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Document of The World Bank FOR OFFICIAL USE ONLY Public Disclosure Authorized ReportNo. 3172-NEP STAFF APPRAISAL REPORT Public Disclosure Authorized NEPAL COTTAGE AND SMALL INDUSTRIESPROJECT Public Disclosure Authorized October 29, 1981 Public Disclosure Authorized IndustrialDevelopment and Finance Division Projects Department South Asia Regional Office This documenthas a restricteddistribution and may be used by recipientsonly in the performanceof I their official duties. Its contents may not otherwisebe disclosed without World Bank authorization. CURRENCY EQUIVALENTS Currency Unit = Nepalese Rupee (Rs) US$ 1.00 = Rs 13.2 Rs 1.00 = US$ 0.076 FISCAL YEARS HMG - July 16 - July 15 IDA - July 1 - June 30 UNDP - January 1 - December 31 PRINCIPAL ABBREVIATIONS ADB - Asian Development Bank ADBN - Agricultural Development Bank of Nepal CIDB - Cottage Industry Development Board CIED - Cottage Industry Export Development Division - Trade Promotion Centre CGC - Credit Guarantee Corporation, Private Limited CSI - Cottage and Small Industries DCVI - Department of Cottage and Village Industries Emporium - Cottage and Handicraft Sales Emporium HMG - His Majesty's Government of Nepal ISC - Industrial Services Centre NBL - Nepal Bank Limited NIDC - Nepal Industrial Development Corporation NRB - Nepal Rastra Bank RBB - Rastriya Banijya Bank SBI - State Bank of India TPC - Trade Promotion Centre UNDP - United Nations Development Programme FOR OFFICIAL USE ONLY NEPAL COTTAGE AND SMALL INDUSTRIES PROJECT Table of Contents Page No. 1. INTRODUCTION AND SUMMARY ............... 1 II . SECTORAL SETTING . ..... *.... *.*....*.*.*.* 2 A. Economic Setting ....................... 2 B. Industrial Structure and Performance ......... 3 C. Role of Cottage and Small Industries ......... 3 D. Industrial Policy Framework .................. 5 E. Financing of CSis ............................ 7 F. Commercial and Technical Services ............ 9 III. SCOPE AND STRATEGY IN SELECTED SUBSECTORS ........ 10 A. Woolen Carpets and Garments .......... ...... 10 B. Cotton Handloom Products .................. 13 C. Metal Crafts ............................ 15 D. Forest Based Products ................. 16 E. Selected Agroindustries ................ 17 IV. THE PROPOSED PROJECT ............ .. ................ 19 A. Objectives, Strategy and Institutional Arrangements ........ ...... * ......... ...... 19 B. Subloan Component ...................... 22 1. CSI Refinance Fund - Rastra Bank ......... 22 2. Eligibility, Terms and Conditions ........ 24 3. Credit Guarantee Scheme ........ ..... 26 4. The Participating Banks ....... ...... 26 C. Commercial and Technical Service Components 31 1. Export Development - Trade Promotion Centre .. 31 2. Extension Services and Development Centres - CIDB ...... .34 3. Raw Material Arrangements - Companies and the Emporium. 36 4. Coordination and Monitoring and Preparation for Expansion . .38 5. UNDP Financing for Training and Technical Assistance . .40 D. Policies Affecting Cottage Industries 41 This report is based on the findings of an appraisal mission which visited Nepal in June/July 1980. The mission comprised N. Barry, C. Bam, S. Kandel (IBRD/IDA) and J. Starkey (Consultant). This document has a restricted distribution and may be used by recipients only in the performance of 1 their official duties. Its contents may not otherwise be disclosed without World Bank authorization. - ii - TABLE OF CONTENTS (continued) Page No. V. THE PROPOSED CREDIT ............................... 42 VI. PROJECT BENEFITS AND RISKS ........................ 45 VII. RECOMMENDATIONS ...................... 47 ANNEX 1: Supporting Tables Table 1 Indicators of Performance in CSIs Table 2 Gandaki Zone - Commercial Bank Branches and Cottage Industry Concentrations Table 3 Probable Locations of Performance Contracts in Gandaki Zone - Year 1 Table 4 Projected Project Benefits - Export Earnings, Output, Employment Table 5 Optimistic, Pessimistic and Expected Results with and without the Project Table 6 Estimated Credit Requirements to be Met under the Project Table 7 Interest Rate Structure of Credit Institutions Table 8 Costs and Sources of Finance for Commercial and Technical Service Components Table 9 Summary of UNDP Financing for Training and Consultancy Table 10 CSI Fund Financial Projections Table 11 Estimated Distribution of Subloans by Size Table 12 Estimated Disbursement Schedules - IDA and UNTDP ANNEX 2: Supporting Documents Available in Project File ANNEX 3: Maps of Project Area Map 1 Nepal, Cottage and Small Industries Project, Project Area (IBRD No. 15389) Map 2 Nepal, Cottage and Small Industries Project, Craft Concentrations in Gandaki Zone (IBRD No. 15390). NEPAL APPRAISAL OF A COTTAGE AND SMALL INDUSTRIES PROJECT