as a whole is 12.1 percent, resulting in a Net Present Value of US$8 million. The mini-grid component presents a FIRR of 14.9 percent and contributes with about half of the NPV, or US$4 million. The FRR for the Grid Electrification component is 11.1 percent, and contributes with an NPV of US$4 million. Results are depicted in Table 13.

Table 13: Financial Analyses HIGHER ELECTRIFICATION SCENARIO I FRRorFIRR(*) I NPV(US$000) Mini-Grids 14.9% 4,135 Grid Electrification 11.1% 3,956 Mini-Grid & Grid Electrification 12.1% 8.09 1

Grid Electrijkation

94. EEPCo/GoE Contributions. Under the UEAP, and therefore for the grid component ofthis Project, GoE will provide about 80 percent ofthe investment requirements, and EEPCo will provide the remaining portion. No other subsidies are to be provided by GoE during the life of the Project, and all operating costs will be borne by EEPCo, who in turn should collect all revenues. The financial analysis was developed taking into account 20 percent of the Project investment costs.

95. Market Revenues and Targs. Revenues for the Project were determined using the same assumptions on market growth per customer category adopted in the economic analysis, under the higher and lower electrification scenarios. For the purposes of the financial analysis, the calculations of the benefits have been made on the basis of the number of customers directly connected (metered) and the electricity that is in fact billed and collected. For EEPCo, non-collections have been small, approximating 3 percent.

96. Market surveys indicate that about 85 percent of customers are residential, and that a similar percentage of this residential load is consumed by customers who pay the “lifeline” tariff (block of first 50 kWh of consumption). 55 percent of the total load is estimated to be represented by commercial and industrial customers, who generate about 85 percent of the revenues.

97. The financial analysis takes into account the 22 percent tariff increase implemented in mid-2006 (except the “lifeline” consumption block which remained unchanged) and assumes subsequent additional rate adjustments as set out in Table 14.

Table 14: Assumed Tariff Adjustments (% increase)

26 98. Operating Costs. The analysis takes into account the cost of hydro and thermal generation. Assuming that thermal generation represents 5 percent of load requirements (including for ancillary services), the weighted average cost ofenergy, adjusted for 20 percent losses, is about 4.6 US centsKWh. Since there might be excess of hydro-generation capacity in the first years of the Project, the analysis assumed a cost of generation of 4.6 US centslkwh, increasing to 6 US cents after year 11, therefore approaching the long run cost of expansion.

99. In the high electrification scenario, the grid component of EAREP I1 is expected to provide a marginal impact on EEPCo’s financial position, since it presents a positive NPV. The issue of tariff increases, however, remains central to EEPCo’s long-term financial standing. No tariff conditionality is included in this Project, but unless subsequent tariff increases take place from 2009 onwards, rural electrification under EAREP Iand I1will create an additional burden on EEPCo’s financial position.

100. Sensitivity Analysis - Grid Electrijkation. Under the lower electrification scenario, the FRR is 8.7 percent and the NPV is US$4.6 million (negative). Those results are summarized in Table 15.

Table 15: Financial Analysis - Grid-Electrification FIRR NPV (US% 000) Higher Electrification Scenario 11.1% 3,956 Lower Electrification Scenario 8.7% -4,623

Mini-Grid Electrification

101, For mini-grid schemes, consumers are assumed to be charged cost-recovery tariffs. Under existing mini-hydro projects that have been approved by REES, a tariff of 12.5 cent/kWh has been established by cooperatives, with a connection fee of US$19 and a share fee of US$13 per customer. Those figures have been used as the basic tariff, but some variation may be expected depending on the characteristics ofeach project.

102. The base case includes a generation factor of 30 percent. For the proposed tariff level of US 12.5 cents/kWh, the financial rate of return is close to 15 percent. This figure is possibly higher than the cost ofcapital faced by the cooperatives (considering that 90 percent of the investment costs should be financed by the Project). Therefore, cooperatives may consider reducing tariffs to US 10-11 centskWh down the road, and still achieve a fair return on assets. This subject should be addressed by the Regulator, when defining some basic guidelines for tariff setting. Even with this possible reduction, tariffs charged to cooperative members are still higher than equivalent rates charged by EEPCo in the grid systems, since cooperatives have to recoup 100 percent ofthe investments. Results are shown in Table 16.

27 Table 16: Sensitivity Analysis - FIRR versus Tariffs Charged

Tariff (US cents/MWh) FIRR (*)

14.0 18.1 % 16.0 % 13.0 14.9 % 11.7 % 9.6 % (*) Generation factor = 30%

EEPCo ’s Financial Situation

103. EEPCo’s financial situation is an issue ofconcern considering GoE’s ambitious capital investment program for the power sector. Some measures have been taken by GoE such as tariff increases and debt restructuring, but a more realistic investment plan is necessary.

104. Effective July 8, 2006, electricity tariffs were increased by 22% across the board, except for the life-line tariff (consumption block up to 5OkWWmonth) which remained unchanged. The new weighted average tariff is estimated at 0.546BirrkWh (US6 cents/k Wh).

105. Debt Restructuring. GoE approved a debt restructuring plan in June 2006. This involved the conversion into equity of Birr 1.83 billion (US$205 million), rescheduling of arrears ofBirr 291 million (US$33 million) to be repaid over ten years starting May 2006, and extension of grace period by five years to 201 1 for various loans involving US$317 million (interest accruing during the extended grace period will be added to principal and repaid with principal). Following the debt restructuring, EEPCo’s balance sheet has been strengthened.

EEPCo ’s Investment Program

106. EEPCo’s investment program is very ambitious. It has embarked on an investment program involving (a) 3,900MW of new hydro capacity by 2014 (of which, 1,600MW to 2010, and another 1,870 by 201 1 - present installed hydro capacity is about 800MW); (b) extension of the transmission and distribution networks to evacuate the additional power to both the domestic market and to Djibouti, Sudan and Kenya; and (c) UEAP involving 300,000 new customer connections in the current fiscal year and 350,000 annually thereafter. The investment plan represents an annual average of Birr 10.9 billion (US$1.2 billion). It can only come to fruition if EEPCo: (i)receives massive financial contributions from GoE, (ii)is authorized to increase tariffs, and (iii)obtains resources through long-term borrowing.

107. In the three years prior to July 8, 2006, EEPCo has invested US$890 million, of which: (i) US$450 million was financed through borrowing, (ii)US$200 million was provided by Government, (iii)US$40 million from customer capital contributions and security deposits, and (iv) the balance of US$200 million (equivalent to 23% of total

28 investments) was funded from EEPCo’s internal resources. In other words, EEPCo was able to provide a yearly average ofUS$67 million from its own resources towards investments.

108. Under the recently revised financial covenant of IDA’SEnergy Access Project credit, EEPCo is to ensure that it shall not incur any new investment or debt unless the company generates sufficient revenues to meet its operational expenses, working capital needs, debt service requirements, and investments that are to be funded from its own revenues. This covenant was met in the last two years. However, it is unlikely that EEPCo will meet this covenant over the next few years as it will not be in a position to fulfill its financial commitments under the proposed investment plan.

109. EEPCo’s 4 year investment financing plan is summarized in Table 17.

Table 17: EEPCo Summary Investment Financing Plan 2006/07-2009/10 (EFY 1999-2002)

Source: EEPCo and World Bank analysis

110. The projected yearly cash flows and financing gaps over four years to July 8,2010 are summarized in Table 18.

Table 18: Yearly Cash Flows & Financing Gaps 2006/07-2009/10 (EFY 1999-2002)

Debt service paid (312) (524) (736) (1,120) (2,692) (35) (58) (77) (112) (282) 6% Funds available for investments 556 365 536 1,049 2,507 63 40 56 105 264 6% Funds required for investments from ow resources Yearly finnacing gap (cash shortfalls)

Electricity sales. Ethiopia (GWh) 2,503 3,134 4,437 5,433 15,506 2,503 3,134 4,437 5,433 15,506

Present weighted av electricity revenue Yearly financing gapEthiopia electnciiy sales Yearly financing gap as % of present av. electricity revenue

111. Net cash inflows from operating activities over four years are forecasted at US$546 million. After meeting debt service obligations of US$282 million, the financial forecasts indicate that only US$264 will be available from internal cash generation for investments. As

29 per EEPCo’s financing plan for investments, US$1,351 million is to be provided from EEPCo’s internal resources. This implies a financing gap or cash shortfall of US$1,087 million. Present electricity tariffs would need to increase from US6 cents/kWh to US13 cents/kWh to close the financing gap. In view of the Government’s commitment to accelerated electricity expansion, and given political constraints, such tariff increases are not feasible.

112. GoE has clearly stated its intention to provide funds to the power sector. In the most recent version of PASDEP (Plan for Accelerated and Sustainable Development to End Poverty), the amount of resources budgeted for the power sector is about US$1 billion per year. It is commensurate with EEPCo’s needs, but GoE basic assumption is that EEPCo will borrow most ofthe required resources.

2. Technical

Grid-Electrification

113. Grid electrification under EAREP I1 involves medium voltage grid extensions in 12 existing substations. Proximity of towns to the existing grid is considered a major selection criterion because it results in lower investment costs. Other selection criteria include: availability of enough information to conduct the study, high proportion of non-electrified communities, and population sizes which can justify grid electrification.

114. The towns and villages under this study are located more or less within a 100 km radius of 12 existing substations. 33 kV distribution systems have been introduced since EAREP Ito harness the longer reach and larger power carrying capability than that of the 15 kV systems. For the towns under consideration the primary distribution voltage shall be 33 kV. The secondary distribution voltage level is 380/220 V.

Mini-Grid and Off-Grid Electrification

115. Mini-grid systems can be powered by hydro turbines (where hydropower resources are available), biomass resources such as agriculture and forestry wastes, and renewable/diesel hybrid technologies. Systems also include the distribution network to serve nearby communities, which may involve one or more adjoining settlements. Design of mini-grid systems should assess renewable energy resources, consider siting and environmental issues, and meet technical standards.

116. This Project considers only renewable sources of generation. Reasons include: (a) a large part of Energy Access Project is financing diesel powered mini-grids; (ii) the government has stated a clear policy to move towards renewable sources of energy, given Ethiopia’s dependence on imports on oil and derivatives.

117. Mini-hydro plants are often run-of-river and generally do not involve a dam with impoundment of water. Therefore, they often do not have detrimental environmental and social impacts that can be problems for larger hydropower systems.

30 3. Fiduciary

1 18. EEPCo will implement the grid electrification through the UEAP Office and will serve as the Project Implementation Unit. The UEAP Office coordinates with and is supported by other specialized departments within EEPCo, including the financial management functions.

119. EREDPC will implement the two off-grid sub-components ofthe Project through the REES Office. The REES office was created within EREDPC for the specific purpose of implementing the off grid based (IDA and GEF) rural electrification program under Energy Access Project, and will serve as the Project Implementation Unit for the Project. The PMU has a dedicated finance officer and a cashier.

120. EEPCo and EREDPC have previous experience in implementing Bank-financed projects and their abilities to comply with Bank financial management and procurement fiduciary requirements have previously been evaluated (notably in the context of the ongoing Energy Access Project). Their ratings on issues of financial management and procurement were satisfactory, but there are areas that require strengthening. The recently completed Joint Budget and Aid Review (JBAR) and the Fiduciary Assessment (FA) show that Ethiopia has made significant progress in strengthening public financial management in recent years. The JBAR review confirmed that Ethiopia met seven of the fourteen indicators related to the planning, budgeting and reporting systems. The FA, which was completed in early 2005, notes that considerable progress has been made in implementing financial management (FM) reforms in both federal and regional level administrations. Though most of the recent diagnostic works show an improvement in Public Financial Management, there are weak areas that require attention. Overall, the control environment is good and there are no accountability issues.

121. EEPCo has a Finance Department managed by the Deputy Manager for Finance. The Finance Group has Treasury and Controller Departments. The finance specialists (including those in its Finance Group) total about 432 staff, out of which 162 are professional staff and 270 are support staff. Out of the 162 professional staff, 53 are degree holders and the rest have a diploma. The finance staff in the UEAP Office will handle the financial transactions of this Project. Currently, the UEAP Office has 9 finance staff; 6 are degree holders and the others are diploma holders. One additional accountant will be appointed (as a condition of effectiveness) to handle the financial transactions of the Project. The financial management capacity ofEEPCo and ofits UEAP Office is satisfactory. The UEAP Office will be required to maintain accounting records and prepare project financial statements in line with International Accounting Standards. EEPCo, acting through the UEAP Office and with the support of EEPCo Finance Department, will also have the project accounts audited in accordance with International Standards on Auditing and will submit audit reports six months after the end of each fiscal year.

122. The PMU in the EREDPC will be responsible for the overall financial management of the off-grid components of the Project. The PMU has adequate financial management system to account, record and report the financial transactions ofthe Project.

31 4. Social

123. Enhancement of the well being of rural populations by providing grid and off-grid access to electricity is the key social concern of the Project. About 285,000 households in rural towns and villages are targeted for electrification (the figure reflects the population at the outset ofthe Project). The selection of the villages and towns to be electrified is the result of consultations between local and regional governments and the Federal Government.

124. HIV/AIDS contamination is recognized as a health risk and will be addressed. Social protection clauses will be included in the contract documents and implementation of these clauses and safeguards measures will be monitored by EEPCo and ERDPC. Also, HIV/AIDS risks will be addressed through the preparation of an operational HIV/AIDS prevention strategy for work places and host communities. The social benefits ofthe Project include, but are not limited to: the well being of people in their homes, local businesses, and health services. Also, the Project will enhance education and facilitate the development of agro- industry, ultimately contributing to the development ofnew sources ofincome in small towns, and therefore to poverty alleviation. An impact study (Electricity and Poverty Observatory), will document the social benefits ofthe Project.

Consultations with Various Stakeholders and Affected Groups

125. The location of works is participatory at several levels. Public consultations will be held prior to the electrification or generation works. The stakeholders will include: local governments and administrations, rural cooperatives, community-based organizations (CBOs), community-based facilitators (CBFs), NGOs, regional governments, and sectoral administrations and federal authorities. The consultations will focus on assessing the impacts of project operations (socio-economic and environmental), identifying potential areas of conflict, and defining areas of collaboration. A pocket-sized social and environmental operational guideline for contractors will be prepared by EEPCo’s EMU and EREDPCs Environment Specialist. Consultations with local communities will be conducted during the implementation of civil works to provide: income generating opportunities, minimize conflicts, enhance cooperation, and improve social benefits and performance of the works contracts.

5. Environment

126. The UEAP’s grid-related physical investments primarily include the construction of 33 kV lines and low voltage lines to provide power to rural towns and villages (including social infrastructure and irrigation facilities) and expansion activities at existing substations. The off-grid related physical investments include the construction of mini hydro plants (typically 200kW in size), or small photovoltaic units, as well as the mini-distribution networks to provide energy to rural town and villages. The potential negative environmental impacts for both components are likely to include soil erosion, loss of vegetation, air, water and soil pollution and noise and dust during construction work. There will also be a localized impact upon air quality from the power plants, particularly diesel generation. Other significant environmental issues include the disposal of compact fluorescent lamps and batteries after usage, and the presence ofPCBs in transformers.

32 127. In keeping with good practice established under the EAREP I,an Environmental and Social Management Framework (ESMF) has been prepared to address the potential impacts (expected to be local in extent and of short duration) and to integrate environmental protection measures with the planning, operation and maintenance phases of the Project. The measures include site selection for sub-projects, safe disposal of hazardous materials, emissions control and the adoption of good environmental practice during physical works. Similarly, a Resettlement Policy Framework (RPF) was prepared. Potential adverse social impacts are associated with land acquisition (for electric poles, substation expansion and hydro facilities) for which compensation will be provided. No resettlement is expected. The ESMF and the RPF were made available in-country and filed in the Bank’s InfoShop mid-February 2007 and has been subject to extensive consultation with all stakeholders.

128. EEPCo’s Environmental Management Unit (EMU) is responsible for applying and implementing the ESMF for all development of grid-extension projects undertaken at EEPCo. As part of their mandate, the EMU will continue to monitor and report on the application of Environmental Management Plans (EMPs) and Resettlement Action Plans (RAPs) and provide quality assurance for environmental and social management throughout the project’s implementation.

129. EREDPC, which reports to the Ministry of Energy, will be responsible for applying the ESMF for all development of mini grid and off-grid projects. The newly formed Rural Electrification Executive Secretariat (REES) will monitor and report on the implementation of EMPs and RAPs through its appointed Environment Specialist (ES).

130. For both EEPCo and EREDPC, the implementation of environmental protection clauses by contractors will be monitored by site engineers overseen by the relevant environment staff. Provisions are in place for consultation with Local Committees and Regional Bureaus and other stakeholders; the Federal Environmental Protection Authority (EPA) oversees all environmental and social safeguards activities related to the project, contractors and site engineers having to report to EEPCo/ EPA for commentdrecommendations before clearance by the investments office. Supervision of project operations will include social scientists and environment specialists and the EMU and ES will produce progress reports on environmental and social performance which will be integrated into the overall project monitoring system.

33 6. Safeguard Policies

Safeguard Policies Triggered by the Project Environmental Assessment (OP/BP/GP 4.01) Natural Habitats (OP/BP 4.04) Pest Management (OP 4.09) Cultural Property (OPN 11.03, being revised as OP 4.1 1) Involuntary Resettlement (OP/BP 4.12) Indigenous Peoples (OD 4.20, being revised as OP 4.10) Forests (OP/BP 4.36) Safety of Dams (OP/BP 4.37) Projects in Disputed Areas (OP/BP/GP 7.60) Projects on International Waterways (OP/BP/GP 7.50)

7. Policy Exceptions and Readiness

131. The Project complies with all World Bank applicable policies and no exceptions are necessary.

132. Both Project implementation units, namely UEAP (EEPCo) and REES (EREDPC) have been established and are functional and operational. They now operate under the umbrella of one single Ministry, which facilitates grid and off-grid integration.

133. The Project will leverage on the experience of two ongoing IDA financed projects. Grid component of EAREP I1 is similar in scope to EAREP I Project. The mini-grid component of Energy Access Project, in particular the GEF funded a renewable component, is similar to what is now being proposed under EAREP 11. In this regard, minor changes are expected to the existing mechanisms of Rural Electrification Board and the Trust Fund. Details are set forth in the Operational Manual, which needs to be updated. A portfolio of more than 200 possible mini-grids has been pre-screened and there is growing interest demonstrated by rural cooperatives to participate in rural electrification.

134. Grid and off-grid implementation units need to be strengthened to manage the additional workload and to provide expertise in new applications envisioned for the two pilot projects.

135. The Project’s Procurement Plan for the turn-key design and installation contracts, as well as for the hiring of consultants will be revised by the Bank and will be ready for the start of Project implementation. The Project’s implementation plan will be refined and assessed by the Bank in due course, for the grid, mini-grid, and off-grid components.

34 Annex 1: Country and Sector Background Ethiopia Second Electricity Access Rural Expansion Project

Country Background

1. Ethiopia is one of the most populous countries in Sub-Saharan Africa and also one of the poorest. Ethiopia’s US$130 per capita GNI is significantly less than the Sub-Saharan Africa average. Although the country has abundant resources and good potential for development, poverty is pandemic and often linked to environmental and natural resource degradation. Approximately 44 percent of people fell below the basic needs poverty line in the last comprehensive national survey (1 999/00).

2. Economic growth performance over the past two years has been very strong and broad based, with the result that GDP per capita has finally caught up to pre-Derg levels. After a significant drought-induced contraction, Ethiopia’s economy recovered in 2003/04 and 2004/05 with rapid broad-based growth driven by strong agricultural performance. Real GDP growth was 8.9 percent in 2004/05, following an 11 percent growth rate in 2003/04. Growth was driven by a strong agriculture sector (12.1 percent growth), but also reflects good performance across sectors (6.6 percent in industrial production, and 5.8 percent in services). The IMF expects growth of 5.1 percent in 2005/06, though Government predicts higher growth of 8 percent. At the end of December 2005, consumer prices had raised by 11.7 percent in the previous twelve months, compared to 6.8 percent in June. Food prices have been increasing more rapidly than the overall level of inflation.

3. Macroeconomic stability has been a critical underpinning both to the foundations for economic growth, and increased levels of development assistance that have flown through the budget until recently. However, a confluence of negative factors has recently required the Government to take decisive action to ensure continuation of the long-run trend of macro- stability. While exports grew strongly in 2004/05, imports have grown even faster. Due to rising oil prices, increased demand for imports due to fast economic growth, and an ambitious infrastructure investment program, Ethiopia’s balance of payment situation has shown increasing fragility.

4. Over the last decade, the Government of Ethiopia (GoE) has been implementing a reform program aimed at poverty reduction through rapid economic growth and macroeconomic stability. The program was making good headway in poverty reduction in the 1990s, but was interrupted by the conflict with Eritrea in the last decade. GoE resumed its efforts following the conclusion of the conflict by developing the Sustainable Development and Poverty Reduction Program in 2002. Despite numerous shocks, such as the drought in 2002-2003, implementation of the SDPRP has resulted in important recent gains, especially on human development indicators, transport, the investment climate, small town development, and the fight against food insecurity. Pro-poor spending as a share of the budget has risen from 28 percent in 1999/2000 to 57 percent in 2004/05. The World Bank Country Economic Memorandum 2006 (CEM) on Growth and Governance finds that important progress has been achieved in the past decade, largely driven by improved institutions, including at the

35 regional and local levels, which have been able to deliver a scaling-up of services and infrastructure.

5. GoE is nearing completion of an ambitious new poverty reduction strategy, called the Plan for Accelerated and Sustained Development to End Poverty (PASDEP). The five year program centers around eight priority themes: (i)commercialization of agriculture and promoting much more rapid non-farm private sector growth; (ii)geographical differentiation; (iii)population; (iv) gender; (v) infrastructure-especially roads, energy, and irrigation; (vi) risk management and vulnerability; (vii) scaling up service delivery to reach the Millennium Development Goals; and (viii) employment. Cutting across these themes is an important emphasis on good governance, with plans to strengthen the civil service, accelerate local empowerment, and increase transparency and accountability.

6. The country’s first openly contested elections were held in May 2005. Voter participation was high. Under the announced election results, the ruling Ethiopian People’s Revolutionary Democratic Front (EPRDF) retained a majority in Parliament. Most of the opposition disputes this result. The aftermath of the elections has demonstrated the fragility of the democratization process. Election-related violence began in June. Many members of the largest opposition party, the Coalition for Unity and Democracy Party (CUDP), boycotted Parliament, and refused to take up the administration of Addis Ababa. The simmering tensions boiled over in early November, when clashes occurred between civilians and government security forces in Addis Ababa and several other cities. Thousands of civilians were arrested, including journalists and key opposition leaders such as the CUDP’s President and Chairman. Political tension had some adverse impacts on donor’s continued commitment. The situation returned to a state of normality. Some tense moments have resulted from Ethiopia’s recent military action in Somalia, but it has not affected the donor’s willingness to continue supporting Ethiopia.

7. The Interim Country Assistance Strategy (ICAS), approved in 2006, aims to support GoE in further strengthening its institution building and governance reform agenda, as part of a coordinated multi-donor effort. The ICAS underlines the important role of governance in fostering development of the private sector, enabling improved service delivery by local governments, and underpinning an expansion of critical economic infrastructure. Elements of the ICAS include support for: merit-based civil service; public financial management; provision of stand alone basic services in a fair and accountable way; promotion of free enterprise; improved agricultural productivity; and development of infrastructure as reflected in this rural electrification Project. A new CAS is under preparation.

Finan cia1 Sector Overview

8. The Ethiopian financial industry is dominated by the banking sector, which accounts for about 94 percent oftotal financial sector assets, with remaining assets accounted for by the insurance sector (3 percent) and micro-finance institutions (3 percent). The Ethiopian banking sector comprises of one development bank (Development Bank of Ethiopia - DBE), two state-owned commercial banks (Commercial Bank of Ethiopia - CBE; Construction and Business Bank - CBB), and seven private commercial banks. Private banks’ participation has increased gradually, and they currently account for 23.5 percent of commercial banking

36 assets, with the remainder being the share of the two public sector commercial banks. CBE dominates, representing over 74 percent of commercial banking assets. There are 23 micro- finance institutions.

9. Financial sector policy in Ethiopia aims at achieving more effective intermediation, and improving soundness and depth. The Ethiopian authorities have chosen to pursue these goals within a distinctive strategic framework for the financial sector, which is in line with the Interim CAS, and emphasizes the importance of building and protecting pro-growth institutional capital in the financial sector, further strengthening corporate governance and accountability of financial institutions, and boosting the capacity of financial sector professionals.

10. Policy lending is to be confined to the Ethiopian Development Bank (DBE), which has also prepared a detailed Business Process Re-Engineering Plan, which has been submitted to the Agency for Monitoring of Public Financial Institutions. Measures have already been taken by DBE to: (i)reduce non-performing loans, through foreclosure, restructuring, and/or write offs (the reported NPL was 36 percent at June 2005, and the target is to reduce it to 24 percent by June 2006); (ii)streamline critical procedures (for example, the time taken to process loan applications has been reduced from 170 days to 36 days); and (iii)improve service delivery to clients.

11. Focused on the rural sector, the country’s micro finance institutions (MFIs) continue to expand. Currently, there are some 23 micro finance organizations serving about 1.5 million households. In FY 2004/05, the number ofclients grew by about 26 percent while volume of credit extended grew by more than 50 percent over the preceding year. The average credit to deposit ratio ofMFIs stands over 200 percent.

Energy Sector Specific Issues

12. Like many other Sub-Saharan countries, a striking feature of Ethiopia’s energy sector is the high proportion of biomass in the energy matrix (more than 90 percent) relative to modern forms of energy such as electricity, natural gas or LPG. This pattern of consumption has led to increasing deforestation, shortages of wood fuel, and degradation of rural ecosystems - a problem worsened by inadequate supply-side measures for improving forest stocks.

13. The limited supply of modern forms of energy and their high costs relative to the low average income per capita has reinforced the dependence on biomass energy. LPG is not widely used in Ethiopia for heating or cooking, due to the high import costs and the barrier represented by the acquisition of millions of metal containers for household use. In the absence of this form of energy, widely used in other countries, customers face the reality of using fuel wood or electricity for basic need such as heating or cooking. From a country’s perspective, the latter is also a very expensive way to meet household energy needs, except for the most affluent.

14. Furthermore, energy in Ethiopia is not used in a very efficient way. In 2006, one kg of oil equivalent produced US$2.1 in GDP, when compared to US$2.8 in Sub-Saharan African

37 Countries and US$4.2 in Low Income Countries worldwide. Energy efficiency in Ethiopia has slightly declined over the last four years.

2002 2003 2005 2006 Ethiopia 2.2 2.6 2.4 2.1 Sub-Saharan Africa 2.6 2.9 2.8 2.8 Low Income Countries 3.6 4.0 4.1 4.2

15. Hence, the Government strategy for development of the sector is aimed at improving the supply and use of electricity and biomass energy in an efficient and cost effective manner. A shift towards hydro-generated electricity may alleviate part of the environmental degradation problem, but the Government is cognizant ofthe fact that the cost of electricity is a barrier to replacing wood fuel at the household level, unless the tariff becomes heavily subsidized. The Government is also working (with support from the Energy Access Project) to develop energy efficient stoves and to promote the use of bio-fuels (such as ethanol) for cooking (with the support from the private sector) to relieve the pressure on wood fuels. Those are meant to be relatively simple actions that have a significant impact on fuel efficiency and people’s quality of life. As part of this EAREP I1 Project, the GoE wants to further investigate on how to make the Ethiopian economy more energy efficient.

16. The GoE has taken steps to delay portions of its public investment plan (in energy and telecom) in light of the need to bridge a BOP financing gap, indicated that the oil import bill is expected to be lower than initially estimated, and held transfers from the NBE to the budget at a lower level than initially proposed. The IMF has indicated that the Government’s proposals appear to be an adequate response to maintain macro stability.

17. Even considering the positive steps Government has taken to scale back its investment plans, there remain other dimensions where prudent political decisions will be important for overall economic stability. First, it will be important to attract more ODA and FDI, which will require rapid improvement in governance. Second, Ethiopia faces several key fiscal pressures driven by the energy sector for which adjustment is desirable from an economic point of view but problematic from a political perspective. While global oil prices have risen, government has not increased domestic fuel prices since December 2004, resulting in a large fuel subsidy. Similarly, while Government has recently approved an electricity rate increase of about 22 percent, tariffs remain below the level that would ensure sustainability of the state-owned Ethiopian Electric Power Company (EEPCo), given its ambitious expansion plan, and further tariff adjustments will be required over time.

