The World Bank

Document of The World Bank

FOR OFFICIAL USE ONLY Public Disclosure Authorized Report No. 11388-RW

STAFF APPRAISAL REPORT

RWANDESEREPUBLIC Public Disclosure Authorized

PRIVATE SECTOR DEVELOPMENTPROJECT

AUGUST 18, 1993 Public Disclosure Authorized

Industry and Energy Operations Division Country Department III Public Disclosure Authorized Africa Regional Office

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

Currency unit = Rwandese Frmnc (RwF) 1989 USS1 = RwF 80 1990 USS1 = RwF 82 1991 US$1 = RwF 125 1992 US$1 = RwF 125 (lIst semester) 1992 USS1 = RwF 140 (2nd semester) 1993 US$1 = RwF 145 (lst semester)

GLOSSARY OF ABBREVIATIONS

AEF = Africa Entreprise Fund AGSAC = Agriculture Sector Adjustment Credit BACAR = Continental African Bank of Rwanda BCR = Commercial Bank of Rwanda BK = Bank of Kigali BNR = Central Bank of Rwanda BRD = Development Bank of Rwanda BUNEP = A PE specializing in feasibility study and auditing CCIR = Chamber of Commerce and Industry of Rwanda CER = Savings Bank of Rwanda CHR = Housing Bank of Rwanda DPM = Department of Monetary Policy DUTERIMBERE = NGO Assisting Women Entrcpreneurs PSAC = Financial Sector Adjustrnent Credit FSG = Guarantee Fund ICB = International Competitive Bidding ICHA = Turnover tax INGOBOKA = Insurance company ITC = International Trade Commission IWACU = Training and Research Center for NGOs MINITRANSCO = Ministry of Transport and Communication NGO = Non-governmental Organization OGL = Open General Licensing ONATRACOM = Public Bus Company PCR = Project Completion Report PE = Public Enterprise PFI = Participating Financial Intermediaries PSSF = Private Sector Support Fund SAC = Structural Adjustment Credit SAP = Structural Adjustment Facility SOE = Statements of Expenditures SONARWA IInsurance Company SORAS = Insurance Company STIR = Public Trucking Company UBP = Savings and Loan Bank UNDP = United Nations Development Program

FISCALYEAR

January 1 - December 31 FOR OmCIAL USE ONLY

PRIAE SE DEVELMEr P

Table of Conet

I. INTRODUCTION ...... I Background ...... 1 Recent AdjustmentEfforts and Bank Group Strategy ...... 1 Strategy ...... 2 Project Objectivesand Description ...... 2

H. THE BUSI1 S ENVIRONME ...... 3 A. Overview of the Private Sector ...... 3 B. The Private Sector in Agriculture...... 4 C. The Private Sector in Industry and Services ...... 4 Manufacturing ...... 4 Informal Productive and Service Enterprises ...... 5 Trade ...... 6 Small Scale Mining ...... 6 Transport ...... 6 ConsultingServices ...... 7 D. Overview of the Financial Sector ...... 7 E. Role of Donor Agenciesin Private Sector Development ...... 8

HI.PVATE SECTORISSUES AND STRATEGY ...... 9 A. Recent Performanceand Policies ...... 9 B. Macroeconomicand Sectoral Issues and Constraints ...... 10 Exchange and Trade Restrictions ...... 10 lmport Tariffs ...... 10 Financial Sector Policies...... 11 Public Enterprise Reform ...... 12 Private Sector Taxation ...... 13 Legal and RegulatoryConstraints ...... 14 BusinessLaw ...... 14 Labor Laws ...... 1S Export Promotion ...... 16 Air Transport ...... 17 C. GovernmentStrategy for Private Sector Development ...... 17

Thisreport is basedon the fidinsp of misios whichtook ptco InlMarch, July andNovmuber 1992. Then missionsweo ledby Mr. W3adjAlikhani, lndustrial Economist (AP3IE, Tank Manager). The apprisl teamconsisted of MmsalMesre.MohanwAos Diop, Sr. OpeationsOffier, HerminiaMatinez, Sr. OpeationsOffce (AP31B,line creditand finacial sectorpolicie), AmandaCunninShm Consutaa (sctor miveys and PSSP),Jan-Hdrilk Va Leewes, Jea43pid, LUCoan, Coasuta (PMM),Tv So. Ngtye, Consutant(regisoy fiamework),Guive Mirfeader Coastat (busines a bor hlawrefr). Mme/Messrs.Andre. Jaime (LA3TF),Andrew Stone (CECPS). and Melani Jobum (CECFP)wir pee revbrw. Miess. FrancicoAguirreaca (AP3DR) ad MkichaeN. Saris (AF3IE)ae the Depatme Directoroad the managinSDivisio Ce, respecti .

This document has a restricted distribution and may be used by recipienu only in the performance or their oMcialduties. Its contents may not otherwise be disclosedwithout World Bank authorization. IV. THE PROJECT ...... 19 A. Project Objectivesand Justification ...... 19 B. Lessons from Previous Bank Experiec andBak GroupSrate ...... 20 C. Project Description ...... 21 Implementingthe GovernmentStrategy: Policy M oaur...... 21 SupportingInvestment: Credit Component...... 23 EncouragingEntrepreneurship: Private Sector SupportFund ...... 24 Supporting Improvementsin the Business Environment: Intutional Strengthening Component ...... 25 D. InstitutionalArrangements ...... 25 APEX ...... 25 Private Sector SupportFund ...... 28 InstitutionalStrengthening ...... 30

V. THE PROPOSEDCREDIT AND MAIN EEATR ...... 30 A. Amountand Allocationof Funds ...... 30 B. Terms and Conditionsof Financing ...... 30 Terms and Conditionsof SubloanRefinancing ...... 30 Private Sector SupportFund ...... 32 InstitutionalStrengthening ..... 32 C. Project Management,Monitoring and Evaluation.32 Management ...... 32 Review of PSSF's first year's operations ...... 32 Mid-Term Review ...... 32 MonitorableTargets ...... 33 Monitoring and Evaluation ...... 34 D. IDA Supervision ...... 34 E. ProcurementArrangements ...... 35 Credit Component ...... 35 InstitutionalStrengthening and the PSSF ...... 35 Disbursements ...... 36 Special Accounts ...... 37 Auditingand Reporting ...... 38 EstimatedProject Costs and Financing Plan ...... 38

VI. PROIECTJUST..CA..ION.AND.RISKS...... 39

VII. AGREEMENTSAND UNDERSTANDINGSREACHED...... 40

ANEXES

1. Statementof Private Sector DevelopmentPolicy.

2. Private Sector DevelopmentPolicy Matrix.

3. Review of Donors' Assistanco.

4. Review of ManagementConsulting Services. 5. Private Sector Support Fund.

6-A. BusinessLaw Reform in Rwanda.

6-B. Draft Legal Reform Matrix.

7. Action Plan on Reform of Labor Laws.

8-A. Structure and Characteristicsof the Financial Sector.

8-B. Financial intermediaries

8-C. StatisticalAnnex Tables

9. Supportto the Ministry of Commerceand Industry - Oudine of Tornm of Reference.

10. Selected Documentsand Data Available in the Project File.

11. Scheduleof Disbursements.

12. Bank Supervisioninto Key Activities.

13. Survey of ConsultancyFunds.

14. Action Plan for Banque Rwandaisedo Developpemen.

RWANDESEREPUBIC

PRIVATE SECTOR DEVELOPMENTPRJC

Credit and Project Summary

Borrower: RwandeseRepublic

Beneficiaries: Central Bank of Rwanda (BNR), ParticipatingFinancial Intermediaries (PFIs), private enterprises, Ministryof Commerceand Industry, and the Ministry of Justice's Tribunal of Commerce.

:m : SDR 8.7 million (US$12million equivalent).

Terms: Standard IDA terms, with 40 years maturity.

Objective: The project's objective is to promote the rapid expansion of the private sector as the key element in a development strategy for growth and diversification. The specificcomponents will provide the private sector with both the incentives and the means to engage in labor-intensive, export-oriented activities in an environment where local and foreign entrepreneurscan operate within a free market economy.

OnlendingTerms: The project consistsof a line of credit for productiveinvestments, a fund to improve technical and managerialcapabilities and competitivenessof the private sector, and support to institutions responsible for implementingimprovements in the business environment.

(i) Line of Credit. The Borrower would lend US$7 million equivalent to BNR at a variable interest rate equal to the average yield over three months of one-year commercial bank deposits, minus an anmnl administrative fee, set at 1 percent, which is expected to cover adequately BNR's operating costs under the credit component. The credit to the Central Bank would be for 20 yeas, including a grace period of 5 years. The Central Bank would onlend the funds to qualified PFIs at the aforementioned one-year deposit rate, with the same maturities as the individual subloans to the beneficiaries. Onlending interest rates charged by PFIs to subborrowers would be variable and determined by the banks. The onlending rates would be reviewed periodically to ensure that they continue to reflect market rates. The foreign exchangerisk would be borne by the Government.

(ii) Private Sector SuDnrt Fund. US$2.5 million will be passed on to the fund to: (a) help finance private firms' use of management consultants; (b) organize specialized training seminars; and (c) cover operational costs, including monitoringand follow-up of the assistance to firms. The fund would be located in a commercialbank approvedby IDA and have an independentmanagement. il (iii) :_aUtmdgnaUwmgihinlng.USS2 million to be passed on to the Implent instuon for their strengthening. Beneficiarieswould be: (a) the Cal Bank and banks to implement staff training and capacitYbuilding programs, and to improve program related aspects of banking supvision, economicand monetary analyses as well as credit evaluation;(b) the Ministry of Commerce and Industry to implementthe private sector development strategy; and (c) the future Tribunal of Commerce for the purpose of staff training and office equipment and technology to ensure it is efficient and speedy in processing business litigation.

efitsnd. RIa: Mhemajor expectedbenefits would stem from a supply response to ongoing structumal ustmet reforms. Improving the competitiveness of extn firm and encouraging new local and foreign private invstme would contribute to attaining Rwanda's growth objectives. Rapid response by private sector investors, encouraged by improved business conditions,would create the employmentopportunities that are critical for the success of adjustment. The process of revamping the regulatoryframework, and the implementationof fiscal and labor policy reforms may be delayed during the political transition, thereby slowing ivestments. The consensusalready built within the Governmentaround the need for effective reform of the business environmentand the strong voice of a rapidly emergingprivate sector should minimizethis risk and ensure the effective Implementationof the project.

Lol Foreign Toal (US$ millions) (A) Ujn=a= Subprojects 3.90 7.50 11.40

(B) Eiaxg 1.35 2.70 4.05

Subtotal 1.10 2.20 3.30

(D) Unaluloce .15 .35 .50

TOTAL 6.50 12.75 19.25 in Financing Plan:

(USSmillions) Investinent Pro3ects Subborrowers 2.20 19 ParticipatingFinancal nstitutions(PFIs) 2.20 19 IDA 7.00 61 Sulbtotal 11.40 100

Private Sector Suport Fund Private Sector 1.55 38 IDA 2.50 62 S&ukal 4.05 100

titutionalngd g Government .30 9 Other Donors 1.00 30 IDA 2.00 61 Subtotal 3.30 100

Unallocated ]DA 0.50 100

TOTAL Government .30 2 Subborrowers 2.20 11 PFIs 2.20 11 Private Sector 1.55 8 Other Donors 1.00 5 3DA 12.00 62

Total Financing 19.25 100

1DAFiscal Ya (USS million)

Fiscal Year 1994 1995 1996 1997 1998 1999

Annual 1.26 2.46 2.56 2.56 2.16 1.00

Cumulative 1.26 3.72 6.28 8.84 11.00 12.00

Economic Rate of Reu: N/A M Lmi:wid,1mof thPuidun: P-S980-RW ME: Map IBRD 24507

RWANDESE REPUBLIC

PRIVATE SECTOR DEVELOPMENT PROJECT

I. INTRODUCTION

1.1 Backgndn. Rwanda is a small landlockedcountry in Central Africa, covering some 26,000 square kilometers. Its annual per capita GDP is about US$250 (1992). With a population of about 7.8 million growing at about 3.0 percent per annum, Rwanda has the highest populationdensity in Africa (295 persons/squarekilometer). More than 90 percent of the populationlives in rural areas, and the economydepends on agriculturefor 40 percent of GDP and 90 percent of employmentand export earnings. Coffee and tea account for about 80 percent of total exports. Industry, including mining, representsonly 14 percent of GDP and 6 percent of exports. Ethnic rivalry has been a major feature of Rwanda's political history and it escalated into military conflict in October 1990. A peace accord was signed on August 4, 1993 includingan agreement, which includes the integrationof representativesof all rival groups into the Government. This pact will strengthen the process of political liberalization, underwaysince early 1992.

1.2 From 1970 to the mid-1980s, Rwanda enjoyed low inflation and sustained growth (averagingabout 4 percent per annum). Since 1987, GDP has stagnatedor declined, primarily because of low coffeeprices and poor weather. The initialpolicy response to this adverse economicsituation was inappropriate and relied on increased controls. Recognizing the need to revitalize the economy, the Governmentbegan implementinga comprehensiveStructural AdjustmentProgram in late 1990. This program is supportedby an IMF StructuralAdjustment Facility (SAF) and an IDA StructuralAdjustment Credit (SAC, Cr.2271-RW), approved in June 1991. Its goals are to achieve macroeconomic stabilization, enhance the competitivenessof the economy, improve the allocation of resources, and stimulateeconomic recovery. At the same time the Governmentstarted a program of restructuringthe parastatal sector and disengaging from productive and commercial activities, with the support of the Public Enterprise Reform Credit (Cr.2113-RW,effective since February 1991). A summary review of progress to date and the divisionof labor in support of policy reform by various Bank-supportedprojects is given in the policy matrix (Annex 2).

1.3 Recent AdjustmentEfforts and Bank GroupStrategy. The most importantmeasures taken to date under the SAC include: (a) a cumulativedevaluation of 61 percent in foreign currency terms since mid-1990, opening up the trade regime by reducing tariff protection (decreasingthe top rate from 220 to 100 percent), adopting a market-determinedforeign exchange allocationfor imports, and eliminating all importprohibitions and export taxes, excepton coffee; (b) settingtargets for the reductionof the fiscal deficit and limits on domestic credit expansion while implementingrevenue enhancingmeasures; (c) simplifyingthe interest rate structure and ensuring that key rates remain positive in real terms (the only two rates that remain fixed are the minimumrate for savings depositsof 9 percent and the maximumrate for lending of 16 percent, above the estimatedinflation of 8 percent in 1992); (d) liberalizingprices of industrial goods, and raising petroleum prices; and (e) initiating regulatory reforms to eliminate constrainingenterprise creation and business licensing requirements. The Government is adhering to many of its undertakings,but has not been able to containthe overallbudget deficit, which reached about 15 percent of GDP in 1992 comparedto a target of 6.6 percent, largelybecause of military expenditures increasing from 2 percent of GDP in the 1980s to 8 percent of GDP in 1992. The macroeconomic frameworkis being reassessed continuouslyby the Bank and the Fund. The August peace agreement is a historic breakthrough putting an end to three decades of conflict within Rwandese society. The restoration of political stability and establishmentof a new governmentare expected to lead to a new program, including revised targets. The private sector development project is a vital complementto -2-

Rwanda'sadjustment effort, by supportingmedium to longer term institutionaland business environment reforms to facilitate private sector growth.

1.4 The objectives of public enterprise reform (para 3.14-16) include (i) putting in place public enterprise (PE) legislationwhich increases managementresponsibility and harmonizesthe legal frameworkof PEs with that of private enterprises(adopted by the NationalAssembly in July 1993), thus facilitatingfuture PE privatization and restructuring; and (ii) developing and implementinga strategy leading to privatization or liquidation of about 60 productive and commercial parastatals ad the restructuringof the remaining 26 (the privatizationstrategy is expected to be approved by the Council of Ministers by October 1993). Specific actions underway have already led to the privatization or liquidationof five firms.

1.5 The adjustmentprogram will be reinforced and broadened by two proposed sectoral adjustmentoperations. The first one is a Financial Sector AdjustmentCredit (FSAC) which aims to improve the financial system's ability to support private sector development (paras 3.9-13). Specific reforms, which are alreadybeing implemented,include: (a) reorientingand liberalizinginterest and credit policies, moving to indirect instrumentsof monetary and credit control, and developingnew financial instruments for improved savings mobilization and greater efficiency in investment lending; (b) restructurng financial institutions in distress, thereby enhancing public trust in the sector; and (c) strengtheningthe legal and regulatory framework governing financial institutions and establishingan effective banking supervision system to ensure future stability. The second is an Agriculture Sector AdjustmentCredit (AGSAC)which would deregulatethe agriculture sector and support the restructuring and privatization of publicly-ownedagro-industries. The IFC's Africa Enterprise Fund (AEF) has expressed renewed interest in Rwanda, approving in 1992 the financing of two projects through a Rwandese commercial bank. IFC's direct intervention is expected to complement IDA financing. Measures being taken under the adjustmentprogram, in particular, the legal enforcementof guarantees by the RwandesejudicW system in a speedy and equitable way will contribute to improvingprospects for IFC interventions.

1.6 Strategy. Key to the success of the overall adjustment program is a significant and sustainedsupply response by the private sector. Promotingthe rapid expansionof the private sector is the cornerstoneof the Government'sdevelopment strategy. This sector's developmenthas been hindered in the past by (a) unsustainablemacroeconomic policies; (b) the presence of the State in several areas as a competingprivileged producer; (c) an inadequateincentives system with selectiveregimes of exemptions and heavy governmentregulations; (d) deficient managementcapacity and insufficientlabor skills; and (e) the reluctance of the banking system to increase its volume of investmentlending due to unadapted (mostly short term) resources and difficulties in recovering delinquent loans. Beyond reestablishing sustainable internal and external balances and laying the foundations for efficient financial sector intermediation,the Governmentis taking specific measures to provide the private sector with both the incentivesand the means to engage in labor-intensive,export-oriented activities in an environmentwhere both local and foreign entrepreneurscan operate within a free market economy. The project is designed to help in the implementationof this strategy, complementingthe adjustmentprogram.

1.7 Project Objectivesand Description. The project will support efforts to ensure access to investmentfinancing and managerialand technicalsupport for the private sector, and to improvethe legal and regulatory enviromnent in which businesses operate and enhance the investment and export incentives. To achieve these objectives, the project consistsof three mutually-reinforcingcomponents: (a) an Apex line of credit whichwill provide local banks with the long term resources needed to finance medium-and long-term investment(paras. 4.17-18); (b) a private sector support fund (PSSF) to help -3 entrepreneurs improve the conceptionand appraisal of their investmentprojects and strengthen their production, managerial and marketing capacity (paras. 4.19-21); and (c) institutional support to the Central Bank (BNR), the Ministry of Commerce and Industry, and the Ministry of Justice, for the establishmentand staffing of the Tribunal of Commerce, to strengthen their capabilities and ensure adequate implementationof reforms aimed at improvingthe business environment(paras. 4.22-23).

1.8 The credit componentwould satisfy an expectedgrowing investmentdemand at a time when politicalstability is being reestablished,and banks become more willingto lend because accelerated and improvedvalidation and executionof guaranteesreduce their risk. The nascent investmentdemand would be nurtured by the policy reforms (paras. 3.17-31 and 4.9-16), and through gains in productivity and competitivenessmade possible with assistancefrom the PSSF. This fund will enhance the ability of promoters to conceive better projects and to encourage existingfirms to expand and diversify, as they become better managedand more competitive. To ensure that the objectivesof the operation are met, throughoutproject implementation,particularly during the planned mid-term review (paras. 5.11-12) of the project, the Bank will engage the Government in a continued dialogue on the evolution and implementationof the private sector developmentstrategy.