I. INTRODUCTION AND SUMMARY 1.01 In the Sixth Five Year Plan (1980-1985), His Majesty's Government of Nepal (HMG) is giving priority to cottage industry development, to supple- ment rural earnings and expand non-traditional exports. At HMG's request, a portion of an IDA Technical Assistance Credit (659-NEP) was used for an inten- sive two year project preparation study. The proposed project, an outgrowth of the study and successive IDA missions to Nepal, would involve an IDA credit of SDR 5.7 million (US$6.5 million equivalent) with a US$4.5 million subloan component and US$2.0 million for commercial and technical services in promis- ing product groups. The project also would incorporate a US$2.0 million UNDP grant, to be executed by the Bank and implemented by the appropriate agencies of HMG, for most training, consultancy and marketing inputs of the project. 1.02 The project area would be limited to the Kathmandu Valley 1/ and Gandaki Zone, with the objectives of strengthening services at the center and implementing product-specific schemes which could be replicated in other hill areas where cottage industries are concentrated. Kathmandu Valley has the majority of export-oriented cottage units and the headquarters of the major commercial, banking and public agencies. Gandaki Zone typifies the rural hill areas but has relatively large craft clusters and reasonable road links with Kathmandu. Commercial and technical services would focus on those major prod- uct groups with strong market prospects and problems which can be addressed within a project: carpets, woolen and cotton handloom garments, metal crafts, forest products and selected agroindustries. 1.03 Where feasible, private commercial organizations would be used for input supply, marketing and training, since exporters and agents have market- ing knowhow and have demonstrated the ability to organize cottage industry producers in Kathmandu Valley. Under the project, the Trade Promotion Centre (TPC) would provide exporters with assistance in market contacts and product adaptation, and would engage selected exporters to extend their commercial networks to craft clusters in the hills. Capabilities of the three banks dealing with cottage and small industry (CSI) loans would be increased, with partial refinance and credit guarantees from the central bank, attractive spreads, and training of appraisal and supervision officers. These banks would make loans to individual cottage and small enterprises, related market agents, and input supply companies developed under the project. While com- mercial agents would be the major organizers, public institutions dealing with CSIs would have responsibilities in training, filling some gaps in commercial services, and creating a positive and stable policy environment for industrial growth. The Cottage Industry Development Board would build its extension services and provide integrated assistance to more remote cottage industry clusters; the Emporium would procure and distribute cotton yarn and organize institutional marketing of handloom products; and the Industrial Services Centre would do monitoring and evaluation. Coordination of project inputs would be provided by the Ministry of Industries through a CSI Coordinating 1/ Kathmandu, Lalitpur, and Bhaktapur Districts. -2 - Committee chaired by the Secretary, Ministry of Industries and supported by full-time staff. 1.04 To date, IDA's involvement in industrial development in Nepal has been limited. IDA Credit 705-NEP has provided US$4 million to the Nepal Industrial Development Corporation (NIDC) for foreign exchange portions of industrial subloans. Subloans have averaged about US$155,000; commitments have been slow, reflecting problems in promotion, limited prospects for medium and large industry, and NIDC's inadequate local currency resources. Two rural development projects have included small experimental cottage industry components (Credits 617-NEP and 939-NEP). However, these deal with out-stations of agencies which require improvements in strategy, organiza- tion and incentives at the center. Under the IDA Technical Assistance Cre- dit (659-NEP), preparation of the proposed cottage industry project has been financed and some industrial subsector feasibility studies have been under- taken. The proposed cottage industry project provides IDA with the oppor- tunity to play a significant role in shaping assistance to one of the more promising productive sectors in Nepal. Analyses and discussions during pro- ject preparation already have resulted in improvements in overall strategy, institutional arrangements and industrial policies affecting CSI development. Training and consultancy to prepare the implementing agencies for the project have been undertaken, with UNDP financing. HMIG views the proposed