Electricity Sub-sector Issues

18. Access and Electrijkation Rates. The percentage ofthe population with connection to electricity is extremely low, currently about 6 percent. Only about 17 percent of the population lives in electrified areas (ie., areas with some form of electricity supply for residences and businesses). The low level of access to electricity is a major barrier to

38 economic development, as well as to the provision of social services in rural towns and other rural areas.

19. Ethiopia is expanding service and consumption. The per capita yearly consumption has steadily grown from 22.3 kWh in 2001/02 to 32.9 kWh in 2005/06. System losses have decreased from a historical 20 percent to 18.4 percent in 2005/2006. Total energy production in 2005/06 reached 2.9 TWh. In the last 5 years, it has grown at a high rate of 9.6 percent. Peak demand has grown at a higher rate of 10.7 percent, suggesting a higher percentage of residential consumption and also some potential for demand interventions. Given the heavy predominance of hydro generation, the system is not capacity constrained, but may become energy constrained in times of very low hydrology.

20. The majority of the people are supplied by the Government-owned Ethiopian Electric Power Corporation (EEPCo), the vertically integrated power utility. EEPCo has about 1,130,000 customers, including 360,000 in Addis Ababa where the connection rate is 33 percent. In other urban areas, the rate is about 20-30 percent. However, 85 percent of the population lives in rural areas, mostly in towns and villages, where the connection rate is below 2 percent. The access rate in rural areas is less than 2 percent. 38,000 customers are connected to EEPCo’s isolated systems, and private providers deliver power to a further limited number of customers. The major load centers are in Addis Ababa, Nazereth, Dire Dawa, Harar, Bahar Dar, Mekele and Awassa. The Addis Ababa load center accounts for over 60 percent of the total demand.

Grid versus Off-Grid

21. The Government has embraced increasing electricity access as a pillar of its strategy for promoting income-generating activities and social services outside major urban centers in order to improve living standards and reduce poverty. Promoting access to electricity is also part of its strategy to decentralize the delivery of services throughout the country.

22. A two-track strategy for rural electrification is under implementation. The first encompasses extension to the main grid to serve communities in rural areas. The second involves the provision of electricity using mini-grids in isolated communities, using decentralized generation sources, such as diesel powered machines or hydro plants.

23. GoE has been working to promote off-grid private sector solutions under the auspices of the ongoing Energy Access Project. A detailed Off-Grid Master Plan was developed, showing the potential and importance of Ethiopia’s embarking on a more aggressive off-grid electrification program. Given the extension of the country, and the low electrification levels, the study claims that it is virtually impossible to reach out to some of the more isolated communities relying solely on grid-extension, no matter how aggressive the UAEP turns out to be. EEPCo envisions a more aggressive scenario of providing grid electrification to the entire country by 2015. The Bank is cognizant of the importance of grid-electrification, but at the same time international experience has shown that the cost per connection grows exponentially in more distant frontier areas. Therefore, there will always be room for mini- grids and off-grid electrification as part of any least cost electrification master plan.

39 24. The Ministry of Energy is working to better coordinate the existing grid and off-grid investment master plans. This coordination should provide clarity regarding the areas to be connected to the grid in the short and medium run and those to be developed under off-grid solutions. The Ethiopian Electric Agency (EEA), in conjunction with the Ministry of Energy, has identified the need to prepare a clear regulatory framework to address the physical integration of grid and off-grid systems in the future. There are several technical, regulatory and commercial issues that need to be addressed. One of the objectives of developing this framework is to give potential investors more regulatory clarity about their prerogatives when EEPCo extends its network and overlaps with the mini-grid systems. Issues such as take-over procedures, buy-back energy, avoided costs, and technical synchronization need to be addressed now, and not simply when the physical connection takes place. In parallel, EEPCo is developing analytical skills using satellite positioning technology (GIS) to better identify the regions and towns likely to be electrified as part ofthe grid expansion program.

25. 1,200 towns were electrified in April 2007, from a total of 6,000 in the country. About 120 electrified towns within EEPCO’s Self-contained Systems. EEPCo has about 1,200,000 customers, including 360,000 in Addis Ababa where the connection rate is 33 percent. The low level of access to electricity is a major barrier to economic development, as well as to the provision of social services in rural towns and other rural areas.

26. EEPCo has increased annual grid connections from about 30,000 in fiscal year 2002 (FY02) to almost 100,000 in 2004, 150,000 in 2005, and 179,000 this fiscal year (250,000 were expected). Future plans include about 300,000 customers per year. Table 20 illustrates the pace of electrified towns and customers connected in the last five years. It can be seen that the number of direct customers almost doubled during this period. The number of electrified towns of about 1200 is in state of flux - every day new towns and villages celebrate when connected to the grid.

Table 20: Number of Customers & Electrified Towns Fiscal Year 2002 2003 2004 2005 2006 Total # of customers directly connected 654,885 698,360 797691 947697 1,126,464 # of customers directly connected per year 29,389 43,475 99,337 150,000 178,767 Electrified towns per year 23 66 74 32 227 Number of electrified towns 492 558 632 664 891 (*)

(*) More than 900 towns, as this document is prepared.

27. Ethiopia is presently in a comfortable position as far as its supply and demand balance is concerned. There is enough generation capacity and hydrology has been favorable in the last couple of years. However, the GoE is cognizant about the vagaries of rainfall and the fact that demand may significantly increase. The ICs system faced supply deficits in the past, which led to power rationing. In order to alleviate this problem, EEPCo introduced 80 MW diesel fired power plants in selected parts of the grid. To cope with those risks, GoE is also developing an ambitious generation and transmission program which will be described later.

28. The ongoing efforts under grid and off-grid electrification will be discussed in turn.

40 Grid Electrification and UEAP

29. UEAP is an umbrella program designed to provide grid-based electrification on most rural towns and villages over a ten-year horizon. These rural towns/villages range in size from about 100 (or less) to 15,000 inhabitants.

30. The objective of UEAP is to increase the access rate from the current 17 percent level to 50 percent over a five-year period, with a view to connecting virtually all rural towns and villages to the grid with a 10-year horizon. To this end, GoE is proposing to allocate about 17 billion Birr (about US$2.0 billion) over the next 10 years, with further allocations in later years. This represents about 16 percent of EEPCo’s overall investment program for the corresponding period.

31. EEPCo/UEAP has been supported by several donors and financiers, including the World Bank, African Development Bank, Kuwait Fund, Arab Bank for Economic Development in Africa, and the Indian Government. So far, those institutions have co-funded specific projects encompassing about 4.13 Billion Birr to serve 780 towns and villages. This amount represents about 23 percent of the overall UEAP requirements and 13 percent of the total number towns and villages to be electrified.

32. Despite the strong commitment demonstrated by the GoE, significant additional funding is required to develop UAEP in its entirety. Conscious of the stress on EEPCo’s finances of electrifying rural towns with limited loads, GoE and EEPCo have developed a financing plan under which 80 percent ofthe capital cost ofthe UEAP will be borne by GoE. Most donors focus on the electrification of larger settlements, where productive uses of energy and economic growth are most likely to happen. Customers to be electrified in those areas include both commercial and industrial clients.

33. Beneficiaries of electrification include residential, commercial and industrial customers (such as flour mills, irrigation centers, water pumping and telecommunications). According to initial estimates, residential customers would represent about 40-45 percent of incremental load in those rural towns. If energy efficient compact fluorescent lamps (CFLs) are provided to this customer category, the residential share may be reduced to about 25-30 percent.

34. The use of electricity as household energy would also reduce the indoor pollution caused by kerosene lamps, with children and women the main beneficiaries. The World Bank does not expect UAEP to have a significant impact on reducing the pace of deforestation, at least as far as the use of wood for household cooking is concerned. Electric stoves are expensive, as well as utilize a lot of electricity which may not be affordable to the poor. It is questionable to what extent it is worth subsidizing electricity for this use, give the high capital intensity of hydro systems. Nonetheless, electricity may displace wood fuel among richer customers in urban areas, therefore contributing to reduce deforestation. GoE could also consider the implementation offlexible tariffs in periods where electricity is abundant (due to hydrology or temporary excess capacity) to promote some wood-electricity substitution on an interruptible basis, where switching capability exists.

41 35. Even in places where access is available, electricity nay not used by everyone. Some customers are able to afford the upfront fee to get hooked up to the system (which ranges from about US$50-100, depending on the distance from the connection to the existing low voltage distribution system). However, for others this is a barrier to entry and they prefer to get connected indirectly via their neighbors or not get connected at all. EEPCo has introduced changes to enable a faster rate of connections. First, connections are being offered regardless of the “legal” status of the customer. Second, EEPCo has been providing a credit facility whereby low income households receive a loan to repay the connection fees within a five-year period (recently reduced to two years to help strengthen EEPCo’s financial position). EEPCo has concluded that this approach has allowed a significant number of poorer residential customers to connect, as evidenced by higher connection rates (exceeding 40 percent) in recently electrified rural towns.

36. The estimated cost of connection is relatively low by international standards, since EEPCo is serving towns and villages in rural areas, as opposed to scattered users. The average cost of connection declines over time, reaching about US$500 per connection as more customers benefit from the initial investments being made under the Project. The decline in average cost per customer, calculated under EAREP I,is shown in Figure 2.

Figure 2: Cost per Connection

Cost Per Customer Connected

2000 s 1500 =- 5 ;1000 b- ,” 500 Qo 0 50 100 150 200 250 300 350 Customers (000)

Source: EAREP IPAD, based on the selected cohort of towns and villages

39. Opportunities for Reducing Costs. EEPCo has been exploring opportunities to reduce the cost of electrifying rural towns. Studies of rural electrification in the US, Thailand, Tunisia, as well as other international experiences, illustrate approaches to reducing the cost and increasing the effectiveness of rural electrification efforts. Several rural electrification cost reduction approaches have been discussed and some of them have been are being implemented by EEPCo as part ofEAREP I.The most important ones are as follows:

a) Increase the primary distribution voltage level from 15 kV to 33 kV to double the maximum stretch from 45-50 km up to 110 km;

b) Longer line spans to take maximum advantage of the strength ofconductors while ensuring a generally acceptable degree of safety and ground clearance requirements;

42 c) Proper sizing of transformers, using more modular (5-1 00 kVA), single-phased distribution transformers;

d) Simplification of substation layouts, eliminating redundancies; and

The UEAP Ofice

37. The UEAP Office has been operational since 2005. UEAP has been managing the universal access program through a combination of force account and turn key modalities. There is a preference in Ethiopia to use force account as much as possible, due to its lower cost and to develop in-house technical capacity. However EEPCo is cognizant of the administrative challenges of managing an ambitious program such as UEAP exclusively relying upon its own resources. As part of the diversification objective, grid-electrification under Energy Access Project has been outsourced to the Indian firm KEC, which has just started to connect the first towns and villages in 2007 (See Box). IDA financed the US$130 million EAREP I,based on force account modality. Similarly, a loan was recently approved by the AfDB, also under the modality of force account. The electrification program contemplated in this current loan relies on a “turn-key” approach for the grid-based electrification. Considering the entire portfolio, it provides sensible balance between force account and turn-key modalities.

Box 1: Status of KEC Works Energy Access Project Turn-key Contracts (As ofNovember 2006)

KEC, an Indian company, was hired by EEPCo to carry on electrification works on both of the regions which were put for bid -henceforth Lots 1 and 2. Those Lots were put for bid separately, but they could be awarded to the same contractor. The bidding process faced some initial delays related to the qualification ofthe bidders. KEC has completed site mobilization for both Lots 1 and 2. It has also completed steel tower design submission and soil investigation. About 60 percent ofmaterial ordering is done and about 35 percent of surveying work has been completed. As for the towns /villages to be electrified, the first 13 batches are anticipated to be electrified by the end of June 2007. The Project is about three months behind schedule. The cause for the delays is said to be the non-existence ofaccess road to some ofthe proposed villages in certain areas; hindrances to surveying works in cultivated and farming areas in and around some regions; and delays on material ordering and design works, which have affected implementation ofthe project within the time frame stipulated in the contract. Lessons from the distribution design network of Energy Access and EAREP I projects indicate the convenience of a balanced approach between turn-key projects and force account.

43 Carbon Finance Project Prospects

38. A carbon project related to this rural access expansion project is potentially eligible under the Kyoto Protocol’s Article 12 which establishes the Clean Development Mechanism (CDM) allowing public and private sector parties in industrialized countries to invest in greenhouse gas mitigation projects implemented in developing countries. The CDM enables investors to receive a credit toward their emission reduction targets under the Kyoto Protocol, which entered into force on January 1, 2005. Ethiopia ratified the Kyoto Protocol on September 21, 2005. The primary objective of the Project is to provide electricity access to customers in off-grid areas through investments that would lead to the extension of the national grid, which is predominantly served through hydropower generation.

39. The key performance indicators that will be used to assess the fulfillment of those objectives are:

0 Actual number of new customers connected (as a proxy for the resulting reduction in consumption ofkerosene for lighting); and

0 Reduction in baseline consumption diesel fuel used for power generation.

42. Based on preliminary assumptions, the carbon revenue is roughly equivalent to US$2.43 per year for each connection and will vary linearly based on the number of new connections actually achieved.

Off-Grid Electrification and EREDPC

43. There has been a growing interest from private entities, in particular rural cooperatives, to develop and supply off-grid electrification services, as a result of the funds being made available as part of the ongoing Energy Access Project. What is been proposed now under EAREP I1 is to build upon the basic institutional and business models developed under Energy Access Project, and provide additional funds to support the development of renewable based mini-grids. The World Bank acknowledges the importance of off-grid electrification, which should be seen as complementary to UEAP efforts.

44. Off-grid schemes under Energy Access Project have entailed the development of a small scale power generation source (e.g. diesel or hydro) and a mini-distribution grid to serve a group of customers in nearby communities. Typically, 300 to 800 customers benefit from each mini-grid, the average being close to 500. Diesel generators capacity is usually below 100kW, while hydro plants vary on a site by site basis, but they are typically 200kW in size. EAREP I1 will finance only renewable generation. It is expected that most of the proposed projects will be run-of-river hydro plants. Despite its higher investment cost, hydro systems, once in place, are more likely to be sustainable, while diesel generation faces high operational costs and risks of oil price fluctuation. Since Ethiopia is totally dependent on oil exports, the current government policy is to discourage the installation ofnew diesel systems if renewable options are available.

45. Off-grid electrification is under the purview of EREDPC, which reports to the Ministry of Energy. EREDPC has established a core team as the Rural Electrification

44 Executive Secretariat (REES) responsible for project assessment and implementation. The off-grid master plan and an international implementation advisor assignment have been completed. The REES core staff has provided extensive advisory services, capacity building, and training to Regional Energy Bureaus and cooperatives, while the Development Bank of Ethiopia (DBE) operates as a Trust Agent. An organization chart for EREDPCREES is shows in Figure 3.

Figure 3: Organization Structure Federal Rural Electrification Executive Secretariat (EREDPC)

information Setvice (IS) I A Civit Service office (CSO)'

Administration & General Service

Technical Assistance & Ca

Project Appraisal Team (PAT)

46. Rural cooperatives have emerged as a suitable business model to electrify remote communities, but opportunities are also open for any qualified private developer. Over 200 communities have organized and registered themselves as Electric Cooperatives.

47. Given the increasing interest in the development of mini-grids, it is unlikely that the funding provided by under Energy Access Project (both IDA and GEF) will suffice. Therefore, additional IDA resources of about US$l5 million are contemplated under the scope ofthis Project.

48. Private developers are responsible for preparing the business plans, including feasibility studies, economic and financial analysis, marketing, financial, operations and organization plans, as well as environmental impact assessment. The RE Fund Project Operational Manual provides some basic guidance on how the business plans should be

45 developed. The REES, the Regional Energy Bureaus, and Regional Water Resource Department jointly assist the developers in preparing their proposals. REES appraises the applications, particularly regarding the technical aspects, taking into account the following set of criteria: (i)no overlapping with EEPCo grid within the next five years; (ii)a permanent settlement; (iii)high consumers’ willingness-to-pay; (iv) development potential and local government priority; and (v) year-round water resources in the case of mini-hydro projects. All the small hydro projects approved to date are run-of-river projects.

49. Despite the apparent success of this business model involving cooperatives, there are several issues that deserve further attention as the off-grid program is scaled up. Some of those issues include:

Private Capital Participation. Despite the great interest demonstrated by rural cooperatives in building and owning mini-grids, the private sector has not actively participated in the role of independent developers. Reasons for the modest participation are not evident, but possibly regulatory uncertainties over the longer term may explain the lack ofinterest.

Coordination between Grid and Off-grid Electrifzcation: Currently, it is not clear which areas are under the purview of REES and which ones are under EEPCo long term planning. This lack of clarity could lead to duplication of efforts and wasted resources. The Ministry of Energy still has to develop an integrated master plan encompassing both grid and off-grid electrification. For the time being, the off-grid projects are analyzed on a case by case basis, to ensure they will not overlap with grid extension plans in a five-year horizon. This ad-hoc approach does not necessarily lead to an optimal utilization ofscarce resources.

Level Playing Field between Grid and Off-grid. Under the current Universal Access Program, the government provides an 80 percent grant to EEPCo in extending the grid to rural areas. For off-grid, however, the RE Fund offers concessional loans to project developers to provide electricity services in remote rural areas. Therefore, off-grid consumers have to pay much higher (cost-reflective) tariff than EEPCo’s customers. There is a need to seek a more leveled playing field between grid and off-grid initiatives, and clarify the role of subsidies for off-grid rural electrification. The GoE is cognizant about this imbalance, but there are practical difficulties in subsidizing mini-grids owned and operated by private developers.

Lack of Funds to Scale-up Off-grid Electrijkation. There is indeed a large pipeline or projects resulting from the high demand from cooperatives: The RE Fund currently has a project pipeline ofUS$50 million, far exceeding the currently available finding. This could potentially slow down the approval process and, more importantly, the momentum built among project developers.

Technology Choice. The majority of the approved projects to date are diesel generators, despite their high operating costs. The government stated policy is to discourage diesel and encourage renewable energy, given Ethiopia’s dependence on oil imports and ensuing vulnerability to oil prices. In addition to diesel and hydro

46 generation, work should be carried out by REES to assist developers in evaluating a broader range of least-cost options such as biomass technologies and diesel/wind hybrid systems in areas where hydro resources are not available.

Lack of a Consistent Regulatory Framework. The business model based on rural cooperatives has proved to be very effective in many parts ofthe world. For example, electrification in the US and in Southern Brazil was spurred by those entities. They grew up in a light-handed regulatory environment which needs to be preserved in Ethiopia. However, it is necessary to have some basic regulations in place, at the outset, to spell out what is going to happen with the cooperatives’ assets when their mini-grids are connected to the network. Dealing with this issue now is extremely important. It affects not only the take over process to happen in a more distant future, but primarily the incentives given today for the private sector to invest in projects of long maturity, such as hydro plants. It is admitted that EEPCo would provide a fair compensation for the assets to be taken over. This statement, taken in isolation, is vague and conceptually flawed. It is vague because “fair” compensation is one ofthe most difficult regulatory concepts to agree upon, unless a clear methodology is established at the outset. It is conceptually flawed because it assumes that there will be no future role for private producers (and distributors) and the accountability for grid electrification should rely exclusively on EEPCo. Both concepts need to be revisited and an adequate regulatory framework put in place. EREDPC is planning to work with Ethiopia Electric Agency to develop light-handed regulations for mini-grid systems, with a focus on the interface between the grid and mini-grid areas such as asset evaluation, buy-back rates, system integration, net-metering, synchronization issues, quality of service, etc. Such regulations should provide clear guidelines to ensure fair compensation to mini-grid developers and define responsibilities and obligation to serve in these interface areas. The Technical Assistance component will support EEPCo to address those issues.

Tariffsetting for Mini-grid Schemes. Mini-grid requires a more light handed form of regulation. However, it is important that the incumbent (cooperative or private developer) to not exert its monopoly power to earn abnormal rates of return. Some criteria for rate setting and some form of monitoring from the Regulator will be necessary. The scope and depth of regulation will have to be discussed as part ofthe project.

Other Investments in the Electricity Sector

50. EEPCo remains committed to increasing its hydro-power plant capacity, which it views as an environmentally friendly “lower-costy’ option (in particular in a high and volatile oil price environment). Ethiopia is endowed with cheap hydro resources. Given Ethiopia’s high altitudes, favorable rainfall, and topography, opportunities to develop hydro generation are massive. Ethiopia represents the most economic way to harness Blue Nile resources and make those available to neighboring countries. Hydro generation in Ethiopia costs about US$1,200 per installed kW, or about one third of other plants’ costs being built in East Africa. Paradoxically, many of its neighbors are suffering from the penury of load shedding andor

47 investing in expensive generation, while others face a very high operating cost based on thermal generation.

51. The GoE is cognizant of the opportunity to “monetize” this potential and has intensified efforts in developing hydro generation. So far, EEPCo has been the primary vehicle for this expansion, either acting as a builder and owner, or possibly in the future as a single buyer for energy to be produced by third parties. The government welcomes the possibility of having more active private capital participation in generation, but so far it has been alleged that the interest from private investors has been modest.

52. More energy trading in the region would contribute to economic integration and to reduce generation costs. Interconnection with Sudan and Djibouti is planned for the next few years and with Kenya in a more distant future. A detailed study connecting Ethiopia to Kenya is underway, which will benefit several countries in East Africa.

53. EEPCo is building four large hydro plants: Tekeze, with installed capacity of 300 MW and 980 GWh offirm energy, and Gilgel Gibe 11, with installed capacity of420 MW and 1,500 GWh of firm energy. These two projects are scheduled for commissioning in 2007 and 2008, respectively. Additional projects include Tana Beles, with a capacity of 460 MW and 1,830 GWh in energy, Gilgel Gibe 111, with a capacity of 1800 MW and 6,300 GWh. EEPCo is drawing on different river basins, which is designed to reduce the hydrological risk and also create surplus energy for exports.

54. The overall investment program involves resources of US$12.5 billion for the next ten years. Generation represents 64% and UEAP about 16% of the total investment program, as shown in Table 21. Most of the investments in the period focus on the expansion of generation capacity.

Table 21: EEPCo Investment Program 2006/07 to 2015/16

Source: EEPCo

55. EEPCo will not have the financial capacity to generate resources to support such an ambitious undertaking. It is expected that GoE will make significant equity or other forms of contributions to support the planned investments in generation, transmission and distribution, as well as in rural electrification, thereby relieving the financial pressure on the utility.

56. Budgetary resources have been tentatively allocated to the power sector, representing about 45.6 million Birr or US$5.2 billion for the next five years, as shown in Table 22. There is a firm commitment from GoE to fund 80% of UEAP via equity contribution, but EEPCo will be responsible to financing the bulk of its investment plan.

48 Table 22: GoE Investment Support to EEPCo

GoE Investment Support to EEPCo Year Birr (MM) US$ (MM)

2006 8.614 990 2007 11.013 1.266 2008 9.091 1.045 2009 10.219 1.175 2010 6.690 769 2006-10 45.627 5.245 Source: PASDEP

57. The World Bank has been working to assist EEPCo and GoE to rationalize the electricity sector expansion plan. The dialogue has emphasized the following points: (i) strengthened least-cost integrated development planning; (ii)development of a master expansion plan that is driven more by projections on growth in demand rather than supply side generation targets - to this end, EEPCo should continue refining its Least Cost Development Master Plan; (iii)assessing domestic needs and energy export possibilities; (iv) achieve a better integration between the grid and off-grid electrification; (v) examine demand side interventions, such as energy efficiency and load management on a level playing field with supply options; (vi) carry on studies on syndication (as part of EAREP 11) to assess the potential contribution from multiple donors; and (vii) develop a glide path towards cost reflective tariffs.

49 Annex 2: Major Related Projects Financed by the Bank and/or other Agencies Ethiopia Second Electricity Access Rural Expansion Project

World Bank Projects - Ongoing

Project Project Sector DO P ID Name Rating tating PO97271 EAREP I The Project's development objective is to establish a sustainable Energy and S S program for expanding access to electricity in rural communities, thus Mining supporting broad-based economic development and helping alleviate oovertv. PO49395 Energy The Energy Access Project will help establish a sustainable program for Energy and MS S Access expanding the population's access to electricity, and improve the quality Mining of electricity supply. PO77380 Energy The project will reduce the barriers to the wide spread adoption of Energy and MS S Access renewable energy technologies, in particular solar photovoltaic (PV) and Mining GEF micro-hydro power generation in rural areas, thereby contributing to the reduction in greenhouse gas (GHG) emissions via displacement of kerosene and diesel that would otherwise be used for lighting and electricity generation PO50272 'riv. Sector The key objective ofthe project is to facilitate increased participation of Private MU MU levelopment the private sector in the economy by creating conditions for improving Sector Zapacity its productivity and competitiveness. This goal will be achieved by 3uilding helping accelerate the process of divestiture of public enterprises and facilitating increased private participation; improving the business environment and increasing competition and the contestability fo markets; strengthening the linkages and integration of the Ethiopian economy into the global markets; strengthening support for technical and business management skills and thus improving the productivity at the firm level. PO78458 CT Assisted The objective ofthis project is to assist communities to improve their Private S levelopment livelihood through the use of appropriate Information and Sector Communication Technologies (ICT) that facilitate increased access to markets, development information, and public services. PO82998 toad Sector The objectives ofthe Second Road Sector Development Support Transport S levelop. Program Project are to increase the road transport infrastructure, and 'rogram improve its reliability, strengthen the capacity for road construction, 'hase 2 management and maintenance, and, create conditions conducive to hppl. 2 private sector participation in the road transport sector. PO446 13 tSDP- APLl The objective ofthe first phase ofthe Second Road Sector Development Transport MS MS Project is to restore and expand Ethiopia's road network to reduce poverty and increase employment through promoting growth and access in a socially and environmentally sustainable manner. Jrban Water Water S S iUPPlY Supply and Sanitation PO76735 Nater Supply The objective of the Water Supply and Sanitation Project for Ethiopia is Water S S k Sanitation increased access to sustainable water supply and sanitation Supply M Moderately I itis factory

U: Unsatisfactory

50 World Bank Projects Completed within the Last 5 Years

[EG rating

Education Moderately satisfactory

Transport 2003 Satisfactory

s Authority to better assess potential road future road maintenance and rehabilitation needs

Energy and 2006 Moderately Mining Satisfactory - PO00752 Rural 2003 Moderately Sector unsatisfactory evelopment ofa broad-based and competitive seed industry h draws its strength both from the formal and the informal seed

PO00753 Rural 2002 Unsatisfactory Sector - PO00755 Transport 2005 Satisfactory

economic development needs; (2) building up the institutional

PO00764 Water 2003 Moderately Supply and ;atisfactory Sanitation - PO00771 Social 2005 Lloderately Protection ;atis factory -

51 Donor Operations

Afer and Akista Alem Ketema

BADEA Weliso Area Electrification Project building will take place in the form oftechnical

Kuwait Afar Region ect under UEAP substations and construct 3 transmission lines.

52 Annex 3: Results Framework and Monitoring Ethiopia Second Electricity Access Rural Expansion Project

Results Framework a. Grid Electrification

Project Project Outcome yse of Project Outcome Information Development Indicators Objective Establish a sustainable Number of connections in the Evaluate program economic and social program for expanding electrified towns (grid and off- impact access to electricity in grid) rural communities, thus supporting broad- Domestic electricity Evaluate impact on EEPCo’s finances based economic consumption (per household and development and per capita) in targeted grid helping alleviate electrified towns and villages poverty. Planning for future operations; Commercial and industrial loads Adjustment to GoE’s UEAP in grid electrified towns

Intermediate Intermediate Outcome Use of Intermediate Outcome Outcomes Indicators Monitoring Increase in number of Number of rural towns electrified Adjust pace oftown connections rural towns electrified Number of customers in rural Adjust pace of household/consumer towns in which monetary connections incentives to connect are offered Use of data in planning of future electrificationefforts Development of Number ofCFLs installed in Revisit efficiency of different delivery efficient program for households under alternative mechanisms adoption of CFLs subsidy programs Evaluate potential to implement a broad-scale energy efficiency program in the country

53 0 0 zm -, I

0 zr4 zr4 2 c

0 00 12 00 23 Q\ 88 12z

0 0 0 00 0 Q\

c, P e L Annex 4: Detailed Project Description Ethiopia Second Electricity Access Rural Expansion Project

Project Components

1. This Project involves US$200.65 million to support the next four years of GoE’s electrification program. From those, it is estimated that US$130.00 will be financed by IDA and supplemented by a US$lO million grant from GPOBA. It will have three major components: (1) Grid-Access Expansion; (2) Mini-Grid (Off-Grid) Electrification; and (3) Capacity Building, comprising studies, training and two pilots.

fiThejrst component would extend the grid to connect customers in rural towns and villages not currently electrij?ed, and would include the following four sub-components:

a. Connecting about 265 rural towns (and villages) (US$139.24 million, IDA = US$lO3.54 million), including 252,000 potential customers (213,000 households) and a population of about I,lOl,OOO inhabitants, to EEPCo ’s interconnected grid, involving turn-key contracts to upgrade existing substations dispersed around the country, building sub-transmission lines to electrib the towns, and erecting distribution networks in the towns (including transformer and L V lines).