II. THE BUSINESS ENVIRONMENT

A. Overview of the Private Sector

2.1 As measuredby GNP per capita, Rwandais one of the 20 poorest countries in the world. It is meagerly endowedwith natural resources. It depends mainly on agriculture, which provides most of the employmentopportunities. The private sector in Rwanda is relatively unsophisticatedand local entrepreneurshipis not yet well developed, except for a small but dynamic informal micro-enterprise sector engaged in production and provision of services. The private sector plays a major role in the productionof export, food crops and in transport. Other private sector activities are found principally in the informalsector, in internationaltrade, where some 100 modern firms, mostly importers, currently operate, and in a growing but limited service industry, principally in constructionand management consulting. Public sector enterprises are involvedin the processingand export of primary commodities and manufacturing,and generate abouthalf of the country's formal employmentoutside the civil service. In some cases such as coffee and the banking system such operations are in partnership with local and foreign entrepreneurs,

2.2 Private trade associations and institutions remain underdevelopedpartly due to past governmentrestrictions. The private business sector is in theory organized around the Chamber of Commerceand Industry of Rwanda (CCIR). This institution, however, lacks autonomyand is part of the public administrationwith its president appointedby the Presidentof the Republicand key staff from the civil servants. The CCIR's operating expensesare covered by governmentsubsidies and obligatory dues paid by the privatesector. The CCIR has not been an effective intermediaryin the dialoguebetween the privateand public sector because it lacks credibilityas a lobbyinggroup for the private sector. Since 1990,the Governmenthas authorizedthe establishmentof private sector groups, includingthe association of industrialistswhich has been actively representingthe modern manufacturingsector. Other groups being formed include an independentChamber of Commercefor Handicraftsin Butare with the help of the German Cooperation. - 4 -

2.3 One aim of the sector developmentstrategy (paras. 3.32-41) is to encourage the growth of private associations, includinga private exporters' association. A key provision is that such groups shouldoperate independentlyfrom the Governmentso that they can be effective intermediariesbetween the Government and private entrepreneurs. Restructuring of the CCIR so that it can become an independentorganization with officers elected by its members is also an objective of the Government. The institutionhas received support from donors, includingthe UNDP/ITC, and the Government in the past. Once membershipbecomes voluntary, continuedfinancial support, at a declining rate, from the Government or the donor community over the next three to four years will be needed until self sustainabilitycan be achieved.

B. The Private Sector in Agriculture

2.4 Private smallholdersare responsiblefor the bulk of agriculture output which accounts for 40 percent of the GDP. Up to 1983, the agriculture sector was the main source of growth, fuelling the increaseof GNP per capita at an annual rate of 2 percent. Production increase came from putting most agriculturalland into use and from eliminatingfallow. The better lands are now farmed twice, even three times, a year. Since 1984, agriculturehas stagnatedand thereafter experienceda steadydecline due to inadequate incentivesand poor farming practices as well as inclementweather during certain years. As a result, food productionhas not kept up with populationgrowthl and this has created localized and temporary pockets of famine. Inefficient agro-industrialPEs (particularly in tea) have contributed to depressed producer prices and, therefore, rural income. Land is owned by the State, but, private smallholders(5 per hectare of land on average) enjoy usufruct rights to continuouslycultivated land, which can be transferred to their male heir.

2.5 The major objectiveof the Governmentis to increase farm productivityand food security throughincreased intensificationand adoptionof new policies aimed at (a) developinga market oriented straegy for agriculture; and (b) encouragingfuller integration into the internationalmarket economy. This is to be achievedthrough improved incentivesand restructuhingof key parastatals. In this context, land tenure issues will be taclded and de facto property rights will be strengthened. With the implementationof these soctoral policies, agriculture should be able to sustain short- to medium-term GDP growth. In the medium-to long-term,however, this sector will no longer be capable of being the main source of growth nor will it be able to absorb a sufficientlylarge number of new entrants into the labor market to ensure adequatelevels of employment. These roles, therefore, will have to increasingly be played by industry and services. C. The Private Sector In Industry and Services

2.6 M. The privateindustrial and service sector accountsfor less than 15 percent of GDP. Manufacturingactivities are in majority agro-industrial, coffee and tea processing, modern beverage production, and/or production of basic consumer goods such as soap, textile products and garments. Modern manufacturing-i...; formal enterpriseswith a registeredlegal status-consists of about 130 firms that employa estimated 15,000people, includingtemporary employees, and produce 8 percent of GDP. Except for a handful, most of these firms have less than 100 permanentworkers. The majority of these firms, public and private, are relativelynew: 106 out of 130 were establishedafter 1975. About two-thirds of modern industries are located in Kigali, the capital city. There are 21 industrial PEs,

A fulr doscriptio of th aSrieukumsedor and it prospect can be found in a report entitled, Rwanda-Awicultur S=Doev Rcviobv,Report No. 8704RW, May 22, 1991. -5-

includingthose with mixed ownership. These firms tend to be larger and more capital intensive than private firms and contribute almost half of formal manufacturingoutput. Foreign investors have been present in about half of the 130 firms.

2.7 Since their inception, many manufacturingfirms have suffered from high production costs, resulting in marginal economicviability, for two reasons. First, their managementhas lacked the know-howneeded to operate efficiently. Thus, they have failed to fully exploit opportunies to penetrate the regional or domesticmarket. Second, at the time of their creation most local firms were protected from competitionthrough high tariffs and quantitativerestrictions. In most cases there were two or les domesticcompetitors, and they thus remainedfinancially profitable, despite high wages (abouttwice thos in Kenya and equivalentto 27 percent of turnover) and high cost of non-factor inputs (about 65 percent of turnover).

2.8 Another characteristicof local firms, other than agro-industrialenterprises, is their high import intensity. The onset of balance of payments problems in 1987 reduced the amount of foreign exchangeavailable to firms and caused a generalfall in capacityutilization, which by 1989 reached about 50 percent operatingonly one shift. The subsequentdecline in profitabilityforced an adjustmenton the manufacturingsector, which lowered its costs by investingless and deferring mainenance. Despite the economicslowdown, aggregate employment,both temporary and full time, did not change significantly, as labor laws made it difficult to lay-off workers. Since 1990 manufacturingproduction has declined f-urther,by about 30 to 50 percent, primarily because of the adverse consequencesof the war and the decline in all economic activities. As long as the economic environment remained unfavorable and uncertaintypersisted, the private sector reacted by postponingnew investmentsand not replacing worn- out equipment. Now that the economic and political situation is becoming more favorable and with improved incentives,a pent-up investmentdemand is expectedto be realized during the next few years.

2.9 The Govermnent has taken a number of measures to address the problems faced by manufacturingfirms. Since 1991, economicrecovery has been promotedby policy reforms and balance of paymentssupport from the SAC. Foreign exchangereserves increasedfrom close to zero in 1990 to an estimated 3 months of imports in late 1992. The level of reserves fell again in 1993 and will have to be built up during the secondhalf of the year. The resolution of the conflict will me the circulation of goods to, from and within Rwanda, boostingdomestic production and helping to reestablishbusiness confidence. In parallel, the Governmenthas adopteda comprehensiveprivate sector developmentstrategy (see Chapter III), aimed at putting in place a conducive business environmentto ensure sustainable growth. A series of measures will be taken, includingthose to be implementedunder the project (paras. 4.9-16), to address the key structural and sectoral constraints and thus encourageviable firms to expand their activities, and induce new viable investments.

2.10 Informal Productive and Service Enterprises. Informal micro-enterprises, located primarily in urban areas (about 40 percent are in Kigali), contribute an estimated7 percent of GDP. A census undertaken in 1990 by the Ministryof Plan revealed the existenceof about 700 informal firms, without a registered legal status, to which thousands of individual artisans and entropreneursmust be added. The majority of informal businessesengage in retail and repair service, garmentproduction and woodwork.

2.11 This subsectorcould grow significantlyand rapidly, expandinginto formal activitieswith the appropriatebusiness environmentand helping to managelarger operations efficiently. The informal sector's growth would be supportedby loweringthe tax burden on enterprises, improvinginformal firms' access to the CommercialRegistry, lowering minimumcapital requirementsfor corporations, facilitatn - 6 - the establishmentof partnerships,and other policy reforms and actionsenvisaged under the project (para. 4.12).

2.12 Tr_d. About 100 registered firms specializeas importers, in addition to those that are primarily manufacturers. Importers also engage in wholesaleand retail domestic trade. Reflectingthe lack of export diversification,Rwanda has fewer than 20 exporting firms. Other than in the case of traditionalexport products such as coffee, tea and other primary products, exporterstend to be producers for the domestic market and export a small part of their output. A notable exception is horticulture exports, a new activity that began in the late 1980s and sells most of its output in Europe.

2.13 In the late 1980s,many importersbenefitted from de facto monopolyin particular product lines; entry and competitionwas discouraged by the foreign exchange allocation mechanism and the regulationsgoverning enterprise creation and business licensing. Since 1991, importationis becoming more competitivein response to trade liberalizationand simplificationof the regulatoryframework. As economicrecovery occurs, this sector is expectedto grow rapidly, both in the number of businessesand in the volume of activity.

2.14 The reformsundertaken since 1991 have helped reduce significantlythe anti-exportbias of the 1980sand shouldboost exportsby existingfirms as economicrecovery accelerates. Export growth and diversification,while modest at first, could be achievedquicldy for some activities, includingtea and horticulture, and manufactured goods. Such exports would be stimulatedby new export promotion measures planned by the Government (paras. 4.15). This export potential can be fully realized once sectoralconstraints, associated with inefficientPEs, involveddirectly in production or providingservices, and logisticsare tackded. In the medium-to long-term,the developmentof exportswill dependprimarily on sustainedincreases in competitivenessand expansionof the private sector, as well as learning how to produce and market export quality goods.

2.15 Small Scale Mining. A few thousand private artisans currently engage in mineral extraction (mainly tin). While they do not have formal concessions they are allowed to mine on governmentland. More formal capital-intensivetin miningand production,including a smelter, and other exploitationsof mineralshas existed in Rwandain the early 1980s. These activitieshave been neglected because of low profitability, pardy due to the overvalued exchange rate. The devaluations helped improve this sector's competitiveness.There is evidenceof renewed private interest in the development and export of certain types of mineral products (includingprecious and semi-preciousstones), but the projects are at an experimentalstage. The long-term viability of many mining activities, particularly those using capital intensiveprocesses, will depend on whether the mineral deposits now being explored prove to be sufficientlyrich.

2.16 Transport. Internationaland domesticroad transport is dominatedby private operators. In 1988, private interests operated about 1,900 truck/trailer (out of 2,500) and 85 percent of the 1,500 buses used in passengertransport (mainlyminibuses). Three parastatalsalso provide transport services: the STIR ('Societ6 des TransportsInternationaux du Rwanda"),which transports external freight by road and is slated for privatization; ONATRACOM('Office National des Transports en Conmmun),a bus companybeing restructured;and Air Rwanda, a small airline with five planes used mainly for domestic passenger flights. One of these aircraft is a cargo plane that can be used on international routes to transport freight. Air Rwanda also plays a key regulatory role in air transport; no flight, including charters, can take place without its approval and payment of royalties to it. It also provides handling services at the airport, at a relatively high cost. The royalties and proceeds from the services are used to cover some of the deficit of the transport activity (paras. 3.29-31). -7-

2.17 The transport sector grew rapidly until 1983, but slowed down due to the economic downturn and inadequate institutionaland regulatory arrangements. The key problems of the sector are being taclded in the context of the Transport Sector project (Cr.2136-RW) and growth is expected to resume with economicrecovery. Policiesalready being implementedaim at: (a) providing flexibilityof choice and competitionamongst providers of internationaltransport by allowing the private sector to freely select its transport mode, carrier and liberalizingprices; (b) improvingthe performance of PEs through their privatization,restructuring and the use of performancecontracts; and (c) a series of other reforms aimed at improvingroad maintenanceand safety, and diversificationof access corridors

2.18 ConsultingServices. Consultingfirms generally provide basic accounting services and undertake feasibilitystudies (see Annex 4). The subsector consistsof about 12 private firms and 130or so individuals(mcluding civil servantsand universityprofessors, many working as part-time consultants), three donor-fundedtechnical assistance centers (Serdi, Technoserveand Center of Servicefor the Artisan) plus BUNEP('Bureau Nationald'Etude de Projets," a PE specializingin feasibility studiesand auditing, scheduledto be privatized in 1993), and at least 10 dynamic NGOs, including IWACU (a training and research center) and Duterimbere(whose main role is to assistwomen entrepreneurs). The development of private consultingservices has been hindered by low effectivedemand. Private economicactivity has been at a low level and stagnant, and firms providingconsulting services have sufferedfrom competition from subsidizeddonor-financed agencies. The public sector too has tended to rely on these agenciesand other publicly-fundedorganizations. The PSSF componentof the project (paras. 4.19-21) would help create a more level playing field, where the private sector can compete, and would stimulate improvements in the quality and range of available services offered (e.g., international chartered accountants,cost accountingand auditing).

D. Overview of the Filnancial Sector2

2.19 The financial sector in Rwandais comprisedof the Banque Nationaledu Rwanda (BNR), the Central Bank, three commercialbanks - Banque Commercialedu Rwanda(BCR), Banquede Kigali (BK), and BanqueContinentale Africaine du Rwanda(BACAR) - and two savings institutions,the Caisse d'Epargne du Rwanda (CER), which is being liquidated, and the Union des BanquesPopulaires (UBP). A developmentbank, Banque Rwandaisede Developpement(BRD), a housing financeinstitution, Caisse Hypoth6cairedu Rwanda(CHR), and three insurancecompanies (SONARWA, SORAS, and INGOBOKA a newcomer in 1991) completethe financial sector. Caisse Socialedu Rwanda(CSR), the social security agency, is an important holder of long-term government securities. In 1991, total assets of the commercialbanks amountedto RwF30 billion (US$230million) or about 12 percent of GDP.

2.20 The Government'spresence in the sector is important. Exceptfor one commercialbank, two insurance companiesand the system of savings and loans cooperatives("banques populaires'), all other financial institutionshave total or significantpublic ownership. The Governmentdoes not normally interfere with the functioningof the commercialbanks where it has a substantialparticipation, but is very much involved in the operationof the other financial institutionsin which it participates.

2.21 Prior to 1987, the financialsystem was segmented,as commercialbanks were restricted by BNR to the provision of short-term credit Ooansof up to one year) and some medium-termloans (1

2 A more detailedanalysis of the financialsctor was undertakenby the Bankin a report ied Rwanda:FinB ial rview. ReoortNo. 8934-RW,distributed to the Boardon May 16, 1991. -8- to 5 years), while BRD and CHR were only permitted to provide long-term loans. Since then, commercialbanks have been allowedto make medium-and long-termloans, with ceilings for such loans set at a certain percentage of total credit. In fact, after allowing commercialbanks into this type of lending,the authoritiesseemed to put less emphasison maximumexposure limits for medium-and long- term lending, and instead encouragedits growth. The importanceof short-term lendingby the financial sector has declinedduring the 1980s, in part as a result of this change (see Annex 8).

2.22 The financialsystem is not well developed,as evidencedby its relativelyshallow financial depth. Financial depth figures (M2/GDPof 17 percent) put Rwandabelow the average for low-income countries and for Africa as a whole (M2/GDP of 24 and 22 percent, respectively). The degree of financial repression has been mild relative to the experience in other developing countries. The only official constrainton deposit interest rates in the 1987-90period was that banks were required to pay a minimumrate of 3 percent on 3-monthdeposits. However, due to imperfectionsin the financial markets, linkedon the one hand to lack of competitionin the sector, and on the other hand, to inadequatepolicies, which the Government is currently revising through financial sector reforms, commercial banls have tended not to compete for deposits. Real lending interest rates which were slightly positive in the first half of the eighties, were about zero or slightlynegative in 1986and turned significantlynegative between 1988and 1990. In 1991, interest rates were increasedand their structure was substantiallysimplified as a part of the adjustmentprogram. Lending rates are pegged to the rediscountrate, to which a maximum 5 percent margin can be added by banks. This regulation puts an effective, albeit variable ceiling on lendingrates. The discount and lending rates, as well as the minimum rate on term deposit, have been positive in real terms. As agreed, during negotiations,lending rates, as well as the maximum interest margin, will continueto be reviewed regularlyby the Bank and the Fund with the Govermnentto ensure that rates remain positive in real terms (paras. 7.2 (iii)). In 1994 the interest rate regime will be fully liberalized.

2.23 The slow progress in financial deepening, especially in the 1980s, in part reflects governmentpolicy, which was oriented to use the banking system to direct credit to certain priority sectors, and as a source of tax revenue. The low level of after-tax bank profits are due to the heavy taxation of expatriate salaries and bank profits. The relatively small size of the market probably discouragedadditional entries into Rwandesebanking and did not encouragecompetition. The low degree of financialdepth also reflectsthe low per-capita incomelevel and the underdevelopmentof the 'banking habit'. Only the 'banques populaires' have a branch network coveringthe rural areas. Since 1991, the Governmenthas initiatedthe implementationof reforms of monetaryand credit policy reforms (Annex 8 and paras. 3.9-13) designedto deepen financial intermediationand improve its efficiency.

E. Role of Donor Agencies in Private Sector Development

2.24 Several bilateral and multilateral donors are supporting private sector development in Rwanda. To avoid duplicatingexisting programs and to learn from the experienceof others an extensive review of donor programs was conductedas part of the preparation of the project (a brief descriptionof these programsis given in Annex 3). These initiativesinclude: (a) operatinggrants and equityfinancing for private sector operations and investment;and (b) technicalassistance, includingvocational training, seminars and provision of specialized expert advice. The first type of support has been relatively successfulin helpingto develop micro- and small-enterprises,particularly where technical assistance was also provided. However, in a few cases where non-conventionaltechnology have been tried, the results have been disappointing. Another aspect of these programs is that many have been supply oriented (creating the capacity to help entrepreneurs) and narrowly limited to specific activities, such as woodwork, and to a specificregion. - 9 -

2.25 To maximize the use of scarce resources, donors have recognized that future technical assistance and capacity building actions require improved coordinationand supervisionplacing greater emphasison results and needs. The private sector also will be invited to be more directly involved in specifyingits own needs, particularlyin the area of managementand production assistance. Finally, the Governmenthas decidedto improveits means of ensuringbetter coordinationand coherenceamong donor assistance,thus benefittingfrom the lessons learnt, and will receive support to reach this objective(paras. 4.22-23). The proposed PSSF (paras. 4.33-34) will also complementdonor actions by stimulating demand for expert assistanceand broadeningthe target group to includeall private Rwandesepromoters.

m. pRIVATE SECTOR ISSUES AND

A. Recent Performance and Polides

3.1 In spite of its physical and resource constraints, Rwanda achieved positive per-apita growth from the early 1970s to the mid-1980s. This resulted from the rapid expansion of agriculture during the 1970s (8.7 percent annuallyfor the period 1973-1980),brought about by improvingfarming practices and increasingthe surface cultivated,'and from the expansion of industry and services during the first half of the 1980s (about 4 percent between 1980 and 1986). During much of this period, Rwandabenefitted from the favorable evolutionof internationalcoffee prices, particularly in 1978 and 1986. Prudent foreign exchangemanagement allowed a build-up in external reserves, which were used to finance balance of payments deficits during subsequentyears. The good economic performancehid the impact of Government'sintervention in the productivesectors, which led to (a) the creation of many of the parastatalsthat still exist today; (b) trade policies heavily biased in favor of import substitution (tariff and non-tariffbarriers); and (c) discriminatoryincentives (e.g., the investmentcode and business licensing).

3.2 By the late 1980s, the economic cost of these policies became apparent as the steady decline in the internationalprice of coffee created a severe external imbalance. Local industries faced a loss in regional competitiveness,due mainlyto the appreciationof the exchangerate. . Moreover, firms dependenton importedinputs needed to cut productionbecause of the diminishedavailability of foreign exchange. In parallel, the shortage of cultivableland, which limited agriculture growth after 1984, combinedwith diminishingimport substitutionopportunities led to economic stagnation. These factors as well as the disappointingperformance of PEs, which drained scarce governmentresources, convinced the Governmentto change its policies on exchange rate managementand towards the private sector, changing the public sector role to that of facilitator rather than regulator and producer.

3.3 In 1990, the Governmentinitiated a structural adjustmentprogram (paras. 1.3-5). The Govermnentnow recognizesthat this initiative alone is not sufficientto ensure recovery and sustainable growth, and that reform of sectoralpolicies and pro-activesupport to the private sector are also needed. The adjustmentprogram is thus being broadened, with the support of the Bank, to improve the enabling environment and tackle the specific constraints retarding the growth of the private sector. A comprehensivestrategy has thus been devised to taclde the constraints in agriculture and the financial sector as well as tax, legal and regulatorybarriers hindering the private sector. - 10-

B. Macroeconomic and Sectoral Issues and Constraints

3.4 Exchangeand Trade Restrictions. Throughoutthe 1980sthe RwandeseFranc (RwF) was fixed with respect to the SDR (up to 1983) and the dollar (after September 1983). Despite a small devaluationin 1983, the exchangerate became increasinglyovervalued throughout the decade because of decliningterms of trade on export products(mainly coffee), infiationhigher than that of major trading partners and exchange rate adjustments in others. As a result, Rwandese products became less competitive in the regional markets, particularly vis-a-vis those from Kenya and Burundi during the second half of the 1980s. The overvalued exchange rate also contributed to the decline of some traditional export activities (mining, cinchona and pyrethrum) and to the failure of some nascent nontraditionalexports (horticulture)in the late 1980s. Sincethe adoptionof the adjustmentprogram the Bank and the Fund are engaged in a regular dialoguewith the Governmenton the exchangerate to ensure that it is maintainedat a level consistentwith balance of paymentsequilibrium under liberal trade policies and to help improve the competitivenessand profitabilityof exports and viable importsubstitution activities. As part of the adjustmentprogram, the RwF has been devalued in two stages, in 1990 and 1992, by a total of 61 percent (in foreign exchangeterms).

3.5 From 1983onwards, significanttrade restrictionsin the form of quantitativerestrictions (QRs)or bans, advancedeposit requirements,import licensing and high duties prevailed in Rwanda. Up to 1987, import restrictions were used mainly to protect local industries and, therefore, only affected certain sectors. Thereafter, in response to a close to 50 percent decline in export receipts, trade restrictionswere extendedto cover all imports, through strict importlicensing. This policy was reversed in 1991 in the context of the adjustmentprogram and all QRs were removed and import licensing was relaxed considerably. The Government is committedto maintaining and improving an open general licensing(OGL) system for imports, introducedin 1992, and thus lifting any remaining de facto import restrictions. Import controls were temporarily reintroduced in July 1993, in response to the depletion of foreign exchangereserves resultingfrom war related expenditure. These controlsshould be lifted soon as the situation returns to normal and reserves increase.

3.6 All exporttaxes, with the notableexception of that on coffee, have been eliminated. The remainingregulations linked to exchangecontrols which continueto hinder exportswill be removedunder the proposed AGSAC with the (a) elimination of export licensing; and (b) rationalization and simplification of procedures at the airport, including the possible creation of a one-stop shop for exporters. Such actions are an integral part of the private sector development strategy (Annex 2). Repatriationof factor income(wages and dividends)by foreigners is subject to control which discourages foreign investment. Foreign exchangeavailable for businessmen'stravel is also severely limited. Full and immediaterepatriation of factor incomeand an increase in foreign exchangeavailable for travel are being introducedunder the adjustmentprogram.

3.7 ImpotIaiffs. Tariff reform is an integral part of the adjustment program. The eliminationof QRs and the relaxationof import controls has significantlyincreased the role of tariffs as an instrumentof protection; for most of the 1980s, tariffs were redundant from the industrialprotection standpointas local industrieswere sheltered from imports by non-tariff measures. Under the SAC, the Governmentimplemented significant tariff reforms in 1991. Measures introducedIncluded (a) reducing the maximumrate from 220 to 100 percent; (b) increasingthe minimum rate to 10 percent; (c) using a single tariff instrumentas opposed to two; and (d) reducing the number of applicable rates from about 14 to 5. As a conditionof secondtranche release of the SAC the Governmentwill further reduce tariff distortionsby decreasingthe higher rates to 40 percent for most finishedproducts (80 percent for luxury goods), and by harmonizingtariff rates for similar products. -11-

3.8 The agreed tariff and trade reforms are being implementedand codifiedby the Ministry of Finance in a new tariff law and revised foreignexchange regulationsare being finalized by BNR. If necessary, further reforms, for example, to reduce the effective tariff protection, will be considered during mid-term review of the project scheduledfor July 1995 (para. 7.5(v)).

Financial Sector Policies

3.9 The developmentof the financial sector is a critical componentof the adjustment and private sector developmentprograms. In the past, the financial system suffered and bank portfolios deteriorated,because monetaryand credit policies aimed mainly at directing credit into priority sectors, and thus discouragedthe developmentof financial markets. In addition, BNR's interest rate and credit policiesdiscouraged resource mobilizationand restrictedbank lending. Since 1.987,the Governmenthas taken a number of steps to improve the functioningof the financialsystem. The main changes included (i) permittingcommercial banks to make medium-and long-termloans, up to a certain percentageof total credit; (ii) in late 1990, adopting a policy of maintainingpositive real interest rates by establishinga minimum rate of 12 percent for 1-year deposits and a maximum lending rate of 19 percent; and (iii) setting a single rediscountrate of 14 percent for coffee marketing and other operations. In June 1992, estimatesput inflationat single digit level on an annualizedbasis (actual inflation in 1992 was 8 percent). In consequencethe structure of interest rates was revised downwards in the context of the periodic reviews agreed with the Bank and the Fund. Since then the maximumlending rate, the minimum 1-year deposit rate, and the rediscount rate were reduced to 16, 9 and 11 percent respectively. During negotiationsthe Government confirmedits commitinentto review interest rates at regular intervals to ensure they remain positive in real terms (para. 7.2(iii)).

3.10 The proposed FSAC would support a comprehensiveprogram for the developmentof a well functioning financial sector and additional reform measures are included in the private sector developmentpolicy matrix (Annex 2). The strategy for developmentof the financial sector includes: (a) reliance on market-determinedinterest rates; (b) implementationof indirect means of monetary controls and the eliminationof direct controls; (c) the strengtheningand restructuringof existingfinancial institutionsto make them more competitiveand efficient;and (d) the institutionof sound regulatory and supervisory practices in BNR. A key objective of this strategy is to create a sound policy environment and a solid institutionalframework which can meet the investment financing and other needs of the private sector. Anotherobjective is to reduce Governmentparticipation in the sector and thus encourage private sector development in a growing financial sector. In order to implement its strategy in the financial sector the Governmenthas identified, and already started to implement a number of reform measures agreed with IDA. By letter dated December 30, 1992, the Government confirmed its commitmentto continue and complete the agreed reforms, with most measures to be put in place by December31, 1994.

3.11 Improved Resource Mobilization. During 1993 and 1994, monetary policy instrument such as reserve requirements will be introduced; and others such as the rediscount mechanismwill be reformed. In addition, money market instrumentswill be developed, includinga Treasury Bill Auction system whichhas been studied and is scheduledto be put in place before the end of 1993. Monetary and credit policies in the future will rely more on the use of reserve requirementsand flexible interest rates, and less on the rediscountfacility at BNR. As a result, interestrates will be fully liberalizedin 1994 and the rediscount mechanismused only as a last resort to control money supply.

3.12 Increasing the Efficiency of Financial Institutions. Commercial banks will be strengthenedfinancially by allowing tax-deductibilityof provisions against bad debt and requiring their -12- risk assets to be covered in accordancewith internationalnorms, as determined by the capital adequacy ratio (para. 7.6(iii)). Cerain financialinstitutions with controllingpublic participation, CER, BRD, CHR will be restructured. In the case of CER the Governmenthas already decided its liquidation,which is now underway. BRD will be first financiallyrestructured (Annex 14). An institutionaldevelopment and diversificationprogram will follow, which is expected to pave the way for its possible privatization. Finally, the guaranteefund (FSG, Annex 8-B)has failed to work properly because of the poor conception of its operating rules and procedures, and its failure to honor its guaranty commitments. FSG by-laws will be amended to make the fund an effective mechanism for increasing small entrepreneurs' future access to credit while encouragingbanks to exercise due diligence in credit supervision. Additionally, all existingvalidated outstandingclaims will be settled during 1993 (Annex 8-B and para. 7.4(i)).

3.13 Strengtheningthe Legal and RegulatoryFramework. Reforms of the financial sector's regulatoryand legal frameworkare alreadyunderway and are expectedto be completedwithin two years. These reforms will shift from direct to indirect control mechanismsin the conduct of monetary policy and strengthen the supervisoryrole of BNR. Planned actions include changes in the banking legislation (FinancialInstitutions Law and BNR statutes), giving BNR clear authorityover all banks and financial institutionsand enablingit to conduct effective monetarypolicy. BNR's mandate will include licensing banks and financial institutions and setting minimum capital levels; establishing a minimum capital adequacyratio; implementingregulations on the classificationand provisioncoverage of non-performing loans; and limiting banks' exposure to a single party or group. BNR's revised banking law and statutes are being finalized followingIDA and IMF observations.

Public Enterrise Reform

3.14 There are 86 PEs, 60 of which are engaged in productive and commercial activities, including 18 with majority private ownership. Certain PEs play a key role in the economy, despite the sector's relatively low share of GDP (ess than 10 percent, including those with minority public ownership). About 85 percent of exports (coffee, tea and other cash crops) are by PEs. The sector employsabout 15,000 people, and foreign loans on-lent to PEs accountfor about one-third of the national debt. The sector's performancehas been disappointingand many PEs have experiencedsteady losses throughoutmost of the 1980s, despite subsidiesreceived from the central governmentbudget. Detailed analysisundertaken in 1989 concludedthat this poor performancestemmed from: (a) the absence of clear governmentobjectives and targets; (b) an incoherent and inconsistentlegal framework which prevents management autonomy and deflects accountability; (c) poorly qualified managers lacking business expertise; (d) inadequatefinancial managementand controls; and (e) inadequatelyconceived projects at design stage.

3.15 Since 1990, the Governmenthas embarkedon a comprehensiveprogram of PE reform, supported by IDA under Cr. 2113-RW. The reform program aims to (a) reduce the burden that PEs imposeon the governmentbudget and administrativecapacity; and (b) develop and streamlinethe sector to make it more efficient. Specifically,the implementationof this program will involve: (a) eliminating new direct public investmentsin productive and commercialsectors; (b) changing and enhancingthe institutionaland legal framework of PEs to increase their autonomy and accountability,and to ensure better supervisionby the Government;and (c) amelioratingPE performancethrough a comprehensive restructuring and privatization program. In addition, in the context of the proposed AGSAC the Governmentwould speedupthe restructuring and privatizationof agro-industrialPEs, includingthe tea subsectorwhich has significantunexploited potential. The restructuringand privatizationof other PEs are also supportedby other ongoingIDA Credits or proposedprojects. These includea number of public utilities such as Electrogaz(electricity and water, under a Credit approved by the Board on February 9, -13 -

1993),the telecommunicationscompany (under Cr.2189-RW), and Petrorwanda(importer and distributor of petroleum products), whose improved services would play a key role in private sector development. Someof these activitiesare natural monopolies,however, and the Government intendsto adopt indirect instrumentsof control to ensure that their pricing policies are consistent with public interest.

3.16 Administrativedelays in Credit effectivenessof the PE reform project and subsequent political instabilityinitially slowed the pace of reforms and retarded restructuring actions. However, progress has been achieved in adopting new legislationfor PEs (approvedby. the NationalAssembly in July 1993) which, except in the case of those of purely administrativenature, would give them a legal status which is in better harmony with private firms and facilitate future privatization. The Credit was reoriented in June 1993 and greater emphasiswas placed on its privatizationelement. This will support the implementationof the Government'sdetailed privatizationstrategy, which is expectedto be adopted by October 1993. The strategy will facilitatea broad-basedconsultation on this often controversialissue and permit faster implementationof the privatizationprocess by avoiding a time consumingcase by case approach. Finally, the process of privatizationhas alreadybegun. Two mixed industrialPEs (Sonatubes, maker of pipes, and Rwantexco,a blanketmanufacturer) were privatized in 1992. The Governmentalso decided to divest from and/or liquidate three other PEs, includingthe CER.

Private Sector Taxation

3.17 lhe Svst. Corporate income and other direct taxes accounted for only less than 10 percent of total tax revenue between 1987 and 1990 (about RwF2.5 billion annually, US$20 million in 1991 prices, excluding arrears and penalties), as the budget has relied increasinglyon indirect taxation and external grants to generate revenues. All registered enterprises, including PEs, are subject to the same nominaltax system. In practice, taxes are paid only by the 25 or so larger firms in the modern manufacturingsector. Most PEs and many of the smallerlocally-owned private enterpriseshave not paid taxes in recent years. Some fins have enjoyed tax holidays granted under the investmentcode, which was suspended in 1991, while others have escaped taxation because of inadequate follow-up by the Ministryof Finance.

3.18 The corporate incometax rate of 50 percent and the 20 percent dividend withholdingtax rate combine to an effective 60 percent tax on corporate profits. A levy of 3 percent of capital (the upatente")is collectedat the beginningof each tax year. This tax is both a minimumtax and an advance by firms to the Governmentof that year's tax. It discriminatesagainst firms with a high level of equity relative to gross assets. For smaller firms, particularlymicro and informal activities, the 'patente' is specified in terms of an absolute amount accordingto the type and location of the activity. Operating losses can be carried forward for a period of four years. Other corporate taxes include: a turnover tax ("impot sur le chiffre d'affaires', ICHA) of 10 percent on most goods and services, which has undesirablecascading effects; and property taxes assessedon land, buildings and vehicles.

3.19 Constraintsand Reforms. The corporatetax system in Rwanda discouragesinvestments by heavily taxing nominal returns. It also tends to distort resource allocationdue to (i) favorable tax treatmentof debt-financedinvestments by allowingfull interest deductibility;and (ii) a relativelyheavier effective tax burden on slowlydepreciating assets (i.e., industrialmachinery) resulting from the lack of adjustment for inflation. The IMF has helped the Government improve the tax system and Its administrationby (a) bringing more firms into the tax net and thus creating an opportunityfor revenue neutral tax cuts; (b) training tax inspectorsand computerizingthe tax departmentto enhancemonitoring; and (c) redrafting various laws and regulations in the tax code to clarify tax provisionsand reduce the -14- scope for its arbitrary interpretation. An IMF expert assigned to the Ministry of Finance, working in Rwanda since 1991, has proposed a comprehensivereform program (paras. 4.10-11).

Legal and RegulatoryConstraints

3.20 Sustainedprivate sector developmentrequires legal and regulatory reforms aimed at the establishmentof an enviroment for the free and unimpededmovement of capital and labor. To establish this enabling environment,the existinglaws need to be revised and implementedeffectively, which in turn requires settingup the appropriateinstitutions, specifically the proposed Tribunal of Commerce, and creating the legal and paralegal professionsneeded to improve the transparencyand speed of execution of judicial decisions. The issues summarizedbelow are based on studies and action plans agreed with the Governmentfor reforming business and labor laws (see Annex 6 and 7) undertaken during project preparation.

3.21 AdministrativeRegulations. Until recently,Rwanda's administrativeregulations hindered private investmentand entry into new business activities. This regulatory system originated in the late 1970s when administrativecontrols were put in place. Even though enforcement was relatively lax initially, problems associatedwith this system became more severe in the mid-1980s, particularly as macroeconomicimbalances increased. For example, incorporationtook a year or more and business licensing (to produce and engage in internal or external trade), which should in theory be a simple annotationin the commercialregistry, could take many months.

3.22 Recent reforms have focused on eliminatingredundant regulationsand rationalizingthe remaining procedures governing enterprise creation and registration, import and export trading and licensing. In particular, prior approval of Ministry of Commerce and Industry has been eliminated for enterprisecreation. Furthermore, the law on the commercialregistration was amendedin August 1991. The commercial registry was transferred to the civil courts, which presently act also as commercial courts, and the paperwork was reduced and simplified.

3.23 The implementationof the new progressive regulatory system is being monitored and improvedcontinuously. To simplifyenterprise registration, the informationrequired will be standardized. Maintainingthe registry will fall under the competenceof the proposed Tribunal of Commerce. To ensure adequate flow of information among public agencies and other interested institutions, a managementinformation system wil be set up, and the commercialregistry will be computerized. Funds will be allocatedunder the project to finance the required technical assistanceand institutionalsupport (para. 4.36).

Bsines Law

3.24 The legal frameworkand manyof the existingbusiness laws originatefrom Rwanda's pre- independenceperiod. Ad-hoc legal texts have accumulatedsince independence. Legal provisions on business, real estate, fiscal and related matters are neither codifiednor coherent. Some commercialrules are included in real estate laws, fiscal and other texts. The present situation impedes prompt and equitablejudgments on disputes concerningenforcement of contracts and property rights. Moreover, there is no clear definition or delimitationamong judicial, legislativeand executiveauthorities, leading to a lack of checks and balances, and of transparency. Often, the same institution is responsible for drafting, interpreting and executinga law. Another complicatingfactor is the absence of a specialized Tribunal of Commerceand private auxiliaries of justice, which contributesto the legal system tending to be biased against the private sector in its claims against the Government and to frequent delays in -15- settlingbusiness disputes: there are over 500 unresolvedcases brought by banks alone that have been in the courtsfor longer than 5 years without any meaningfulactions or decisionsby judicial authorities(see Annex 8-B). Finally, in part because of lack of business expertise, judgments are not always fair and well founded. The Govermmentrecognized the shortcomingsof the existingbusiness legal environment, and launched a study of the existing legislation, which has identified the shortcomings of the legal framework. The Government confirmed its agreement to take all measures necessary to reform and modernize business laws, and create a Tribunal of Commerce (para. 4.12) during negotiations, and implementationis expectedto be completedby December 1994 (para. 7.4(ii)).

Labor LAw

3.25 The functioningof the formal labor market is hindered by policy induced distortions. Current labor laws, which set conditionsof employment,frustrate private sector and export development in labor-intensiveactivities by inflatingwage and non-wagecosts, limitinglabor mobility and decreasing the number of days worked. A comprehensiveanalysis of labor laws, their application and their economicinmpact has been completedand discussed with the Government. The Governmenthas agreed to the action plan proposed in the study (a synopsisof which can be found in Annex 7), which is a conditionof second tranche release of the SAC, and is committedto ensure its speedy implementation, much of which is scheduledfor 1993. Some of the agreed measureshave alreadybeen implementedand the rest should be completed at the latest by December 1994 (para. 7.5(iv)). The main problems identified and the actions agreed (para. 4.14) to are as follows:

(a) The Ministry of Labor maintains a registry of job seekers. Any enterprise employing more than five permanent workers has to inform the Ministry of a vacancy, who then prepares a short-listof candidates. Exceptfor the lowest skill category,all positionshave to be filled from such a short-list, and the enterprisecannot select among other qualified candidates. This policy aims to maintainan ethnic and regionalbalance, but it prevents the labor markets from functioningadequately. The stated objectivesare not reached in practice, create undue delays, increase administrativecosts and impose economic costs on the private sector. The action plan calls for the eliminationof the registry of jobs, except to -the extent that it is necessary for its functioning as a clearing house for statisticaland informationalpurposes.

(b) The movementof populationis controlled in Rwanda. Thus, a job seeker who wishes to obtain employmentoutside his/her county ('prefecture') needs to obtain a residency permit there. In practice, however, such permits are difficult to obtain. This policy severely restrains labor mobility and the Governmenthas agreed to eliminate it.

(c) The law sets minimumwages for various unskilledand skilled categories. The absolute minimumwage, that for the lowest category of unskilledworkers, is RwF100 (US$0.8), which is relativelylow. In practice, most workers are classifiedin higher skill categories and all private sector workers receive a statutory annual increase(3.25 (d)). As a result, formal sector wages are inflated: according to available estimates average labor costs, includingnon-wage elements, in Rwandesemanufacturing typically range betweenUS$70 and 100 per month, about twice that of Kenya where productivity is much higher. The agreed action plan provides for setting a uniform minimumwage.

(d) The present law entitles employeesto annual pay increases of at least four percent. In the private sector, a yearly wage increase has become an assumed entitlement without -16-

regards to merit, increasingthe price of labor. The Governmenthas agreed to eliminate this practice, which will thereafter be freely negotiated between the employer and the employee.