2. This component aims at improving access through grid extension, with particular emphasis on reaching relatively longer distances (up to 100 km) using 33 kV feeders (rather than 15 kV) from existing substations. The long medium voltage feeders developed would cater not only to the towns currently selected, but also to surrounding villages and towns that will be electrified at a later stage.

3. The selection of the towns and villages was carried out by EEPCo’s corporate planning department with the assistance of the planning units of the regional operational departments. The first stage of selection was based on the population of a cohort of towns and their distances from the existing grid substations. Thereafter, selected towns were grouped according to possible feeder routes from existing substations. Next, detailed economic and financial calculations will be carried out and feeders ranked according to Rate of Return (IRR). Some feeders may be dropped and others added. Population has been the primary driver for consumption, unless EEPCo identifies important, discrete commercial and industrial loads are to be served by a particular feeder.

4. The UEAP has selected the towns based on a set of technical, economic and equity criteria. The towns vary in size from 280 people to over 10,000, and are classified according to the following categorization for purposes of the Project: (a) “large towns”: populations of 4,000 or more, with the largest having a population of nearly 15,000; (b) “small towns”: populations between 1,500 and 4,000; and (c) “villages:” populations of 1,500 or less (the smallest villages having about 300 inhabitants). The Project extends the 33 kV transmission systems from identified substations to qualifying towns, with electrification to qualifying villages in close proximity ofthe towns.

55 5. The strategy of using 33 kV voltages to reach the further dispersed towns accords well with international best practice and is the appropriate economic choice for load densities of the order expected. The Project sites have also been selected so that electrification of the new areas can be done without the need for upgrading the upstream transmission facilities during the initial years. Furthermore, the substation augmentation and new 33 kV lines will constitute a ‘backbone’ development that will enable a number of additional towns and villages in the area to be connected in subsequent years by the incremental cost ofadditional spur lines.

b. Installing efficient public street lighting (US$8.72 million to be financed bv EEPCo and GoE) in the towns and villages electriped under component (a) above.

6. The Project will include a sub-component on the erection of efficient street lighting in a large fraction of the towns being electrified under the Project. The street lighting would be installed in coordination with the construction of the todvillage distribution system. Low consumption and cost effective street lighting solutions should be implemented, depending on the specific needs to be identified.

c. Connect 286,000 new or indirect household customers to the grid distribution svstem, (US$23.14 million, GPOBA = US$lO million) including installation of meters and drop-down wires as well as distribution of up to two CFLs per household in rural towns and villages being electrij?ed under the umbrella of UEAP.

7. CFLs would be distributed to households as part ofthe connection effort. Households in rural towns and villages electrified under the UEAP will be targeted. The estimated unit cost of US$3 is lower than the one used under EAREP I,in light of the low prices obtained in recent large scale procurement experiences in Vietnam, Uganda and South Africa. In some cases, international procurement has resulted in prices below US$l per unit. The World Bank normally recommends the adoption ofELI technical standards.

8. The cost of connecting customers to the low voltage distribution network is typically comprised of a drop down line (which may require an additional pole), some additional hardware, and corresponding services to be carried out by the utility. The cost varies from US$50 to US$lOO, which is charged to the customer, the average being US$75 per connection.

9. There is empirical evidence that this cost represents a barrier to poor customers to get connected. The alternative faced by this customer is to seek for an indirect connection through an informal arrangement with a nearby household. In general, this arrangement does not provide energy on a 24x7 basis. Furthermore, due to the lack of metering, the poorest ofthe customers are not entitled to the subsidies of lifeline rates, and end up paying more than the regulated rates for the energy consumed. Facilitating this connection will provide a fair treatment to the poorest ofthe poor.

56 10. This barrier can be mitigated by providing those customers a small interest-free loan, payable over a longer period, such as 5 years, whose repayment is rolled into the electricity bill. EEPCo has offered those loans in the past, but they represent an extra burden to the utility in terms of working capital. Currently, EEPCo has more than US$ 10 million tied into loans, most ofthem with 2 year terms. An OBA (Output Based Aid) grant has been requested to provide funds to EEPCo to compensate the utility for the working capital costs when granting 5 year loans to support new connections. The proposal will be discussed in detail.

2. Off-Grid Access Expansion - (US$20.48 million, IDA = US$17.39 million). The second component would provide customer access to mini-grids and some basic electric services such lighting to remote clinics, schools and households. It would include the following two sub-components:

a. Developing about 30 mini-grids (US$l7.63 million, IDA = US$14.54 million), serving 40,000 customers, based on mini-hydro, solar PV, or other renewable sources.

11. There are a few reasons why EAREP I1 is allocating more resources on off-grid systems vis-a-vis EAREP I. The first is that Ethiopia is a large country with a scattered population. Only 16 percent of people live in urban settlement areas with more than 2,000 inhabitants. For most of the remaining 84 percent, off-grid options are supposed to be the least-cost solutions to electricity access expansion. The great interest expressed by rural cooperatives in developing mini-grids is a testimony of the off-grid solution attractiveness. The second is the fact that availability of credit is a constraint to the development ofmini-grid schemes. Consultations with the cooperatives and financial institutions in Ethiopia confirmed that it is unlikely to find commercial banks interested in financing off-grid electrification projects. Most of their current operations are in urban centers and there is limited interest to extend operations to remote rural areas especially for relatively small loans. The third reason is that Ethiopia Rural Energy Development and Promotion Center (EREDPC), which has been the implementation agency for the off-grid component of Energy Access Project, is now established and functional. It can be used to scale up a more ambitious off-grid program such as the one now being proposed under EAREP 11.

12. Given the increasing interest in the development of mini-grids and the lack offunds in the market, IDA resources of about US$13 million are allocated to support mini-grid systems under the umbrella ofEAREP 11.

13. As of February 28, 2007, 273 mini-grid schemes were at different stages of implementation and appraisal. It represents a total estimated investment cost in excess of US$50 million and a projected electricity service delivery to 257,000 households by 2010. For sixteen (16) projects REF-funds have been disbursed in the total amount of US$0.74 million. All sixteen projects are in operation and provide electricity to close to 9,000 end users. Two-hundred-and-five (205) additional projects - out of more than one thousand requests - have been placed in the pipeline for pre-appraisal by the REES. The results of the analysis show 289 off-grid priority projects - of which 200 diesel-powered and 89 hydro schemes have been identified, covering a total of 255 Woredas, supplying electricity to 1,3 12 Settlements with an estimated total population of almost 1.3 million inhabitants.

57 14. Currently, the RE Fund provides loans to cooperatives for development of off-grid electrification projects, while the government has been providing 80 percent grant to EEPCo in extending grid to rural areas under the Universal Access Program,. Therefore, off-grid consumers have to pay much higher tariff than EEPCo customers. This could result in regional inequity and financial un-sustainability ofthese off-grid projects. The issue of a level playing field between grid and off-grid has been raised with the GoE; however, the government decided that no capital subsidy will be given to off-grid electrification under EAREP 11.

15. This component will follow the similar institutional arrangement and financing mechanisms outlined in the REF Operational Manual under the off-grid component of the Energy Access Project. However, compared to the Energy Access Project, the off-grid component under EAREP I1has two different features:

0 EAREP I1 focuses on renewable energy mini-grid only, while the majority of the approved off-grid projects under the Energy Access Project to date are diesel generators. This is because renewable energy systems are often the least-cost option compared to diesel generators in areas where renewable energy resources are available, and the government of Ethiopia also placed priority to encourage renewable energy and discourage diesel. The REES will also assist the developers in evaluating least-cost options such as biomass technologies and diesel/wind hybrid systems in areas without hydro resources.

0 The REF will provide up to 90 percent of investment costs to cooperatives or to the private sector in the form of loans at the rate of interest of about 7.5 percent, to avoid market distortion. Given that most renewable energy projects may require a long-term loan maturity, REF may consider extending the repayment period for renewable energy loans up to to 10 years.

b. Installing 200 solar PV svstems (IDA = US2.85 million) in remote, of-grid areas for social services (schools, clinics).

16. This sub-component will provide solar PV systems to 200 schools and clinics in remote areas, covering capital costs and maintenance costs up to five years. The effort contributed directly to meeting the Millennium Development Goals (MDG). Having a reliable electricity supply in schools directly influences the quality of education at all levels. In addition, the ability to keep schools open at night can greatly encourage adult education programs. Both of these factors are also bound to have a positive impact on achieving universal primary education. Increasing energy supplies to rural clinics, encompassing services such as heat, lighting and refrigeration, improves the quality of health services delivery - for example vaccines (which need to be refrigerated), and lighting, necessary for medical emergencies after dark.

17. Those systems should be designed to enable future integration with the grid, when it becomes available in those respective areas.

58 18. This subcomponent bundles the procurements of PV systems to include supply, installation and maintenance services for those institutional markets such as rural schools and clinics, as well as for the household market, whose demand is represented by smaller sized solar home systems, within the same targeted areas. Each tender will be structured to supply a minimum number of institutional PV systems and solar home systems in a certain geographical area. This concentration will help private suppliers create economies of scale and offer maintenance services at lower costs. This approach buttresses the sustainability of the institutional systems by linking them with PV capacities being built in the communities, while increasing the access ofrural communities to affordable, well supported PV systems for household electrification. The core element of the design is to aggregate the demand for PV for rural institutions to provide an anchor or critical mass of business to provide a feasible basis for a solar operator to serve the household market segment on a commercial basis.

19. The service provider has to supply the systems and also provide: (i)local service centers in rural areas, (b) multi-year after-sales obligations for the institutional systems.

20. The areas are to be selected based on the need for institutional systems and on the market potential for household system. This approach will place a high level ofresponsibility on the contractor to supply and install a high level of quality, and establish a decentralized maintenance outlet to ensure effective operation - against contractual terms -- of the systems for a period of up to five years. It will also provide training on solar PV systems to local staff and technicians so that they can carry out daily maintenance tasks. In addition, bundling the services of institutional market and household market will provide a commercial basis in the same area to attract private dealers to provide sustaining services in the area. This period of five years is considered to be critical until the market develops and is sufficiently mature to continue providing goods and services on its own.

21. This sub-component will assist the Ministry of Health and Education to negotiate provincial (or district) level procurement packages jointly for heath and education facilities to ensure commercial viability by aggregating health, education, and SHS,

22. Each contract will be competitively awarded to a solar PV operator. The contract would be sized to provide sufficient volume of sales for the solar operator to sustain the services on an efficient, affordable basis. The contract will require the operator to:

supply and install PV systems in health, education and other public facilities; establish a sales and service capacity in the area and conduct maintenance services for an estimated four years; 0 commercially sell and install PV systems for a minimum number ofhouseholds within the area within a stipulated period; and 0 build technical and other capacities in local markets and institutions and sectoral organizations.

23. The IDA funding will be used as grant to pay for the capital costs and maintenance costs over a period of five years for solar PV systems in schools and clinics. Funds will be allocated at the outset of the program and include maintenance costs of PV systems for bi-

59 annual routine visits and intermittent visits for breakdowns over a period of five years, replacement of all batteries over a period of a few years, costs of material for breakdowns, facilitation ofthe maintenance contracts with licensed solar contractors, etc.

3. Stand Alone Svstems and Productive Uses of Enernv (via pilots), Capacitv Building, and Technical Assistance (IDA = US9.07 million). The objective of the third component is to create capacity building in key technical and institutional areas related to scale up of electrijkation and eflcient use of energy. It would include the followingjve sub-components:

a. Providing Supervision Engineer for EEPCo/UEAP (IDA = US$O.54 million)

24. This is intended to provide support to EEPCo/UEAP to hire a Supervision Engineer (firm) to focus on the management ofgrid electrification turn-key contracts.

b. Technical Assistance and Capacity Building to EREDPUREES. (IDA = US$l.00 million)

25. This will support EREDPCREES in implementation of the mini-grid and solar PV components by hiring long-term and short-term consultants to build a pipeline ofsub-projects, provide technical assistance to regional governments and cooperatives, and appraise sub- projects. It will also support EREDPCREES in design, implementation, and management of the pilot stand-alone product component. Finally, it will provide additional training to EREDPCREES staff. If necessary, EREDPC can expand the training encompassing regional governments and cooperatives to achieve a better design and implementation of off-grid projects.

c. Develop studies on the required framework for Grid and Off-Grid Regulatory, Legal and Physical Integration Studies. (IDA = US0.83 million)

26. Support the Ethiopian Electricity Regulatory Agency in revising the regulatory framework to enhance the climate for private investments, particularly in mini-grids. Some light regulations need to be established in terms of quality of service and cost-plus criterion for rate making purposes by mini-grid developers. Obligation to serve non-cooperative members should also be defined. Conditions for EEPCo’s takeover (or purchase ofthe energy produced by mini-generators) should be established as soon as possible, to create a more certain regulatory framework for investors interested in committing resources to mini-grid, particularly in hydro generation. The current regulatory issues faced by the power sector are detailed in the main body ofthis document.

d. Develop a study on options for a sector syndication strategy of the power sector in Ethiopia. (IDA = US$O. 70 million)

27. Develop a sector syndication strategy for rural electrification and energy sector development. (IDA = US$0.7 million). Assess current conditions and propose the basic pillars of a syndication strategy for the energy sector in Ethiopia. This syndication strategy should

60 be agreed among the different donors and energy opportunities should be pursued jointly and synergistically. Complementary strategies should be developed for grid and off grid electrification.

28. In the particular case of mini-grids, special emphasis should be given to the role of rural cooperatives, which should be strengthened, as a sustainable vehicle to carry on mini- grid electrification. Rural cooperatives’ capacity to build and operate power plants and mini- grids should be assessed.

e. Develop a study on opportunities barriers for energy efjciency (EE) and demand side management (DSM) for the energy sector in Ethiopia. (IDA = US$1.25 million).

29. Support the Ministry of Energy in developing a study on Energy Efficiency and Demand Side Management, aiming at identifying and prioritizing potential for energy rationalization and derived benefits in terms of: (i)making energy more affordable; (ii)having a more energy efficient and competitive economy; (iii)enabling Ethiopia to have energy surpluses that can be “monetized” via exports to neighboring countries.

J: Pilot 1 - Stand Alone Systems. Design and implementation on a pilot scale to provide low-cost stand-alone basic electricity services to scattered rural customers. (IDA = US$2.38 million).

30. This pilot intends to promote low-cost stand-alone products for households who are unlikely to be reached by grids and mini-grids any time soon. Particularly, it targets at affordable and good quality small size solar home systems, LED lighting products, and pico- hydro.

3 1, In this market, these low-cost products offer an attractive alternative to providing basic electricity services to these remote rural customers. Low-cost lighting products cover existing and emerging technologies (usually $10-1 00 per product or installation), including small size solar home systems (6-20 Wp), solar lanterns (1-4 W), pic0 hydro (100-500 W), and white light emitting diodes (LEDs).

32. Some of these products are extremely energy efficient (for example, a typical Light Emitting Diodes (LED) lantern may use only 2 Watts), batteries last longer, reducing charging costs (investment or operational). Recent technological developments in the area of solid-state lighting (e.g. white Light Emitting Diodes) -- and the emergence of a fast-growing and substantial international LED industry, create an opportunity to accelerate penetration of this superior technology and replace fuel-based lighting across the developing world. This emergent technology is widely recognized as the “next generation,” and has already proven in many applications. LEDs are suitable for small, off-grid lighting products that are superior in quality and cost of ownership to fuel-based lighting, and carry no health or safety hazards. LED-based lighting products: (i)can have prices truly competitive with fuel based lighting; (ii)can be sold by non-technical retailers alongside other categories of consumer product; (iii) do not require technicians for installation; (iv) can be designed around specific end-user needs

61 or as multi-purpose portable lights which compete directly with the ubiquitous kerosene lantern; and (v) do not have to rely on a particular power source to recharge the batteries, but can be designed to use whatever makes sense (solar, wind-up, recharge station, etc.).

33. A typical solar home system (SHS) includes a photovoltaic array; a rechargeable battery for energy storage; a battery charge controller; one or more lights (generally fluorescent); an outlet for a television, radio/cassette player, or other low-power-consuming appliance; and switches, interconnecting wires, and mounting hardware. Both the module size and the sunlight availability will determine the amount of electricity available for daily use. Solar home systems can also help households generate income from business activities. The retail price of a 10 Wp SHS ranges about US$SO in China to US$200 in Africa. The smaller and cheaper systems are tailored for low-income consumers and for cash-sales. The larger systems require additional financing.

34. The pic0 hydro units ranging from 100 to 500 W have an installed cost (including pic0 hydro unit, distribution lines, indoor wires and switches) of US$50 - US$lOO. Cheap, low quality systems from China dominate the market. These systems are readily available on a cash basis fiom retail outlets, and have proven to be affordable for many households in Asia. The systems provide sufficient power to meet limited needs for lighting, cassette-radios and low wattage televisions and fans.

35. Consultations with the private sector were held to prove their interest in distributing those products (including Chamber of Commerce, Coca Cola, lighting distributors, solar PV dealers, etc.). These discussions confirmed the market needs for low-cost electricity products, but called for active participation from micro-financing institutions (MFIs) and bridging between manufacturers and distributors/retails/dealers.

36. This sub-component will launch pilots to disseminate low-cost stand-alone products to meet basic electricity services for remote rural consumers in 2-3 regions. As this subcomponent intends to introduce new products into the market, extensive technical assistance and investigation is required, as well as financial incentives to encourage companies to enter the market and address consumers’ affordability issues. Experiences and lessons learned can be shared with Kenya and Ghana, where similar programs are currently being tested under the sponsorship ofthe World Bank/IFC.

37. The technical assistance activities will include: (1) design and implementation support to this pilot; (2) market studies and testing products; (3) marketing and promotion campaigns; (3) identification of distribution channels and regional agents, and match distributors with manufacturers; (5) capacity building to MFIs through MFI Association; and (6) training to distribution dealers and consumers. In addition, the pilot can also provide market development incentives through co-financing grant to dealers/distributors to break the barrier of market penetration of new products. This pilot may also test consumer financing mechanisms through selected MFIs.

38. The Ethiopia PV market is in a very early stage, and other low-cost stand-alone products are completely new to the country. Only about 300 solar home systems are installed each year, with no clear growth indications. It is estimated that less than 3,000 SHS are

62 serving Ethiopian households to date. Therefore, these pilot only targets at 2-3 regions to jump start this market and targets at 5,000 customers by the end ofthe Project.

Design and implementation support to this Pilot: The first TA activity under this pilot is to design the business model for distribution of these low-cost products and the market development incentives. The business model will as much as possible tap the existing distribution channels for other products such as diesel gensets, kerosene, battery, Coca Cola, lighting products, etc., and adopt dealer model on a cash or credit sale basis. The market development incentive scheme will define the subsidy level for different products, evaluation criteria, verification arrangement, eligible recipients and products, disbursement, selection ofregions, etc. It will also hire consultant services to support implementation ofthis pilot. Market assessment: To conduct a detailed market assessment on the market potential targeted consumer groups, consumers’ ability to pay, etc. 0 Testing, products: To test a variety of low-cost lighting products, assess the end-user needs and preferences in lighting products among the target market of off-grid consumers, and provide the feedback to the manufacturers. 0 Building a consortium of private sector participants: To act as a bridge among the four key players: manufacturers, distributors/retailers/dealers, micro-finance institutions (MFIs), and consumers, particularly matching manufacturers and retailerddealers. 0 Support the private sector: To commercially disseminate low-cost lighting products through existing distribution channels through capacity building and technical assistance in: (i)business development services; and (ii)marketing, promotion, and sales. 0 Assist the MFIs: To design financial products to provide consumer credit for purchasing lighting products: The private sector expressed strong needs for MFIs to provide consumer credit to purchase stand-alone systems and lighting products. The Association of MFIs has 27 MFI members with 1.6 million clients cross the country and a $250 million portfolio. The average loan is about $100, with repayment period 1 to 5 years depending on the size ofthe loans. To date, the experience has been positive with an average repayment rate of 97 percent. The key issues are a lack of liquidity in these MFIs and mismatch between existing financial products and the need for such loans. The Association expressed willingness to work with REES to promote the concept of consumer credits for purchasing solar home systems and low-cost lighting products, and assist MFIs in developing financial products tailored for these loans. 0 Awareness campaign: To conduct market promotion campaign ofthe products.

39. The main expected cost components for Pilot 1 are illustrated as follows: (approximate figures in US$):

63 Design and implementation support 300,000.00 Market studies and testing products: 60,000.00 Marketing and promotion campaign 120,000.00 Facilitation of distribution channels: 240,000.00 Product development for MFIs 175,000.00 Implementation support to EREDPC 95,000.00 Goods and works 1,420,000.00 Total (including contingencies) 2,4 10,000.00

Pilot 2 - Productive Uses of Energy. Design and implementation of a Community Driven Development (CDD) pilot on productive uses of energy in areas to be electriped (grid or 08- grid), focusing on post-harvest agriculture productivity. (IDA = US$2.38 million).

40. CDD is an approach to development that supports bottom-up planning, decision- making, and management by community groups and/or local authorities. The premise behind CDD is that organizing and empowering communities to identify development problems and solutions to those problems can contribute to greater impact and sustainability of investments. CDD is not a blueprint approach to development. Rather, it promotes a set ofprinciples that can be customized to fit local conditions:

Make investments responsive to informed demand; Facilitate community access to information; Build participatory mechanisms for community control and stakeholder involvement; Invest in capacity building of community based organizations and other stakeholders in the process; Develop simple rules and strong incentives supported by monitoring and evaluation; Support an enabling environment through institutional development and policy reform; Maintain flexibility in design of arrangements; Ensure social and gender inclusion; Design for scaling up; and Invest in an exit strategy.

CDD is one important element of an effective poverty reduction and sustainable development strategy. Since the early 1990s, this has been an approach used by the Bank in over 90 countries to meet a wide range of local development needs-including, water supply and sewerage; school and health post construction, nutrition programs for mothers and infants; building rural access roads, natural resources management, agricultural productivity, and support for micro-enterprise. Currently, the World Bank invests approximately $2 billion per year using the CDD approach.

64 42. Under the current Project it is proposed to carry out a pilot grant facility to promote productive uses of the electricity in post-harvesting agriculture. CDD seems to be the most suitable approach to carry on this pilot. The facility is planned as a demand-driven matching grant fund targeted to cooperatives to invest in value-adding, agro-processing activities.

43. The concept was discussed in meetings with the Ethiopian Cooperative Commission, EEPCo, EREDPC, Ministry of Energy, and Ministry of Finance. GoE supported the pilot concept. Building on the institutional arrangements already established for the Energy Access Project, EREDPC will act as implementing agency for the pilot. 44. Some indicators for post-harvest agricultural productivity might include:

Number ofcooperatives with processing equipment using electricity Time spent milling grain Output (kg) of grain produced per/famer Household consumption of grain, milk, fruits and vegetables Amount ofproduct sold in the market Household income from agriculture Cooperative income for grain sales Amount ofproduct (grain, horticulture, milk, coffee) sent to market Amount ofproduct lost to inefficiencies in post harvest processes.

45. Some indicators for the project might include: 0 Number ofsuccessful post-harvest productivity schemes identified and tested. 0 Lessons learned and methodology to scale up.

46. Preliminary costs are indicated as follows (approximate figures in US$):

Agriculture specialist (s) in EREDPC 60,000.00 Training oftrainers in procurement, project management, M&E 20,000.00 Extension ofbaseline for M&E 25,000.00 Investment fund 1,895,000.00 Above amount evenly split among four target regions 473,750.00

65 Annex 5: Project Costs Ethiopia Second Electricity Access Rural Expansion Project

Nil This campanent u funded by the OBA Grant fmancing Ni2 Identifiable taxes and duties are US167 77 Total project net oftaxes is USS192.88 and share ofproject costs net oftaxes is 96%

66 Annex 6: Implementation Arrangements Ethiopia Second Electricity Access Rural Expansion Project

1. The Project will be implemented by two agencies, both under the Ministry of Energy. The Universal Electricity Access Program Office (the UEAP Office), within EEPCo, will carry out the grid-extension component, while EREDPC, will implement the mini-grid component as well as the pilots on off-grid systems and productive uses ofenergy.

2. This Annex describes: (a) the UEAP Office, its organization structure and Project implementation strategy; (c) the EREDPC, REES Office, organization structure and project implementation strategy ; (b) the financial arrangements between GoE, EEPCo, and EREDPC for financing this Project; (e) implementation blueprint for the two pilots; (f) other project related institutions in Ethiopia.

A. The Grid-ElectrificationSub-Component - The UEAP Office

3. Overview. The grid-based subcomponent of this Project will be implemented by the UEAP Office created within EEPCo for the specific purpose of implementing the grid-based rural electrification program. The UEAP Office will serve as the Project Implementation Unit for the Project. It was established in 2005 as part of the restructuring to its predecessor, the Rural Electrification Office. It is an office reporting directly to the General Manager of EEPCo.

4. Organization of the UEAP Office. The UEAP Office has one Deputy General Manager who reports to the General Manager of EEPCo. There are four department directors and three project coordinators reporting to the UEAP DGM along the following substantive teams: (i)Engineering and contract administration department; (ii)Projects coordination department; (iii)Finance and administration department (iv) Procurement and logistic department; (v) IDA financed EAREP IProject coordinators, (vi) ADB-financed project I1 coordinators; (vi) Kuwait fund financed project coordinators The responsibilities of these work unit and their teams are as follows:

UEAP DGM: (i)organize, lead and monitor the UEAP projects and the UEAP Office; (ii)manage project resources; (iii)plan project activities according to priorities of the stakeholders; and (iv) liaise with departments within the organization and with agencies outside the organization.

UEAP Engineering and Contract Administration Department Directors: (i)prepare technical specification; (ii)prepare tender documents for material procurement and contract work; (iii)facilitate tender evaluation by technical committees and process management approval; (iv) participate in contract negotiations and prepare contract documents; (v) prepare periodic project reports; (vi) based on feasibility and design studies, prepare work authorizations; (vii) design distribution lines; and (viii) supervise the work done by contractors. There are three teams operating under the department, transmission and substation, distribution, and civil work design and construction supervision teams.

67 UEAP Projects Coordination DeDartment: (i)prepare activity plans and budgets; (ii) set priority of works to be executed; (iii)monitor the activities of the engineer and the contractors; (iv) coordination of testing, inspection and commissioning during completion; (v) hand-over of projects to the operations units; and (vi) compile and prepare work completion reports. There are various units and staff operating under the coordination department, such as Regional coordinators, construction monitoring team and projects financed by IDA, ADB and BADEA. These three projects are under construction stages and all will be finalized in 2007. The project construction monitoring team is responsible for the construction of distribution networks that are performed by EEPCo itself and by private contractors.

UEAP Finance and Administration DeDartment: (i)plan manpower requirement of UEAP; (ii)prepare need based and tailored training programs for strengthening internal capacities for implementing UEAP; (iii) recruitment, placement and administration of project personnel; (iv) proper accounting of materials received and issued for construction work, including materials issued for contractors; (v) cost control and monitoring; (vi) prepare periodic auditable financial reports. There are various units under this department, namely, finance, accounts and administration teams.

UEAP Procurement and Lonistics Department. (i)procure materials, equipment and services; (ii)Provide centralized and decentralized transport facilities; and (iii)Storage services for regional UEAP projects. There are various teams under this department, namely, Procurement and Logistic teams.

5. UEAP Staff: There are currently about 47 professionals and 96 support staff working for the UEAP. 94 are permanent employees and 49 are working on a temporary basis. The UEAP Office coordinates with and relies on the other specialized departments within EEPCo, including the financial management functions, the planning department and for the design and supervision of construction. The Office will work with EEPCo’s Planning Department for the design and implementation of the procurement and installation activities for the electrification activities to be financed under this Project.

6. UEAP Office’s Budget. The UEAP is carried out by EEPCo personnel, with staff from EEPCo serving within the UEAP Office. The budget for UEAP personnel is provided by EEPCo (which in turn receives GoE contributions for the UEAP).

7. Functional Responsibilities. The UEAP Office is responsible for the design of the electrification activities. To this end, it has hired engineering consultants to assist in the design and detailed engineering of the Project, including reticulation and other dimensions. The engineering consultant works with EEPCo’s engineers in this area, building off of EEPCo’s experience to date in this domain.