(e) Employers are discouragedto rely on overtime work because statutory compensationis quite high, 50 to 70 percent above normal wage rates. Moreover, workers benefit from overlygenerous paid holidays, includingnormal vacation,official holidays, circumstantial leave (marriageor death of relative), extraordinaryleave (declaredby the authorities)and sick leave. As a result in 1991 the average worker in Rwanda worked for only 191 days, 45 days less than in most other comparablecountries. The action plan seeks clarification of the rules governing overtime and seeks to reduce the number of the various paid leaves.

ort Promotion

3.26 Rwandeseexports are not diversified,with about 80 percent of receipts being accounted for by coffee and tea. Other traditional exports, including mining products (tin), pyrethrum and chinchona,have been in steady decline. During the secondhalf of the 1980sthese traditionalexports and nascent non-traditional ones suffered from low profitability caused mainly by inadequate economic policies, particularly the overvalued exchange rate. Coffee exports also stagnated because of steady decline in the internationalprice and insufficientinvestment in the activity to produce higher quality products. Rwandesetea is one of the best in the world, but its potential with respect to production volume and its price on internationalmarkets, is yet to be fully realized. The problems of the traditional export activitiesare also related to inefficientPEs that operate upstream. These have tended to skim-off a portion of the activities' surplus and contribute to losses. Non-traditional exports, particularly manufacturedand horticultureproducts, have shownsome potential in recent years. Their development has been constrained,however, by logisticaldifficulties, includingair transport, and other weaknesses attributableto insufficientknow-how.

3.27 Reforms agreed to under the PE reform program (paras. 3.14-16) are expected to lead to greater efficiency in export activitiesfollowing the restructuringand privatizationof inefficientfirms. The reform and privatizationof coffee and tea operations are the focus of the proposed AGSAC, which shouldhelp boost both activities. Non-traditionalexports also would benefit from the improvedbusiness environment and measures supported under this project, including the liberalization of air transport (paras. 3.29-31). Becauseof the weakproduction base, expectationsfor export diversificationand growth in the short- to medium-termshould be realistically moderate. Nevertheless, while the exchange rate adjustmentshave improvedsignificantly their competitiveness,the full realizationof the exports' potential will require additionalmeasures.

3.28 To be internationallycompetitive, exporters will be compensatedfor indirecttaxes levied on their inputs. The compensationsystem alroady exists in the export promotionlaw (adopted in 1991), but it does not function because administrativeprocedures have not yet been adopted (the law provides for a restitution, in the form of a tax credit, equivalentto 10 percent of the fob value). Appropriate procedures are expectedto be put in place before the 1994 budget is approved: the tax credit would be in the form of a negotiable certificate delivered promptly on the basis of only two documents, the certificationof export and proof of foreign exchangerepatriation. A concertedeffort is being considered to encourage new purely export-orientedinvestments. A special regime, in the form of a free-zone legislation, will be adopted to stimulate export processing activities, manufacturingunder bond, and reexport trade (para. 4.15). The examples of successful free-zones suggests that the main desirable -17- characteristics of this regime would include very simple regulatory requirements, a conducive tax structure (typically a single tax of 15 percent on profits), and liberal labor regulations, including the hiring foreign techniciansand managers, and firing workers.

3.29 Air Transport. As a landlocked country, Rwanda's trade is dependent heavily on internationalland and air transport. Most non-traditionalexports, particularly those that are perishable and of high value such as horticulture products, need to reach their final destination quickly which mandatesthe use of air transport. Three Rwandeseinstitutions provide support services and regulate the sector. Airport management and various services (navigation, lighting, passengers etc.) are the responsibilityof a PE, the 'R6gie des aeroports". Air Rwanda, the national airline, performs handling services at the airport and offers freight service to Europe with scheduledairlines; the market shares are now determinedby an agreement. Finally, air transport is regulated by the Ministry of Transport and Commrunications(MINITRANSCO). Its responsibilitiesinclude approving landing rights, in whichmatter it always consultswith Air Rwanda.

3.30 Transport of freight by air is costly and there are only a handful of regular scheduled destinations. A significantpart of these problems is caused by inadequate regulatory arrangementsand the inefficienciesof Air Rwandaand the 'Regie". Airportfees for navigation,passenger tax and lighting, are broadly in line with those levied in neighboring countries (Burundi, Kenya and Uganda). Landing fees and related services, which cost about 50 percent less in Kenya, need to be revised (para. 4.16). Airport operations are being studied (under Cr.2113-RW)with a view to improvingperformance.

3.31 Air Rwanda collectsroyalties from other airlinesflying into Rwanda, which are passed on to their customers. Its handling operations are highly profitable; figures show an income/costratio of 600 percent in 1990. The royalties and profits are used to subsidize commercialoperations, which showed a deficit equivalent to almost US$2 million in 1990, not even covering variable costs. The market sharing agreement is detrimentalto competitionand high handling costs penalize exports and imports. Finally, the lack of regular air connectionsand administrativedifficulties and the cost of arranging for charter flights is an impedimentto exports, which together with pricing policies will be taclded under the project (para. 4.16).

C. Government Strateg for Private Sector Development

3.32 The Governmentbelieves that private sector-ledgrowth in all sectors can provide much needed employmentand make a significantcontribution to the diversificationand expansionof Rwanda's export earnings. Rwanda's physical constraints and the limited capacity of agriculture, however, underscore the need for a vigorous program of actions in other sectors. The government strategy focusses, therefore, on the imperative of making extraordinaryefforts to improve performance in the industrialand servicessectors. While considerableprogress has been achievedin the past two years with regard to economicliberalization, particularly in the trade regime, the critical mass and depth of reforms needed to elicit a sustainablesupply response from the private sector have not yet been attained.

3.33 The developmentof the private sector has been hampered by policy barriers as well as by regulatory constraints. The evolution of firms has been slowed by low domestic demand and difficulties in exporting, exacerbated by an underdeveloped international transport system. Private investment also has been hindered by poor access to long-term credit as well as by the lack of initial equity, the presence of the state, as either a producer or a regulator and a relatively limited trading, handicraft, or industrialtradition. -18-

3.34 The industrial sector is small, even when compared with low-income developing countries. Therefore, a limited supply response can have a notable impact. Most existing private and public firms suffer from only marginalviability and their existingequipment is obsolete, worn-out, and, in the case of some PEs, operatewith inappropriatetechnologies. While existingviable enterpriseswould benefit from being rehabilitated, much of future economic growth is expected to come from new activities. Bothprivate and public firms suffer from managerialdeficiencies and low productivityof labor which can be improved, thus rendering the enterprises more competitive.

3.35 The Government'sprivate sector developmentstrategy and relatedpolicy and institutional reform measures are outlined in the Statementof Private Sector DevelopmentPolicy and the matrix of reforms (Annexes 1 and 2) adopted by the Governmentin May 1993. The proposed strategy consistsof puttingin place an enablingenvironment that encouragesinvestments in labor-intensive,export-oriented activitiesand attracts foreign investors. A vibrant informalsector also could be an important source of new entrants into modern activities. Informal sector entrepreneurs,however, need a conducivetax and regulatoryregime to bring them into the formal sector (paras. 2.10-11).

3.36 In order to turn around the performanceof the private sector and give it a central role in Rwanda's future development, the Government intends to combine policy reforms, institutional strengthening,and aggressive action to attract and develop private entrepreneurship. Both labor and capital will be priced freely to encourageemployment creation. Furthermore,the effectivedisengagement of the state from the productive sectors will provide new private investment opportunities. Public disengagementwill be made rapidly where the opportunity presents itself (where the state holds a minority share), but may realisticallytake longer in other instances (para. 3.16).

3.37 The developmentof the private sector will depend on its acquisitionof know-howand the developmentof a skilled labor force. In the long run, the main objective will be to upgrade and extend primary and secondary educition, giving greater emphasisto French, mathematics, and sciences and to decreasingthe number of high-schooldrop-outs. In the short- to medium-term,the focus will be on improvingand expandingvocational training facilities and managementprograms. Some of these capacity-buildingefforts are expected to target key segments of the labor force with growing private sector involvementin their design and implementation.The Governmentalso proposesto support private- sectordriven efforts to strengthen business managerialand technical know-how immediately(Annex 5 and paras. 4.19-21).

3.38 Beyond continuingefforts aimed at macroeconomicand political stability, the economy will be openedfurther to externalcompetition through the adoptionof a more active exchangerate policy, a further reduction in effective tariff protection from imports, and full current account liberalization. These measures, which are supported by the ongoing structural adjustmentprogram, will create a free foreign exchangeallocation system and reduce the anti-exportbias. Many of these reforms were initiated in 1991, but their implementationneeds to be strengthenedand their coveragebroadened (paras. 3.4-8).

3.39 Additionally,reforms will be extendedto taxation(paras. 4.10-11) and the regulatoryand legal framework (paras. 4.12-13 and Annex 6). The objectiveof tax reforms will be to create a geneca1 systemthat not only does not discourageinvestors but goes beyondbest practices in other countries, such as Mauritius,to compensatefor Rwanda'sphysical constraints. The resulting tax burden would be more encouragingof investment,but would maintainfiscal revenuesby combininglower tax rates with better tax enforcementand more transparentprovisions. The objectiveof regulatoryreforms will be to remove administrativebarriers to enterprise creation and to eliminatethose instancesof business licensing that serve no useful purpose. These reforms will be supportedby a longer-term effort aimed at updating -19-

obsolete laws and improving the enforcement of contracts. The resulting legal framework would incorporateclearer provisionsfor enterprisesand workablebankruptcy laws and develop the private legal and paralegal professions.

3.40 Given the small size of the domestic market, an export orientation is essential. Affirmative action for exporters will be necessary. Private consultingservices partly financed by the special fund (Annex 5 and paras. 4.19-21) will be made accessibleto exporters also, in order to help them resolve their logistical,marketing, and other problems. The Governmentwill monitor and identify bottlenecksin various export subsectors and help resolve problems as they arise. Air transport, which is expected to be the main mode of transport for exports, should be liberalized (para. 4.16). Other measurescould also help promote exports. Effective implementationof the simplifiedtax compensation scheme will also be important. The tax code, and a free-zonelegislation (para. 4.15) need to be used as a tool to attract export-orientedinvestment and small-scaleenterprises.

3.41 The main remainingdistortions are found in the labor market (Annex 7 and para. 4.14). Evidencefrom the unregulatedinformal labor markets suggeststhat Rwandahas a comparativeadvantage in labor cost. In many instances, however, the formal sector does not benefit from this advantage because of labor laws and regulations that increase labor costs substantially. Without significant reductions in these costs, the growth of both industrial exports and small and medium-sizedenterprises is likely to be severely constrained. Moreover, Rwandaneeds to place greater emphasison improving labor productivitythrough the developmentof skilled labor, by upgrading manpower capabilities and increasingthe technical and industrialorientation of the educationalsystem.

IV. THE PRJECI

A. Project Objectives and Justification

4.1 The Bank's main objective in Rwanda is to promote sustainablegrowth spearheadedby the private sector with the Governmentacting as facilitatorand provider of social services. To meet this goal, the Bank is supportingthe establishmentof an incentive framework conducive for private sector investment, and providing the means to enhance private sector competitivenessby encouraging its rehabilitation. The structural adjustmentand public enterprise credits are supportingthe divestiture of the State from productiveand commercialactivities and significanttrade and price liberalizationwhich constitutesignificant steps towards opening the economyto internal and external competition.

4.2 Experiencewith adjustmentin other countries has demonstratedthat specific incentives, institutional,and legal and regulatoryissues hinderingprivate investmentcannot be addressedexclusively by macroeconomicand public enterprise reforms. The removal of sectoral policy constraints and institutionalbarriers is crucial for a substantialsupply response. The Governmenthas therefore requested additionalBank support in these areas, which will be provided through two adjustment operations in agricultureand the financialsector as well as throughthe project. The adjustmentprograms will provide the Governmentwith the financing required to sustain the balance of payments, while the project will provide complementaryresources for investmentand institutionalstrengthening.

4.3 The proposed operationwould therefore help create a business environmentthat would enable the private sector to becomethe engine of growth. The action plan calls for measures aimed at removingthe key constraintsto privatesector development,including wide-ranging tax, institutional,legal -20- and regulatory reforms. To help ensure rapid and tangible results, the project will provide long-term funds for private investmentfincing and expert support to private operations and promoters, helping them to become more efficient and able to take advantageof business opportunities. In addition, IDA will provide the Governmentwith the means to secure prompt and effective implementationof the agreed measures and to strengthenits long-termcapacity to be effectivein its role of facilitator. The project has explicitly taken into account the planned and ongoing efforts of the donor community to ensure complementarilyand avoid wasteful duplications.

B. Lessons from Previous Bank Experience and Bank Group Straten

4.4 Since the late 1970s, IDA has extended four lines of credit to the development bank (BRD). The latest Credit (Cr. 1650-RW)was approvedin 1986. It is fully committedand disbursements shouldbe completedby the Closing Date of December 31, 1993. The most recent project Completion Report (PCR, No. 8799-RW)assessed the second and third Credits (Cr. 896-RW and 1344-RW). It concluded that: (a) BRD faced problems due to the deteriorating macroeconomic environment and increasinggovernment interference; (b) BRD lending to risky small scale enterprises would adversely affect the quality of its portfolio due to the low interest charged; and (c) recommended that future operations shouldmove away from a single institutionapproach towards an Apex type operation in order to enhance sectoral performance. The project includes an Apex line of credit as one of its components and the proposed FSAC is expectedto tackle financial sector policy and institutionalissues.

4.5 The experienceof technicalassistance projects in Rwanda has been mixed, in part due to lack of ownershipby the Government,and partly because experts have tended to substitutethemselves for their counterparts. The assistance for institutionalstrengthening proposed for the Ministry of Commerce and Industry will draw lessons from the approach being implemented under the Public Enterprise Reform project (Cr. 2113-RW). This approach relies on a mixture of short- and long-term assistanceprovided by internationaland local experts, collaboratingclosely and effectivelywith qualified and motivated governmentcounterparts. The assistance to the Ministry envisagedunder the operation will be provided by local experts, to the extent possible. It will be organized so that it has adequate access to decision makers to ensure rapid actions while working as a team with Ministry of Commerce and Industry's staff and providing them with on-the-job training.

4.6 Adjustmentlending in Rwanda dates back to 1991 only. During this short time period, the Govermnenthas demonstrated its willingness to follow up on its commitments. Implementation, however, has been lacking at times. In some cases this was caused by circumstancesthat are difficult to avoid; for instancethe larger than agreed budget deficit was caused by increased militaryexpenditure to cope with security problems. In other cases implementingagencies have lacked the necessary resourcesand capacity to ensure speedy and effectivereforms. To avoid the secondproblem, the project will finance the resources required by institutions responsible for executingthe agreed private sector reforms.

4.7 The Bank group strategy is to support private sector developmentthrough adjustment credits, and investmentand technicalassistance operations. The ongoing adjustmentprogram (SAC)will be reinforced and broadened by two proposed sectoral adjustnent operations in the financial and agriculture sectors (FSAC and AGSAC). The IFC has expressed renewed interest in Rwanda and envisagesfuture involvementin the privatizationof PEs and financingprivate investmentto complement the Apex line of credit. Finally, the ongoingPublic EnterpriseReform Credit is helping the Government in its PE restructuringand divestitureefforts. -21-

C. Prolect Description

4.8 The project is an investmentoperation comprising of a line of credit to financeinvestment projects throughparticipating financial institutions (PFIs); a fund to provide market-baseddemand-driven management consulting support to private companies and promoters (the PSSF); and resources to strengthen institutions (BNR, the Ministry of Commerce and Industry and the proposed Tribunal of Commerce) responsible for facilitating private sector investment and development. These mutually reinforcing components will ensure that the major internal and external constraints to the sector are alleviated, and that long term resources are availableto financethe private sector investmentstimulated by the eliminationof these constraints. In addition the Governmentwill continuethe process of policy reform under this operation, undertaking critical actions spelled out below (paras. 4.9-16) and in the Statementof SectoralDevelopment Policy and the policy matrix (Annexes 1 and 2).

Imlementing the GovernmentStrategy: Policy Measures

4.9 The implementationof the government strategy is supported by the project. The Governmenthas agreed on a set of objectivesand the associatedtimetable for actions (Annex 2) and will ensure that implementationagencies have the required resources. The realizationof the strategy would entail taking specific measuresto tackle the followingpolicy constraints:

(a) Enablingprivate sector growth through (a) the adoptionof a clear and well adaptedlegal and regulatoryframework, particularlywith regard to legal enforcementof contractual obligations(para. 4.12); (b) effectiveliberalization of factor markets, particularlyeasing labor regulations with respect to compensationand hiring (Annex 7 and paris. 4.14); (c) a more evenly distributedtransparent tax systemthat lowers the maximumtax burden and causes fewer distortions in investmentdecisions (para. 4.10); and (d) amelioration of export incentives(para. 4.15).

(b) Attracting new investmentsand improvingthe competitivenessof existingprivate firms by: (a) reaffirmingthe principle of freedom to invest without restrictionson the size of the investment,the sector and ownership;(b) availinglong term resources to the financial sector so that it can financemedium- and long-terminvestment (paras. 4.17-18); and (c) helping overcomemanagerial and entrepreneurialshortcomings, which have led to poorly conceivedprojects and make firns inefficient(paras. 4.19-21).

(c) Strengthening key institutions (paras. 4.22-23), including BNR, the Ministry of Commerceand Industry, and the Ministryof Justice (Tribunalof Commerce),responsible for implementingand following-upthe desired private sector developmentstrategy and ensuringthat the agreed measures are put in place properly.

4.10 In the area of tax reform measuresto be taken include the following:

(a) Allowingbanks and financial institutionsto deduct allocationsto provisionsfor doubtful loans from taxable profits when such allocations are made in accordance with loan classificationand provisioningguidelines issued by BNR.

(b) Replacingthe turnover tax rate of 10 percent with a value-addedtax (VAI) of 10 to 15 percent. -22-

(d) Counteracting the effecs of lack of inflation accountng and inadequate depreciation allowances by revising schedules allowing for faster depreciation of machinery and equipment, by permittingthe legal, tax deductible, reevaluationof assets, and allowing to carry-forwardlosses over five years instead of four years.

4.11 During negotiations agreement was reached that, except for the VAT which requires further preparation and will be introducedlater-on, the revenue neutral reforms listed above would be implementedby end 1993 (para. 7.5 (ii)). The mid-termreview will assessthe implementationof these measuresand will evaluateand study the need for further reforms, includingthe introductionof the VAT, and the possiblereduction of the tax rate on corporateincome, from its present rate of 50 percent, within the restrictionsimposed by the budgetary situation.

4.12 In the area of business law reform, the project would support the establishmentof the Tribunal of Commerce (para. 3.24) as well as the implementationof the action program to put in place modern business laws and remove observed deficiencies by undetaking the following (the detailed descriptionof the proposed reforms are set forth in Annex 6):

(a) Liberalizationof the rules governing the establishment,registration and functioningof business enterprises (para. 7.5(iii)).

(b) Simplification and updating of the regime of negotiable financial and commercial instruments,guaranties, secured transactions,sales, leasing and factoring (para 7.5(iii)).

(d) Promulgationof a law establishingthe Tribunal of Commerce,appointing a qualifiedand experiencedlawyer as its President, and adoptingthe text regarding its organizationand functioning(para. 7.4(ii)).

(e) Propose new administrativeprocedures and an acceptabletimetable for settlingpending disputesrelated to banks' loans within a period of three years (paras. 3.24 and 7.4(ii)).

(f) Authorizethe creation and functioningof private legal and paralegalprofessions including notaries-public,process servers, liquidatorsand auctioneers(paras. 3.24 and 7.5 (iii), and Annex 6).

4.13 The above undertakingswere agreed to by the Governmentduring negotiations;(iv) and (v) are conditionsof disbursementfor the institutionalstrengthening component; (i)-(ii) and (vi) would be completedby December31, 1994. The project wIll finance, through its assistanceto the Ministryof Commerceand Industry (paras. 4.35), consultingservices and studiesto codify and modernizeRwanda's commercialreal estate, and other economicregulations and legislation. Most of the reforms and revisions require technical work which is expected to be completed during 1993 and 1994 and implementedby December 1994. To allow sufficienttime to determine its impact, the revised legal framework will be assessed during the mid-term review of the project. A decision on the creation of the Tribunal of Commercewas confirmedduring negotiations(para. 7.2 (ii)). Belgian assistancehas already financed -23 -

an initial study and has committeda grant (about US$1 million) to finance the technical work required to revise businesslaws. The Credit would thus only financelimited short term complementaryassistance.