8. Turn-key versusforce account. The UEAP Office has been operational since 2005. UEAP has been managing the universal access program through a combination of force account and turn key modalities. There is a preference in Ethiopia to use force account as

68 much as possible, due to its lower cost and to develop in-house technical capacity. However, EEPCo is cognizant about the administrative challenges of managing an ambitious program such as UEAP exclusively relying upon its own resources. As part of the diversification objective, grid-electrification under Energy Access Project has been contracted out to a single firm (KEC of India) on an ICB tender. This contract will start connecting the first towns and villages in 2007. IDA financed the subsequent project of US$130 million EAREP I,based on force account modality. Similarly, a loan was recently approved by the African Development Bank, also under the modality of force account. The electrification program contemplated in this current loan relies on a “turn-key” approach for the grid-based electrification. Considering the entire portfolio, it provides sensible balance between force account and turn- key modalities.

9. The grid based component will mainly be carried out by supply and erect contracts divided in appropriate lots to enable both medium and larger sized construction companies to compete. A few of the lines may be constructed by procurement of equipment and erection through force account to address isolated lines in remote areas. With respect to the turn key contracts EEPCo has already prepared a tentative grouping consisting ofthree lots.

10. Operation and maintenance of the facilities: Once constructed, the new substations, sub transmission lines and distribution systems become an integral part of the EEPCo interconnected system and will be managed and maintained by EEPCo’s regional operating units.

1 1. A supervisory consultant engineering should be appointed to assist with supervision of all relevant activities, under terms of reference acceptable to the Association. EEPCo is expected to rationalize the supervision activities by combining the work of EAREP I, and EAREP 11.

12. EEPCo will start the preparation of pre-qualification packages and bidding documents as early as possible, in order to accelerate the pace of implementation, following the anticipated project approval.

13. Environmental and Social Aspects. Under the Project, EEPCo’s Environmental Monitoring Unit (EMU) will continue to report to Corporate Planning and to the General Manager. Staffing of the EMU includes 5 sociologists, 1 biologistlforester and 1 environment specialist; the head is a sociologist. The EMU has been functioning for some 5 years and has gained experience in implementing the Gilgel Gibe project. The Unit has good support from its line management (Corporate Planning and General Manager) and has sufficient budget for vehicles and per diem to conduct on-site inspection. The UEAP Office works closely with EEPCo’s Environmental Management Unit on environmental and social aspects ofthe Project, including any land acquisition or potential resettlement issues. These two units within EEPCo in turn work with the Ethiopia Environmental Protection Authority (EPA). The RPF and the ESMF were prepared by the UEAP Office and EMU, and then submitted for review to the EPA. Project Officers and the EMU are responsible for the preparation and implementation of EIAs, EMPs and RAPS and conduct selected site visits to check on the implementation of technical specifications, environmental and social clauses and help resolve issues. The UEAP

69 Office will employ environmental specialists within an environmental section to assist with implementation and monitoring activities. These aspects are described in greater detail in Annex 10.

14. For both EEPCo and EREDPC, the implementation of environmental protection clauses by contractors is to follow current practice and be monitored by site engineers overseen by the relevant environmental staff. Provisions are in place for consultation with Local Committees and Regional Bureaus and other stakeholders; the Federal Environmental Protection Authority (EPA) oversees all environmental and social safeguards activities related to the Project, contractors and site engineers having to report to EEPCoEPA for commentshecommendations before clearance by the investments office.

15. Training in environmental and social safeguards has been provided to higher officials and Project coordinators of EEPCo. This will be expanded under EAREP I1 to cover field staff as stipulated in a programhost summary in the ESMF. The mission suggested that Supervision Engineers and contractors be instructed in environmental management, in particular the application of environmental and social safeguards clauses. This would help impart responsibility and assist the UEAP and EMU monitor construction practices. EREDPC staff is to receive training within the next 6 months. It is recommended that members of the EEPCo EMU also receive some out-of-country training to enhance their skills.

The Mini-Grid and Off-Grid Sub-Components

The EREDPC Office

16. Implementation of the mini-grid and off-grid components. The off grid component will be implemented by EREDPC with overall oversight by the PIU at UEAP in EEPCo. The Rural Electrification Fund (REF) will provide loans to consumer-owned rural electric cooperatives and the private sector to implement the mini-grid component. Development Bank of Ethiopia acts as a Trust Agent for financial management of the REF. This scheme has been tested under the Energy Access Project, and has proved to be a successful methodology to propagate off-grid electricity systems. EAREP I1 will follow the same institutional arrangement and fund flow as those under the Energy Access Project.

17. For the mini-grid component, all procurement activities will be carried out by the private sector/cooperative beneficiaries under the terms of the loans provided to them. EREDPC has developed a Rural Electrification Fund Project Operational Manual under the Energy Access Project, and will update this Operational Manual for EAREP 11, prior to disbursement start for this component.

18. Overview. The Ethiopian Rural Energy Development and Promotion Center (EREDPC) is responsible for mini-grid and off-grid electricity development in rural Ethiopia. It promotes opportunities for prospective private sector and cooperative investors, and provides them technical support by arranging training and loans. It was formerly under the Ministry ofAgriculture and Rural Development, but was moved to the Ministry ofEnergy and

70 Mines in September of2005, thereby bringing off-grid and on-grid rural electrification under a single ministry.

19. REES - EREDPC has established a core team as the Rural Electrification Executive Secretariat (REES) responsible for project assessment and implementation. The REES core staff has provided extensive advisory services, capacity building, and training to Regional Energy Bureaus and cooperatives, while the Development Bank of Ethiopia (DBE) operates as a Trust Agent. REES manages the REF, governed by a Rural Electrification Board, consisting of a Commissioner of Cooperatives, the Minister of MOME, the EEA, Ministry of Environment, Ministry of Water Resources, Regional Energy Bureau representatives, and private sector representatives.

20. Quality Control - REES should request the Electric Cooperatives and private sector participants to submit a self-certification letter indicating that they have obtained the necessary clearances and licenses and to keep appropriate records ofthese documents on file. The self- certification letter would confirm the availability of at least the following documents:

1. Business Plan approved by REES and Trust Agent 2. Cooperative License or Corporation document 3. Signed Minutes ofUnderstanding ofEstablishing the Cooperative 4. Cooperative Ledgers/acceptable accounting procedures 5. Loan Agreement signed by Cooperative, Trust Agent and countersigned by the Wereda 6. Minutes ofProcurement including all Pro-forma 7. Insurance Policy 8. Log Book of Operation 9. Electrical inspector's clearance ofdesign and commissioning (to be included)

21. Endorsement of Regulator. Currently, REES is conducting the technical appraisal of proposed projects. As the program expands, this activity should be accomplished by an independent authority within the regional governments. The REES expects to have this decentralized inspection operational after the regional officers have been trained and before July 3 1, 2007. ' Similarly, the project promoters will be required to obtain clearance from the EEA or from one of the regional government bureaus to which the EEA has delegated its powers. Based on the experience from the first Electric Cooperatives in operations, the following areas need further attention: (i)registration for coordination purposes; (ii)utility tariff setting training to project promoters to support cost recovery principles and to provide guidance on the variation of tariffs compared for example to (peri-) urban or EEPCo serviced areas; and (iii)minimum technical specifications/for generation and distributiodthat maintain low cost design incentives however allows for interconnection with the main grid upon arrival. The EEA has requested Technical Assistance under the EAREP-I1Project and expects to submit a proposal by April 30,2007.

22. Capacity Building - REES will: (i)hire an international consultant to evaluate sub- Projects in operation and build capacity for Regional Energy Bureau and cooperatives; (ii) hire an international consultant of hydropower engineering to improve the technical capability for the design and implementation of mini-hydro projects; (iii)hire a national consultant to

71 provide IT support to build an information network among REES, Trust Agent, Regional Energy Bureau, and cooperatives; (iv) replace the procurement specialist who has just left; (v) hire a REES senior specialist versed in environmental and social assessment; and (vi) hire a program officer dedicated to implement Pilot 1 (low-cost stand-alone systems). TORS were prepared and the position will be filled within the next few months

23. Grid and Off-Grid Coordination. To promote effective coordination of efforts between EREDPC and UEAP, a proclamation was enacted which states that if no on-grid development is planned in an area for the next 10 years, the proposed off-grid development may proceed. It also states that if an off-grid investment has already begun, and EEPCo wishes to commence an on-grid development in the same area, EEPCo must compensate the developer for the investments made. In addition, there is regular consultation between both entities at senior management levels.

24. A high-level committee for grid and off-grid has just been set up, comprising MME, EEA, EEPCo, and REES to better coordinate and integrate the expansion of the grid and off- grid systems, currently carried out by two different agencies. Many stakeholders have emphasized the importance of this coordination as well as of a sound regulatory framework dealing with the future interface between grid and mini-grid networks. A regulatory framework will be prepared and discussed with the GoE, as part ofEAREP 11.

25. The recently completed Off-grid Master Plan study (under Energy Access Project) builds a platform for the Committee to start integrating the electrification efforts. The study has developed an indicative Off-Grid Rural Electrification Master Plan that covers a 20 year planning horizon and identified a range ofleast-cost projects with a high development impact. It compiled its data in a powerful GIS and software tool which assist decision makers towards off-grid rural electrification project prioritization. The tool can be adapted to each region’s conditions and updatedadapted over time. The results of the analysis identified 289 off-grid priority projects - of which 200 diesel and 89 hydro, which are part of the least cost solution. The projects would cover a total of 255 Weredas, supplying electricity to 1,3 12 Settlements with an estimated total population of almost 1.3 million. The newly established committee for coordination of rural electrification projects - chaired by the Ministry of Mines and Energy with the EEA, EEPCo, REES and MME as members will examine and endorse this list as off- grid projects potentially eligible to be funded by the REF and that in principle these will not be covered by EEPCo. This effort would satisfy the EAREP I covenant which called for an integration ofthe Off-grid Master Plan with EEPCo’s grid extension.

26. Audit: REF is audited annually by the Audit Service Corporation and is prone to ad- hoc audits by the internal audit department of the EREDPC. The latter results on average to a monthly check ofthe books and administration. This arrangement will continue under EAREP 11.

27. Revenue stream, repayment ability and default rate: The regional governments provide guarantee for all the sub-projects, in case of default. Under the Energy Access Project, cooperatives charge a tariff of US 12.5 centskWh to consumers for micro-hydro projects, double the rate in the grid-connected areas. In addition, cooperatives also charge $3 1.25 for one-time connection fee and share fee. REES reported that consumers are willing

72 to pay for higher tariff for electricity, compared to the grid areas, as grid will not reach these areas over the next 10 years. Financial analysis of micro-hydro projects that have been approved by REF showed that these projects enjoy a 25 percent FIRR and a positive NPV.

28. To date, only the first three projects (all diesel projects) have started to repay their loans. EAREP I1 will only finance renewable energy sub-projects, not diesel projects. Therefore, there is not enough evidence from existing experience on the repayment ability and default rate yet. However, off-grid consumers currently pay about $2-5 per month for electricity services provided by the cooperatives under the Energy Access Project, which is similar to what consumers are paying for kerosene and batteries in un-electrified areas, even though electricity provides higher quality of services than kerosene and batteries. In addition, longer-term loan terms are allowed under the Credit Policy, which can help ease the monthly payment from these rural consumers.

Rural Electrification Fund

29. Governance and management structure The Rural Electrification Fund (REF) is managed by a core team at Rural Electrification Executive Secretariat (REES) within EREDPC under the Ministry of Mines and Energy. The REF is a government policy instrument to invest public funds into the rural electrification sector. The REES consists of a project coordinator, two technical project officers, one financial project officer, one procurement specialist, and one accountant. The Director ofEREDPC oversees the REES.

30. The REF is governed by a RE Board, consisting of Commissioner of Cooperatives, Minister of MOME, EEA, Ministry of Environment, Ministry of Water Resources, Regional Energy Bureau representatives, and private sector representatives.

31. Under the Energy Access Project, Development Bank of Ethiopia was competitively selected as the Trust Agent to administrate the Rural Electrification Fund, to increase transparency and ensure accountability. DBE is able to make disbursements effectively, while ensuring proper use of funds, with the ability to monitor the use of funds in an effective and transparent manner. It receives instructions from the REES to make disbursements, and prepares periodic financial reports at the request ofthe EREDPC Director.

32. The Development Bank of Ethiopia (DBE) or any bank selected by GoE and approved by the Association should act as a Trust Agent of the Rural Electrification Fund under the EAREP 11. Similar to the operation under the Energy Access Project, the Trust Agent will use its normal business practices to operate credits for off-grid rural electrification as documented in its “Revised Credit Policy” as adopted by the Board of Management in September 2006. The revised policy further strengthens its facilitation ofcredit service provision for the private sector development on the basis of national development goals and institutional sustainability.

33. A new agreement with the Trust Agent will have to be signed. The first agreement, with DBE, contained a retainer fee to cover administrative cost during the take-off ofthe rural electrification portfolio. It also included a 3 percent performance based commission on disbursements. In addition the DBE charges its business as normal 7.5 percent interest rate to

73 the end users. A waiver ofthe retainer fee and a possible reduction on the commission will be discussed between REF and the Trust Agent.

34. Similar to the operation under the Energy Access Project, the selected Trust Agent will use its normal business practices to operate credits for off-grid rural electrification as documented in its “Revised Credit Policy” as adopted by the Board of Management in September 2006. The revised policy further strengthens its facilitation of credit service provision for the private sector development on the basis of national development goals and institutional sustainability.

35. Environment and Social Aspects. Under the Project, EREDPC is responsible for monitoring the application and implementation of environmental and social safeguards for all grid-extension projects, including mini-grid, off grid applications, and the two pilots. EREDPC will use its Environment Specialist, soon to be appointed, to be positioned in the REES. Clear TORS are stipulated for the functions of EEPCo and are being completed for EREDPC. Project Officers and the EMU are responsible for the preparation and implementation of EIAs, EMPs and RAPS and conduct selected site visits to check on the implementation of technical specifications, environmental and social clauses and help resolve issues. REES will be responsible for environmental screening and the implementation of EIA recommendations.

36. A Task Force is being considered to provide advice and direction to EEPCo and EREDPC in promoting the integration of environmental and social safeguards in electricity projects and, for the long term, for the energy sector. In particular, it would help in the formulation of an environmental and social policy framework and a program of activities to mainstream environmental and social safeguards in the form of an Action Plan. Specific responsibilities for the Task force should include:

e Review EMU proposals to meet emerging environmental and social issues; 0 Help develop social and environmental indicators for monitoring the effective implementation of safeguards; Assist the development of opportunities for cross-sectoral integration and appreciation ofthe wider development context of energy investments; 0 Help influence the decision making process to include assessment of development alternatives at policy, programmatic and project levels.

37. A REF Operational Manual was developed under the Energy Access Project that outlined evaluation criteria and procedures for the REF, and an updated Operational Manual will be available by April 30, 2007.

C. Financial Arrangement for Funding of the Projects

38. Grid-based. 80 percent of the grid-based sub-component of the Project is to be financed by GoE resources, while 20 percent by EEPCo from its own resources. GoE will provide its funding to EEPCo in the form of a capital injection into its wholly-owned parastatal. The proceeds of the IDA credit will be provided by GoE to EEPCo in through a subsidiary agreement. EEPCo will be the implementation agency for all phases of the grid-

74 based electrification, including engineering design, selection of firms, and supervision of works.

39. Mini-grids. The mini-grids will focus on renewable energy only. The financing mechanism for the Rural Electrification Fund will provide loans at market interest rate with long repayment period, as the government decided that capital subsidy will not be provided for off-grid electrification. As the cooperatives and the private sector have difficulties in accessing loans for rural electrification from commercial banks, this approach will provide the required debt financing. This proposed approach, similar to the approach under the Energy Access Project, will provide 90 percent financing required by the cooperatives or private sector.

40. The availability of funds for mini-grid interventions is limited. Most commercial banks prefer to concentrate their operations in urban centers and have limited interest to extend operations to remote rural areas especially for relatively small loans. MFIs and cooperative banks are better positioned and have indicated interest to provide loans for off- grid operations. However, their main barriers to get actively involved are their liquidity situation as well as the lack oflonger term financing.

41. To explore further collaboration, the REES and MFI Association have drafted a MoU. First activities together will be: (i)workshops for MFIs to become familiar with the Off-grid electrification business and learn about possible finance opportunities; (ii)participate in the training visits and study tour to Bangladesh; and (iii)understand liquidity issues and identify solutions. Considering the early phase of exploration, further involvement of MFIs as intermediaries could be considered for follow-up programs. EAREP I1 will continue with the financing arrangements as used under the Energy Access Project.

Solar PV for Public Institutions

42. This sub-component will adopt a Sustainable Solar Market Package (SSMP) approach, whereby 260 solar PV services to public institutions (schools, clinics, community centers) will be aggregated in contiguous districts. This SSMP concept has been tested in the Philippines, and is now being replicated in several African countries. Under the Energy Access Project, EREDPC has already started to test this approach with GEF funding. Services of supply, installation, long-term maintenance, and training are bundled into one SSMP contract, to bid out to service providers. The IDA credit will be used as grant to cover capital costs and 5-year O&M costs, and co-funding from the Ministries ofHealth and Education will be sought to ensure sustainability. EREDPC is responsible for issuing the bidding document, evaluate the bids, and award the contracts. Under EAREP 11, a similar institutional arrangement will be followed.

43. Each tender will be structured to supply a number of institutional PV systems and solar home systems in a certain geographical area. This concentration will help private suppliers create economies of scale and offer maintenance services at lower costs. The core element of the design is to aggregate the demand for PV for rural institutions to provide an

75 anchor or critical mass of business to provide a feasible basis for a solar operator to serve the household market segment on a commercial basis. 44. Each contract will be competitively awarded to a solar PV operator. The contract would be sized to provide sufficient volume of sales for the solar operator to sustain the services on an efficient, affordable basis. The contract will require the operator to:

supply and install PV systems in health, education and other public facilities; 0 establish a sales and service capacity in the area and conduct maintenance services for an estimated four years; 0 commercially sell and install PV systems for a minimum number ofhouseholds within the area within a stipulated period; and 0 build technical and other capacities in local markets and institutions and sectoral organizations.

45. The service provider has to supply the systems and also provide: (i)local service centers in rural areas; and (b) multi-year after-sales obligations for the institutional systems.

46. The areas are to be selected based on the need for institutional systems and on the market potential for household system. This approach will place a high level of responsibility on the contractor to supply and install a high level of quality, and establish a decentralized maintenance outlet to ensure effective operation - against contractual terms -- of the systems for a period ofup to five years. It will also provide training on solar PV systems to local staff and technicians so that they can carry out daily maintenance tasks. In addition, bundling the services of institutional market and household market will provide a commercial basis in the same area to attract private dealers to provide sustaining services in the area. This period of five years is considered to be critical until the market develops and is sufficiently mature to continue providing goods and services on its own.

47. This sub-component will assist the Ministry of Health and Education to negotiate provincial (or district) level procurement packages jointly for heath and education facilities to ensure commercial viability by aggregating health, education, and SHS in several districts.

48. The IDA funding will be used as grant to pay for the capital costs and maintenance costs over a period of five years for solar PV systems in schools and clinics, to address the lack of maintenance service barrier. Funds will be allocated at the outset of the program and include maintenance costs ofPV systems for bi-annual routine visits and intermittent visits for breakdowns over a period of five years, replacement of all batteries over a period of a few years, costs of material for breakdowns, facilitation of the maintenance contracts with licensed solar contractors, etc.

E. Pilots

PILOT 1 - PROVISION OFSTAND ALONE BASICSERVICES

49. EREDPC is responsible for implementing this pilot including both technical assistance and co-financing grant. The private distributors and dealers are responsible for procuring

76 goods based on commercial practice acceptable to the Bank. According to a set of agreed- upon criteria and procedure outlined in the updated Project Operational Manual, EREDPC will disburse co-financing grant to the distributoddealers, upon verification of sales of eligible products

PILOT 2 - PRODUCTIVE USES OF ENERGY

50. Pilot 2 will rely upon the existing institutional arrangements established under the off- grid component of the Rural Energy Access Project, for which the Ethiopian Rural Energy Development and Promotion Center (EREDPC) is the implementation agency at the federal level. EREDPC, until recently, reported to the Ministry of Agriculture, so the agency retains cross sectoral links.

5 1. It will be necessary to finance a position for an agriculture specialist within EREDPC. The agricultural specialist will have to liaise with the Ministry of Agriculture to better coordinate the execution of this Pilot. It would be effective to have a designated team and a contact point within the Ministry of Agriculture to jointly carry on this project. Energy and agriculture specialists should work closely to ensure that this Pilot supports investment in appropriate technology, based on agricultural processing needs and energy requirements.

52. Cooperatives are the direct beneficiaries of the fund given their role in the government’s plan for developing a more commercially-oriented agriculture sector, and the initiative they have shown in participating in the off-grid electrification component of Energy Access.

53. The pilot will be carried out in collaboration with the Ethiopian Cooperative Commission-particularly the Wereda-level offices of the commission-and the relevant cooperative unions at the same level. The Commission and the Unions will be particularly important in providing technical assistance to cooperatives in preparing sub-project proposals and in implementing the new technology. A simplified version of the main players and their interface points is shown in Figure 4.

Figure 4 - Productive Uses of Energy - Institutional Arrangements

Ethiopian Rural Energy Development and Approves and orders Promotion Center release offundr

Reviews and approves subproject proposals EREDPC Officials based on technlcsl / z criteria Submits subproject funding proposdr Releasea funds to \ /cooperative account

77 54. Information Campaign. The Ethiopian Cooperative Commission and EREDPC should design an information and communications campaign to raise awareness of the pilot grant facility in the target areas. The campaign should explain who is eligible, how to submit a sub-project proposal, what information is needed for the proposal, what the review process will be, and how the submitting cooperatives will be notified. It should also indicate that the grants are one-time grants with the goal of improve the amount of value of agricultural products produced by the cooperative so they can accumulate more saving and join SACCOs and eventually access formal credit. This is a kick start to more formalized productive investments by the cooperatives.

55. Proposal Process. Rural cooperatives will self-select to participate in the program according to the rules of participation. They will then prepare a sub-project proposal for funding and submit it to a panel comprising representatives of the Wereda Cooperative Bureau and relevant Cooperative Unions for technical and financial review. Proposals cleared at the Wereda level are passed to the agriculture specialist in EREDPC for final review and release of funds. Funds should be released once the existence of the matching amount-bank statement for cash, written description of and confirmation of donated labor and/or land and materials-from the cooperative is confirmed.

56. Subproject Implementation. Cooperatives receiving sub-project funds should have a bank account into which money can be directly deposited. The cooperative will manage the sub-project investment from bidding to confirming that works have been satisfactorily delivered. The idea is that cooperatives can seek technical assistance on management issues from the Cooperative Commission, agriculture extension services at the Wereda and Kebele level, and from the vendors supplying the input. The cooperative should form a monitoring and evaluation committee if it does not already have a structure to carry out this task.'

57. Supporting Activities. The pilot will need to draw information fiom a technical assistance study being carried out under EAREP which will identify and analyze opportunities for income generation in the project area. It is also advisable to create a catalogue of available small-scale agro-processing technology outlining the capital costs and potential maintenance costs of each. This information should be passed onto the pool of potential beneficiaries as part of the information and communications campaign to help generate informed demand for technology and to help cooperatives develop sound sub-project proposals. The technology catalogue would be part ofthe operational manual.

58. Operational Manual. The detailed implementation procedures for the pilot will be described in an operational manual. A technology catalogue on small-scale agro-processing technology, outlining the capital costs and potential maintenance costs of each, would be part ofthe operational manual (see above).

' Based on information fiom ACDINOCA on the USAID Agricultural Cooperatives in Ethiopia (ACE) program, different cooperatives have different structures depending the size, assets, and managerial capacity.

78 Other Project Related Agencies

59. Ethiopian Electricity Regulatory Agency (EEA). The Ethiopian Electricity Regulatory Agency was established by law (Proclamation No 86/1997) in 2004 as an autonomous federal government entity, and became fully operational at the beginning of 2006. The Bank has been contributing to training and capacity building activities for the Agency.

60. The main objective of the Agency is to ensure an efficient and economic supply and distribution of electricity in Ethiopia to support the rapid socio-economic development of the country. Its mission is to enable fair and reliable electricity services through the use of transparent and efficient regulatory systems. Some of its major responsibilities are to: (a) supervise and ensure that generation, transmission, distribution and marketing of electricity are carried out in accordance with the electricity laws, regulations and relevant directives; (b) determine and enforce the quality and standard ofelectricity services; (c) issue, suspend or revoke licenses for the activities of generation, transmission, distribution and marketing of electricity; (d) study and recommend tariff levels and structures, and (e) cooperate with technical institutions in the field of development and capacity building in the electricity sector.

6 1. EEA is headed by a General Manager and relies on a staff of about 60 professionals. Its organizational structure presents several departments, including: (a) Planning and Tariff; (b) Electrical Works Control; (c) Electrical Works Licensing; (d) Legal Services; (e) Audit Services; (f) Information and Public Relations; and (g) Administration and Finance.

62. The Agency will be involved in the design and subsequent implementation of a regulatory, technical and commercial framework addressing the future physical integration between grid and mini-grid systems

63. Ethiopian Environmental Protection Agency (EPA). The Ethiopian Environmental Protection Authority (EPA) is a governmental agency responsible for supervising the implementation of the environmental impact assessment process. The EPA was established under the Federal Republic of Ethiopia Proclamation 9/95 to ensure that all matters pertaining to the country’s social and economic development activities are carried out in a manner that will protect the welfare of human beings, as well as ensure a sustainable development of the country’s natural resources.

64. The powers and duties of the EPA include: (i)the preparation of environmental protection policy and laws, and upon approval, follow-up concerning their implementation; (ii)the preparation of directives and systems necessary for evaluating impacts of social and economic development projects on the environment, and supervision of their implementation; (iii)preparation of standards that help in the protection of soil, water and air resources, as well as the biological system they support, and follow-up concerning their implementation; and (iv) provision of advice and technical support to regions concerning environmental protection.

65. Ethiopian Cooperative Commission. The Ethiopian Cooperative Commission was established under the Federal Republic of Ethiopia Proclamation No 274/2002 as an

79 autonomous organ responsible for registering and supporting cooperative societies organized at federal level, conducting research, rendering training and other technical support to achieve the objective ofthe Commission.

66. The main objective ofthe Commission is to enable rural and urban working people to solve the economic and social problems they face by themselves and become self-reliant by being organized in cooperatives different in type and standard depending on the local resources. Some of its major responsibilities include: (a) formulating policies and prepare draft laws suitable for activities and development of cooperative societies, and submit the same to the government and follow up their implementation; (b) directing and supervise cooperative’ training institute at federal level; (c) undertaking research and study to promote traditional and local self-help associations to modern cooperative societies, it shall make known and disseminate the results ofthe study , and follow up the implementation thereof ;(d) organizing, registering and issuing licenses to the cooperative societies to be organized at federal level; (e) facilitating, in cooperation with regions as may be necessary, means to provide support for societies by studying and preparing projects suitable for the development of cooperative societies; and (0 facilitating conditions to enable the cooperative societies in different regions to exchange their products and information about the market, and to share experiences with one another.

67. The Cooperative Commission is headed by a Commissioner and a Deputy Commissioner.

80 Annex 7: Financial Management and Disbursement Arrangements Ethiopia Second Electricity Access Rural Expansion Project

Introduction

1. The financial management assessment is done in line with the Financial Management Practice Manual issued by the FM Board on November 3, 2005. The objective of the assessment is to determine whether the implementing entities have acceptable financial management arrangements, which will ensure: (1) the funds are used only for the intended purposes in an efficient and economical way, (2) the preparation of accurate, reliable and timely periodic financial reports, and (3) safeguard the entities’ assets. This is the second phase of the electricity Access (Rural) Grid and Off-Grid Expansion Project - Phase I1 (EAREP 11). The FM assessment for APL Iwas done in February and April 2006. For this assessment, the FM team extensively used the FM assessment of the previous year and reviewed relevant documents for subsequent developments. The team also used its cumulative knowledge and experience gained from the existing two Bank-financed projects in EEPCo and EREDPC. The FM assessment for this project was made in March 2007.

Summary of Project Description

2. The objective ofthe Project is to significantly expand access to and services provided by electricity in rural towns and villages. Currently, about 17 percent of Ethiopia’s population lives in areas that are electrified, but only 6 percent are directly connected. The objective of the GoE is to increase the 17 percent figure to more than 50 percent grid-based access over the next 5-10 years. This represents an ambitious program, whose scope and pace of implementation need to be further delineated and assessed, in light of the increasing costs per connection in more remote areas. The grid-based UEAP electrification program appears reasonable in closer, more concentrated communities. However, there is greater cost uncertainty as electrification reaches out to more distant and scattered areas, where off-grid starts to be economically more attractive.

Country Issues

3. The recently completed Joint Budget and Aid Review (JBAR) and the Fiduciary Assessment (FA) show that Ethiopia has made significant progress in strengthening public financial management in recent years. As part of the JBAR, the Bank in collaboration with the JBS donors, conducted a Public Financial Management (PFM) status review using the PEFA framework. Out of the sixteen indicators covered under this review, fourteen of them cover the government’s systems for public expenditure planning, budgeting, and, reporting. The remaining two indicators are meant to assess donor performance. Ethiopia met 7 of the fourteen indictors related to the planning, budgeting and reporting systems. Generally Ethiopia scores high in macroeconomic management, including aggregate fiscal discipline and minimizing fiscal risks. Satisfactory progress was also noted in budgeting and accounting reform, though the adequacy and quality of budget reporting leaves room for improvement and remains a key concern.

81 4. The FA, which was completed in early 2005, notes that considerable progress has been made in implementing FM reforms in both federal and regional level administrations. The areas of improvements include budget processes, internal controls and cash management. Also, some steps have been taken in reforming internal and external audits. Nevertheless, there are some weak areas that require attention. These include delays in financial reporting (both in-year and annual), inadequate capacity of the auditors-general to discharge their responsibility; and weakness in legislative scrutiny of audited financial reports. At the regional level the situation varies between regions. SNNP and Tigray regions have been the beneficiaries of investment and local initiatives to support PFM reform, and in both cases improvement in the overall public finance function and a consequential reduction in Fiduciary Risk are apparent. Other Regions are at an earlier stage of investment or have not yet commenced their plans and therefore demonstrated less progress in enhancing PFM. However, even in the progressing regions the coverage is not complete and there continues to be capacity and staffing issues in areas such as audits. An additional concern is that while there is some improvement in the financial discipline associated with government funds, the increasing use of other funding routes, such as the Food Security Program, is increasing Fiduciary Risk by requiring additional workload in areas where capacity is already stretched.

5. Ethiopia’s public financial management reforms have been managed by the Expenditure Management and Control sub-program (EMCP) of the government’s civil services reform program. EMCP has developed a revised strategic plan to implement the nine components of the sub-program. Mobilization behind the EMCP (in terms of financial and human resources), is a key component of the Public Sector Capacity Building Program (PSCAP), and has been now considered a priority.

Risk Risk Risk Mitigati Condition Remarks Rating Measures Incorp for into Project Design Effectiveness

Inherent M risk Country S N This risk arises from weak capacity, including level shortage ofqualified accountants and auditors. (Determined It is being addressed by the Government at IDA outside this Project through the ongoing Regional CSRP which is supported by PSCAP. Also, Level) PSDCBP is supporting some private sector

Entity IMI N level Project M N EEPCo and EREDPC have previous level experience in implementing Bank-financed projects Control M Risk L N The UEAP Office in EEPCo and the Budgeting EREDPC prepare annual budgets and expenditures are incurred in line with the

82 of additional accountant which is capable of recording and reporting for the finance section in financial transactions. EREDPC has assigned the UEAP Office and an experienced finance officer, who will be recruitment/assignment of responsible for management of the Project one accounts clerk for finance EREDPC Internal M N Control FundsFlow M N Financial M There are delays in producing regular Reporting N financial statements. EEPCo is introducing a new computerized accounting system and this will solve the delays in producing financial statements Auditing M N Audit reports were issued late. As indicated above, the introduction of the new computerized accounting system will facilitate closing; of accounts on time and the auditors 1 could issue their reports on time H-High, S-Substantial, M-Moderate, L-Low

The overall FM risk for the project is Moderate.

Strengths

6. The country’s discipline in executing budget and compliance with the existing government regulations are the major strengths in implementing this Project. This Project is implemented by the UEAP Office of EEPCo and EREDPC. The UEAP Office has well trained and experienced staff to implement the Project. The Finance Unit in the UEAP Office has also qualified and experienced staff to handle the financial transactions of the Project. The Finance Unit in the UEAP Office is supported by the Finance Group of EEPCo. EREDPC has an Administrative and Finance Service (AFS) directly reporting to the General Manager. For this Project, EREDPC hired a Finance Officer under its Finance section, who will be responsible for the day-to-day management ofthe Project financial transactions.

Weaknesses and Action Plan Matrix Significant Weaknesses Action Responsible Completion body The finance section of UEAP Each of EEPCo and EREDPC to EEPCo Finance Before effectiveness for Office and the Project assign/recruit one additional GroupEREDPC EEPCo and three months finance unit in EREDPC accountant to the UEAP Office and after effectiveness for needs to be strengthened the PMU respectively Delays in closing EEPCo’s EEPCo should close its accounts at EEPCo Finance accounts and late submission least three months after the end of Group of audit reports each fiscal year

83 Implementing Entities

7. The grid-component of the Project will be implemented by the UEAP Office, which was created within EEPCo for the specific purpose of implementing the grid-based rural electrification program. The UEAP Office will serve as the Project Implementation Unit for this component of the Project. It was established in 2005 as part of the restructuring of its predecessor, the Rural Electrification Office. It is an office reporting directly to the General Manager ofEEPCo. The UEAP Office has one chief coordinator, and other coordinators who report to the UEAP chief coordinator for areas such as engineering, construction, and donor coordination. Currently there are about 47 professionals and 96 support staff working for the UEAP.

8. The off-grid component of the Project will be implemented by EREDPC, which has been responsible for the implementation ofthe off-grid component ofEnergy Access Project. EREDPC established a PMU to manage the components of the existing Energy Access Project and also this proposed Project. The PMU has a finance officer and a cashier. The finance officer reports to the Head of the PMU for administrative matters and to the Finance Department for technical matters. EREDPC has over the last two years developed the necessary capacity and put the key processes and systems in place. It is now a functional institution, and it should be leveraged for the off-grid component ofEAREP 11.

9. Currently, EEPCo is implementing two Bank-financed Project- Energy Access and EAREP APL I,and EREDPC is implementing the Energy Access Project.

Budgeting

10. Since EEPCo and EREDPC obtain funds from the federal government, EEPCo and EREDPC present their budget request to the federal government. EEPCo and EREDPC follow the federal government budget calendar in preparing their budget and submitting the same to the Ministry of Finance and Economic Development. Each unit in EEPCo and EREDPC prepares its own budget and EEPCo and EREDPC prepare consolidated budgets. The consolidated budget includes all sources of finance and expenditure categories. Reports comparing actual and budget are prepared on a quarterly and annual basis and are submitted to all stakeholders, including donors and Ministry ofFinance and Economic Development.

Accounting

11. EEPCo has accounting policies and procedures for the entity as whole. The UEAP Office being part of the entity follows the policies and procedures of the entity. EEPCo uses accrual basis of accounting with a double entry accounting system. EEPCo uses the International Financial Reporting Standards (IFRS) in recording and reporting financial transactions of the corporation. The UEAP Office’s accounting records are integrated with the entity accounting system with general and subsidiary ledgers. The entity uses a computerized accounting system with a mainframe computer. Recently, the entity has introduced new accounting software.

84 12. EEPCo has a Finance Department managed by Deputy Manager for Finance. The Finance Group has a Treasury and Controller Departments. The Finance Department has 432 staff, out of which 162 are professional staff and the 270 are support staff. Out of the 162 professional staff, 53 are degree holders and the rest have a diploma. The finance staff in the UEAP Office will handle the financial transactions of this Project. Currently, the UEAP Office has 9 finance staff, 6 are degree holders and the others are diploma holders. The existing staff is fully engaged in other activities and one additional accountant is required to handle the financial transactions of the Project and will be a condition for effectiveness. For Administrative matters, the Head of the Finance Unit in the UEAP Office reports to the UEAP Office Coordinator and for technical matters, he/she reports to the Finance Manager of EEPCo.

13. The PMU in EREDPC uses cash basis of accounting on a double entry accounting system. For the Energy Access Project, a Bank financed project, the PMU developed a comprehensive financial management manual. This manual will used to account, record and report the financial transactions ofthe proposed project. The only change that the PMU will do is to revise the chart of accounts so as to accommodate transactions of the proposed project. The PMU has a finance officer and a cashier. In order to strengthen the internal control system, it is very important to assigdrecruit one accounts clerk in the PMU.

Internal Control and Internal Auditing

14. Internal control comprises the whole systems of control, financial or otherwise, established by management in order to: (a) carry out the project activities in an orderly and efficient manner; (b) ensure adherence to policies and procedures; and (c) safeguard the assets of the Project and secure as far as possible the completeness and accuracy of the financial and other records.

15. EEPCo has a good internal control system, which helps the project to achieve its objectives in an orderly and efficient manner. Thus, the main focus of the internal control is placed on the following: (i)segregation of duties; (ii)physical control of assets; (iii) authorization and approval; (iv) clear channels of command; (v) arithmetic and accounting accuracy; (vi) integrity and performance ofstaff at all levels; and (vii) supervision.

16. EEPCo has an Internal Audit Department, which directly reports to the general manager of EEPCo. The Internal Audit Department has 27 staff, 8 with first degree and the others with diploma. EREDPC is in the process of strengthening its Internal Audit Department, and hiring two internal auditors in additional to current Head of the Unit. The Internal Audit Departments ofEEPCo and EREDPC will include the financial transactions of the Project in their annual audit program.

85 Fund Flows and Disbursement Arrangements

Flow of Funds

17. Two Designated Accounts (DAs) may be opened, DA-A for EEPCo and DA-B for EREDPC, in the National Bank of Ethiopia. The amount allocated to each account is equivalent to US$lmillion and US$3 million respectively. The Designated Accounts will be held in United States Dollars. IDA, from the Credit Account, will transfer money to the Designated Accounts. Expenditures incurred for Project eligible expenditures may be paid from the Designated Accounts or from the local currency accounts. Most of the payments for EEPCo components will be made at the central level. EREDPC, through a bank to be selected as the Trust Agent, effects payments to electricity cooperatives based on legal agreements to be entered into between the Trust Agent and electricity cooperatives. When money is transferred to cooperatives, it will be considered as expenditure for replenishment purpose. Detailed implementation arrangements for the transfer ofmoney to cooperatives are included in the MoU entered into between the EREDPC and the Trust Agent. A detailed flow offunds is shown in Figure 5.

Figure 5: Funds flow arrangements

contribution

I / DA-B for EEPCo EREDPC

Local currency account account 1

Payment to Payment to Payment to cooperatives suppliers/ suppliers/ through the contractors contractors Trust Agent

86 18. Currently, there are outstanding balances in speciaydesignated accounts under lapsed credits under IDA projects. Unless this issue is resolved, the credit for EAREP I1 will be foreclosed from the ability to effect disbursements by means of advances to a designated account. The GoE was informed about the need to refund any outstanding amounts under closed projects in order to create the above Designated Accounts.

Disbursement Methods

19. The Project will start with the disbursement methods based on Designated Account Advance (contingent upon the settlement of outstanding amounts), Direct Payment and Special Commitment. These methods will be used in the beginning of the Project. It is expected to shift to the interim un-audited financial report based disbursement as soon as the Bank is satisfied with the capacity ofthe implementing entities.

Minimum Value of Applications

20. The minimum value ofDirect Payment and Special Commitment will be US$l,000,000.

Reporting on Use of Credit Proceeds

2 1. The supporting documentation for reporting eligible expenditures paid from the Designated Accounts will be a summary report ofthe Statement of Expenditures (SOEs) and a Bank statement, and a reconciliation ofthe designated account together with the withdrawal application on a monthly basis for the replenishment of the DAs for all contracts below the prior review threshold. All contracts valued above US$200,000 for goods, US$ 100,000 for consulting firms and US$50,000 for individual consultants should be accompanied by relevant supporting documents, such as contracts, receipts and invoices. All supporting documentation for SOEs will be retained at the UEAP Office of EEPCo and the PMU of EREDPC and must be made available for review by periodic World Bank review missions and external auditors.

Designated Account

22. The Designated Accounts will be managed by EEPCo and EREDPC. The Minister of Finance and Economic Development will delegate officials in EEPCo and EREDPC to manage the Designated Accounts. The currency for Designated Account will be United States dollar. The total allocations of the Designated Accounts will be US$5 million for EEPCo-DA-A and US$ 3 million for EREDPC-DA-B. The creation of Designated Accounts is contingent upon GoE satisfactory settlement of outstanding amounts related to past credits. Table 23 below specifies the categories of eligible expenditures, allocations of the Credit amount to each category and percentages of expenditures to be financed for eligible expenditures in each category.

87 Table23: W hdrawal Table Category Amount of the Percentage of Credit Allocated Expenditures to Be (expressed in SDR) Financed (1) Goods 100% of Foreign Expenditures aid 85% ofLocal Expenditures (a) for Part l(a) of the Project 56,760,000 (b) for Part 2 of the Project 1,600,000 (2) Sub-projects 100%

(a) under Part 2(a) ofthe Project (the Mini- 8,100,000 Grid Electrification Program), to be disbursed from the REF

(b) under Parts 3(f) of the Project 800,000

(c) under Parts 3(g) ofthe Project 1,200,000 (3) Consultants’ Services (including training) 100%

(a) for Part 3 (a) ofthe Project 300,000

(b) for Part 3(b) of the Project 570,000

(a) for Parts 3(c), 3(d), and 3(e) of the Project 1,550,000

for Parts 3(f) and 3(g) of the Project 670.000 (4) Unallocated 14,450,000 TOTAL AMOUNT 86,000,000

Counterpart Funding

23. EEPCo’s counterpart funds (estimated at about US$4-5 million over four years), will be budgeted for by EEPCo and will be made available as required. No GoE counterpart funding is anticipated.

Financial Reporting

24. Recording and reporting of Project transactions at the UEAP Office of EEPCo is integrated with the entity accounting system. The UEAP Office has its own ledger in EEPCo’s computerized accounting systems and financial reports ofthe project are extracted from the overall system.

25. The UEAP Office will produce Interim Unaudited Financial Reports (IFRs) and will submit the IFRS to IDA forty-five days after the end of each quarter. At a minimum, the financial reports must include the sources and uses of funds, expenditures by main expenditure classifications, beginning and ending cash balances and other supporting schedules.

88 For EREDPC component, the financial reports will be produced from the peachtree accounting software. EREDPC will produce IFRs on quarterly basis and submit the same to IDA forty-five days after the end ofeach calendar quarter.

26. The reporting formats agreed for the first phase of the Project will be used for the production ofthe quarterly financial reports for the second phase ofthe Project.

Auditing

27. The annual Project financial statements of the UEAP Office will be included in the entity accounts of EEPCo. The notes to EEPCo accounts will show the movement of the Designated Account of the Project and the auditors will review the financial transactions of the Project during their audit of EEPCo’s accounts. The entity accounts of EEPCo will be audited by an external auditor acceptable to IDA and the audit will be conducted in line with International standards on Auditing. The annual audited financial statements, along with the management letter, will be submitted to IDA not later than six months after the end of the fiscal year.

28. EREDPC will prepare annual Project financial statements. The Project financial statements will include all sources of finance for the Project and related expenditures. EREDPC will submit audited Project accounts to IDA six months after the end of each fiscal year. With the introduction of the new computerized accounting software in this fiscal year, EEPCo should be able to produce the required financial statements on time so that the external auditor could issue their reports before the due date, which is normally six months after the end ofeach fiscal year

29. Since the Federal Auditor General is responsible for auditing all government funds, it will conduct the audit or assign other external auditor to the Project. The existing external auditor for EEPCo and EREDPC is the Audit Services Corporation.

30. EEPCo has submitted the audited entity financial statements for the year ended July 7, 2006 to IDA. There are no outstanding audit reports for the implementing agencies of the proposed project. Conditions

Effectiveness

3 1, Assignmenthecruitment one additional accountantlfinance officer in the UEAP office ofEEPCo.

Supervision Plan

32. Considering the nature of the Project, there would be at least two main supervision missions and another two interim supervision missions by the Country Office staff.

89 Annex 8: Procurement Arrangements Ethiopia Second Electricity Access Rural Expansion Project

1. The total cost of the Project inclusive of contingencies and taxes is US$200.65 million, with an IDA allocation of US$130.00 million. Major procurement under the Project will involve the hiring of supply and erect contractors for constructing rural distribution systems, followed by consultancy assignments.

A. General

2. Procurement for the proposed Project would be carried out in accordance with the World Bank's "Guidelines: Procurement under IBRD Loans and IDA Credits" dated May 2004 (revised October 2006); and "Guidelines: Selection and Employment of Consultants by World Bank Borrowers" dated May 2004 (revised October 2006), and the provisions stipulated in the Legal Agreement. The various items under different expenditure categories are described in general below. For each contract to be financed by the Credit, the different procurement methods or consultant selection methods, the need for pre-qualification, estimated costs, prior review requirements, and time frame are agreed between the Borrower and the Bank in the Procurement Plan. The Procurement methods and review thresholds indicated below are intended for the purpose of the initial Procurement Plan. The Procurement Plan will be updated at least annually or as required to reflect the actual Project implementationneeds and improvements in institutional capacity.

3. Procurement of Works: There will be no works procurement under this Project.

4. Procurement of Goods: The grid component will be carried out mainly by 3 supply and erect contracts (to be issued as separable Lots under one ICB) totaling approximately US$103.54 million. This arrangement is expected to foster competition and at the same time provide a critical mass to attract large, experienced international contractors. Lots would be defined based on geographical proximity of towns and villages to be electrified. Potential bidders can participate in one or more of the lots. There is no limit to the number of Lots that can be awarded to a single bidder. In addition there will be three supply, install and maintain contracts (totaling about US$ 2.85 million) for the provision of PV services to social institutions under the off grid component. The following procedures will be applicable for the procurement of goods:

(i) International Competitive Bidding (ICB): Goods and equipment contracts estimated to cost US$200,000 equivalent or more will be procured using ICB. Such goods may include computer simulated training devices and other items required for project supervision such as vehicles, testing devices and instruments.

(ii) National Competitive Bidding (NCB): Goods and equipment contracts estimated to cost less than US$200,000 equivalent per contract may be procured using NCB. This category includes the procurement of computers, printers, office equipment, etc. The Bank's standard bidding documents as adopted for NCB shall be used.

90 (iii) Shopping Goods of small value or individual purchases of off-the-shelf items with an estimated value less than US$50,000 equivalent per contract may be procured, through prudent shopping procedures, as detailed in paragraph 3.5 of the Guidelines: Procurement under IBRD Loans and IDA Credits, May 2004 (Revised October, 2006) and June 9, 2000 Memorandum “Guidance on Shopping” issued by the Bank. Shopping procedures would be applied for some specialized instruments, furniture, office equipment, computer desks, etc.

(iv) Direct Contracting (DC): Direct Contracting may be used, subject to IDA’S prior agreement, under the conditions specified in paragraphs 3.6 ofthe Guidelines.

(v) Use of UN inter-agency procurement services oflce (IAPSO): The services ofIAPSO may be used for the procurement ofcertain items such as vehicles, computer and office equipment.

(vi) The procurement will be done using the Bank’s SBD for all ICB and National SBD agreed with or satisfactory to the Bank.

(vii) Domestic Preferences: A margin of preference, under the conditions of Section 2.55 of the Guidelines, may be provided in the evaluation ofbids for goods to be procured under ICB. The applicability ofthe preference shall be set out in the procurement plan.

5. . Procurement of non-consulting services: All non-consulting service will be funded by GoEEEPCo. Such services envisaged under the Project would include transport services and insurances etc. to be carried out under procedures agreed with or satisfactory to the Bank.

6. Selection of Consultants: The Credit will finance consultant services and training valued about US$5.9 million in total, including contingencies. Major consulting services include studies and training, such as studies on technical and economic evaluation methodologies, removal of barriers to electrification of poorer homes, improvement of productive uses and impact assessments. Short lists of consultants for services estimated to cost less than US$lOO,OOO equivalent per contract may be composed entirely of national consultants in accordance with the provisions of paragraph 2.7 of the Consultant Guidelines.

7. The Bank’s Standard Request for Proposals (SRFP) would be used for all consulting assignments estimated to cost US$100,000 equivalent or more. For assignments less than US$lOO,OOO, if acceptable national Standard Request for Proposal documents is not developed, Bank’s SRFP document will be used. The appropriate selection method of each consulting contract would be established in the Procurement Plan.

8. Operating Costs: All operating costs associated with the Project will be funded by GoEBEPCo. These items would consist of items such as operation and maintenance costs for equipment, communication charges, transportation costs and travel allowances to regularly carry out field supervision, office supplies, fuel and other consumables. The operation costs financed by the Project would be procured using the implementing agency’s administrative procedures which were reviewed and found acceptable to the Bank.

B. Assessment of the Agency’s Capacity to Implement Procurement

9. The Country Procurement Assessment Report (CPAR) done in 1998 and 2002 has identified procurement capacity as one of the major weaknesses in public sector procurement. The GoE has

91 taken measures to rectify the weaknesses noted in the CPAR and a new procurement law was enacted in January 2005 and is applicable to federal government offices. Standard Bidding Documents are prepared and issued by the government to be used for all procurements financed by the federal government budget. At this time, two regional states have adopted the law and the remaining regional states are expected to adopt the law.

10. Procurement activities under the grid-expansion Project will be carried out by EEPCo through the UEAP Office and its Engineering Coordinator. This unit is staffed by 12 professional engineers, 9 of whom have experience in carrying out procurement work of goods, consultants and turnkey projects. Bid documents and bid evaluation reports of all ICB bids and major consultant assignments will be first prepared by this unit, with the assistance of consultants, and thereafter reviewed by EEPCo’s purchase committee consisting of three department directors, manager legal services and manager procurement division. Thereafter, higher value contracts will also be reviewed by EEPCo’s management team consisting of the General Manager and five Deputy General Managers. The central procurement division is also generally responsible to oversee procurement procedures, policy, regulatory, standardization, and supervising activities carried out in various branch units of EEPCo. In addition, the unit is also responsible to the UEAP Coordinator (who has a rank of Deputy General Manager). The UEAP engineering unit that will carry out procurement work for the Project has been handling similar procurement work for a number of years. During the last three years, it has handled approximately US$300 million worth ofprocurement similar to the current Project.

11. An assessment of the capacity of EEPCo (and its UEAP Office) to implement procurement actions for the Project was carried out by the team procurement specialist in February 2006. The assessment reviewed the organizational structure for implementing the Project and the interaction between the Project’s staff responsible for procurement and the organization’s relevant central units for administration and finance.

12. In addition, the following points were noted from an independent procurement review (IPR) of the procurement activities and performance of EEPCo and its four executing bodies, carried out by an International Consultant in October 2005. The review included assessment of the procurement process, records keeping, competence of staff and the organizational setup for handling procurement functions.

13. From the IPR and review of the performance of EEPCo on previous projects the following key issues and risks concerning procurement for implementation of projects have been identified: (i)in general, the staff involved in procurement is not primarily concerned with procurement as they have many other functions, and procurement appears to be only done “on the side”; (ii)procurement records and files are not complete and kept in a systematic and organized manner, and (iii)there are delays in the evaluation of bids and contract processing.

14. EEPCo has also agreed to start the procurement process by October 1, 2007 to select a suitable supervision consultant, to the satisfaction of the Association, to coordinate all project related activities including procurement and supervision of the turn key contracts for installation of the grid extension facilities. The exact clustering of the towns and villages into the three Lots will be taken into account number in the preparation ofthe bidding documents.

15. Procurement activities of the off grid section of the Project will be executed by EREDPC. An assessment of its procurement capacity was developed in March 2007. It revealed that its performance in carrying out its activities under the ongoing Energy Access Project has been satisfactory. The activities under the mini-grid component of EAREP I1 will be similar, and will leverage on the existing capacity. EREDPC has the general organizational and staff capacity to carry out procurement under the proposed Project. However their procurement specialist has recently left the organization

92 and EREDPC recently filled this position. EEPCO will provide procurement support to EREDPC on an ‘as needed’ basis.

16. EREDPC’s procurement responsibility is rather limited and would consist of: (a) about three contract for supply, installation and maintenance (for a limited period), of solar PV facilities in community service institutions (schools, medical clinics etc.) together with responsibility to establish a PV sales and maintenance establishment in a defined area, with a total value of about US$ 2.85 million; (b) hiring a large number of consultancy contracts (local and foreign) with a total value of about US$ 4 million; (c) organizing training facilities for distributors, community organizations, and REES staff valued at about US$ 0.3 million; and providing general guidance and assistance to community organizations in handling their own procurement activities.

17. The off grid component of the Project will involve the procurement by rural cooperatives and similar organizations. All procurement activities are to be carried out in accordance with the Operations Manual to be agreed with IDA by July 1, 2007. An existing Operations Manual is already being used for this activity under the ongoing Energy Access Project. However it was agreed with EREPDC that this will be updated and amended to incorporate the lessons learned to date and the special requirements of the current project.

18. A capacity building strategy should be provided to procurement staff by October 2007, including intensive training on the procurement of goods. In addition orientation workshops will be conducted for EEPCo and EREDPC staff involved in the procurement decision-making process, including tender committee members, Division Heads, Department Heads.

19. The overall Project risk for procurement is Average.

C. Procurement Plan and ImplementationPlan

20. The Borrower has developed a Procurement Plan for Project implementation which provides the basis for the procurement methods for goods, works and consultants. This plan has been reviewed and agreed during Project negotiations. It will also be available in the Project’s database and in the Bank’s external website upon approval of the credit. The Procurement Plan will be updated in agreement with the Project Team annually or as required to reflect the actual Project implementation needs. The plan includes relevant information on supply and installation, goods, works and consulting services under the Project as well as the timing of each milestone in the procurement.

D. Review by IDA

21. All supply and installation and works contracts estimated to cost US$500,000 equivalent or more and goods contracts estimated to cost US$250,000 equivalent or more will be subject to IDA prior review in accordance with the procedures set in Appendix Iof the Procurement Guidelines. Any amendments to existing contracts raising their values to levels equivalent or above the prior review thresholds are subject to IDA review. All contracts awarded on the basis of direct contracting will require prior review and clearance of IDA. The review by IDA of the individual contracts is detailed in the Procurement Plan attached to this Annex.

22. Consultancy contracts with firms with estimated value of US$lOO,OOO or more, and consultancy contracts with individuals estimated value of US$50,000 equivalent or more will be subject to prior review by IDA in accordance with the procedures set in Appendix Iof the Consultants Guidelines. All single source selection as well as Terms of Reference (TOR) for all consultancy contracts irrespective of the contract value, will be subject to IDA prior review. All training and

93 workshops will be carried out on the basis of programs, which shall have been approved by the Bank on an annual basis.

23. Post reviews of contracts awarded below the above threshold levels will be carried out selectively by IDA during supervision missions and/or by an independent procurement auditor every six months.

E. Frequency of Procurement Supervision

24. A major portion of the Credit will be disbursed by three ICB turnkey contracts for the grid based component. Thus post review procurement activities will be substantially limited in this Project. Accordingly, in addition to the prior review supervision to be carried out from Bank offices. An annual supervision mission will visit the field to carry out post review of procurement actions.

F. Contract Award Disclosure Requirements

25. Contract Awards for ICB: Within two weeks of receiving the Bank's Itno objection" to the recommendation of contract award, the Borrower shall publish in UNDB online and in dgMarket the results identifying the bid and lot numbers and the following information:

(a) name of each bidder who submitted a bid; (b) bid prices as read out at bid opening; (c) name and evaluated prices of each bid that was evaluated; (d) name of bidders whose bids were rejected and the reasons for their rejection; and (e) name of the winning bidder, and the price it offered, as well as the duration and summary scope of the contract awarded.

26. Contract Awards for Direct Contracting: After the contract signature, the Borrower shall publish in UNDB online and in dgMarket the:

(a) name of the contractor (b) price (c) duration, and (d) summary scope of the contract.

This publication may be done quarterly and in the format of a summarized table covering the previous period.

27. Contract Awards for Consultancies: After the award of contract, the borrower shall publish in UNDB online and in dgMarket the following information:

(a) the names of all consultants who submitted proposals; (b) the technical points assigned to each consultant; (c) the evaluated prices of each consultant; (d) the final point ranking of the consultants; (e) the name of the winning consultant and the price, duration, and summary scope of the contract. The same information shall be sent to all consultants who have submitted proposals.

28. Contract Awards for Selection Based on the Consultants' Qualifications (CQS): The Borrower shall publish in UNDB online and in dgMarket the

94 (a) name of the consultant to which the contract was awarded, (b) the price (c) duration, and (d) scope of the contract.

This publication may be done quarterly and in the format of a summarized table covering the previous period.