4.14 The Governmenthas agreed to revise the labor code (para. 3.25) to accommodatethe following changes: (a) abrogation of the obligation of prior enrollment in the registry of jobs; (b) eliminationof work permits for nationals; (c) settinga uniform minimumwage; (d) permittingwages and annual increases to be freely negotiatedbetween the employerand the employee; (e) clarifying the rules governing overtime; and (f) reducing the number of the various paid leaves. During negotiationsthe Governmentagreed to implementthese measuresby December1994 (para. 7.5 (iv)), which would allow adequatetime for adoptionby the NationalAssembly. These changes and other outstandingissues would be discussed during mid-term review.

4.15 To remove the bias against exporters, the administrationof the tax rebate will be made operationalin 1993. The project will also fnance the required assistancefor the Ministry of Commerce and Industry to prepare the free-zone legislation(para. 3.28). Technicalwork should be completed in 1993 and during negotiationsagreement was reached that the free-zone regime would be in place by December31, 1994, (para. 7.5 (i)). The effectivenessof export promotionpolicies and ways to further enhancethem will be assessedduring mid-term review.

4.16 In the area of air transport (paras. 3.29-31), and with a view to facilitate exports, the project will have as one of its objectivesthe simplificationof the procedures for obtaininglanding rights for charters so as to allow for timely and systematicdelivery of the necessary permits within 24 hours of a request being submitted. This will require the eliminationof all de facto regulatory power of Air Rwanda. Under the PE reform project and on the basis of a recently completedstudy, landing fees will be reassessed in 1993 and made consistent with marginal cost pricing. During negotiationsagreement was reached that appropriatemeasures would be taken so that air transport would be liberalizedby June 30, 1995 (para. 7.5 (i)).

SupportingInvestment: Credit Component

4.17 The current macroeconomicprojections by the Bank and the Fund estimateprivate sector investmentof about 6 percent of GDP annually (US$120million) to achieve GDP growth of 4 percent over the next three years. The project proposes a relativelymodest line of credit of US$7 million on the expectationthat this small operation will enable BNR and the PFIs to internalizethe system and will satisfy existingpent-up investmentdemand. The size of the line of credit componentis estimatedon the basis of actual investmentsby private firms between 1985 and 1990, taking into account only viable projects, as well as the pipelineof existingprojects as a base, adjusted by the estimatedpent-up demand and projected investmentresponse to the policy stimulus. IDA financingwill be through an Apex line of credit (paras. 4.24-25). The line of credit would finance, through eligible financial intermediaries, the foreign exchange and local componentof investmentfor new and existing enterprises registered in Rwanda on the condition that such projects are economically viable, financially profitable and environmentallysound. Investmentto rehabilitate privatized PEs and the necessary working capital associatedwith investment will also be eligible. It is expected that the majority of projects will be manufacturingand agro-industrialinvestments as well as for the permanent working capital of industrial enterprises.

4.18 After four years of postponing investments, considerablepent up private investment demand for new, and extension and rehabilitationprojects has built up (Annex S-A). BRD's pipelineof projects under study would require loans of about 7.2 million for 70 project proposals. The Ministry of -24-

Commerceand Industry has also compiled a list of 60 private investmentprojects, mostly exclusive of the BRD pipeline. Assuming a 50 percent casualty rate, these projects would require a conservatively estimatedUS$20 million in loan financing. While comprehensiveglobal rehabilitationinvestment needs and permanent working capital figures were not available, case studies showed that their respective financing requirements would be around US$10 and USS4 million, respectively. Thus the estimated investmentfinancing demand over the next three years surpassesUS$30 million. Assuming continued and speedyimplementation of the legal and regulatoryreforms, the prospectiveeconomy-wide investment demand is therefore estimated to steadily increase from US$7 in 1993 to US$20 million a year in the following four years. On a commitmentbasis such levels of investmentdemand imply an annual gross term credit demand of US$5 to US$13million in local and foreign currencies. It is estimatedthat during the commitmentperiod of September 1, 1993 - December 31, 1998, demand for IDA funds would amount to 18 percent of the total estimatedterm credit demand of US$40 million, i.e., US$7 million. Remainingfinancing would come from the supply of term credit resources in the banking system and from external donors, includingIFC's Africa Enterprise Fund (AEF).

EncouragingEntrepreneurship: Private Sector Supnort Fund

4.19 Private entrepreneurshipin Rwandaremains nascent. Most firms suffer from managerial, marketing,technological and other deficiencieswhich decreasetheir efficiencyand competitiveness.The absence of concrete affirmative actions aimed at improving initial project conception and subsequent enterpriseefficiency, would thus prevent supplyresponse to reach its potential and be sustainablebeyond the medium term. At present, the problems typically encounteredtend to be relatively straightforward (e.g. project conception and feasibility, financial management and accounting, stock management, adopting simple improvementsdesign and production techniques). These problems are expected to become more complex as the private sector grows and becomes more sophisticated(e.g., issues related to technologicalacquisition and export development).

4.20 The project, learning from lessons of the past, will tackle this problem by financingthe operationsof a demand-drivenmarket-oriented private sector supportfund (PSSF, detailed in Annex 5). Private entrepreneurswill be encouragedto hire managementconsultants with the expertise needed to solve their accounting, marketing, production and other problems. The fund will share in the cost of securing these services through IDA financed grants from the Governmentto private promoters (paras. 4.33-44). This approach will thus reduce the risks caused by the initial uncertainty associated with investmentsby firms in human capital. The PSSF will also play an important role in sensitizingthe private sector to the need to enhance its performance and competitiveness,by organizing specialized training programs and undertakingother forms of advertisingto ensure that all promoters, irrespective of size and location, are aware of this facility. The seminars wouldbe designedto encouragemanagers to focus on their operations' internalproblems.

4.21 The primary rationale of the PSSF is therefore to strengthen managerial, technical and operatingexpertise of the private sector, make it more competitiveand encourageit to find investment opportunities,so as to support sustainableprivate sector-ledeconomic growth. A secondary objective is to create a competitivemarket for qualityconsulting services and thereby open new opportunitiesfor the private sector. Private promoters wouldselect their own qualifiedconsultants and would pay for part of the cost of the service the rest of which, up to a given ceiling and on a declining basis, would be financedby the Fund. The Credit would contributeUS$1.5 million to this fund (a modest sum equivalent to about 0.5 percent of annual value added by private industries and services), on the expectationthat once the approach is demonstrated to be a success other donors would provide additional resources. Seminars, advertizing, management,monitoring and implementationcosts are estimatedat an additional -25-

US$1 million, also to be financedunder the project. All private industrialand service activities, except for large firms employingmore than 250 permanentworkers and subsidiariesof foreign firms, would be eligible to use the fund and participate in the seminars.

SupportingImprovements in the BusinessEnvironment: Institutional Strengthening Component

4.22 Weaknessin public institutionsand unclear responsibilitieshave led to uneven treatment of the private sector and lack of coherencein policies. Under the present arrangementsthe Ministry of Commerceand Industry is the main institutionresponsible for implementingthe private sector strategy and facilitating private sector development, outside agriculture. This Ministry lacks the capacity in human and financial resourcesto implementthis aspect of its mission. Moreover, it does not have a plan of prioritized actions. The Government has agreed that the Ministry should: (a) be responsible for monitoringand implementingpolicy actionsagreed to within the contextof the private sector development strategy; (b) coordinate and follow on behalf of Government actions undertaken by donors; and (c) establish an effective dialogue with representativesof the private sector and, to the extent feasible, respond to their complaints(outline of draft terms of reference for the strengtheningof the Ministry of Commercecan be found in Annex 9).

4.23 The project will provide financing of US$1 million to the Ministry of Commerce and Industry, which will cover the incremental costs associated with the expanded responsibilitiesof the Ministry. This amount will provide resources to ensure proper implementationof the agreed strategy, including short- and long-term experts, training the permanent staff of the Ministry, purchasing the required office and computer equipment, and ensuring the effective implementationof the reforms supportedby the project (Annex 2 and paras. 4.9-16). The creation of the Tribunal of Commerce(Annex 6) is another key action supportedby the project and once the conditionof disbursementrelated to its creation is met (para. 7.4 (ii)), it would receive financing of US$0.7 million to cover its short term assistance, equipmentand training needs. Finally, another US$0.3 million will be provided to BNR, as a government grant, to finance its training needs as well as that of key staff of financial institutions participatingin the Apex credit (para. 4.24).

D. Institutional Arraneements APEX 4.24 Project Management. The credit component would be made available to all sound privately sponsored investmentprojects, through eligible financial institutions with BNR acting as an Apex institution. These institutionswere appraised and are described in detail together with BNR in Annex 8. Proceeds from the Credit would be channelled through BNR to the eligible participating commercialbanks and the developmentbank, which would in turn lend to the final beneficiariesof the project. The participatingfinancial intermediarieswIll assumethe full financial and commercialrisks of the subloans granted under the Credit. BNR has agreed to act as the Apex institution, and to make availablenecessary budgetary and staff resourcesto that effectthrough its Departmentof MonetaryPolicy (DPM), which is also in charge of rediscountedcredit operations. A one percent interest margin will cover the required operatingbudget of the subloan administrationcomponent (para. 5.2). The DPM was appraisedand found to be a suitableconduit for administrationof the Apex Credit component(Annex 8). However technical assistance and training of the staff of the DPM and participating financial intermediarieswill be required, and to that effect, US$300,000will be allocatedunder the institutional strengtheningcomponent (paras. 4.23 and 4.36). The DPM will review appraisal reports of PFIs and approve their refinancingrequests, as well as subloanadministration and supervision. BNR has agreed -26- to enter into a SubsidiaryLoan Agreementwith the Governmentdefining the functionsand responsibilities of the DPM, under terms and conditions satisfactoryto IDA. The signing of the Subsidiary Loan Agreement is a conditionof effectivenessof the Credit (para. 7.3).

4.25 Eliiibility of ParticipatingFinancial Intermediaries. Bankinginstitutions in Rwandaare generally sound, but the difficult environmentof the past few years has affectedthe quality of the banks' portfolios. The financial and institutionalappraisal undertaken and detailed in Annex 8, has determined the eligibilityof two commercialbanks and, subject to the implementationof a restructuringplan, of the developmentbank. BCR, BK and BRD are deemed eligible as participating financial intermediaries providedthat they meet specificeligibility conditionalities and satisfygeneral eligibilitycriteria as detailed below. With regard to the fourth commercial bank, BACAR, its eligibility is deferred until it has implementedthe recommendationsof its auditors to increase its provisionsfor risks and take measures to improve its interestmargins and profitability. A review of BACAR's 1992audited financial statements will help determinewhether it has implementedsuch recommendations.As for BRD, it has alreadytaken measures to improve loan collection, and it has agreed, during negotiations, to implement the recommendationsof the just completedstudy, analyzingits sustainability(para 7.2(iv)). Measures to be taken include making additional provisions for risks of losses, organizational restructuring to close unprofitablebranches, and staff reduction. BRD has also agreed to defer plans to enter into commercial banking activitiespending further studies and implementationof the agreed measures. An action plan to improve BRD's performance (Annex 14) has been agreed to during negotiations, and satisfactory progress on its implementationis a conditionof BRD's eligibility (para. 7.6(iv)).

4.26 Participatingfinancial intermediaries will agree to implementinstitution-buildingmeasures as required under the project, and to undertakeannual audit of their financialstatements by independent externalauditors satisfactoryto IDA and BNR. The eligibleparticipating financial institutions(PFIs) will enter into a Participating Agreement with BNR (para. 7.6 (ii)) in which the PFIs further agree to undertake the following:

(a) Designate qualifiedstaff to manage the subloans financedby the project.

(b) Perform satisfactorysubproject appraisals based on agreed procedures and formats and submit the appraisalreports to the DPM; in so doing PFIs will pay particular attention to sensitizing project promoters on potential environmental hazards of individual subprojects, and adhering to Bank Procurement and EnvironmentalGuidelines agreed under the project, in close coordinationwith DPM.

(c) Maintain simple administrative, lending, guarantee, and disbursement procedures to facilitate commitmentand disbursementof investmentprojects.

(d) Ensure that resources are used by the final borrowers for the purposes intended.

(e) Supervise the implementationphase of subprojects and promptly inform the DPM of major problems expected to delay disbursementsand project completion;to that effect submit periodic reports on the status of subprojects.

(f) Provide training for their operational staff and technical assistance to build up internal capacity and carry out the tasks described above. -27-

(g) Adhere to agreed terms and conditionsof lending and repaymentof loans and bear the credit risk.

(h) Provide the DPM and IDA with such information as they would reasonably request, includingannual audits of their financial accountsand statementsperformed by qualified and independentauditors, acceptableto IDA.

4.27 A draft participating agreement has been finalized with the interested parties during negotiations. Receipt by IDA of a satisfactory signed agreement between BNR and a participating intermediaryis a conditionof disbursementof the credit component for that PFI (para. 7.4 (i)). In addition, all PFIs will have to maintain a satisfactory capital adequacy ratio according to the Cooke method (para. 7.6 (iii)).

4.28 EligibleBeneficiaries and Subproiects. All productiveand extractiveactivities, transport, trade and all other services which contributeto the economicdevelopment of Rwandawill be eligible for financing. The only ineligible projects will be the financing of land acquisition, development, and housing and office construction,and investmentsby parastatals with majority government direct and indirectownership. The line of credit will financefixed assets and associatedpermanent working capital for new operations,extensions and rehabilitations. Self-standingpermnt working capital requirements for industrialenterprises will also be eligible. Working capital requirementsof commercialand service enterprisesare not eligible. Eligible subprojectswill have to meet the following criteria in order to be approved for refinancingunder the credit:

(a) A minimumprojected financialrate of return of at least 10 percent in constantprices for all subprojects as well as a minimum economic rate of return of 10 percent for subprojectswith estimatedinvestment costs of US$350,000,or more.

Q,) The projecteddebt servicing capacity(defined as the ratio of interestand principalannual paymentsto cash-flowgenerated from operations),should be no less than 1:1.5 over the life of the subproject and the debt to equity ratio shouldbe no more than 2.33:1 with the ratios calculated on the basis of the enterprise's total debts, inclusive of those to be incurred under the subproject.

(c) Satisfactoryenvironmental impact reviews will be undertakenaccording to the National EnvironmentalAction Program, and as deemed necessaryby the DPM or IDA, in cases wherethe technicalreview of appraisalreports of selectedprojects indicatethey represent potentialenvironmental hazards (para. 6.3).

4.29 Sub-loanProcessing and Administration. Sub-loanprocessing under the project will be coordinated and centralized by the DPM, which will serve as the principal link between IDA, the participating intermediariesand the beneficiariesfor the project's investmentcomponent. Subproject appraisal reports would be prepared by the beneficiariesin accordancewith the agreed project appraisal procedures and criteria with, as needed, assistance from the DPM, and presented to the financial intermediaries. Tbe latter would review the fmancingrequests in accordance with their own appraisal and lending criteria and internal operating and decision procedures, and submit an appraisal report conformingto the agreed format to the DPM for refinancingapproval under the line of credit.

4.30 The DPM would review the appraisalreports to verify that all eligibilityand financing criteria and conditionsare met. This appraisalreview would be carried out on the basis of a simplified -28 - appraisalreport for projects with an estimated investmentcost of US$350,000or less (within 5 working days) and on the basis of more in-depth reports for projects with a higher investmnentcost (within 10 workingdays). These reviews will also ensure that subborrowershave undertakenprocurement consistent with agreed Bank Group guidelines(para. 5.18). If the subprojectis eligible for refinancingand satisfies the required technical, economic, and financial rates of return criteria, the DPM will authorize the intermediaryto present the relevant disbursementdocuments for reimbursementof eligible expenditures or opening of letters of credits for foreign suppliers. Subprojectsrequiring subloans equivalentto, and exceeding 13 percent of the Credit component,i.e., US$900,000,would not be eligible for refinancing.

4.31 To ensure internalizationof project appraisal procedures, PFIs, excludingBRD, would require prior IDA approval of their first three appraisal reports, including at least one requiring an economicrate of return calculation. In view of BRD's familiaritywith IDA procedures and its experience in project appraisal it will be exempted from the beginning from prior IDA review. The DPM would review and approve PFI requests unless IDA otherwise agrees. IDA would review a sample of subprojects,appraisal reports, and approvalson an ex-postbasis during supervisionmissions.

4.32 BNR, throughthe DPM, will serve as disbursementand collectionagent for the financing granted to intermediaries. The DPMwould directly managesubloan refinancing and collectionoperations upon approval. On the basis of the DPM's instructionsand authorizations, the Financial Operations Departmentof BNR would debit or credit the appropriatefinancial intermediary's accounts, and execute letters of credit confirmationsand other disbursementoperations without further interventionin subloan processing. Signingof a SubsidiaryLoan Agreementbetween the Governmentand BNR is a condition of Credit effectiveness(para. 7.3).

Private Sector Supoort Fund

4.33 This componentwill be under the supervisionof the Ministryof Commerceand Industry, but managed independentlyby a small team of experts financedby the project and housed in the Bank of Kigali, chosen because of its independencefrom the Government, dynamismand good image among the private sector. The BK has already agreed to provide the appropriate office space at nominal fee. The Credit would finance US$2.5 million for this component. The approach is complementaryto that of other donors and consists of a demand driven scheme, whereby the consultant is chosen by the entrepreneurswho also specify the nature of the assignment. A portion of the fees of such consultants will be paid by a fund set up speciallyfor this purpose (detailed in Annex 5). The followingobjectives, and criteria will be used:

(a) The fund's (PSSF) role is to provide matching grants. Its managementand staff are responsiblefor making sure that consultantshired are qualified, checking that the work program is clear, monitoringthe interventionsand evaluatingtheir effectiveness.

(b) The approach proposed involvessubsidizing the service recipient and not the provider of the service. Entrepreneursmust show real commitmentby sharing in the cost and would 'graduate' so that their use of the fund is limitedto US$100,000of consultingservices. The followingcost sharing scheme is proposed: -29-

CumulativeConsulting Costs Paid by: PS Beneflciaa

Up to US$10,000 70% 30% US$10,001to US$50,000 50% 50% US$50,001to US$100,000 30% 70%

(c) In order to focus the attention of the private sector on the existence of inefficiencies within their firms, enhance their analyticalskills and encouragetheir initiative, regular specializedten-day trainingseminars will be organized(see Annex 5 for seminaroutline). These seminars would first be given by internationalexperts but the methodologyshould be progressivelytransferred to local trainers.

(d) The fund will finance equally local and internationalexperts, but local firms are likely to engage in joint ventures with foreign consultantsto upgrade their own skills. With regards to internationalexperts, the fund would maintain a roster of qualified French- speaking retired executives who could provide expert advice, and could also help organizethe training seminars, at a fraction of the costs of other experts.

(e) To ensure transparency and efficiency, the existence of the fund should be properly advertized through the media, so that all entrepreneursare aware of it. A reputable NGO, IWACU, will be responsiblefor explainingthe approach to the informal/micro- enterprisesector. Larger, formal enterprises will be reached through the associationof industrialistsand the CCIR, once it is restructured. The following principles will also be respected: (a) the cost sharing rules should be strictly adhered to; (b) the accountswill be regularly auditedby an external auditor, up to twice a year during the first two years of operations; and (c) the discretionary power of the fund management will be minimized. In particular, only consultants who are clearly not qualified for the work proposed or who have a poor track record with the fund can be rejected.

(f) Firms with more than 250 permanent employeesor with at least 20 percent ownership of capital by a multinationalcorporation, as well as PEs with majoritypublic ownership would not generally be eligible for financingby the PSSF.

4.34 During negotiationsagreement was reachedon the rules and proceduresof the fund. The selection of a qualified international expert, financed under the Credit, to manage the fund, and the adoption and publicationof PSSF procedures in at least one newspaper are conditionsof disbursement for the fund (para. 7.4 (iii)). The fund manager will select a Rwandese expert as his deputy and hire appropriatesupport staff (maximumof two). It is expectedthat after two years the intenational expert will be replaced by a national expert, possibly the deputy manager. The PSSF will prepare quarterly reports on its activities,which should includeproblems encountered, describe the actions undertaken,and provide an ex-post assessmentof actions financed after allowing for sufficienttime lapse. The fund's managementwill be responsiblefor stimulatingthe interestof other donors and trying to secure additional financing for its continuedoperation. This componentwill be subject to a comprehensiveassessment after it has been operational for one year and during the mid-term review. During both reviews the PSSF's concept,operational parameters and effectivenesswill be evaluatedand appropriatemodifications proposed accordingly. -30-

Intitutional ngheni

4.35 Improvementsof institutional capabilities will be financed under the project for an estimatedamount of about US$2 million. Half of this financing(US$1 million) will be allocatedto the Ministryof Commerceand Industry financeshort- and long-termconsultants, including a team of experts, and the training and equipmentrequirements. To address the need to rationalizeand coordinatevarious technical assistance projects, the Government requested that IDA fund a team of experts to help implementa coherentand comprehensiveprivate sector strategy, to coordinateand optimize the various donor programsof assistanceavailable to that effect, and to engage in a continuousand effectivedialogue with the private sector to identify and relieve bottlenecks. The team will consist of three full time local or international(one at most) experts assistedby part-time experts. One of the consultantswould head the team, and thus manage this subcomponent. The experts would be attached to the Ministry of Commerce and Industry Minister's office and report directly to the Minister. Hiring of at least one expert, the team leader, who would prepare of the terms of reference, staffing and operatingprocedure, is a condition of disbursement(para. 7.4 (ii)) of this componentof the project (see Annex 8 for draft outline of terms of reference).