G. Corruption, Fraud, Collusion, Coercion and Obstruction, and Obstructive Practices

25. All procuring entities as well as bidders, suppliers and contractors shall observe the highest standard of ethics during the procurement and execution of contracts financed under the Project in accordance with Paragraph 1.14 and 1.15 of the Guidelines: Procurement under IBRD Loans and IDA Credits, May 2004 (revised October 2006): and Paragraph 1.22 and 1.23 of the Guidelines: Selection and Employment of Consultants by World Bank Borrowers, May 2004 (revised October 2006).

95 Attachment 1

Details on Procurement Packages Involvinp International ComDetitive Bidding

1 2 5 6 Ref. No. Contract Estimated Procurement P-Q Domestic (Description) +cost (US$ Method Preference thousands) (y esln 0) (Prior I Date Post 1. Supply and erect Yes No Prior December 1, Component Contract : 2007 1 (a) Lotl.Oromia region Lot2. Amhara region Lot3. SNNP region 4. Lotl.Photovoltaics 2,850 No NIA Prior December 15, Component Installation and 2007 2(b) Services - Area 1 Lot2. Photovoltaics Installation and Services - Area 2 i i Selection of Consultants

26. Prior Review Threshold: Selection decisions subject to Prior Review by the Bank as stated in Appendix 1 to the Guidelines Selection and Employment of Consultants:

~ ~ ~ __~~ Selection Method Prior Review Threshold Comments 1. QCBS (Firms) >=100,000 All Contracts 2. Individual Consultants (IC) >=$50,000 All Contracts 3. Single Source (SS) All Values All Contracts (Firms/Individuals) 4. Training All Values All Contracts

27. Short list comprising entirely of national consultants: Short list of consultants for services, estimated to cost less than $100,000 equivalent per contract, may comprise entirely of national consultants in accordance with the provisions of paragraph 2.7 ofthe Consultant Guidelines

96 Consultancv Assignments with Selection Methods and Time Schedule

6 7 Description of Estimated Selection Review Expected Comments Assignment cost (US$) Method by Bank Proposals (Prior / Post) Submission Date Supervision 540,000 QCBS Prior October 1,2007 Consultant Implementation 10 contracts CQ Post October 8,2007 support for REES (a totaling to number of short term 1,000,000 December 3 1, contracts) 201 1 Studies on regulatory 830,000 QCBS Prior October 12, framework for mini grids 4. Component 3(d) Sector syndication 700,000 QCBS Prior Iplan EE/DSM 2 studies QCBS Prior totaling 1,240,000 Design and 300,000 Prior implementation sunnort Market studies and 60,000 I Post testing products 8. Component 3(f) Marketing and 120,000 QCBS Prior Ipromotion campaign 9. Component 3(f) Facilitation of 240,000 QCBS Prior distribution channels 10. Component 3(f) Product development 175,000 QCBS Prior for MFIs 11. Component 3(g) Implementation 2 contracts CQ Post support to EREDPC totaling 95,000

12. Component 3(f) Training Totaling Prior agreement and 3(g) 200,000

(a) Consultancy services estimated to cost above US$ 200,000 per contract and all single source selection of consultants (firms) for assignments estimated to cost above US$ 50,000 will be subject to prior review by the Bank.

(b) Short lists composed entirely of national consultants: Short lists of consultants for services estimated to cost less than US$ 100,000 equivalent per contract may be composed entirely ofnational consultants in accordance with the provisions ofparagraph 2.7 ofthe Consultant Guidelines.

97 Sub-projects -- procured by cooperatives and the private sector under Component 2(a), 3(f) and 3(g) II 2 3 4 5 6 7 Review Estimated by Bank Proposals Description of cost (US$ Selection (prior/ submission No assignment equivalent) method Post) date Comments 1. Goods and works for mini- 14,440,000 Accordance with >250,000 October 1, grids under component 2(a) paragraph 3.12 of 2007 the Procurement Guidelines

2. Goods and works for 1,420,000 Accordance with >250,000 June 1,2008 lighting pilot under paragraph 3.17 of component 3(f) the Procurement Guidelines

3. Goods and works for 2,120,000 Accordance with >250,000 January 1, productive use pilot under paragraph 3.17 of 2008 component 3(g) the Procurement Guidelines

98 Annex 9: Economic and Financial Analysis Ethiopia: Second Electricity Access Rural Expansion Project

Appraisal Summary

1. The Economic and Financial analysis of this Project was carried out separately for grid- and off-grid electrification. Since many ofthe benefits of grid-electrification depend on customer’s connecting to the grid (e.g. increase in the pace of connections), the investments and results of the GPOBA grant were factored into the grid-electrification analysis. The analysis of the total Project will also be provided, illustrating the contribution of each one of its components.

GRID ELECTRIFICATION- ECONOMIC AND FINANCIALANALYSIS

Economic Analysis

2. The economic analysis of the grid electrification sub-component Project was carried out in three steps as follows:

0 Firstly, establishing that a potenti for the output of the Project (i.e., ele market, and its ver the long-term life of the Project;

0 Secondly, that the proposed Project, as designed, provides the least-cost means of serving the potential market and its growth over the long-term; and

0 Finally, establishing the profitability of the Project, as measured by the Economic Rate of Return on the investment, including the impact ofthe introduction ofCFLs.

The Potential Electricity Market: Number of Consumers and Consumptions Levels

3. The proposed grid-electrification component would provide electricity supply to a total population of about 1.1 million people living in about 265 rural towns and villages. The main criteria for the initial screening of towns to be electrified were based on the population of the towns, the potential impacts of electricity supply could make on improving economic activity and quality of life, and the proximity of the towns to the existing interconnected electricity grid (a major driver ofthe cost), to ensure cost-effectiveness of supply.

4. Baseline electricity demand in each of the towns. Currently, the model assumes that demand forecasts for residential, commercial and industrial customers are basically driven by population and its growth. EEPCo is in the process of refining this methodology, with the objective of forecasting electricity consumption by customer group based on the specific

99 macro-economic characteristics of towns (or clusters of towns). For the preparation of EAREP I, EEPCo conducted several market surveys, including an analysis of about 34 currently un-electrified towns located in the rural areas, including a review of the impact of recent electrification activities on similar towns and villages over the past 3-5 years. Those surveys were recently updated to better assess the impact of customer loans on the pace of electrification.

5. Number of Consumers: Newly electrified rural towns and villages present relatively modest growth in the number of household connections from the date access is provided. It takes about two years for the connection rate (metered customers) to reach one third of the potential market. Residential customers, who account for 80-90 percent of the number of customers, are slow movers, since they: (i)are not able to pay the high upfront fees for customer connection; and (ii)have the possibility to get an indirect connection from their neighbors. Nearly all existing commercial and small industrial enterprises and public facilitieshuildings connect within a short period when electricity supply becomes available.

6. Recent empirical observation has shown that financing the customer has had a positive impact on market penetration. EEPCo’s provision of 2 or 5-year, interest free loans for the customer to finance its upfront costs has spurred connection rates. Currently EEPCo is providing interest free, two year repayment loans, for 80% ofthe connection costs.

7. The Project makes two scenarios on the pace of market penetration among residential customers. The first, the base case, assumes a higher pace of connections, since poor customers will be receiving a 5-year interest-free loan to pay for connection costs. The second scenario assumes that 2-year loans will be provided by EEPCo, resulting in a lower market penetration rate. Each assumption is depicted in Figure 6 as follows. For the sake of completeness, the expected market penetration in the absence ofany consumer support is also depicted. Roughly speaking, 5-year loans enable market penetration to grow 20 percent faster, vis-a-vis the absence of any support to customers to finance the cost of their connection, and 10 percent higher than the current scenario.

Figure 6: Household Market Penetration I I Market Penetration

-2-year Loans 5-year Loans

2000 2010 2020 2030 2040 2050 Year

100 8. There are about 213,000 potential household customers (FY 08) living in the 265 rural towns and villages to be electrified under the Project. Assuming an average household size of 4.7 people, these towns and villages represent one million inhabitants. Given an initial estimated population growth of 4.9 percent in rural towns in the first years reducing to 4% in subsequent years, there will be about 293,000 potential household customers in FY 15.

9. More recent surveys have shown that the average number of people per household has increased to 5. Therefore, the population benefited from an increase to 1.07 million. Since the market forecast methodology is based on the number of households, no major impact is expected in the economics ofthe Project.

10. Expected residential and non-residential customers under those two market penetration scenarios are presented in Table 23.

Table 24: Projected Total Number of Electrified Customers, FYOS-FY15

I Grid EIectrifled Customers - Higher Market Penetration I Potential Household All Potential All Metered Metered Tot1 Customers Connection Of 1 Customers 1 Customers I Customers 1 with Access Rate(Metered)l cus~~~~ I 1 1 I1 FY 08 (*) 213043 25 1976 I FY 09 223482 264323 39438 33522 11 174 50612 15% 19% FY IO 234433 277275 94977 80749 46887 141863 34% 51% FY 11 245920 290861 112512 95636 49184 161697 39% 56% FY 12 257970 305114 131514 111787 51594 183108 43% 60% FY 13 27061 1 317318 152108 129292 54122 206230 48% 65% FY 14 281435 330011 172908 146972 56287 229195 52% 69% FY 15 292693 343211 195128 165859 58539 253667 57% 74% (*) Half-year

Potential Household All Potential All Metered Metered Toti Customers Connection PercentageOf Customers Customers Customers Household Indirectly with Access Rate (Metered) Customerswith Customers Connected Access

FY 08 (*) 213043 251976 FY 09 223482 264323 26292 22348 11174 37466 10% 14% FY 10 234433 277275 94977 80749 46887 141863 34% 51% FY 11 245920 290861 83581 71044 49184 132765 2 9% 46% FY 12 257970 305114 101165 85990 51594 152759 33% 50% FY 13 27061 I 317318 120271 10223 I 54122 174394 38% 55% FY 14 281435 330011 139798 118828 56287 196085 42% 59% FY 15 292693 34321 1 160694 136590 58539 219233 47% 64% (*) Half-year

11, Consumption Levels: An analysis was undertaken on the average consumption levels in rural towns, using both econometric and survey data. Metered residential users consumed on average 304 kWh per year (which includes the consumption of households that connected to the grid indirectly through these metered users), with their consumption levels growing by 2.6 percent per year. Commercial customers consumed about 176 kWh per year per metered residential customer (the use of metered residential customers as the base for calculation was confirmed by empirical data), with consumption growing by 3.0 percent per year. Industrial customers consumed about 222 kWh per year per metered residential customer, growing by 1.7 percent per year.

101 Demand has been projected to grow, on the average, at about 25-30 percent in the first four years, reducing to about 10-15 percent in the following 4 years, and growing at a steady rate of 6-7 percent for the rest of the period. These increases assume an annual population growth rate of about 4.9 percent for the first five years, reducing to 4 percent for the next 10 years, then reducing to 3 percent for the rest of the period of analysis. High initial rates, above the country’s average, are partly due to anticipated migration to newly electrified towns.

Households normally account for about 45 percent of total consumption, with commercial and (small) industrial accounting for the balance. Of the rural residential customers, about 85-90 percent consumes less than 50 kWh per month, mostly for lighting. With the distribution of CFLs among rural customers, the market share of the residential segment is expected to decrease to about 25-30 percent in the initial years of deployment.

Consumer Surplus

12. There is a consumer surplus between EEPCo’s tariffs and willingness-to-pay as demonstrated in towns that rely on private generators. Studies of willingness-to-pay for electricity in other African countries typically range from US$O. 15-0.25 per kWh, with the highest estimates for industrial users who would otherwise need captive supply such as stand- alone diesel. In this Project, the majority of consumers will be households whose willingness- to-pay relies very much on family incomes. There appears to be a relatively high willingness- to-pay as rural households in some areas served by private diesel generators pay about US$0.20/kWh (by comparison, EEPCo’s lifeline rate is about US$0.03/kWh). Certainly, there are cases to be seen where households pay the equivalent of US$0.30/kWh for light bulbs from private generators, and even more for dry-cell batteries. However, it is not prudent to assume that this reflects the willingness-to-pay of the much broader groups and therefore an average willingness-to-pay of US$O. 17kWh used in previous similar studies was adopted for household customers and US$0.20 for industrial and commercial customers. This appears to be a reasonable estimate, in particular given the penetration rates forecast for this Project. Those figures will also be used for the analysis of the benefits of basic services (Le. lighting) in isolated areas.

13. Least-Cost Analysis. A review of alternative technologies to the approach proposed under the Project were considered for providing electricity to the rural towns and villages, including solar photo-voltaic systems, wind based power plants, isolated diesel generation and mini-hydropower schemes. Comparative cost analysis of isolated diesel generation and grid extension had been carried out (for EAREP I),since this is a solution technically feasible in most areas of the country. The results indicated the cost advantage of grid extension over isolated diesel generation, in particular for rural towns that are not exceedingly remote from the existing grid. The total annualized costs of grid extension (US$315 million) are almost one third of the total costs incurred if diesel generation is chosen (US$841 million). Those costs are expressed on a PV basis, contemplating the life of the Project, and include the following components: capital, fixed operation and maintenance, fuel and variable costs.

102 Such analysis can be extrapolated to EAREP 11, given the similarities of the markets and consumption profiles. Computation details are provided in the following table.

Table 25: Least Cost Analysis - Grid versus Off Grid Diesel Generation

REPUBLIC OF ETHIOPIA COMPARATIVE COST ANALYSES - LEASTCOST JUSTIFICATION. INDICATIVE

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Maximum Demand (MW) (NonColncldent) 11.3 13.17 15.31 17.77 20.58 23.79 27.47 31.67 36.49 41.99 48.28 51.52 54.95

Market (MWh) 60813 70888 82423 95637 110756 128062 147859 170507 196406 226019 259873 277340 i

nnual Fixed Operation ansd Maintenance Cost (3.5% of capital cost) 45400 86500 51200 First 10 years = US$46/MWh 1589 4616.5 6408.5 3500 3500 3500 3500 3500 3500 3500 Afterwards US$ 58/MWh 3261 3791 4399 5095 8891 8802 7843 9035 10397 11954 16086 Total Cost 3261 3791 4399 5095 5891 6602 7843 9035 10397 11954 16088 48660.85 91880 60216 11503.3 9390.9 10302 11343 12535 13897 15454 19586 Pnrant Value of Cost 315,282

(I) Capital Cost of Medium Speed Diesel at US$1,5001kW (ii) 46 % efficiency 1,870 kcaVkWh. (iii) Fuel type : Light Fuel Oil (v) Delivered Cost of Fuel US$1,400/ton (vi) 15% Adjustment of Fuel Cost for Lubricants

Capital Cost =5O,OOOX15OO=US$75 million per plant Effiuencyr 860 kcallkgl0.46 =1,87OkcalslkWh. Energy Production Cost =187Okcals/kWh XUS$1400/9.8 ~1000000kcals =US$0.26/kWh

Market (MWh) 60813 70888 82423 95637 110756 128062 147859 170507 196406 226019 259873 277340 i

In US$ million Capltal Cost 75000 75000 Fixed 08M 6000 6000 6000 6000 6000 6000 6000 6000 6000 6000 Fuel Coet 21430 24866 28797 33296 38443 44332 51066 58765 67567 72108 Total Cost 75000 27430 30866 34797 114296 44443 50332 57066 64765 73567 78106 1

Discounted Prasent Value at 10% DC 840.807 Source: World Bank Analysis. EAREP I

14. Costs and BeneJits of Grid Electrijkation Program. The following costs and benefits were considered.

All investments were considered, regardless of the source of funding (EEPCo, GoE or by customershsers);

The costs included: (i) the capital cost of the Project over the implementation period; (ii) annual O&M (estimated at about 0.75 percent of total non-depreciated asset base); (iii) major revamping and some expansion of the distribution network every 10 years, at a cost of about 6 percent of the non-depreciated asset base; and (iv) cost of electricity generated and delivered at the consumption point (losses included) valued at about 6.0 US centskWh, representing approximately the long run marginal cost.

Benefits were measured as electricity consumption valued at consumers’ willingness- to-pay. The willingness-to-pay was measured as the net consumer surplus resulting from the lower cost electricity supply from the grid as compared to the cost of alternative supply sources to meet the same needs.

103 For households, the willingness-to-pay was based on a comparison ofthe net benefits of lighting using kerosene and gas lamps, and the improved net benefits from electricity supply. The willingness-to-pay by households was estimated to be about 17 US cents/kWh (ie., US$17O/MWh).

A similar approach has been adopted to estimate the willingness-to-pay for commercial and industrial customers, and draws primarily on the relative costs associated with electricity supply from oil-fired diesel generators to meet their production needs. The willingness-to-pay for these consumers is estimated at 20 US cents/kWh (i.e., US$2OO/MWh).

15. Other Benefits: It should be noted that while there are a number ofindirect customers, the economic analysis is based on the actual metered consumption, as the consumption of these indirect customers is in fact captured through the metered customers from whom they purchase their electricity. Therefore, the Project assumes that those benefits are captured in the demand growth figures. There are families that are neither directly nor indirectly connected, but also benefit from the electrification oftheir rural towns and villages, including from street lighting and from more efficient and cost-effective services, such as livestock vaccination centers, water pumps and irrigation points. To a large extent, those benefits are being captured by the aggregate demand growth figures. There are also some non quantifiable benefits, such as improvements in health and quality of education resulting from the replacement ofkerosene by electric lighting.

Grid-electrijkation costs for EAREP II

16. The in-town distribution cost estimates were made for each town and that of the medium voltage lines stretching between towns were made substation wise. Unit costs were taken from planning cost databases, which are usually updated by recent tender proposals. The following table shows an investment cost estimate for EAREP 11, taking into account the towns and villages selected and the benefited population in each region.

Table 26: Investment Cost - EAREP I1

104 17. Impact of Compact Fluorescent Lamps (CFLs): CFLs are designed to improve the quality of lighting at lower energy consumption levels. The economics were evaluated by comparing the purchase price with the benefits of efficient lighting, which is anticipated to lead to savings in the quantity of energy consumed, and so reduced production of electricity, to serve the same needs for lighting for households. Lighting represents a large fraction of poor household’s consumption and CFLs enables energy savings of 70-75 percent. It also adds value to EEPCo in the sense that the energy sold to those poor customer is priced below the short run marginal cost. For the economic and financial analyses, it was assumed that CFLs would be deployed as part ofthe “connection kit.” In the faster electrification scenario, it was assumed that GPOBA Program will support the deployment ofup to 2 lamps per poor customer (maximum of 572,000 lamps, to be distributed under the Project). In the absence of GPOBA funds, it was assumed that EEPCo would provide those devices and include as part of the connection cost. The exact delivery mechanisms are still being assessed, as part of EAREP I.

18. Economic Rate of Return (EIRR) for the grid electrification component is estimated to be about 15.7 percent under the accelerated connection program (5-year loans), or 13.2 percent if a lower connection pace is assumed. This rate is higher than the long-term opportunity cost of capital to Ethiopia, which has been estimated at about 10 percent. The Project economic NPV (discounted at 10 percent) is about US$110.1 million under the high market penetration scenario, and US$65 million under the slow pace of connection scenario. The higher pace ofconnection is basically due to the customer loans provided by EEPCo and subsidized by the GPOBA grant, as will be discussed later.

Financial Analysis

19. Project Impact on EEPCo. This section examines the impact of the Project on EEPCo’s financial position. Key factors driving the economic analysis include: (a) the portion of the investment borne by EEPCo, (b) O&M to provide electricity to the newly connected customers, and (c) revenues generated from the product of the tariffs and consumption by the different category of customers (residential, commercial, industrial), and (d) pace of electrification.

20. EEPCo/GoE Contributions. Under the UEAP, and for this Project, GoE will provide about 80 percent of the investment requirements, and EEPCo will provide the remaining portion. No other subsidies are to be provided by GoE during the life ofthe Project, and all operating costs will be borne by EEPCo, who in turn collects all revenues. EEPCo will need to rely on the cash flow stream generated by the Project to pay for those operating expenses and to recover an adequate return on its upfront 20 percent capital investment. Therefore, the financial analysis, both in terms of NPV and FRR, was developed taking into account 20 percent ofthe total Project investment cost.

21. Market Revenues and Tar#s - Revenues for the Project were determined using the assumptions on market growth per customer category adopted in the economic analysis, under the higher and slower pace market penetration scenarios. For the purposes of the financial analysis, the calculations of the benefits have been made on the basis of the number of

105 customers directly connected to and amount of electricity that is in fact billed and collected. For EEPCo, non-collections have been small, approximating 3 percent.

22. Current EEPCo Tariff Subsidy System. EEPCo’s tariff system includes cross subsidy elements that target households with low consumption. The first three residential blocks reach 100 kWh and the charge is below US$O.O35/kWh for usage. The highest residential block (>500 kWh) has a usage charge of US$0.066/kWh. The bulk of sales under rural electrification projects such as this one fall within the lowest residential tariff blocks. Given the “telescopic” effect embedded in the tariff structure, about 90 percent of projected rural residential consumption will be under the lifeline block. This feature creates unintended effects on the proper target ofsubsidies. Recent studies carried out by AFREPEN indicate that the current tariff scheme in Ethiopia is regressive -that is, those who are not meant to receive subsidies end up benefiting from the “telescopic” effect of residential subsidies. The exemption of basic lifeline rates on the recent 22 percent tariff increase was a first attempt to mitigate the regressive effective, but more work needs to be done in this regard, particularly in revising the entire tariff structure, its subsidies and cross-subsidies. A recent tariff study carried out under the auspices of Energy Access provides a good starting point for a tariff restructuring effort.

23. Another key factor in the financial analysis is the portion of the customer base that is commercial and industrial in nature, as compared to the portion of the customer base that receives energy at the highly subsidized “lifeline” rate (applied to the first 50 kWh ofmonthly consumption for all residential customers). Market surveys indicate that about 85 percent of customers are residential, and that a similar percentage ofthis residential load is consumed by customers who pay the “lifeline” tariff. 55 percent of the total load is estimated to be consumed by commercial and industrial customers, who generate about 85 percent of the revenues.

24. The financial analysis takes into account the 22 percent tariff increase implemented in mid-2006 (except the “lifeline” consumption block which remained unchanged) and assumes subsequent additional adjustments as the basis for calculating the financial returns over the relevant 36 year period. Consistent with the policy of insulating poorer customers, the tariff increases were structured to largely insulate the lifeline block (i.e., the 0-5OkWWmonth consumption block). The assumptions regarding subsequent average tariff increases are set out in the table below:

25. EEPCo ’s Cost Structure. The financial analysis focuses on two distinct cost elements: investment and “operating” costs, both ofwhich are treated on a cash basis. Grid component total cost is about US$171.10 million, including contingencies as well as taxes on non- imported items. This amount also includes 50 percent of EAREP I1 costs on pilots, capacity

106 building and technical assistance. The other 50 percent was charged to the mini-gridoff-grid sub-components. The GPOBA investment contribution is not included in the financial analysis, since it is a partial grant given directly to EEPCo. However, the benefits of the GPOBA program, namely a faster pace of connections and benefits of CFLs deployment, are considered in the analysis. It is assumed that the pace ofdeployment ofCFLs does not depend on the pace of customer connections under EAREP 11, since the 5-year loan support is not earmarked to this Project.

26. Operating Costs. With respect to operating costs, the analysis examined the cost of hydro and thermal generation. Thermal generation is required during periods of low rainfall and to provide ancillary services, on a permanent basis. The cost of generation is adjusted to the point of delivery to the customer, taking into account technical and non-technical losses (which historically equaled about 20 percent). The O&M costs for hydro generation were assumed to be 2.4 US centskWh. The cost of thermal generation is about 26 US centskwh, since it is mostly diesel based. Assuming that thermal generation represents 5 percent of load requirements, the weighted average cost of energy, adjusted for 20 percent losses, is about 4.6 US centsKWh. Since there is excess of hydro-generation capacity in the first years of the Project, the analysis assumed a cost of generation of 4.6 US centskWh, increasing to 5.6 US cents after year 11, which is consistent with the long run cost of expansion. Allowances are provided for operating and maintaining the network, as well as for major grid revamping and some expansion every 10 years. The analysis assumed O&M costs of 0.75 percent ofthe non- depreciated network asset base, with major overhauls and some expansion taking place every 10 years, and representing about 6 percent ofthe non-depreciated asset base.

27. Financial Rate of Return. The Financial Rate ofReturn (FRR) is estimated to be about 11.1 percent under the high pace connection program (5-year loans). This rate is higher than EEPCo’ cost of capital for this Project, estimated to be 10 percent. The Project financial NPV (discounted at 10 percent) is about US$4 million. Under the medium penetration scenario, the FRR is 8.7 percent and the NPV is negative US$4.6 million.