4.36 The other element of this componentwill be aimed at supporting the creation of the Tribunal of Commerce (Annexes5 and 8). Withoutthis institutionthe business law reforms will not be implementedeffectively. The operation will support the creation of this Tribunal by providing it with the necessary funds to purchase office and other equipment, realize a training program and implement the required automation. The amount of resources required to achieve these objectives is estimatedat US$0.7 million. FinallyUS$0.3 million will be allocatedfor BNR and PFI training and assistance(para. 4.23).

V. THE PROPOSED CREDIT AND MAIN FEATURES

A. Amount and Allocation of Funds

5.1 The proposed IDA Credit of US$12 millionwill be lent to the Government,which would on-lend the credit component (US$7 million) to BNR, the Central Bank which will act as the Apex institution. BNR will make the credit componentavailable to ParticipatingFinancial Institutions(PFIs) through a refinancingmechanism. The PFIs will in turn on-lend proceeds of the credit componentto beneficiaryprivate enterprises on terms and conditionsdescribed below. The US$2 million institutional strengtheningcomponent will be made availableto executingagencies as a grant. The Governmentwill allocateUS$1.5 million, which final private beneficiarieswill receive as a grant.

B. Terms and Conditions of Finandng

Terms and Conditionsof SubloanRefinancing

5.2 The Governmentand BNR will enter into a Subsidiary Loan Agreementby which the Governmentwill pass on the proceedsof the credit componentto BNR at a regularly revised interest rate correspondingto the averageyield over the previousthree months, of 12-monthdeposits in the banking system. The 12-monthdeposit rate is a proxy for the cost of mediumterm funds to financialinstitutions. It changes periodically but, as of June 30, 1993, stood at 9 percent. Currently the rediscount and -31-

minimumdeposit rates are fixed at 11 and 9 percent respectively. Once the proposed systemof Treasury Bill AuctionMarket, currentlyunder study, is operational, a new referencerate based on that market will be determined. This rate could, with the agreementof the Governmentand BNR, replace the 12-month deposit reference rate. BNR will make proceeds of the credit componentavailable to PFIs at the same reference rate, but will retain from the interest charges repaid to the Government an administrativefee of one percent of the outstandingsubloans refinanced under the credit componentto compensateit for costs incurred for the executionof the project through its MonetaryPolicy Department(DPM). That fee is expectedto be sufficient,but wouldbe reviewedperiodically in case it is demonstratedthat it no longer covers the legitimateoperating costs of the DPM.

5.3 In view of the currentlyprevailing single digit inflationrate, estimated at an annual rate of 8 percent as of end December 1992, and the Government's demonstratedcommitment to maintain flexible exchangerate as well as interest rate policies, the proposed rate of refinancing, under the credit component, charged to PFIs, will closely approximate the international cost of comparable foreign exchangeresources. The foreign exchangerisk will accordinglybe borne by the Governmentwhich will be compensatedby the interest paid by BNR. The IDA-financedsubloans will be reimbursed both by PFIs and their borrowers in local currency, unless IDA and the Government otherwise agree. Intermediarieswill be free to charge final beneficiariesup to the currently agreed temporary maximum lending rates. Such rates, the rediscount rate and the minimum 12-monthdeposit rates may be revised, from time to time, by BNR and agreed with IDA and the IMF. When interest rates are fully liberalized as expected, during 1994, the final lending rate will be free. During negotiations, the Government confirmedthese policies and agreed to adjust future interestrates as necessaryto ensure that they remain positive in real terms (para. 7.2 (iii)). Signature of the SubsidiaryLoan Agreementbetween BNR and the Governmentis a conditionof effectivenessof the Credit (para. 7.3).

5.4 Under the credit component the Government and BNR on-lending rates would be reviewed at least every 12 months. Such rates would be modifiedby agreement between IDA and the Government, as necessary, to ensure that they continue to compensatethe Government adequately for assumingthe foreign exchangerisk, and that they reflectthe cost of foreign exchangeand local resources for financial intermediariesand subborrowers.

5.5 BNR will receive IDA funds for a period of 20 years, including five years of grace starting after the date of Credit effectiveness. BNR would reimburse the funds to the Governmentin fifteen equal annual installmentsstarting five years after the effectivenessof the Credit. Funds relent under the credit componentto participatingintermediaries would be denominatedin local currency, with the same maturities as the individual subloans to final beneficiaries. Maturities of subloans to final beneficiarieswould be limited to a maximumof thirteen years, includinggrace periods of up to three years.

5.6 Because of the scarcity of equityfinance, subloansgranted under the line of credit would financeup to 80 percent of the total project cost (excludingland) for extension/rehabilitationsubprojects, and up to 70 percent for new subprojects. Promoters would thus be required to finance a minimum of 20 percent of subproject cost for extensionsand 30 percent of subproject cost for new projects and not to exceed a maximum debt to equity structure of 2.33:1. Unless the Associationotherwise agrees, the maximumsize of any subloan would be limited to US$900,000 for all subprojects to ensure a greater numberof credit beneficiaries. Commitmentsunder the subloan componentare expectedto last through June 30, 1998. -32-

Private Sector SupportFund

5.7 The $2.5million Credit proceeds allocatedto the PSSF will be availableas a grant of the Government. The PSSF will provide matching grants to private promoters to financethe cost of short term consultingservices (lasting from a few days to less than a month). Private sector enterprises, includingparastatals with majorityprivate ownershipand managementbut excludinglarge firms or those with significant foreign ownership (para. 4.33(f)), and promoters will be eligible to receive matching grants as many times as required, but on a declining scale basis (para. 4.33 (b)) and for cumulative consultingfees not to exceedUS$100,000 per beneficiarycompany. Private promoters will also benefit from specializedtraining seminars for which they will pay a nominalfee, which would cover about 10 percent of training costs. Beneficiaries,with the help of the fund managementif required, would be expected to submit a short but clear description of their problems and proposed intervention and the expertise required in the form of standardizedterms of reference. Once approved, beneficiarieswould hire qualified experts, sign an agreement that the grants are used for the purposes intended, and agree to provide the fund's management with information required for monitoring the impact of the interventions. Commitmentsunder the PSSF componentare expectedto last throughDecember 31, 1997.

InstitutionalStrengthening

5.8 Funds allocated for the institutionalstrengthening component would be passed on as a grant from the Government to relevant institutions and would be available for commitment until December31, 1997. The componentwould be managedby the Ministryof Commerceand Industry and the DPM. These institutionswould review requests for financingbefore submitting them to IDA for approvalalong with a brief justificationand descriptionof the qualificationof the experts, and would also process disbursementrequests.

C. Project Managenent. Monitoring and Evaluation

5.9 Managemnt. The Ministry of Commerce and Industry will be responsible for overall project coordinationunder the PSSF and institutionalstrengthening components, except in the case of BNR assistance. The Ministryof Commerce and Industry also will be responsiblefor the coordination of the mid-termreview, as well as of policy discussionsand follow-upwith other ministriesand executing agencies, e.g., Ministry of Justice (Tribunal of Commerce), Ministry of Finance, and BNR. The Departmentof MonetaryPolicy of BNR will be implementingthe credit componentand the institutional strengtheningsubcomponent for which it is a beneficiary.

5.10 Reviewof PSSF's first year's operations. A specialreview of the PSSF will be conducted after it has been operatingfor one year. The continuationof IDA support to this fund will depend on satisfactoryresults, particularly with respect to the effectivenessof services delivered to private firms. This review will draw on a direct assessmentby IDA, complementedby periodic reports presented by the fund's managementand the independentoperational audits (para. 5.25).

5.11 Mid-Term Review. In order to test the effectivenessof new project managementand executionprocedures, a mid-term review of project progress will be undertaken (para. 7.5 (v)). This review will focus in particular,on impedimentsto enterprisecreation, includingadministrative regulations for land titles, building permits and other project implementationfeatures. The mid-term review would be initiatedon or about July 31, 1995. The review would be a joint exercise with the Government,to be undertakenwith the cooperationof the institutionsconcerned, includingthe Tribunal of Commerce, -33 - the PSSF, BNR and the Ministry of Commerce and Industry. No later than one month prior to the Review, the Government would furnish a sufficientlydetailed report covering areas to be agreed upon with IDA, including an evaluation of the progress in project implementation. The basic reference documentsof such a review mission will be the policy matrix of private sector development, as well as other agreed credit and project documents. The general scope, staffing, and timing of the review will be agreed with the Government.

5.12 The joint Bank/Governmentmid-term review will: (a) review project progress with respect to institutionaland policy reforms as well as monitorabletargets listed below (paras. 5.13-14); and (b) agree on an actionprogram, if necessary,for implementingadditional policy measures, analytical studies as the basis for future reforms, and additional institutionalreforms and strengtheningmeasures. The participating IDA review mission will summarize conclusions and recommended actions for addressingoutstanding issues in a detailed aide-memoire. Implementingagencies would be responsible for follow-upto be reviewed by subsequentsupervision missions. During negotiations,agreement was reached with the Government to undertake the mid-term review by July 31, 1995, with significant governmentparticipation and analyticalinput, and that recommendedactions agreed during the review would be implementedin consultationwith IDA (para 7.5(v)).

5.13 MonitorableTargets. Key project indicatorswill be used to monitor implementationand to assess whether developmentalobjectives are met. These indicatorsare both global (commitmentsand disbursementunder various components)and specific. In some cases specific prior targets will be set, while in othersthe absenceof appropriatepast benchmarkwill render settingup-front objectives difficult. In the context of mid-term review further key indicators will be developed on the basis of actual experience.

5.14 The following key project indicators have been developed and agreed to with the Government:

(a) Project Implementatlon. The Credit is expected to be effective three months after Board presentationand all disbursementconditions (paras. 7.3-4) should be met at the latest another three monthsthereafter. As slow disbursementshave been a problem in Rwanda in the past, they will be monitored and assessed according to the expected schedule. In particularthe Credit shouldbe fully disbursedby June 30, 1999 and at least by 25 percent by mid-term review.

(b) Policy Objectives. The overall timetablefor the policy reform objectivesis set in para. 7.5 and will be monitored. In the case of business law and labor reforms a number of key intermediate steps have been identified (Annexes 6-B and 7) and their timely completion will be followed during project implementation.

(c) Supply Response. The absenceof an appropriatebenchmark makes it difficultto assess the strength of supplyresponse. Key indicatorsto be followed include: (a) incorporation of new enterprises or new individual firms on a quarterly basis (commercialregistry) including a target of one industry employing over 20 people and five importers per quarter; (b) number of firms to be granted free-zonestatus and which start operation(one per year, exporting over US$500,000would be considered a satisfactorytarget); (c) the number and distributionof firms, by type, location, and size, which use the PSSF; and (d) amount and types of investmentsfinanced by banks, other than housing. -34-

(d) Administrative Delays. One objective of the policy reforms and institutional strengthening is to eliminate needless delays. The following will be monitored: (a) settlementof all outstandingbanking disputesby June 30, 1997, with at least 200 cases being resolved during the first and second year of the project, and, once the bacldog is cleared, new cases shouldbe adjudicatedor settled within eight months after being filed; (b) export compensationshould be granted within one month of request being made; and (c) Ministry of Commerce and Industry should respond in writing to private sector complaintsand requests within two months of receiving them.

(e) Institutional Strengthening. The purchase of about 90 percent of the office and computerequipment required by the Ministry of Commerceand Industry, and Tribunal of Commerce should be completed a year after Credit effectiveness. Computerized programsfor the commercialregistry and guaranteeregistration should be implemented at the Tribunalof Commerceby June 30, 1995. By mid-1994the Ministryof Commerce and Industry should have created a comprehensivebibliography and brief assessmentof all studies and donor projects related to private sector development, which will be updated thereafter.

(f) Training Prograns. Training programs are envisagedunder the PSSF and institutional strengtheningcomponents. In the case of the former, at least 75 and S0 promoters, from large scale to micro entrepreneurs,should participate during the first and second year. PSSF managementwill provide qualitative assessmentof the impact of the seminars. Within the first year after Credit effectivenessa training program should be devised by the Ministry of Commerceand Industry, Tribunal of Commerce, and BNR and begin to be implemented. Such training should be completedby the mid-term review.

5.1S Monitori and Evaluation. Progress reports on the execution of the vaious subcomponentswill be prepared and submittedquarterly by the Ministry of Commerce and Industry as regardthe policy component for private sector (summary of activities, use of project funds, implementationplan and progress of studies planned, and reforms under process, etc.). The DPM of BNR and the PSSF managementwill submit six-monthlyprogress reports to IDA summarizingproblems encounteredin the course of executingthe componentsand progress in implementation.

5.16 A project completionreport (PCR), the content and format of which to be agreed upon with IDA, wouldbe submittedto IDA within six months after the project closing date of June 31, 1999. BNR's Departmentof MonetaryPolicy and the Ministryof Commerceand Industrywill prepare this PCR in close cooperationwith the other project units.

D. IDA Supervislon

5.17 The Ministryof Commerceand Industry, the Ministryof Justice (Tribunalof Commerce), and BNR will require intensive support and training during the initial stages of project implementation. Particularemphasis will be put on further, and timely, training in procurementand disbursement,as well as onvironmentalsafeguard procedures for subproject under the Apex component. The Tribunal of Commerce,the Ministryof Commerce and Industry, and the PSSF will require training in these areas, to be provided throughthe DPM and Resident Missionby Bank staff and by consultants. In view of the many technicalassistance components of the project, intensivesupervision (an averageof 17 staff weeks anmnully)will be required during the first three years and about 7 staffweeksthereafter. Detailed IDA supervisionplans into key activitiesare given in Annex 11. -35-

E. ProcurewmentAmngunb

5.18 Credit ComnnL. Subloanfree limit is set at US$900,000(para. 4.30). Procurement for subprojectsfinanced under the credit componentwill be made on the basis of procurementprocedures consistentwith Bank's ProcurementGuidelines, and agreed with the participatingfinancial institutions. These procedures will require intenational shopping for contracts of US$750,000 or below for each beneficiary, on the basis of at least three quotationsfrom reputable suppliers in at least two different geographicalareas. Contracts for goods above US$750,000per subproject, which at this stage are not anticipated to be many, will be subject to international competitive bidding (ICB) procedures, in accordance with Bank's Procurement Guidelines. A statement to this effect will be included in the SubsidiaryLoan Agreementbetween the Governmentand BNR.

5.19 Institutional Strengthening and the PSSF. Procurement of equipment and material (includingvehicles, office equipment, computers)will be made through local or internationalshopping procedures in accordancewith Bank's ProcurementGuidelines, on the basis of at least three quotations from reputable suppliers. Selectionof consultantswill be made in accordance with Bank's Guidelines on the Use of Consultants. In the case of the PSSP the promoter will have access to a consultantroster, and will be able to propose the consultant,which will be approved by the Fund (Annex 5). Moreover, in order to ensure that the PSSF's funds are used for the purposes they were intended, the consulting services to promoters will be hired and paid by the fund.

5.20 Problems caused by cumbersome government procurement procedures have been responsible for poor project implementationand slow disbursement rates in other IDA Credits. The Governmentis taking steps to correctthese problems with the help of the Bank. Greater emphasisis now being put on training of project managementstaff, which will be provided under the project, and IDA supervisionefforts. Moreover, a Country Procurement AssessmentMission, scheduled for FY94, is expectedto focus on improvingthe procurementprocedures.

5.21 Under the line of credit component,prior review of procurement documents will be required for contracts of US$750,000 and above. The institutionalstrengthening component will be executedby three differentproject entitiesand individualconsultancy contracts are not expectedto exceed US$100,000. Procurementof vehicles, desk computers and other office equipmentswill likewise be through small contracts below US$50,000 aggregatingto amounts not to exceed US$130,000, to be awardedunder internationalor local shoppingprocedures. For componentsother than the line of credit, contracts for goods and services above a threshold of US$80,000 will be subject to prior review procedures. A summary of the procurementmethods is presented in Table 5.1 below. -36-

Table S. lo Summaryof the Proposed ProcurementArrangements

PROCUREMENTMETHOD

ICBlD Other St N.A. I/ TOTAL

A. Credit Compon_t Goods, wok and serviceconuaoo 11.40 11.40 (7.00) (7.00) B. Private Sector SupportFund Component ConaukingServices for Private Promoter 3.00 3.00 (1.50) (1.50) ConsulinS Servicesgad Taining 0.80 0.80 (0.75) (0.75) Vehicl and OfficeEquipment 0.15 0.15 (0.15) (0.15) Operaonal Audit 0.10 0.1 (0.10) (0.1)

C. Intitutional Stengthening Consuling Sevesnd Traini 1.45 1.00 2.45 (1.45) (1.45) Vehiclean Office Equipment 0.75 0.75 (0.45) (0.45) Audit 0.10 0.1 (0.10) (0.1) D. Unalocated 0.50 0.5 (0.50) (0.5) TOTAL 18.25 1.00 19.25 (12.00) (12.00)

& W&I trndond_ Icebs!aopping. Co_muatB to be hired in acordance to Bankguid . h/ Por goods contac below US$750,000intraonal shoppingprooeduws. For goods contuat above US$750,000, procrenat will be through ICB.

5.22 Disbursments. The proceeds of the Credit would be disbursed as follows:

(a) Cr CgmMg=:e dk US$7 million

(i) 100 percent of expendituresfor up to 70 percent of total subproject cost for new operatons; (ii) 100 percent of expendituresfor up to 80 percent of total cost of subprojectsfor extensions, modernizationand rehabilitation.

(b) Private Sector SupportFund Component: US$2.5 million

(i) 100 of expenditureon managementconsultant for private sector firms for up to a percentage of total costs consistent with the agreed declining cost sharing schedule (para. 4.33 (b)). -37-

(ii) 100 percent of foreign expenditures for goods and services, and operating expenditureand audits;

(iii) 90 percent of locally procured goods and 100 percent for services.

(i) 100 percent of the cost of consultants,aistance and training, and audits; (ii) 100 percent of the c.i.f. cost of goods directly imported; (iii) 90 percent of the local cost for mateials and supplies.

(a) Central Bank (DPM):

ConsultantServices $2,0OO Office Equipment $5060

(b) Minity of Commerceand Industy:

ConsultantServices and Training S7iOO Office Equipment, Vehicles $1,OO Audits $

ConsultantServices and Training S1000 Office Equipment/Software/Vehicles ZpOO

5.23 The Credit disbursement schedule is based on the relevant disbursment profile for industrialdevelopment and financeprojects in Africa, taking into accountthe particularlydifficult project implementationenvironment of a country like Rwanda. t is expected that the investmentcomponent would be disbursed in five and a half years and the other componentsover five years, taking into account expected improvement in the capacity for project appraisal, financing approval, nd implemontation. Funds under the credit component would be available for commitment until Docember 31, 1998. Disbursementswould be completedby June 30, 1999, the proposed closing date.

5.24 Special Accounts. To expedite disbursementof funds, three Special Accounts for the DPM of BNR, the PSSF and Ministryof Commerceand Industry will be set up in a financial institution acceptable to IDA, into which IDA would make initial estimated deposits totalling US$500,000, US$200,000, and US$100,000, respectively, from the Credit immediatelyafter effectiveness. Thes amounts reflect the estimated requirementsfor operating costs, equipmentprocurement and consultant services, for a three to four month period. In parallel, as a conditionof disbursementof the PSSF (para. 7.4 (iii)), the Government will deposit in a project account counterpart funds of RwFl.5 million. Applicationsfor replenishmentof the special accountswill be submittedon a monthlybasis. The Special Accounts and associated statements of expenditures(SOEs) will be audited annually by independent auditors, except in the case of the PSSF where bi-yearly audits will be undertaken during the first two years of operation. The audit reports would submittedto IDA within six monthsof the end of the fiscal year, or an agreed mid-year date in the case of the PSSF. Disbursementsfor expendituresfor all contracts for goods and services or individual items under US$50,000 will be made on the basis of -38- statementsof expenditures. Tho documentationfor withdrawalsmade under SOEs will be retained by the DPM on behalf of other project units involved (i.e., for sites and services, and other technical assistance units) for ten years and will be reviewed by Bank supervision missions. All other disbursementswill be made on the basis of fully documentedapplications.

5.25 Auditing and Reporting. Audit requirementsfor all ongoing IDA Credits in industry, financeand PE sectors have been met. The DPM and other project units will have their accounts, as well as the SpecialAccounts and SOEs audited annsally by independentauditors acceptableto IDA and will frnish to IDA certified copies of their audied accounts together with the corresponding management letters within six monthsof the end of the fiscal year. The DPM will submitto IDA quarterly and annual progress reports (including financial and budgetary accounts) on the technical assistance and the investmentcomponents. Furthermore, the DPM will review the annual audits of ParticipatingFinancial Intermediariesand inform IDA of the conclusionsof such audit reviews. Finally, to avoid possible misuse, the PSSF will be subject to bi-yearly operational audits including review of procedures and impact on client enterprises, during the first two years of operations.

5.26 Estimated Proect Costs and Financing Plan. Total project costs are estimated at USS19.25million equivalent, of which US$12.75 million equivalent (66 percent) would be in foreign exchange. A summaryof the project costs and expectedfinancing are given in the table 5.2 below:

Table 5.2: EstimatedProject Cost and Financing

EstimatedProject Cost: Local Fore! To (USS millions) (A) Investments Subprojects 3.90 7.50 11.40

(B3)Private Sector S;onrt Fund 1.35 2.70 4.05

(C) Insitutional Tribunal of Commerce .30 .55 .85 Central Bank (BNR) .10 .20 .30 Ministry of Commerceand Industry .70 1.45 2.15 Subtotal 1.10 2.20 3.30

(D) Unallocated .1S .35 .50

TOTAL 6.50 12.75 19.25

FinancingP: A =Percentages (USSmillions) Investine Poett Subborrowers 2.20 19 ParticipatingFinancial Institutions(PFIs) 2.20 19 IDA 7.00 61 Subtotal 11.40 100 -39-

Private Sector SupportFund Private Sector 1.55 38 IDA 2.50 62 Subtotal 4.05 100

Inttuinal Strenghng Government .30 9 Other Donors 1.00 30 IDA 2.00 61 Subtotal t 3.30 100

Unallocated IDA 0.50 100

TOTAL Government .30 2 Subborrowers 2.20 11 PFIs 2.20 11 Private Sector 1.55 8 Other Donors 1.00 5 IDA 12.00 62

Total Financing 19.25 100

VI. PROJECT JUSICATION AND RISKS

6.1 Benefits. The proposed operation is a complement to Rwanda's macr-economic adjustmentprogram already launchedwith Bank and IMF support. The project would help spur private investmentand assist Rwanda achieve its growth objectives. Major expectedbenefits would stem from an enhanced supply response by private sector investors, which would create the employment opportunitiesthat are critical for supporting the consolidationof the peace process and public sector retrenchmentfrom productiveactivities. The project is expectedto contributeto the achievementof these objectives by providing long-term credit, helping private firms become better managed and more competitive, and strengtheninginstitutions responsible for ensuring the creation of a fully liberalized business environment,including freedom to create and operate an enterprise, and a reliable legal system guaranteeing transparent enforcement of contractual agreements between lenders and borrowers In particular. By supportingeffective monetaryand credit policies, and promotingbetter managedbanking institutions,the project would improvetheir capacity for increasedresource mobilization,and diversified and expandedfinancing of private sector investment.

6.2 Risa. The Government of Rwanda is currently undertakinga series of major political and economic reforms designed to lead to greater national unity and opening-upthe political system, while maintainingthe thrust of the economic adjustment process, and liberalizationof the legal and regulatory environment. The main risk associated with the project relates to the emphasis given to ensuringpolitical stability, which could delay the Government'spolicy reform program and slow down the process of revampingthe legal and regulatoryframework. This could mean that the implementation -40- of a well focusedprivate sector developmentstrategy could be lengthy,thereby the pace of private sector investmentto be slower than expected. These risks have been considerably mitigated by the recent August 4, 1993 signing of the peace agreement ending the military conflict within Rwanda. A risk associatedwith recent military expenditurewould be the monetizationof the fiscal deficit which would lead to high inflation and crowd out the private sector. The likelihoodof this problem becomingsevere is mitigatedby the fact that the Governmenthas a long record for fiscal prudence which can be seen in the fact that in the past 20 years inflationin Rwandahas rarely reached double-digitfigures. These risks will be monitored closely in the context of implementationof the adjustmentprogram, and through an assessmentto be undertakenduring the mid-termreview of project implementationplanned for July 1995. Furthermore, the consensusbuilt around the need for effective reform of the business environment,the Government'sdesire to return to its traditionalfiscal prudence and the strong voice of a rapidly emerging private sector should ensure the effective implementationof the project.

6.3 EnvironmentalImpact. Anothertype of risk is environmental,associated with the possible establishmentof pollutingindustries under the Apex component. While the exact nature of subprojects to be financedare not known, the level of Rwanda's industrialdevelopment and its comparativeadvantage suggeststhat most subloanswould be mainly small- and medium-size,without significantenvironmental impact. In May 1991,Rwanda adopted a NationalEnvironmental Action Plan, which has been discussed with IDA. This plan includesa classificationscheme and regulationsfor industries, and the Ministry of Public Works is responsiblefor ensuring compliancewhen delivering building and operations permits. In any event, BNR will be responsible for sensitizing PFIs and subborrowers in this area, and for screeningsubprojects to ensurethat environmentalaspects are covered adequatelyin the appraisal(paras. 4.26 and 4.28). In cases where subprojects likely to present environmentallyhazardous pollution problems are identified, an environmentaltest would be developed in agreement with IDA and an acceptablemitigation plan wouldbe required.

VII. AGREEMENTS AND UNDERSTANDINGSREACHED

7.1 During project preparation and appraisal, the following has been implementedor agreed upon by the Government,mostly in connectionwith the adjustmentprogram:

(i) Simplificationof regulationsfor businesscreation and operation,elimination of redundant procedures and controls, and of prior approval of Ministry of Commerce and Industry with respect to enterprise creation, relocation of the commercial registry to the courts (para. 3.22).

(ii) Liberalizationof importlicensing, leading to the introductionof an open generallicensing (OGL) system. Export licensing is to be eliminatedaltogether (paras. 3.5-6).

(iii) Allowing full and immediate overseas transfers of business earned dividends and of salaries of foreign workers in Rwanda (para. 3.6).

(iv) Adoptionof a detailed action plan to overhaul labor legislation(para. 3.25).

(v) Agreementon financial sector developmentpolicies, includingreform of monetary and creditpolicies and institutionalreform, negotiatedwith the Governmentin 1991and being implemented. This includesthe rationalizationof the intereststructure and a commitment -41-

to maintain positive rates in real terms (paras. 3.9). The commitmentto undertake the agreed reforms was confirmedin a letter dated December 30, 1992, addressed by the Minister of Finance to IDA.

(vi) Adoptionby the Councilof Ministers in December 1992 of a new PE legal framework (para. 3.16).

7.2 During negotiations, agreements on the following have been reached with the Government:

(i) A Statementof DevelopmentPolicy for the Private Sector, includingthe annexedmatrices of dated policy and institutionalreform measures (para. 3.35).

(ii) Decision to create a Tribunal of Commerce (paras. 4.12 (v) and 4.13).

(iii) Confirmationof governmentcommitment to maintain positive real interest rates (para. 3.9).

(iv) Agreementon a short term actionplan to reduce operatingcosts and losses of BRD (para. 4.25).

(v) Endorsementof the objectives, operational parameters, and procedures of the private sector support fund (paras. 4.33-34).

7.3 The following is an additionalconditions of Credit effectiveness:

(i) Signature of the SubsidiaryLoan Agreementbetween the Government and BNR (para. 4.24).

7.4 The conditionsof disbursemnentare as follows:

(i) For the Apex credit component - Signingof the ParticipationAgreement between BNR and any one of the PFIs (para. 4.27). Ensuring that the GuaranteeFund has (a) validated and paid all legitimate pending claims on loans it has guaranteed and that are under litigation; and (b) revised its by-laws to rationalize and improve its procedures, to eliminate the legal ambiguities, and to ensure that banks exercise due diligence in supervisionof guaranteedcredits and exhaust all remediesrequired before requesting its intervention(para. 3.12).

(ii) For the Institutional Strengthening Component, except for BNR subcomponent - Hiring of an expert to head the policy team at the Ministry of Commerce and Industry (para. 4.35). Proposing new administrativeprocedures and an acceptable timetablefor settlingpending disputesrelated to the banks' loans within a period of three years (para. 4.12 (vi)). Promulgatinga law establishingthe Tribunal of Commerce, appoindng a qualified and experienced lawyer as the President of the Tribunal of Commerce and adopting the text regardingthe organizationand functioningof the Tribunalof Commerce (para. 4.12 (v)). -42-

(iii) For the PSSF component - Selectingan internationalexpert to managethe Private Sector SupportFund, adoptionand publicationin at least one newspaperof the Fund's rules and procedures(para. 4.34), and depositof RwFl.5 millionin counterpartfunds for the PSSF in a project account(para. 5.24).

7.5 In addition, other agreements were reached during negotiations,on the basis of which the Governmentwill in particular:

(i) Take necessary measures, by June 30, 1995, for promoting exports through (a) simplificationof proceduresfor authorizationof unscheduledfreight and passengercharter flights; (b) liberalizationof air transport so as to eliminate monopoly and liberalize pricing (para. 4.16); and (c) establishment,by December 31, 1994, of a regime of free- zone for the purpose of export processing (para. 4.15).

(ii) Take necessarylegal and administrativemeasures, no later than December 31, 1993, for (a) eliminating dividend taxation; (b) instituting official schedules of depreciation allowance, and of a five-yeartax credit allowancefor operating losses of business firms; and (c) allowing banks to deduct allocationsto provisionsfor losses on non-performing loans (para 4.10).

(iii) Take necessarymeasures, no later than December31, 1994, for the (a) simplificationand liberalizationof the requirementsfor forming business enterprises includingprocedures for registering such enterprises; (b) simplification and updating of the regime of negotiable financial and commercial instruments (including commercial papers and documentarytides), guaranties, secured transactions, sales, leasing and factoring; (c) modernizationof bankruptcyprocedures (para. 4.12); and (d) authorize the creation and functioningof private legal and paralegal professionsincluding notaries-public, process- servers, liquidatorsand auctioneers(para. 4.12 (vii)).

(iv) Take necessary measures, by December31, 1994, for improvingthe functioningof the labor market, includingthrough: (a) abrogationof the obligationof prior enrolmentin the registry of jobs; (b) elimination of work permits for nationals; (c) setting a uniform minimumwage; (d) permittingwages and annual increaseto be freely negotiatedbetween the employer and the employee, (e) clarifying the rules governing overtime; and (f) reducing the number of the various paid leaves (para. 4.14).

(v) Undertakejointly with IDA, no later than July 31, 1995, a mid-termreview of progress in project implementation,with particular reference to policy and institutionalreform measures, and implementingthe agreed recommendationsstemming from such review (paras. 5.11-12).

7.6 Eligibility conditions of partidpating flnandal Intermediaries will be as follows:

(i) Submissionevery year of independentlyaudited and satisfactoryfinancial accounts and statemens on their financial and operating results (para. 4.26).

(ii) Signatureof ParticipatingAgreement with BNR (para. 4.26). -43 -

(iii) Maintaininga uatisfactorycapital adequacy ratio (paa. 4.27) accordingto the Cooke method. (iv) For BRD only - Implementationby BRDof tX agreedacdon plan, Includingincreased provisionand reductionof staff(para. 4.35). - 44 - Annex 1 Page 1 of 7

RWANDESE REPUBLIC

Statement of Private Sector Development Policy

I. Introduction

1. Rwanda's economic performanceduring the 1970s was relatively satisfactory, with an average annual growth rate of 5 percent. However, from the early 1980s the economy began to show signs of difficulties. The cause was, largely, a financial crisis resulting from the worsening terms of trade, which was exacerbatedby the continueddecline in coffeeprices after 1987. These macroeconomic problems underscoredthe poor performanceof the industrial and services sectors, in which the private sector had yet to play a leading role. At the same time, the scarcity of arable land made it evident that the agricultural sector could not continue its role as a provider of jobs and engine of economicgrowth beyondthe short to medium term; and that every effort shouldtherefore be made to foster development of export orientedindustry and services by encouragingthe private sector to take the lead in that process.

2. It was in this context that Rwanda, determined to tackle its challenging development problems, began in 1990 to take steps to restructure its economy. Those measures were implemented despite the difficultiestriggered by the armed opposition. This effort, bolstered by support and financial assistancefrom the internationalcommunity, was crystallizedin the adoptionof a structural adjustment program. The program's objectives are to put the economyback on a solid footing in order to increase the incomes and raise the living standards of the population. Certain key elementshave been identified in advance as essentialin achievingthose objectives. One of the most important of which is increased private sector contributionto economicgrowth to be realized through substantiallygreater investments in profitable activities-particularlythose involvingexports-and more efficientuse of existingproduction factors. This strategy will be bolstered by the return of peace accompaniedby political opening and the launchingof a democratizationprocess designedto ensure that the entire populationparticipates in the country's economic and political life.

3. To financethe economicprogram and supportthe implementationof measurespromoting the private sector, a structural adjustmentprogram was agreed on with IDA in June 1991. The purpose of this initialprogram-which was also backed by the InternationalMonetary Fund-was to improve the macroeconomicenvironment. Another two complementarycredits are also being prepared. Their objectiveswill be adjustmentof the agriculturaland financial sectors, in order to strengthen the strategy adopted in the StructuralAdjustment Program. Two additional operations complete the private sector reform program; the first, a project to reform public enterprises supportedby an IDA Credit since 1990, is designed to make public companies more productive by privatizing and restructuring them, and exposingthem to competitionwith the private sector. The second, the private sector promotionproject, seeks to create a business climatethat will nurture the sector's development,support its investmenteffort and help to improve its skills, thus enablingthe private sector to make better use of its production tools. The purpose of the present letter is to provide a detailed descriptionof the sectoral policy frameworkand the measuresto be addressedunder this project.

II. The Private Sector Development Stratey

4. Aside from farming and stockraising,which employmore than 90 percent of Rwanda's population, private activity in the industrial, trade and other service sectors is not very important. Accordingto current statistics, the 130 companiesin the modem industrialsector produce 8 percent of - 45 - Annex I Page 2 of 7 the GDP and employ 15,000 persons. Only half of that output comes from privately-ownedfirms, the rest is producedby state-ownedor mixed companies. There is also an informal sector, which is active in cottage industries, mining and different types of maintenanceand repairs. This relatively dynamic sector consists of about 700 micro-enterprises and several thousand individuals. The trade sector comprises roughly a hundred importing companies of various sizes, but only about ten specialized exporters. Otherwise, the private sector operators are to be found mainly in the transport subsector, where they operate 1,900 trucks and 1,300 minibuses,and in the consultingbusiness. There are a dozen or so advisory service companiesand about one hundred independentexperts. In all, private production in the industrialsector and services contributeto only about 15 percent of the GDP.

5. Despite its weak base, private sector production-particularlyin trade and industry-grew rapidly in the 1970s and early 1980s. The growth was mainly due to an import-substitutionstrategy calling for the creation of industrialcompanies, some with low economicviability, plus relatively easy accessto foreign exchangeat attractiverates whichencouraged the developmentof importactivities. This strategy reached its limitationsin the mid-80s, partly because of the lack of foreign exchange and the restrictedopportunities for profitable investmentaimed solely at the domesticmarket-which is restricted by the population's low purchasing power-but also because of the lack of a new policy that would encourageexport activities and improve the business climate.

6. In view of the situation,the Government'snew strategy for developingthe private sector consists of simultaneouslyaddressing the various problems inhibiting such development. The main features of that strategy are:

(i) implementationof a stable and enablingmacroeconomic framework designed to eliminate the observed distortions. The main measures include stabilizationand reduction of the budget deficit, openingof the domesticeconomy to internaland externalcompetition, and exchangerate and price liberalization.

(ii) Adoptionand implementationof sectoral strategies in the areas of agriculture, finance, public enterprises, and private industryand service. The thrust of the actions will be to establish a transparent and well-devised labor and business, legal and regulatory framework,a more even-handedtax systemthat does not cause distortionand encourages private investment, and incentivesfor exporters. In addition, the play of intersectoral relations will in turn enable implementationof these sectoral strategies to have a favorableeffect on the other sectors.

(iii) Supportingprivate investmentin profitable activities of the economy and assistance to newly established companies-or those in the process of rehabilitation-to help them improve the conceptionof their investmentprojects and ensure the sound basis thereof, and to stimulate and assist the companies so they can make a determined effort to improve their efficiency and productivity.

(iv) Strengtheningof the institutions responsible for executing and following up on the sectoral strategy and carrying out ancillary measures.

7. Implementationof this liberal strategythus calls for adoptionof a new approach, one that creates a nurturing environmentfor restructuringthe private sector and enables it to grow on a sound basis, while attacking the structural constraintsfaced by the various sectors involved. The fundamental components of this approach are already an integral part of the Government's Structural Adjustment - 46 - Annex 1 Page 3 of 7 Program;and its principalgoals consist of: librlization of domesticeconomic activities; enabling local productionto competewith imports; ndcOming new drect stae investmentin productiveand trade activitieswhile progressively discontinuing its participationin thosesectors.

m. _d SinoralMeaur

8. Despitethe country'sdifficulties, Rwanda took steps to improvethe macroeconomic situation,open up foreigntrade, liberalize prices,and increasesta revenues. The measuresalready in effectinclude: adoptionof an exchangerate policythat makesRwanda's currency more competitive (devaluationin foreignexchange terms of 40 porcentin 1990and 15 percentin 1992);an increasein the interestrates to makethem positive in real terms; eliminationof customsduties on exports,except for coffee;the substitutionof tariffsfor nontriff barries; a reviewof indirecttaxation with the adoptionof a new tariff code loweringthe maximumto 100percent and raisingthe minimumto 10 percent);and almostdoubling the turnovertax to 10 percent. 9. The reformsand liberalizaton dforts are continuing,and the Governmentis committed to takingother measures, particularly an opengoneral licensing system for importplus a furthercut in the maximumtariff rate on import,thereby bringn k downto 80 percent. Despitethe stepstaken to increaserevenues, however, it hs not yet beenpousible to balancethe budgetowing to higherexpenses than anticipated.Efforts are thus concentratedon reducingthe fiscal deficit. Adoptionof a prudent monetarypolicy, has neverthelessbrought inflation under control (about 9 percentin 1992). The macroeconomicframework thus meets the necessarycondition for enablingthe developmentof the private sector. AgriculturalSector Refbrm 10. Agricultureis Rwanda'smost importnt ativity. Thissector accountsfor 40 percent of the GDPand employsmore than 90 percentof the ecowmically ctivepopulation. It is thus a vital foundationfor the economysince, on the one hand, any increasein Uriculturalrevenue boosts the demandfor industrialproducts and service; and, on the other, the sectorfurnishes many of the inputs neededby industryand generatesmore than 90 percentof the foreign exchangeused by the private sector. Agriculturaldevelopment is thereforea mainstayof tht sector. 11. To helprealize its potential, the programfor adjustmentof the agriculturesector calls for a series of measuresincluding: (a) adoptionof a regulatoryframework in which privateagents can respondfreely to marketforces; and (b) privaizaton of the proceuing, productionand marketingof coffee,tea and rice. FinancialSector Reform 12. The purposeof financialsector reform is to make the sector more competitiveand encourageit to offer financialinstruments tailored to meet the needs of a pdern economy. In the contextof a liberaleconomy, this sectorwill haveto play a more activoeraolem attracting savings and financinginvestment. To that end, Interestrates havebeen increasedso that theyoutstrip inflation and are thuspositive in real terms. - 47 - Annex I Page 4 of 7

13. These initial measures are only the first in the series. Over the next two years, other basic reforms will be undertakenin the financial sector, namely: (a) adoption of a monetary and credit policy in whichBNR control will be applied indirectly, through such instrumentsas rediscountingrates and the introduction of a compulsory reserve system for banks; (b) strengthening of the sector's regulatoryframework through enactmentof a new bankinglaw and revision of BNR by-laws so that they will clarify the role of the central bank in the monitoringof institutionsand conduct of the monetary policy;and (c) institutionalstrengthening of BNR and restructuringor liquidationof financialinstitutions- especially BNR, the Caisse d'Epargne (savings bank) and the Caisse hypothecaire(housing bank)-plus rationalizationof the operatingrules governingthe Fonds Specialde Garantie (SpecialGuarantee Fund), with a view to streamliningits managementand making its operations more efficient.