28. A detailed economic and financial analysis for grid electrification is presented in the following spreadsheets.

107 2W9 2010 2011 2012 2013 2014 m15 2018

errs El.nw -32 22 0% 0 0% 200% 00% 15W 00% 00% 0 0% OW 0 0 9680 0 9580 0~178 09178 08902 08802 08802 o 8802 o 8802 0.8 ill 22 0% 0.0% 200% 00% 150% 00% 00% 0 0% 0 0% 0 0 9780 0.9780 08584 09564 09441 09441 09441 0 9441 0 9441 09 0 0% 0 0% 100% 00% 00% 00% 00% 0 0% OW 0 22 0% 0 0% 200% 00% 150% 00% 00% 0 0% OW 0 44 19% 0 0% 108% 00% 13% 00% 00% 0 0% OW 0 0 8925 0 8925 OM85 09495 09448 09448 09446 0 9448 0 9448 09

4 8% 48% 49% 49% 48% 40% 4 0% 4 0% 4 I 1W13031 213043 223482 234433 245920 257970 270811 281435 282693 304rw 318

SLOW 10 14 19 23 28 32 37 41 MEDIUM (2ym) m 24 28 33 58 42 47 51 HIGH (5 yn) 30 34 39 43 48 52 57 81 10 20 m 20 20 20 20 20 40 5458 63 58 72 77 81

39458 9- 112512 131514 152108 172808 195128 218850 244

33522 80749 96834 111787 128292 148872 165859 1m22 207 11174 4-7 49184 51594 54122 56287 58539 W880 €3 448B 127638 1448m 1Bu81 183414 203259 224388 248802 270

28 27 27 28 29 29 31

0.m 0.m om~ ~ om ~ ~~~ om ~ ~~ om om 0.170 0.170 0.170 0.170 0170 884,582 2,138,082 2,482,518 2,978,114 1,783,707 4,357,827 S.ffi3.925 8,071,272

5127 19Tl4 22478 25367 28450 31r4 ow OW 000 ow ow ow ow 0 0000 0.20 0.m 0.20 OM om 020 178 188.26 183 198 204 210 218 509,930 2,135,113 2~~8,405~,W~.%SB 3,354,558 3,854,335:;I 1,223,832 5,124,2725124272 5,988,5715988571 6,971,1816971181 8.M1.8548051854 9,250,4039250403I 0 0 788 1gW 2280 2630 3042 -56 3803 0.w OW 0.w ow ow ow ow ow ow 0 0 0 0 0000 0 20 020 020 om 020 222 217 12 224 223 227 227 231 235 239 243 826.7w 1,505,823 1,510,447 2,118,856 1,804,MVI 3,809,174 4,345,073 5,085,255

24014 56555 em58 82851 97858 115882 131588 150878 118% 119% 118% 116% 118% 115% 19893 34789 22125 28478 41493 61829 58980 142234 43% 44% 43% 43% 43% 43% 43% 43% 31 % 5% 50% -77% 44% 4% 25% 40%

ea.aC.rRU RrreR.” 4,345,094 10,584,984 12,812,297 14.gY.539 17,672,744 20,588,304 23,785,552 27,291,831 88 8 89

0 027 0027 0027 0027 0015 0015 0015 0015 0 042 0042 0042 0042 OOBO offio om 0080

1440858 3513274 4178368 4858086 5858872 8820892 7882083 8052578

624624 82424 824624 824624 824824 824824 824824 624624 624824 624824 824824 824624 824624 824824 824824 824824 0 0 0 0 0000

TOUI cash c0.b (maout CFLSJ 2580107 4782522 5428817 82C8315 7108221 8070140 9131331 10301827 11591417 ECONOMIC ANALYSB 11 PropuY.Pr 1 2 3 4 5 8 78910 C.1.nd.rY.w 2008 ZOOS 2010 2011 2012 2018 2014 2011 2016 2017

2,514,178 3542.W8 1,118,487 1,211,382 1,312,854 1,325,893 1,416,557 1,512,245 1.813.32

2,514,178 3%2,W8 1,116,487 1,211,382 1,312,854 1,325,983 1,418,557 1,512,245 1,613,322

.13,629,578 55,188.3m .e+189.955 -18.oas.918 9,250,588 11,172,171 13,217,594 15,4Tl,580 17,971,221 43,848 241,154 482.W 570.m 570.m 528,154 328,848 87.892 I 584,322 3,213,772 8,427,546 7,594,189 7,598,189 7,011,867 4,382,417 1.188.e44 584,322 3,213.n~ 8,427,54~ 7,588,189 7,598,189 7,011,887 4.342.417 1,188,844

Net Opnbng C8.h Flow Wlbl CFLs) -13,045,254 61,972,533 -57,742,412 -10,1C8,730 18,846,859 18,184,058 17,8W,081 18,848,204 17,971,221 MINI-GRID -1.944.578 -1,520,154 -1,096,734 571,312 1,503,230 1,713,230 1,733,230 1,733,230 1,733,230 GRID + MINI GRID -14,989,632 53,492,889 58,838,148 -11,081,042 18,150,089 19,917,288 19,333 311 18,378,434 18,704,451

ERR on Qr!d Project -without CFL 13.9% ffi.380.013 ElRR on Mlnl-Qrid Project 19.4% 8,772,741 ERR on Qrld Project -wUh CFL 11.7% 11O,ffi3,340 ERR on QRlD and MINI QRlD Project - wiih CfL IRR .34 yean 16.9% 116,858,088 NPV CFLs IEEPCO (U6Sll lCounWMd.1 NWof 24 873.327 7 US$ pr1srQ

108 Fiscal Year 2008 2009 2010 201 1 2012 2013 2014 2015 2016

eQ€&w& 2017 -02 220% 0 0% 20 0% 0.0% 15 0% 0.0% 0.0% 0 0% 0 0% 0 I hdjusted coemuenf 0 9560 0 0560 0 9178 09178 0 8902 0 8902 0.8902 0 8902 0 8902 08 -01 220% 0 0% 20.0% 0.0% 15.0% 0.0% 0.0% 0 0% 0 0% 0 - Demand Adjusted Coemuenf 0 9780 0 9780 0 9584 0 9584 0 9441 0.9441 0.9441 0.9441 0.9441 09 0 0% 0 0% 10 0% 0.0% 0 0% 0 0% 0.0% 0 0% 0.0% 0 22 0% 0 0% 20 0% 0 0% 15.0% 0.0% 0 0% 0 0% 0.0% 0 -04 19% 0 0% 10.8% 0 0% 1.3% 0.0% 0 0% 0 0% 0.0% 0 - Demand Adiuated Coemuent 0 9925 0 9928 0.9495 0.9495 0.9446 0.9446 0 9446 0 9446 0 9446 09

cted Annual Population Grmh Rural TOW 4 9% 4 9% 4.9% 4.9% 4.9% 4 0% 4 0% 4 0% 4 IationlNumberof Households 1001303 213043 223482 234433 245920 257970 270611 281435 292693 304400 316 2009 2011 2012 2013 2014 2015 2016 2 0 SLOW 1%) 10 14 19 23 28 32 37 41 centage Metered (Residential)(Selected 6cenan0 = 1) 0 MEDIUM (31 20 24 29 33 38 42 47 51 1 HIGH (5 yre) 30 34 39 43 48 52 57 61 centage Indirect Customers (Residential) 10 20 20 20 20 20 20 20 centage Householdi Mth Eledncity 40 54 59 83 68 72 77 81

I Dlrect CustOmers (Matsled) 39438 94977 112512 131514 152108 172908 195128 218850 244157

11.1% 3956 2wg 2010 2011 2012 2013 2014 2015 2016 2017 .YIOY . 39438 94977 112512 131514 152108 172908 195128 218850 244157 MEDIUM 26292 94977 83581 101185 120271 139798 160694 183038 206913 SLOW 13148 94977 54649 70815 88435 106688 126280 147226 169668

mber of MeterW Household 33522 80749 95638 111787 129292 146972 165859 186022 207533 mbet Of Unmeterec Household 11174 46887 49184 51594 54122 56287 58539 60880 63315 a1 HouseholdsHlth Electricity 44696 127636 144820 163381 183414 203259 224398 246902 270849

ption psr Metered Household 26 27 27 28 29 29 30 31 32 0.216 0.216 0 216 0 240 0 240 0 243 0 243 0 243 0 243 0 243 0.030 0 030 0 030 0.033 0 033 0 033 0 033 0 033 0 033 0 033 otal Monthly Consumption(Wh) 884,562 2,136,092 2,482,316 2,976,114 3,512,653 4,095,608 4,740,721 5,453,692 6,240,705 nnual Revenues (Includes Fixed Tad%) -US$ 393,476 866,820 1,238,880 1,477,231 1,756,560 2,037,672 2,346,891 2,688,677 3,059,695

5127 12350 14627 17097 19774 22478 25367 28450 31740 138 1.63 1 63 1.96 196 2.25 2 25 2.25 2 25 2 25 2 25 8359 24161 28615 38465 44489 50572 57071 64009 71411 0 08 0 08 0.09 0 09 0 11 0.11 0 11 0 11 0.11 011 u8to-r mnsumption (kwhiyear) 176 168 26 183 184 190 192 198 204 210 216 223 509,930 1,239,632 1,511,916 1,792,622 2,135,113 2,499,405 2,904,659 3,354,856 3 854.335 578,205 1,684,060 2,043,728 2,780,023 3,295,255 3,839,404 4,441,517 5,107,024 5,841,833

789 1878 2250 2630 3042 3458 3903 4377 4883 174 2.06 205 2 47 2 47 2 84 2 84 284 2.84 2 84 2 84 1624 4639 5559 7472 8642 9824 11086 12434 13872 0.08 0 08 0 09 0.09 0 11 0 11 0 11 0 11 0 11 0 11 Iresidential customer consumption(kWhlyear) 222 217.12 224 223 227 227 231 235 239 243 247 a1 Monthly Consumption(Wh) 626,700 1,503,823 1,810,447 2.118,858 2,491,083 2,878,448 3,301,957 3,764,477 4,289,084 nual Revenues (US$) 606,821 1,746,907 2,102,783 2,830,028 3,325,478 3,840,647 4,403,530 5,017,890 5,687,764

a1 Annual Demand wlo CFLs (GWh) 24014 58555 89656 82651 97666 113682 131368 150876 172369 arly ConsumptionGrmh (wlo CFLs) 119% 119% 118% 116% 116% 115% 114% a1 Annual Demand Mth CFLS (GWh) 19693 34789 22125 28478 41493 61829 98960 142234 172369 useholds .Peroentrge of Consumption("0 CFLsJ 43% 44% 43% 43% 43% 43% 43% 43% 43% usehold8 .Percentage of Consumption(w CFLs) 31% 5% -80% -77% -34% 4% 25% 40% 43%

Total Annual Revenues for EEPCo corrected for collection rates . 8.u C,u R,LI R,vu~ R,* and exchange rate 1,481,200 4,126,697 5,053,238 5,650,407 7,880,898 9,118,699 10,502,041 12,021,856 13,889,975 86 8.89 Cash Oprating Costs (Per kWh) Variable (current hydro OLM costs). adjwlcd for IO&SSBS 0.030 0 030 0030 0030 0 030 0 030 0 030 0 030 0 030 Avg Energy Cost adjusted for 108888 0 016 0 016 0016 0016 0 016 0016 0 016 0016 0 016 Variable GenerationCosI (US centa!XWh) 0 048 0.046 0048 0046 0 046 0 046 0 046 0 046 0 046 Generation Cost Used for Analysis (USmnWWh) 0 048 0.046 0046 0046 0 046 0 046 0 046 0 046 0 046

Dred Total Opsratmg Costs 1110662 2708148 3221597 3822614 4517062 5257771 6075772 6978029 7972088

OLM (Commercial) 624624 624624 824624 624624 624624 824624 624624 824624 624624 OLM (TechnlcaIJ 624624 624624 624624 624624 624624 824824 824624 824624 824824 Major Overhauls 0 0 0 0 0 0 0 0 0

otal Cash Costs (Wnhout CFLq 2359910 3957397 4470845 5071862 5786310 6507019 7325021 8227277 9221337

109 FINANCLAL ANALYSIS It Project Year 1 2 3 4 5 8 7 8 9 10 FiscalYcar 2W8 2OW 2010 MI1 2012 2013 2014 2015 2018 2017

Expndltures on Customer Connections 0 0 0 0 0 0 0 Remvery [from custome~]on Expendnuin on Connediom 0 0 0 0 0 0 0 Net Expenditure6 on Connections 0 0 0 0 0 0 0 Operating Cash Flow (Without CFLe) -3,580,825 -11,990,217 -14,279,242 -3,825,686 2,094,587 2,611,680 3,177,020 3,794,579 4,466,636I Number of CFLs connected (&sums usable life = 5 yearn) 43,848 241,154 482,308 570,OMJ 570,000 528,154 326,846 67,692 0 otal EEPCo Net Investment In CFL (Included In ConneCtlon Cost] (Neutral, customer + GPOBA Financed) nnual Beneflt of CFLs to EEPCo (US$) 89,955 494,752 989,504 1,169,414 1,168,414 1,079,459 674.662 179,910 0 CFL cashnowto EEPCD 89,955 494,752 969,504 1,169,414 1,169,414 1,079,459 674.662 179,910 0

Net Operating Cash Flow (With CFLq -3,490,870 -11,495,465 -13,289,738 -2,658,272 3,284,001 3,891,139 3,651,682 3,974,468 4,468,636 MINI-GRIDS (Default arsumptlons) -1,744,425 -1,432,350 -1,120,275 -808.200 1,073,858 1,303,858 1,303,658 1,303,858 1,303,656 GRID + MINI GRID -5,235,295 -12,927,815 -14,410,013 -3,484,472 4,337,859 4,994,997 5,155,540 5,276,346 5,772,495

FRR on Grid Project - without CFL 10.0% 157,515 tFlRR on MInl-Orid Projecl 14.9% 4,135,452 FRR on Grid Project. with CFL 11.1% 3,955,910 FRR on GRID and MINI GRID Project - Wh CFL IRR. 36 ycan 12.1% 8,091,362 NPV CFL. [EEPCO (US$)) (Country wide) NPV of 3,798,395 7 US$ per lamp

Rata of Discount

29. In the base case, or the high electrification scenario, the grid component ofEAREP I1 is expected to provide a marginal, positive impact on EEPCo’s financial position, since it presents a positive NPV. The issue of tariff increases, however, remains central to EEPCo’s long-term financial standing. No tariff conditionality is included in this Project, but unless subsequent tariff increases take place from 2009 onwards, rural electrification under EAREP I and I1will create an additional burden on EEPCo’s financial position.

Mini-Grid Electrification - Economic and Financial Analysis

30. Mini-Grid electrification is typically a demand driven program. Applications are prepared by rural cooperatives or private developers and submitted to EREDPC for pre- screening, appraisals and subsequently financing. To date, EREDPCREES has received strong demand from cooperatives and developed a portfolio pipeline of $25million mini- hydro sub-projects and $8 million solar PV sub-projects for 2008 and 2009. FEES will appraise these sub-projects and only approve those that met evaluation criteria outlined in the Operational Manual. As the off-grid component adopts a framework approach, that is, the sub-projects will be selected based on the agreed-upon criteria during project implementation, an approximate fiamework will be used to carry on a financial and economic evaluation ofthe renewable based mini-grids.

3 1. The following assumptions were made in conducting economic and financial analysis ofthe mini-grid component:

0 Economic and financial analysis for the isolated grid sub-component is conducted over a lifetime of 15 years; 0 Analysis is conducted for a population of 40,000 customers and a total installed capacity of4,000 kW; 0 The economic analysis of mini-grids is based on the same assumptions on willingness- to-pay utilized in the grid-electrification analysis. 0 Mini-hydro systems (including generating systems and distribution networks) have a capital cost ofUS$2300/kW;

110 Distribution losses are assumed to be 5 percent. O&M costs are estimated at 3 percent ofcapital costs; Mini-hydro systems have an average load factor of40 percent; The network excludes electric meters; end users pay for service based on installed appliances; Bulbs and other accessories usually have a short life (2 months) and would be replaced at owner’s cost; Sales tax are 15 percent; Electricity sales are exempted from sales tax; The scheme would be administered by the executive agencies of the project through providing debt financing to Electric Cooperatives or project promoters; A bank acting as a Trust Agent would extend a loan to the Electric Cooperatives maximum of90 percent ofthe total cost ofthe system; The balance amount comes as the equity financing ofthe households collected as cash or sweet equity. In off-grid areas, consumers are charged at costs-recovery tariff. Under existing mini- hydro projects that have been approved by REES, a tariff of 12.5 cent/kWh is established by cooperatives, with a connection fee of $18.75 and a share fee of$12.5 per customer.

Off-grid systems are in most cases sized to meet the market needs of a particular region for a more limited number of years than grid-electrification. As a consequence, a grid- system is able to support market growth for many years ahead while mini-grids are generation constrained therefore able to meet market growth for a 3-4 year period. For the purpose ofthis analysis, it was assumed that after 3 years, the generation capacity would be fully utilized.

33. Given the way cooperatives get organized to meet their current customer needs, as well as the community engagement in implementing the project it is reasonable to assume a much higher market penetration pace than the one observed in grid-electrification. The analysis assumed a market penetration of 70 percent in the first year growing to 90 percent in the third and last year.

34. However, the financial analysis needs to be adjusted to the specific characteristics of mini-grids. There are no regulated tariffs as exogenous variables. A sustainable tariff level results from a cost-plus model, whereby all operational costs are recovered and generate a Financial Internal Rate or Return (FIRR) commensurate to the cost of capital faced by the cooperatives.

35. Table 27 summarizes the financial and economic performance of mini-grid electrification, used the assumptions stated above. Mini-grids present an ERR and a FIRR significantly above 1O%, which reflects customer’s high willingness-to-pay.

111 Table 28: Mini-Grid Economic and Financial Analysis

Economic Financial EIRR NPV (US$ 000) FIRR NPV (US$ 000) Mini-Grid Electrification 19.9% 6.773 14.9% 4.135

36. Those figures do not take into account the economic benefits ofthe solar systems for schools and clinics. A recent study carried out in Zambia suggests that the economic benefits ofsuch schemes may be 3 1 percent for rural health posts, 40 percent for rural health centers, and 11 percent for schools.

37. A detailed economic and financial analysis for the first five years is shown in Tables 28 and 29, as follows:

Table 29: Mini-Grids - Economic Analysis

Supply projection Market projections (# of customers) 10.000 10.000 10,000 10.000 1.000 Cummulative market projections (# of customers) 10,000 20.000 30.000 40.000 41.000 Capacity expansion projections (kW) 1.000 1.000 1.000 1.000 100 Cummulative installed capacity (kW) 1.000 2.000 3.000 4.000 4.100

Table 30: Mini-Grids - Financial Analysis

20.000 30.000 40.000 41 000

Grid and Mini-Grid Electrification - Combined Economic and Financial - Summary and Sensitivity Analyses

38. A summary of the investments costs considered for the economic and financial analyses is shown in Table 30.

112 Table 31: Summary of Investment Costs FINANCIAL ECONOMIC GRID ELECTRIFICATION ANALYSIS ANALYSIS Grand Total Investments (with contingencies, with taxes) 171,101,977 171,101,977 Capability Building (Grid, with taxes) 4,535,500 4,535,500

Taxes -9,622,397 Investment in customer connections (includes CFLs) 0 21,428,571 Asset Base (Excludes CFLs and Capability Building, w/ taxes) 166,566,477 166,566,477 187,443,652

FINANCIAL ECONOMIC OFF GRID AND MINI GRID ELECTRIFICATION ANALYSIS ANALYSIS Grand Total Investments (with contingencies, with taxes) 20,481,120 20,48 1,120

Capability Building (Grid, with taxes) 4,535,500 4,535,500 Taxes -1,238,233 Investment in customer connections (includes CFLs) 0 0 Asset Base (Excludes CFLs and Capability Building, w/ taxes) 15,945,620 15,945,620 Total Investment (Includes CFLs) 25,016,620 23,778,387

TOTAL EAREP II 200,654,097 21 1,222,039

39. The combined results of the electrification program, taking grid and mini-grid development into account is shown in Table 3 1. Both present a rate of return superior to 10 percent and therefore a positive Net Present Value under the base case scenario. The investments taken into account on grid-electrification represent the percentage financed by EEPCo, while all investments carried out by rural cooperatives are considered for analysis of mini-grid electrification. The combined Project presents an EIRR of 15.9 percent and a FRR of 12.1 percent. A sensitivity analysis ofthe higher and lower electrification scenarios is also presented.

113 Table 32: Combined Economic and Financial Sensitivity Analyses

Economic Financial EIRR (%) NPV (US$OOO) FRR or FIRR (%) NPV (US$OOO) Mini-grids 19.4 6,773 14.9 4,135 Grid Electrification 15.7 110,063 11.1 3,956 Mini-grid and Grid 15.9 116,836 12.1 8,091 I Electrification I

Economic Financial EIRR (%) NPV (US$OOO) FRR or FIRR (%) NPV (US$OOO) Mini-grids 19.4 6,773 14.9 4,135 Grid Electrification 13.2 65,035 8.7 -4,623 Mini-grid and Grid 13.5 7 1,808 9.9 -487 Electrification

40. For grid electrification, some of the key drivers of sustainability are shown in Table 32. Those were based on calculations carried out for EAREP I.Given the similarities between those two projects, the analysis is still valid for EAREP 11. Results are presented on a relative basis. For example, if there is a 10 percent reduction in the expected consumption of electricity, the economic NPV reduces to 73 percent of the base case. From an economic perspective, population growth (and as a result market growth) is the most important sensitivity factor. From a financial perspective, a continued increase in tariffs, followed by market growth, are the most important factors to assure sustainability.

Table 33: Sensitivity Analysis - Grid Electrification

(*) Cannot be determined

41. For mini grids, one of the major drivers for sustainability is the availability of energy (water) to meet market needs. In dry years, it is expected that the generation will decrease. The generation factor has a major impact on the economic and financial feasibility of those schemes.

42. EIRR is, as expected, very sensitive to the generation factor. The base case suggests a generation factor of 30 percent, resulting in an EIRR of 19 percent. Since micro and pico- hydro systems are sized for a series of very unfavorable hydrological scenarios, the results

114 seem to be robust even for very low generation factors representing unfavorable hydrological scenarios, as shown in Table 33.

Table 34: Sensitivity Analysis - EIRR versus Generation Factor I Generation Factor I EIRR I I 40.0% I 30.2% I 35.0% 24.7% 30.0% 49.4% 25.0% 14.2% 20.0% 8.8%

43. A similar analysis was carried out for the financial sustainability of the Project, confirming the results ofthe sensitivity obtained for the economic analysis, as shown in Table 34. Table 35: Sensitivitya Analysis - FIRR versus Tariffs Charged 35.0%

25.0% 10.5% 20.0% 5.8%

44. The base case includes a tariff of US 12.5 centskwh and a generation factor of 30 percent. At this tariff level, the financial rate of return is close to 15 percent, possibly higher than the cost of capital faced by the cooperatives (considering that 90 percent of the investments will be financed by the Project). Therefore, cooperatives may consider reducing tariffs to US 10-11 centskWh down the road. This will be a subject to be addressed by the Regulator, when defining some basic guidelines for tariff setting. Even with this possible reduction, tariffs charged to cooperative members are still higher than equivalent rates charged by EEPCo in the grid systems, since cooperatives have to recoup 100 percent of the investments. Results are shown in Table 34 and 35.

Table 36: Sensitivity Analysis - FIRR versus Tariffs Charged 1 Tariff (US cents/MWh) I FIRR (%) (*) 1 I 14.0 I 18.1 I I 13.0 I 16.0 I I 12.5 I 14.9 I 11.0 11.7 10.0 9.6 (*) Generation factor = 30%

115 Annex 9: Financial and Economic Analyses Ethiopia: Second Electricity Access Rural Expansion Project Appendix 1: EEPCo ’s Recent Performance and Present Financial Situation

1. EEPCo’s operating results have improved, but its financial situation is an issue of concern considering the GoE ambitious capital investment program for the power sector.

2. Electricity sales in FY06 were 2,363 GWh. They rose by 14.2 percent, versus 12.1 percent in the previous year and 10.4 percent in the year before.

3. The overall billing collection rate is estimated at around 96 percent vis-a-vis 97.4 percent in the last fiscal year. Total system losses, including auxiliary losses, have been relatively stable, and ranging from about 19-20%.

4. Effective July 8, 2006, electricity tariffs were increased by 22 percent across the board, except for the life-line tariff (consumption block up to 5OkWWmonth) which remained unchanged. The new weighted average tariff is estimated at 0.546BirrkWh (0.06US$/kWh).

5. Debt Restructuring. The GoE approved a debt restructuring plan in June 2006. This involved the conversion into equity of Birr 1.826 billion (US$205 million), rescheduling of arrears ofBirr 291 million (US$33 million) to be repaid over ten years starting May 2006, and extension of grace period by five years to 201 1 for various loans involving US$3 17 million (interest accruing during the extended grace period will be added to principal and repaid with principal). Following the debt restructuring, EEPCo’s balance sheet has been strengthened.

EEPCo ’s Investment Program

6. EEPCo’s investment program is very ambitious. It has embarked on an investment program involving: (a) 3,900MW of new hydro capacity by 2014 (of which, 1,600MW to 2010, and another 1,870 by 201 1; present installed hydro capacity is about 800MW); (b) extension of the transmission and distribution networks to evacuate the additional power to both the domestic market and to Djibouti, Sudan and Kenya; and (c) universal electricity access program involving 300,000 new customer connections in the current fiscal year and 350,000 annually thereafter. This plan can only come to fruition if: (i)EEPCo receives massive capital contributions from GoE, (ii)is authorized to increase tariffs, and (iii)obtains resources through long-term boirowing.

7. In the past three years to July 8,2006, EEPCo has invested US$890 million, ofwhich US$450 million was financed through borrowing, US$200 provided by Government, US$40 million from customer capital contributions and security deposits, and the balance of US$200 million (equivalent to 23 percent of total investments) was fhded from EEPCo’s internal resources. In other words, EEPCo was able to provide an average of US$67 million from its own resources towards investments each year.

116 8. Under the recently revised financial covenant of IDA’SEnergy Access credit, EEPCo is to ensure that it shall not incur any new investment or debt unless the company generates sufficient revenues to meet its operational expenses, working capital needs, debt service requirements, and investments that are to be funded from own revenues. This covenant was met in the last two years. However, it is unlikely that EEPCo will meet this covenant over the next few years as it will not be in a position to fulfill its financial commitments under the proposed investment plan.

9. EEPCo’s financing plan and investment proposals for four years to July 8, 20 10 are summarized in Tables 37 and 38.

Table 37: EEPCo Summary Investment Financing Plan - 2006/07-2009/10 (EFY 1999-2002)

Source: EEPCo and World Bank analysis

Table 38: EEPCo Summary Investment Plan -2006/07-2009/10 (EFY1999-2002)

Generation Tekeze I 3.4% Gilgel Gibe I1 2,303 5.3% Beles 4,792 540 11.0% Gilgel Gibe I11 9,515 1,073 21.8% Halele Warabesa 1,563 176 3.6% All other Total Generation Transmission Alamata - Combolcha - Cotobie - Kaliti TL Gelgel Gibe I1 TL G. Gibe Ill - W. Soddo - Kality - 2x400 KV G. Gibe 111 -Kenya 400 KV 1,270 Ethiopia-Djibouti & Sudan Inter-connections 623 Ethio Kenya Regional Interconnection 1,221 All other 681 Total Transmission Distribution Addis and regional distribution - total 1,817 205 4.2% Universal Electricity Access Program (UEAP) External & EEPCo funded 4,832 Government funded 8,700 Total UEAP Capacity Strengthening Plant & machinery, v;hicles, New HQ, etc Investment slippages 05/06 to 06/07 (EEPCo funding) 800 1.8%

Total Investment Plan 43,707 4,928 100.0% of which, Committed 29,970 3,379 68.6% Uncommitted 13,737 1,549 31.4% of which, Ongoing 22,595 2,548 51.7% Ongoinglplanned 6,997 789 16.0% I Proposed 14,115 1,591 32.3%1 Source: EEPCo and World Bank analysis

117 10. The above plan indicates investments of Birr 43.7 billion (US$4.9 billion) over four years starting July 2006, representing an annual average of Birr 10.9 billion (US$1.2 billion). Approximately 70% of the projects are committed. EEPCo’s proposed investment financing plan contemplates external financing through long-term borrowing, GoE contributions (towards UEAP) and customer contributions and deposits, providing 72% of total investment requirements. EEPCo is expected to contribute with the remaining 27% from its internal cash generation. EEPCo’s contribution amounts to Birr 12 billion (US$1.3 billion) over four years or Birr 3 billion (US$338 million) on average each year.

11. EEPCo has raised CBE bonds of Birr 2.8 billion (US$315 million) to date, and expects to raise a further Birr 2 billion in the current fiscal year and Birr1 billion in 2007/08. Foreign borrowing of Birr 11.4 billion (US$1.3 billion) has not yet been secured; this represents 26% of total investments or 63% of total projected foreign borrowing. It is not clear how the utility will be able to attract the level of support needed to undertake such an ambitious investment program, which will likely have to be revisited in the future, given the financial binding constraints.

12. The projected yearly cash flows and financing gaps over four years to July 8,2010 are summarized in Table 39.

Funds required for investments from ow resources Yearly finnacing gap (cash shortfalls)

I Electncity sales. Ethiopia (GWh) 2,503 3,134 4,437 5,433 15,506 2,503 3,134 4,437 5,433 15,506 I Present weighted av electricity revenue Yearly financing gapEthiopia electncity sales 0572 0249 0611 0065 0030 0070 Yearly financing gap as % of present av. electricity revenue

13. Net cash inflows from operating activities over four years are forecast at US$546 million. After meeting debt service obligations of US$282 million, the financial forecasts indicate that only US$264 will be available from internal cash generation for investments. As per EEPCo’s financing plan for investments, US$1,351 million is to be provided from EEPCo’s internal resources. This implies a financing gap or cash shortfall of US$1,087 million. Present electricity tariffs would need to increase from 0.061US$/kWh to 0.131US$/kWh to close the financing gap. In view of the Government’s commitment to accelerated electricity expansion, and given political constraints, such tariff increases are not feasible.

118 14. GoE has clearly stated its intention to provide funds to the power sector. In the most recent version of PASDEP (Plan for Accelerated and Sustainable Development to End Poverty), the amount of resources budgeted for the power sector was about US$1 billion per year, as show in Table 40.

Table 40: GoE Investment Support to EEPCo

~~ ~~ GoE Investment Support to EEPCo Year Birr (MM) US$ (MM)

2006 8.614 990 2007 11.013 1.266 2008 9.091 1.045 2009 10.219 1.175 2010 6.690 769 2006-10 45.627 5.245 Source: PASDEP

15. This information is a summary of a GoE macro-level for the next 5 years, where electrification is supposed to play a pivotal role. The indicators ofthis plan, including increase in access, number ofcustomers, electrified towns, and others are described in Table 41, which is an excerpt ofthe original document.

Table 41: PASDEP Energy Expected Outcomes JX SECTORrTBEME: EXERGI' ThemefGoal(s): Supprting acctterated economic grolpth and sori0 economic transformation by expanding rlrctricitj- generation. mi~sntissbnaod dstnintioa m the rountrv planwd Targets Fwmlllrh dIadintors 8 Wratan should be. 2wMJ I) hhsnrnble 011 an lDDllpI his, IW'06 10MW ZoWlOll MoSiDp 200910 5 Bwv~r

Source: PASDEP

16. Despite the strong GoE support, there are still concerns about EEPCo's investment plan sustainability. The financing requirements are too large for EEPCo to undertake. It is unlikely that the utility will be able to raise the necessary external financing and be authorized to implement the needed large increases in electricity tariffs

119 17. An affordable investment program together with a realistic financing plan should be agreed upon between the GoE and EEPCo. The following issues are put forward for further discussion:

All uncommitted projects should be deferred, unless they are necessary for the upkeep of the existing network and necessary expansion.

Construction of the Gilgel Gibe 111 hydro plant and associated transmission should be phased in over a longer time frame. This particular project accounts for over 26% of the proposed investments over our years to 2009AO. EEPCo has not yet secured any facility for the funding of foreign expenditures for the project, and it is not clear how EEPCo proposes to close the project financing gap. Contract advances were funded through CBE bonds.

Contractual commitments should not be entered into unless there is necessary financing in place. EEPCo should aim to finance a larger proportion through external resources so that its own contribution to investments is of the order of 15% to 20%. EEPCo’s debtlequity ratio is forecast to reach about 70% by July 2010, up fiom 37% as at July 7,2006. Given the intensive capital expansion program, EEPCo could be allowed to reach a ceiling of around 80% debtlequity ratio.

A realistic tariff plan involving gradual increases in tariffs should be agreed upon, with appropriate protection of the life-line block (for consumption up to 5OkWhlmonth).

The Government may consider providing additional support to the power sector by re- channeling EEPCo’s debt service payments on on-lent Government loans back to EEPCo.

120 Annex 9: Financial and Economic Analyses

Ethiopia: Second Electricity Access Rural Expansion Project

Appendix 2: The GPOBA Connection Program

1. The US$10 million OBA grant is designed to provide EEPCo the necessary working capital to finance the cost of connection to poor household customers. EEPCo is eligible to the OBA subsidy when the connection takes place in tandem with a 5 year subsidized loan.

2. The average subsidy being proposed should be US$35 per connection. It is based on the capital costs that EEPCo has to incur to provide the customers 5-year, interest free financing for their US$75 connection charge. Assuming a 17 percent interest rate, the cost of working capital for EEPCo is equivalent to US$28.8 per household. If two energy efficient lamps (CFLs) are to be given to the customer upon connection as part ofthe package, the total subsidy is US$34.8 per household, as shown in the following chart.

Table 36: Subsidy Calculation 5 Year loan - 17% Interest Rate (US%per Household) Sum Year0 Year1 Year2 Year3 Year4 Year5 Payments 75.0 15.0 12.0 12.0 12.0 12.0 12.0 Debt 60.0 48.0 36.0 24.0 12.0 Accumulated interest payments 28.8 9.6 7.7 5.8 3.8 1.9

Total payment per year 103.8 15.0 21.6 19.7 17.8 15.8 13.9 CFL 6.0 Required Subsidy 34.8

3. It is expected that the GPOBA contribution would enable the connectiodregularization of 286,000 households over a three year timeframe, representing a population of about 1,340,000 inhabitants. The utility will be eligible to OBA funds it having the utility providing 5-year interest-free loans for those customers who can afford neither the upfront payment for a direct connection (average of US$75 per household) nor the financing costs (US$28.8 over 5 years in total). Outputs are the number of connections made for which a 5 year loan has been provided and for which 3 month of successful billing have been proven.

4. The OBA scheme should accelerate the pace of regular connections among poor households in rural areas. Experience shows that typically, right after a rural village is electrified, a minor fraction of residential customers request immediate connection. A part of residential customers try to bypass the charge by connecting through their neighbors. Others may not have electricity at all, despite all the investment upstream made by the concessionaire. Including GPOBA-supported program it is expected that the connection pace will increase. OBA intervention should increase connections by 20 percentage points over the total (current and future) base ofcustomers.

121 5. Targeting will be geographical, given that poverty is widespread in rural Ethiopia. Target population includes residential users in rural towns and villages requesting a metered connection in tandem with a five year loan from EEPCo. Most ofthe population in those areas is very poor. The minority of households who can pay the connection fee upfront tend to do so, under the expectation of having a faster service. The ones who need and will apply for the 5 year loan are the poorest of the poor. Therefore, minimum subsidy leakage is expected. To further minimize the probability of leakage, EEPCo may establish some procedures to give priority to connect those customers who pay the full connection cost upfront.

6. Customers in rural areas were surveyed and classified into three groups as far as their estimated consumption is concerned. The first group would present an average monthly consumption of 9kWh, the second 15 kWh and the last, of 22 kWh per month. Based on a current tariff of 50 cents plus 3 cents per kWh up to a usage of 50 kWh their monthly electricity bill would be 80 cents, 95 cents and US$ 1.20 respectively. Those figures are lower than the customer’s ability to pay, shown in Graph XX.

Graph 1: Rural Household Customers Ability to Pay

I I

Abilzly to Pay (ElbMonth) Source: Off-Grid Master Plan. Ethiopia. 2006

7. The average ability to pay of the overall population is 49 Birr or US$5.7 per month, based on their actual expenditures on kerosene, candles and batteries. This means that even poorer strata of the population are expected to be able to pay fees for basic consumption (even though they might not be able to pay the connection fee). The provision of CFLs will cut the electricity costs for lighting by about 75 percent, therefore contributing to further reduce customer’s expenditures on energy and the long term sustainability of the Project. Empirical evidence has shown that OBA target population would use electricity primarily for lighting at the outset.

Economics of OBA Intervention

8. The EIRR for the Project is 26 percent or 30 percent if CFLs are provided as part of the connection package. The total Net Present Value of the intervention is US$12 million or US$15 million if CFLs are provided. Major assumptions follow:

122 0 Monthly consumption per household of 15kWh Marginal cost ofsupply = US$46/MWh 0 Fixed cost to maintain connection - US$3.6 per year 0 Willingness-to-pay = US$160/MWh 0 Time horizon = 10 years, and 5 years for CFLs (assuming no replacement) 0 Investment costs = Single connection = US$75,2 CFLs = US$6 Connections executed over a three year horizon.

9. Given the willingness-to-pay for those basic electricity services, the net economic benefit to each new poor customer connected are estimated to be US$21 per year, or US$26 if CFLs are considered. It is assumed that this benefit will be similar for new or regularized customers, given the high prices and sub-standard quality of services offered to indirect connections. Efficient lamps generate an annual benefit to the customer (US$4 per household) and to the power sector (US$2 per household), due to the fact that the lifeline tariff does not recover costs.

123 Annex 10: Safeguard Policy Issues Ethiopia - Second Electricity Access Rural Expansion Project

Anticipated Environmental and Social Impacts

1. Potential negative environmental impacts of Project implementation are likely to include: soil erosion, disturbance or loss of vegetation, air, water and soil pollution and noise and dust during construction work; there will also be an impact upon air quality from the power plants, particularly diesel generation. These are expected to be limited in extent and of short duration and readily mitigated by known environmental protection measures. Potential adverse social impacts are associated with land acquisition (for electric poles, substation expansion and hydro facilities) for which compensation will be provided. No resettlement is expected. HIV/AIDS risks are recognized and will be addressed through the preparation of a prevention strategy.

Environmental and Social Management Framework (ESMF) and Resettlement Policy Framework (RPF)

2. An Environmental and Social Management Framework (ESMF) and a Resettlement Policy Framework (RPF) were prepared by EEPCo and EREDPC approved by ASPEN and the same were disclosed in Ethiopia and at the InfoShop on February 16, 2007. In keeping with good practice established under the Energy I1 Project, transmission line alignments, the substation and plant locations will be designed to control/avoid adverse environmental and social impacts. The right ofway requirements will be reduced in town sections where adverse social impacts are presumed to be severe.

3. To address HIV/AIDS risks, social protection clauses will be included in the contract documents and implementation of these clauses and safeguards measures will be monitored by EEPCo and ERDPC. In parallel, HIV/AIDS risks will be addressed through the preparation of an operational HIV/AIDS prevention strategy for work places and host communities.

4. Mitigation measures to address adverse environmental and social impacts will be incorporated into the credit agreement and into contract documents. Costs for covering mitigation measures will be included in the bills of quantity and otherwise funded by EEPCo’s and EREDPC’s contribution to the Project.

Assessment of Capacity and Commitment of Client to Address Safeguard Issues

5. As part of the Energy I1 Project’s Environmental Assessment (EA) recommendations, an Environmental Monitoring Unit (EMU) was established in EEPCo. At the outset, the Unit consisted of three local consultants and was assigned only the monitoring of the social and environmental issues of the Gilgel Gibe hydropower project operations being constructed under the Energy I1 Project. The experience of Gilgel Gibe resulted in EEPCo management making the EMU a permanent unit within EEPCo, with the mandate to manage social and environmental issues of all EEPCo operations. Furthermore, the Unit has prepared an HIV/AIDS strategy for the sector, funded by the Bank through the Multi Country HIV/AIDS

124 program (MAP). The analyses carried out in the ESMF and RPF for EAREP I1 confirmed that EEPCo has adequate institutional capacity to address possible adverse environmental and social impacts to be induced by the grid electrification component. EEPCo has a fully functional Environmental Monitoring Unit (EMU) with seven staff which includes environment specialists and social scientists. EREDPC is in the process of acquiring environmental and social capacity to be positioned within the REES. Part of the existing capacity results from a joint work with the Ministry of Water and the Ethiopian Environmental Authority (EPA).

6. The EEPCO Environmental Unit is headed by a Coordinator, likewise environmental specialist, one biologistlforester and four social scientists. The Unit is responsible for monitoring the application and implementation of environmental and social safeguards for all grid-extension projects and EREDPC for mini-grid and off-grid projects. Under the Project, EEPCo's EMU will continue to report to Corporate Planning and the General Manager; EREDPC will use its to-be-appointed Environment Specialist (ES) to be positioned in the Rural Energy Services (REES). Clear TORS are stipulated for the functions of EEPCo and are being completed for EREDPC. Project Officers and the EMU are responsible for the preparation and implementation of EIAs, EMPs and RAPSand conduct selected site visits to check on the implementation oftechnical specifications, environmental and social clauses and help resolve issues.

7. The Universal Electrification Program (UEAP) under a Deputy General Manager of EEPCo has an Environment Section to monitor day to day operations at the field level. Regional Energy and Mining Bureaus are expected to apply their environmental training in project initiation where safeguards may play a deciding role in site selection and in the choice of appropriate technology. REES will be responsible for environmental screening and the implementation ofEIA recommendations. For both EEPCo and EREDPC, the implementation of environmental protection clauses by contractors is to follow current practice and be monitored by site engineers overseen by the relevant environmental staff. Provisions are in place for consultation with Local Committees and Regional Bureaus and other stakeholders; the Federal Environmental Protection Authority (EPA) oversees all environmental and social safeguards activities related to the project, contractors and site engineers having to report to EEPCo/ EPA for commentshecommendations before clearance by the investments office.

8. Both EEPCo and EREDPC are to develop a WorWAction Program specifying the short and long term aims, work areas (including policy), staffing and budget. Those organizations should work together to exchange knowledge and experience in areas of common interest.

9. The Project will also strengthen the analytical and management capacity of the EMU and the ES through hands on training. Supervision of project operations will include a social scientists and environment specialists. Project progress reports shall include environmental and social development outcomes and the EMU and ES will produce progress reports on environmental and social performance which will be integrated into the overall Project monitoring system. Electricity and Poverty Observatories (EPOs) focusing on the social impacts of the Project (through indicators) will be established for a sample of towns from the start ofProject operations until completion.

125 Annex 11: Project Preparation and Supervision Ethiopia Second Electricity Access Rural Expansion Project

Planned Actual PCN review October 10,2006 October 10,2006 Initial PID to PIC December 12,2006 December 12,2006 Initial ISDS to PIC December 12,2006 December 12,2006 Pre-Appraisal or Appraisal January 3 1, 2007 February 19,2007 Negotiations April 10,2007 April 23,2007 BoardRVP approval July 3,2007 Planned date of effectiveness November 2007 Planned date of mid-term supervision October 2008 and October 20 10 Planned closing date December 200 11

Key institutions responsible for preparation of the Project: EEPCo, and its UEAP Office as well as EREDPC and its REES Office.

Bank staff and consultants who worked on the Project included:

Name Title Unit Luiz Maurer Task Team Leader AFTEG Philippe Benoit Lead Specialist AFTEG Samuel O’Brien-Kumi Senior Energy Economist AFTEG Xiaodong Wong Energy Specialist AFTEG Chrisantha Ratnayake Power Engineer and Proc. Specialist Consultant Melissa Williams Operations Officer ARD Yusuf Haii Ali Consultant ET Countrv Office Jonathan Exel Energy Specialist Consultant Nina Chee Sr. Environment Specialist AFTS 1 Antoine Lema Social Impacts Specialist Consultant Colin Rees Environmental Specialist Consultant Gulam Dhalla Financial Specialist Consultant Rajat Narula Finance Officer LOAG2 Jonathan Pavluk Countrv Lawver LEGAF Eshetu Yimer Financial Management Consultant Arianna Legovini Senior Economist AFRQK Janine Speakman Operations Analyst AFTEG Dawi t Y ohanne s Language Program Assistant AFTEG Tesfaalem Gebreiyesus Senior Procurement Specialist AFTPC Yeshi Gizaw Program Assistant ET Country Office Ani1 Cabraal Peer Reviewer EWDEN Dana Rvsankova Peer Reviewer AFTEG

126 Bank funds expended to date on Project preparation: 1. Bank resources: US$150,000 2. Trust funds: US$ 0 3. Total: US$150,000

Estimated Approval and Supervision costs: US$340,000 1. Remaining costs to approval: US$5,000 2. Estimated annual supervision cost: us$90,000

127 Annex 12: Documents in the Project File Ethiopia Second Electricity Access Rural Expansion Project

1. “UEAP Assessment on How to Use the World Bank Financing for the UEAP Program”, UEAP, EEPCo, October 12,2005.

2. “UEAP: Consultants Report - Versions 1 and 11”, UEAP, EEPCo, 2005

3. “Project Feasibility Study”, EEPCo, January 2006

4. “Power Sector Master Plan Study”, ACRES, 1994, updated 2003.

5. “Consulting Services for the Review of the Ethiopian Power System Expansion Master Plan Update”, PB Power, August 2005.

6. “Environmental and Social Management Framework”, GoE, February 2006.

7. “Resettlement Policy Framework”, GoE, February 2006.

8. “Electricity Tariff Study”, Scott Wilson Piesold and Power Planning, November 2005.

9. “Measuring Willingness-to-pay for Electricity”, Asian Development Bank, July 2002.

10. “Energy Modules for Multi-topic Household Surveys: Guidelines for LSMS Survey Designers”, Kyran O’Sullivan and Douglas F. Barnes, ESMAP Report NO. YY05, December 2005.

11. “Reducing the Cost of Grid Extension for Rural Electrification”, ESMAP Report 227/00, February 2000.

12. “Ethiopia Well-Being and Poverty in Ethiopia, The Role of Agriculture and Agency”, World Bank Report No. 29468-ET, July 18,2005.

13. “Universal Electrification Access Program (UEAP)”, Powerpoint presentation by EEPCo, October 17,2005.

14. ”Preparation of Grid-based Rural Electrification - Final Report”, EEPCo, June 2002.

15. “Feasibility Study for Electrification ofRural TownsNillages to be Supplied from the Proposed 19 Substations”, EEPCo, February 2006.

16. “Trip Report - DSM Study Tour to Vietnam, Thailand and Malaysia for Lao PDR Officials, Danish Energy Management, November 2004.

128 17. “Promoting Energy-efficient Products: GEF Experience and Lessons for Market Transfonnation in Developing Countries”, Enerm Policv 33, Birner and Martinot, 2005.

18. “The Potential of Efficient Lighting Programme in Ethiopia”, Bekele Bayissa, Ethiopian Network for Sustainable Energy Development, Addis Ababa, Ethiopia, May 2005.

19. “Compact Fluorescent Lamps (CFLs) - A Utility Perspective on DSM in India” Powerpoint presentation, D. Narasimha Rao, Indian Institute of Management, Bangalore, August 6,2005.

20. “Energy-efficient Lighting Programs: Experience and Lessons from Eight Countries”, Enerw Policv 26, Martinot and Borg, 1998.

21. “Draft Feasibility Study Report - Ethiopia-Sudan Power Systems Interconnection Project“, Hifab Oy, Sogreah Consultants and Fingrid, April 2005.

22. “Promoting Efficient Electric Lighting in Developing Countries”, Powerpoint presentation, Ashok Gadgil, Lawrence Berkeley National Laboratory, November 22, 2004.

23. “Summary Report of Market Assessment Survey (from 14/12/97 to 25/1/98EFY)”, , table prepared by EEPCo.

24. “Customer Growth of Sample Towns since their Electrification Year by Tariff Category (covering DFY 1992 -1997)”, table prepared by EEPCo.

33. “Market Penetration of Sample Towns Since their Electrification Year (covering EFY 1992 - 1997)”, table prepared by EEPCo.

34. Lighting Africa. Catalyzing Markets for Modern Lighting. IFC and The World Bank. Washington. DC. 2007.

129 Annex 13: Statement of Loans and Credits Ethiopia Electricity Access Rural Expansion Project I1

Difference between expected and actual Original Amount in US$ Millions disbursements Project ID FY Purpose IBRD IDA SF GEF Cancel. Undisb. Orig. Frm. Rev’d PO87707 2005 ET-Productive Safety Nets APLl 0.00 14.30 0.00 0.00 0.00 24.18 -13.17 0.00 (FY05) PO82998 2005 ET-Road Sec Dev Prgm Ph 2 Sup1 2 0.00 160.90 0.00 0.00 0.00 155.47 6.23 0.00 (FY05) PO78692 2005 ET-Post Secondary Education SIL 0.00 40.00 0.00 0.00 0.00 36.53 4.00 0.00 (FY05) PO78458 2005 ET-ICT Assisted Dev SIM (FY05) 0.00 25.00 0.00 0.00 0.00 23.05 2.00 0.00 PO50272 2005 ET-Priv Sec Dev CB (FY05) 0.00 19.00 0.00 0.00 0.00 21.76 -1.13 0.00 PO74020 2004 ET-Pub Sec Cap Bldg Prj (FY04) 0.00 100.00 0.00 0.00 0.00 87.60 4.36 0.00 PO76735 2004 ET-Water Sply & Sanitation SIL 0.00 75.00 0.00 0.00 0.00 93.34 4.48 0.00 (FY04) PO75915 2003 ET-Pastoral Community Dev APL 0.00 0.00 0.00 0.00 0.00 20.37 -3.12 0.00 (FY03) PO50938 2003 ET-Dec Sew Del CB (FY03) 0.00 26.20 0.00 0.00 0.00 24.89 20.91 0.00 PO49395 2003 ET-Energy Access SIL (FY03) 0.00 132.70 0.00 0.00 0.00 143.38 89.88 0.00 PO44613 2003 ET-RSDP APLl (FY03) 0.00 0.00 0.00 0.00 0.00 113.76 20.10 0.00 PO81773 2003 ET-Emerg Drought Recovery ERL 0.00 0.00 0.00 0.00 0.00 8.21 3.82 0.00 (FY03) PO50383 2002 ET-Food Security SIL (FY02) 0.00 85.00 0.00 0.00 0.00 74.02 2.23 0.00 PO57770 2002 ET-Cultural Heritage LIL (FY02) 0.00 5.00 0.00 0.00 0.00 4.66 2.56 0.00 PO73196 2001 ET-Demob & Reinteg ERL (FYOl) 0.00 170.60 0.00 0.00 0.00 31.70 25.26 0.00 PO69886 2001 ET-MAP (FYOI) 0.00 59.70 0.00 0.00 0.00 8.75 4.38 0.00 PO69083 2001 ET-Global Distance Learning (FYO1) 0.00 4.90 0.00 0.00 3.14 0.72 4.34 0.39 PO67084 2001 ET-Ermerg Recov & Rehab ERL 0.00 230.00 0.00 0.00 0.00 50.95 31.93 -13.81 (FYOl) PO52315 2001 ET-Medicinal Plant Conserv LIL 0.00 2.60 0.00 0.00 1.05 0.22 0.94 0.00 (FYO1) PO50342 2001 ET-Women Dev Initiatives LIL (FYOl) 0.00 5.00 0.00 0.00 0.00 0.95 0.46 0.07 PO35147 2001 ET-GEF Med Plants Cnsv & Sust Use 0.00 0.00 0.00 1.80 1.oo 0.39 1.70 0.00 (FYO1) PO00756 1999 ET-Health Sec Dev (FY99) 0.00 100.00 0.00 0.00 0.00 14.02 11.81 0.00 PO00736 1998 ET-Energy 2 (FY98) 0.00 200.00 0.00 0.00 0.00 10.53 14.23 0.00 PO00733 1998 ET-Agr Research &Training SIL 0.00 60.00 0.00 0.00 0.00 6.94 5.80 0.00

iFY98)\, Total: ,0000 2.001, ,0000 81, 24, 000 2.183, 1.318, 114, 000 000 000 000 000

130 ETHIOPIA STATEMENT OF IFC’s Held and Disbursed Portfolio In Millions of US Dollars

Committed Disbursed IFC IFC FY Approval Company Loan Equity Quasi Partic. Loan Equity Quasi Partic.

Total portfolio: ,O 000 ,o 000 ,o 000 ,o 000 ,o 000 ,o 000 ,o 000 ,o 000

Approvals Pending Commitment FY Approval Company Loan Equity Quasi Partic.

Total pending commitment: ,O 000 ,o 000 ,o 000 ,o 000

131 Annex 14: Country at a Glance Ethiopia Second Electricity Access Rural Expansion Project Sub. POVERTY and SOCIAL Saharan Low. Ethlopla Africa Income Development dlamond' 2004 Population, mid-year (millions) 70.0 719 2,336 GNI per capita (Atlas method, US$) 10 600 50 Life expectancy GNI (Atlas method, US$ billions) 7.6 432 1.184 Average annual growth, 1988-04 ~ T Population (%j 2.2 2.2 16 Labor force 1%) 2.0 10 2.1 Gross primary Most recent estimate (latest year available, 1998-04) capita enrollment Poverty (%of population belownational po verty line) 44 Urban population (%of to talpopuiation) 18 37 31 Life expectancyat birth (years) 42 46 56 Infant mortality(per /0001ive births) 1P 01 79 Child malnutrition (%of children under5) 47 44 Access to improved water source Access lo an improvedwatersource(%ofpopulation) ?I?+ 22 56 75 Literacy(%ofpopulation age ?3g 42 65 61 Gross primary enro llment (%of scho 01-age population) 66 95 94 -Ethiopia Male 76 02 01 Lowincome group Female 55 86 88

KEY ECONOMIC RATIOS and LONG-TERM TRENDS 1984 1994 2003 2004 Economlc ratios' GDP (US$ billions) 5.7 4.9 6.5 6 .O Gross capital formatlon/GDP 18.3 15.2 210 21.2 Exports of goods and services/GDP 0.7 0.0 l7.6 8.7 Trade Gross domestic savingslGDP 7.5 5.4 2.4 0.3 T Gross national savingsiGDP 9.7 14.2 18.1 0.4

Current account balance/GDP -6.6 -2.3 -6.2 -7.7 Domestic Capital Interest paymentslGDP 0.6 0.9 0.7 0.5 savings formation Total debt/GDP 73.7 205.4 m.3 Total debt servicelexports 20.4 19.6 6.3 7.5 Present value of debt/GDP 60.8 Present value of debt/exports 330.4 Indebtedness 1984-94 1994-04 2003 2004 2004-08 (average annualgrorulh) -Ethiopia GDP e 1.2 4.6 -3.9 u.1 GDP oercaoita -1.6 2.1 -5.6 0.9 e

STRUCTURE of the ECONOMY 1984 1994 2003 2004 Growth of capital and GDP (%) (% of GDP) Agriculture 46.6 55.1 43.0 46.9 30 T I Industry 14.2 9.6 0.2 9.5 Manufacturing 8.7 Services 37.0 35.1 46.6 43.6 Household final consumption expenditure 76.3 82.2 76.1 62.7 39 "bb 01 02 3 General gov't final consumption expenditure 18.2 a.5 19.6 l7.l imports of goods and services 19.5 19.6 36.1 39.6 -GCF -GDP

1984.94 1994-04 2003 2004 IGrowth of exports and Imports (%) (average annual gro Mh) Agriculture 2.7 18 -2.6 8.9 40 industry -3.5 4.5 4.3 7.1 30 Manufacturing -4.2 4.0 2.9 6.7 20 Services 1.6 7.0 2.4 6.5 10 Household final consumption expenditure 2.3 2.7 -4.1 19.2 0 General gov't final consumption expenditure -3.1 a.2 -6.2 -2.0 - 10 Gross capital formation -1.3 7.1 2.4 22.1 I -Exports -O-.lmpOrtS I Imports of goods and services -0.1 9.8 0.0 34.8

132 Ethiovia

PRICES and GOVERNM ENT FINANCE 1984 1994 2003 2004 lnflatlon (K) Domestic prlces (%change) 20 T I Consumer prices -0.2 12 15.1 8.8 Implicit GDP deflator -3.3 2.6 as 9.5 Government finance (%of GDP, includes current grants) Current revenue 202 l7 .O 26.0 24.5 Current budget balance 1.3 14 18 7.1 -GDPdeflator -CPI Overall sumlusldeficit -6.5 -8.1 -a7 -5.2

TRADE 1984 1994 2003 2004 Export and Import levels (US$ mlll.) (US$ millions) Total exports (fob) 446 280 483 601 3,000 T Coffee 265 158 le5 224 2,500 Pulses and oilseeds 23 a 86 lx) 2,000 Manufactures 69 52 72 82 Total imports (cif) 1,026 915 1,940 2,587 1,500 Food a6 “26 316 269 1,000 Fuel and energy 83 222 288 3x) 500 Capital goods 449 257 616 920 0 Export price index(2000=WO) 07 1x) 81 83 Import price index(2000=WO) 89 81 x)4 117 Terms of trade (2000-WO) 153 736 78 71

BALANCE of PAYMENTS 1984 1994 2003 2004 :urrent account balance to GDP (K) (US$ millions) Exports of goods and services 6a 556 109 1,499 Imports of goods and services 1113 Ix)O 2,431 3,Vl Resource balance -504 -545 -1291 -1,673 Net income -9 -79 -66 -64 Net current transfers 147 5a 955 1,116 Current account balance -377 - la -402 -620 Financing items (net) 334 327 864 1,024 Changes in net reserves 42 -214 -262 -405 Memo: Reserves including gold (US$ millions) x)9 469 931 1,350 Conversion rate (DEC. locaVUS8) 2.1 5.8 8.6 8.6

EXTERNAL DEBT and RESOURCE FLOWS 1984 1994 2003 2004 :omposition of 2003 debt (US$ mill.) (US$ millions) Total debt outstanding and disbursed 4,220 x),063 7,287 IBRD 44 4 0 F:72 G:07 IDA 379 1,373 3,179 Total debt service 730 1P 99 lU IBRD 8 4 0 0 IDA 5 19 26 27 Composition of net resource flows Official grants 205 638 0 Official creditors 509 201 206 242 Private creditors ll7 -33 -73 Foreign direct investment (net inflows) 5 l7 0 Portfolio equity (net inflows) 0 0 0 World Bank program Commitments 169 75 28 , - i8RD E- Bilateral Disbursements 41 150 204 , - IDA D .other rultilateral F. Private Principal repayments 7 U 9 9 :-IMF G- Sbrt-term

133

MAP SECTION

40°E 42°E UNDER TRANSMISSION LINES: EXISTING PLANNED CONSTRUCTION ETHIOPIA R 400 kV ELECTRICITY ACCESS RURAL ERITREA e 230 kV d REP. EXPANSION PROJECT, PHASE 2 132 kV

S OF 66 kV HumeraHumera AxumAxum AdigratAdigrat e YEMEN 45 kV

14°N a 14°N UNDER UNDER GENERATION RESOURCES: EXISTING COMMITED CONSTRUCTION STUDY MekeleMekele HYDRO ELECTRIC POWER PLANTS SMALL HYDRO POWER PLANTS GonderGonder Lake PROJECT AREAS Tana GEOTHERMAL POWER SELECTED CITIES AND DebraDebra PLANT TOWNS 12°N TaborTabor WeldiyaWeldiya 12°N AsayitaAsayita EXISTING ICS DIESEL PROVINCE CAPITALS DJIBOUTI BahirBahir DDarar GEOTHERMAL POTENTIAL e n NATIONAL CAPITAL AREAS f A d DeseDese G u l f o RIVERS COAL POTENTIAL AREAS INTERNATIONAL SUDAN NATURAL GAS POTENTIAL BOUNDARIES AREAS AsosaAsosa DebreDebre MarkosMarkos ICS LOAD CENTERS 10°N DireDire DawaDawa 44°E 46°E 48°E ADDISADDIS HarerHarer JijigaJijiga NekemteNekemte GimbiGimbi ABABAABABA

AwashAwash SOMALIA NazretNazret WelkiteWelkite AwareAware DegehDegeh BBurur GoreGore 8°N GambelaGambela JimaJima AselaAsela DomoDomo 8°N HosainaHosaina BongaBonga ShashemeneShashemene GobaGoba WarderWarder SodoSodo AwasaAwasa DodolaDodola KebriKebri DeharDehar WendoWendo ImiImi

6°N ETHIOPIA

NegeleNegele FerferFerfer 0 50 100 150 200 Kilometers

YavelloYavello 0 50 100 150 Miles

DoloDolo OdoOdo This map was produced by the Map Design Unit of The World Bank. Lake MegaMega The boundaries, colors, denominations and any other information IBRD 35496 4°N shown on this map do not imply, on the part of The World Bank INDIAN 4°N MAY 2007 Turkana Group, any judgment on the legal status of any territory, or any endorsement or acceptance of such boundaries. OCEAN KENYA MoyaleMoyale

UGANDA 34°E 36°E 38°E 40°E42°E 44°E 46°E 48°E