Restructuringof Public Enterprises

14. Reform of public enterprise has been one of the key elements in the Government's economic strategy since 1990. Its goals are to: (a) allow the private sector to take part in activities heretoforereserved for the state, such as energy, water and telecommunicationsservices and other areas in which the state has always had a leading role (such as tea, coffee, and banking); (b) make existing companiesas efficient as possible in order to secure a return on past investment-or at least lighten the heavy load such companiesplace on the budget; and (c) orchestrate suitable means enabling the public sector to ensure adequate monitoring of such activities as the university, the Office of information of Rwanda and others which would appear to be destined for a permanentplace in its portfolio.

15. A necessary prerequisite for carrying out that strategy is the existence of a suitable frameworkbased on two complementarymeasures. First, a new framework-lawwill be enactedto give the heads of companiesmore autonomy, at the same time making them responsible for successes or failures. It will also review the legal frameworkof state-ownedcorporations with a view to facilitating their restructuringor possible privatization, as well as to clarify the functions that are to be performed by the various control bodies. The law has already been adopted by the cabinet and will soon be submitted to the Parliament. Second, to endow its reform process with greater transparency, the Governmentplans to announce its general strategy for privatizing or restructuring each of the existing corporations. Since the baselinestudy has now been completed,the detailed strategy will be put in place during 1993.

16. Reform of public enterprises will thus enter an active stage of privatization and restructuring in 1993. To expedite the process as much as possible, a number of specific steps were taken in 1992. As a result, five companies-including Sonatubes and Rwantexco-have now been privatized or liquidated. Other important areas have already been identified as the target of immediate reforms. They include the tea and coffee sectors (which are slated for privatization), the telecommunicationssector (partialprivatization) and the energy sector (in which Electrogazwill be placed under private management). Finally, state-ownedcorporations will no longer be entitled to exemption from various taxes, and will be responsiblefor paying their debts.

IV. Measures to Support Development of the Private Sector

17. Promotionof the private sector requires the implementationof concrete action based on the followingpivotal points, summarizedalso in the policy matrix attached to this letter: - 48 - Annex 1 Page 5 of 7

(i) Creation of a favorable environmentby means of a sectoral policy designed to remove the fiscal, legal and regulatory constraints, including those associated with the tax, commercialand labor codes-a policy that provides also incentivesfor export.

(ii) Support for private investment through an Apex line of credit that makes long-term resources availableto the financial sector.

(iii) Improvementof the sector's performanceby ensuring access to the services of local or foreign experts so that it can make better use of the productiontool placed at its service. It has been decided to set up a private sector support fund for that purpose.

(iv) Institutionalstrengthening-particularly of the institutionsresponsible for carrying out the sectoral policy-to ensure the effective implementationof these measures.

Technicaland material support are needed to attain those objectives, and will be provided in part by the Private Sector DevelopmentProject.

InDrovementof the Legal and RegulatoryFramework

18. Steps already taken by the Govermnentinclude:

(i) easing of the formalities for setting up industrial units by eliminating the advance authorizationheretofore required from the ministry responsiblefor industry.

(ii) Revision of the law on trade registry to eliminate the requirement for advance authorizationfrom the ministry in charge of commercialaffairs for engaging in industry and trade. This has been replacedby a declarationat the commercialregistry at the court of first instance.

(iii) A study of the commercialcode as a basis for drawing up a plan of action to overhaul legislationon business activities.

(iv) A study of the labor code and adoption of a plan of action to eliminateany distortions identifiedtherein.

19. In the coming years, the Government is committed to ensure implementationof the reforms for which a plan of action has been establishedand, as noted below, to strengthenthe judiciary system by creating a Tribunal of Commerce, nominating its President, and adopting its rules and procedures at latest by June 30, 1994. The priority steps to be taken in 1993 and 1994 would be in connectionwith the commercial laws and regulations, subject to a detailed plan of action. The major changes include: revision of the law governing the organization of trading companies; clarification of certain provisions concerning commercial registry; revision of the statutory provisions relative to commercialpaper and real property, guarantees and sureties, collateral, negotiations(sale, exchange, leasing etc.); amendment of the law on bankruptcy; and the creation of commercial jurisdictions (administrativeand judiciary sections, includinga Tribunal of Commerce and auxiliaries of justice).

20. The study of the labor code has identified obstacles to smooth functioningof the labor market due to: (a) the lack of flexibilityin the rules on hiring and firing; (b) the minimum wage scales for each category of workers, which increases the cost of labor; and (c) costly nonwage compensation - 49 - Annex 1 Page 6 of 7

(the high cost of overtime, too few days of actual work, and the payment of medical expenses). The result of these rules is that the Rwandese worker costs too much compared to its productivity. The measures set forth in the plan of action are designedto liberalizethe hiring and licensing procedures in cases where they are justified; to lower the payroll costs by setting a single minimum wage; and to increasethe number of work days.

Corporate Tax System

21. With assistancefrom an expert from the IMF, the Ministry of Finance has identifiedthe key measures needed for a fiscal reform aimed at establishinga systemthat is economicallyneutral and attractiveto investment. One of the chief purposes of this reform is to introduceprovisions in the tax code whereby accelerated amortizationand legal reevaluationof balance sheets would obviate the need for recourse to the investmentcode. Given the budget deficit, the immediatereforms should be neutral. The measures targeted for implementationin 1993 include: (a) repeal of the tax on distribution (dividends);(b) acceptanceof accelerated amortizationand legal reevaluationof balance sheets for tax exemptionpurposes; (c) the introductionof tax-deductibleitems for banks; and (d) conversion of the turnover tax (ICHA-imp6t sur le chiffre d'affaires) to a value-addedtax.

22. Beyondthe immediatehorizon, strengtheningof the Ministryof Finance tax department will permit a significantbroadening of the tax base and an increase in revenue. It will then be easier in 1994 and 1995 to introduceother tax reforms which today would not be revenue-neutral. The two most importantsteps to this end are: (a) a two-stage reduction of corporate taxes, cutting them to 40 and 30 percent; and (b) extension of the right to deduct payments made to other financial institutionsfor the productionsector.

Promotion of Exprts

23. It is clear that nontraditionalexports will be developedprimarily thanks to an accrued domesticproduction capacity, and that immediateresults cannot be expected. Certainconditions fostering exportshave not yet been met, however, and three importantsteps have been identified. First, the 1991 export promotionlaw calls for the exporter to be given a tax credit equivalentto 10 percent of the value of his exports to compensatefor the various taxes paid in the course of production. This measure has not yet been put into effect, but will be applied in 1993. Secondly,to encourage investments-probably in partnership with foreigners- more than 90 percent of which are allocated for exports or to permit reexports, a free zone system will be set up in 1994.

24. Finally, it has been observed that most of the nontraditionalexports are shippedby air. Therefore, the regulatorysystem will be reviewedto increasethe availabilityof air transport services and improve their quality. In this context, the roles played by the Ministry of Transport, the airport administration,and Air Rwanda will be revised.

Supportfor Investment

25. Investmentfinancing is constrainedby two factors. First, despite short term liquidities, the financialsector-except for the developmentbank-lacks long-termfunds. As a result, banks' ability to finance investment is constrained. To ease that problem and stimulate competitionamong financial institutions, long-term resources will be made available to the sector. The second constraint is the - 50 - Annex 1 Page 7 of 7 ineffectivenessof the guarantee mechanisms. Establishmentof a Tribunal of Commerce shouldpartially resolve that problem. In addition, the regulationsgoverning the special guarantee fund are about to be revised so that it can effectivelyensure the successfuloutcome of the operationscovered by its guarantee.

Private Sector SupportFund

26. The lack of know-howat the corporate level frequendy results in wasted resources due to inefficientutilization of the production apparatus. That problem has been recognizedfor some time now, and has led to a number of projects supportedby donors who have opened consultingoffices and other institutionsengaged in aid to the private sector. Those efforts are thus devoted mainly to creating a supplyof advisory services. To complementthis approach, a fund for assistanceto the private sector will be installed on a pilot basis in the Bank of Kigali. Its objective will be to create a demand for consultingservices, by organizing seminars at which administrators will be alerted to the constraints inherentto their enterprises and by covering-up to a certain point and on a gradually decreasingscale- some of the expensesof the companies,who will choose the qualified expert best suited to their needs.

InsitunalkSgreaning

27. It is importantto see that the Ministryof Commerce and Industry is adequatelyfinanced to perform its role of assistingthe private sector in regard to: (a) implementationof the measuresderived from the strategy described above; (b) the identification of new constraints; (c) follow-up on and coordinationof the activitiesdesigned to help the private sector; and (d) the receipt of and response to any complaintsthat may be lodged by the sector. To that end, a technicalgroup-the nucleus of which will be a team of experts consistingof three nationalsand possiblya foreign advisor-will have to be set up and placed under the supervisionof the Ministry. The Ministry will also need sufficientfunding to be able to call on short-term consultancies,purchase the requisite data processing equipment, and train its professionalstaff.

28. Finally, creation of a Tribunal of Commercehas been identifiedas a priority goal. Its purpose will be to permit quick resolution of trade disputes-which at present can take as long as five years. The Tribunal will be a permanent and autonomousstructure, chaired by a president who is a qualified and experiencedmember of the judiciary. The Tribunal will specialize in the arbitration of business disputes,and it will be assistedby businessmenwho have the required expertise. It will receive the necessary funds to train its professional staff and purchase the supplies and equipment it needs. Finally, the continued support to the Chamber of Commerce, which is slated to become a non-profit organizationwill have to continueto ensure its sustainability. RWANDLESEREPUBLIC

P=VEAT1 SECTOR DEVELOPMET PROJECT

Private Sector DeveloMnent Policy Matrix

A. Ehaue IqIme-

1. dbcAag laV. 40 ad 15 pI devabrsin in 1990and 1992. Mai.iane np rne at cnwiatitiw lve through priodic 1993-en ______- . ______M(SAC-SAF) 2. Cx, vi AnC_W Mlinded impo polaiNtiom and QR's, and libetalind of Pull_ of OGL Ir impot. 993(SAC) LIb.Ruluedtm. impostlemingm 1990. Market determined of scare Adoptionof OGL for ipot. in 1992. liminationof espert bemiong and simplifyexport clrance 1993(AGSAC) foreign exchange forSali ie. aeoures, boost expots Rovised .m.CoItroh regu,tom, inclbig trat of and fei investma dividends De _endw1992. Implemtation of full llibalir:Vion of medate tranfers for 1993 repatiation of profis dividends. (AGSACISAP) 3. TarW. Decased Weed i taiffi, by bwering mlam rat to Rurtherdeea spead n tnriS by adoptnga maximumrate 1993(SAC) Decreas anti-export 100 plr-a and increasedthe minimumrate to 10 pesuatn of 80% appliable only tD hmy goods, nrowly defined. bias, encourage viable Simlfied the taiff systm by megig two taiff Mxmum and minimumtai on odter productswill remim at acivii, and adopt a instumeats into a sigl one and decreasedthe number of 40 and 10perseit. Hrmonize rates wihin four digit categories tnIae system.- . saory rates to 5 (August1991). and adopta umquetarff rae iv a gien product. Mid-km Review(PSD)

B. Expet Preme;o.

1. Tax C4sspmwadk*. Rrvised export promwtionlkw in 1991 to inchudecerain ------...... 1993 Reduc aru-exportbias. befits to non-aditonal exportcrs, iclxdng a tax rabate. co

. ______o0h X 9-n [I 2. Free-zone CeIlt. Deada 1994 Encourage export PD oreed inven_.

3. Ller& htrjwoa i l| ,| __ 1 J une 1995 Air uaIye. 3.P ||| X _ g| | ( SD) Decraefrei ost and |81R. 1 incres avalily of _11!

C. Tax an Ixwi.uu. Nacy.

1. CoeanyLewlTf aL. hrvesoet code supndod io 1991. _ _1993 (PSD) Decres distoris inl 1993 (PSD) tbe corprte tax s_riq t 5_ ~~~~~~~~~~~~1993 (PSD)

> ...... -g...... _ ...... _ ...... ~~~~~Rrve...... (PSD)...... ~ I J1 t

2. Tar Cod. . . . * PS.. Improve applicaton and Revewv(PS) transprency of tax

3. Inirect Tmuton. Incrased rate for most transatons to 10 percent (SAC Mdo Improve applcton of 1991). Review(PSD)

turnover tax (ICHA). ______4. Ta4on qf financial EliminatedICHA on idteretto avoid doubletation. .. P 13

5.~~~~ lnamn =P_.ky.

Encourageinvetet Reiw(PSD) n

O. . Ai&rin Arca anfdObjetvePast 1ReformEffort.: .... Act...... heii

IL. Ial and Reaulator, Framewzork

A. Regulatory Famewrk.

1. Ewerprise creation Need for prior approval of Miniitzyof Indumtyabrogated. Mid and bwsinesslicensing. Procedure,of obtainingcommnercial registry simplifiedand Rve PD

Ease regulatory the registry was relocated to the 'tribunal de premicre . i i. . '0 . . .*. constraints widening instance (August1991). buins crecation and diversification.

2. SimpUify and cod D_ Mid-temf reglasooryprocedurnsfor Review(PSD) allocadon of hdtrial laud and for ob&aeag the vwiouspermis. Decres delays.

Un 3. Lgal Framework

1. Coemnerdalcode. Laijaced study of commaecil code (SAC Januy 1992). December1994 Simplify and improve (PSD) busines laws. Agreed on tmetable for ooncrte actons to improve the busis las, incluing caepielw, ba tcy lw, dec.

2. Create Privte klga and December1994 paralekgaprofesiou. (PSD) Facilitate execution of costac discanussis m_ _for tofoot. __ C. Labor Code Rd.m.

1. Ensure that labor Sudy of Labor Code complted in Junr 1992 (SAC). 1994 (PSD) compensation is in harmony with its Govesnmet adopted timetable for rfom and agred on productvty. p actions (Noaember1992, SAC) D 00 0 m 0 x 111. Pub& Entarnw (PE) Reform

1. PE Framewor*. Govcrnmeatadopted new legal fumewrk (Dcember 1992, Adoptprivaion tratgy for sector and finn cvel 1993 Put PE wetor on sam PE Projod). Undertakeprivatiton and reaructuing of PE's. (PE projec) foolilg as Pdrm Socotw Consultans comip d work on privatizaoe stategy. 1993-o liabgkyfor mm NW ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~(FEProJect) debt repayment_ 2. Dsungagmm qf d Conducted Sedorl and finm evel daosbic studies. Anoiae privatiation pln for cofhe, tea and nce production 1993-94 SW* fivm producto Compleed work on the kgal framewr of PE's, including aaw. (AGSAC) actiwik. a regime in hamony with the private ector for commercial Priatie coffee, tn and rice productionasua. 1993-94 and productiveactivtis. (AGSAC) Prjvati=dlreatiuctuiudfive PE. e and uationalimOCIR-CAFE and OCIR-THE. 1994 (AGSAC)

PE proje-t and

______~~~ ~~~(PD) ~~~~~~~~~~~~~~Reviw VI. Flrancal Serkw

1. Lega md Rquey A-ni the BNR legislationlo ashmacteb _edqcadmcefiom 1994(PSAC) F ewwc the Miniay of Fane and allw it to we idireetmea of Promote effective mo coAtrolsy of "eave rq. competition between institutions while A ldgSkon . finsaum _iujomto (i) define more Mainainingthe viAy clely dh licesing rajuire-aIs of bmb and fincil and miqlky of the inu ; (iin) strt pdameuial raeuiremnts; (iii) finGnl syem. esalh cpppristuiiur. for chsfyig loan, e g - ad waninghuma_

Requie all bank to be audked by an exteual audior appoved by the BNR in im wImtehns of cree e.

2. SuperWsiof Fim.ud Adoptedan overall work program for superving banksand Undertake onsic inspections of at kast to financial 1994 (PSAC) h _dnaiou. financial institions; icreae th InspectionDepartnat's Io.V Effective supwvon of staff; and deelop a traiuingprogram for the d _.actm l. banks by the BNR ' >

40 m Xn : ~ ~~ ~ ~~ ~~~~~~~~~~~~~~~~~~~~::. - :... -:: ......

3. Baqa Rwandaise de Agreeame wiLhthe Goverment reducedthe pariipation of Wi the framwork of a strategic plan to resBuctur BRD, 1994 (PSAC) Developpment (BRD) the publicsector in BRD to below 50 pecent and agreedto includingimprovemets in portfolioand financialmanagu_nt, Strengthenthe rfrin fmomitervig n its day-to-dayopaations. clrificaion of the roles of the Boardand the mangement, and develpame bank by Grnted motdorium to ddt srvic paymentsof BRD lon appropna changes in its product mix and organ oIaa inreaing its autonomy; to BNR pendinga financial restuctuing plan. stue to make it a more autonomous, compxtive and diveriying its products; Study on restuctuing lunhed in Novenber 1992. efficientinskution. and improving its efficiency.

4. hnerest Rates. One-year dposit and lendin tes made positive in real Reviwwinterest rat suc at eat twice per year to ensure 1993-on Simplify the irest term. that raes are postive in real terms. (FSAC) stuetu and liberaie Lbeaeze inotere rates fully. 1994 (FSAC). intae rates.

S. Rediscon Rates. Wihin limis authorized by lw, expanded eligibility of Review redisount rate at kat twice yearly to refict credit 1993-on Use the rediscount paper to be refinanced to include hort-term credit; requiements. (FSAC) fecily to contol money establihd approprite sandards and procedur to improve Expandeligibility of paper to be refinancedto inchldeall types 1994(FSAC) and credit. the efficiencq of the BNR rediscountfaciliy. of paper. 6. Crodit Cedlings and Set initl reerve requirments. Incrawe reserve requirements. 1993 (ESAC) Reserve Requiremns. Improve resource Elimiaed bank by bank credit ceilings, nd interest rate alocton wthin the policy. ba sytem; move towrd indirect mean of controlling monetary

awgeptes. ______V. Institutiona

1. The Chamber of Incread inependence of CCIR managemn_t while 'Pratime the CCIR by giving it a private klal s (non- 1993 (AGSAC Cawmrce and bAmy maianiing its publicestablihmnt status. profit organztion, OASBLW).Eliminate foroed membenhip or PSD) XCR). and imposkionand colltion of fees by the Government Inease effectivees. 2. Estabis a seyjading June 1994 tribuad ofconmserce. (PSD) Speed-up and increas firnes of the proce", Mid-term OQ sett=ing commercial Reviow(PSD) 0 °x disputes.~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~L ' -56 Annx3 Page 1 of 1

RWANDESE REUBI

PRVATE SECIrORDEVELOPMENT PROlECI

Review of Donon' Acstae.

IDon Project

______RLINVESTMENTSSTANCE Investment Belgium Financial mipportfor NGO manased projects. Of the 120m BF p.a. (3.2in) project foui - ei d 20% is Grants allocated to projects directly mupportingthe privat setor. ch ar the mapportfor a NGO workingwith wnl. group.. Belgium (icro-intervention (max. of 250,000 BP or $6,750) provide Summoil aWort for small, predominately nral, projetr. Swim pWortfor wood ad forestry sateprensr ad the workahop UBUBAJI. Provison of tools ad eq;pment France (PAC) Support for the mrrallybnd artisn. Iovetme m ort to lup m-p cwrpetr. in mioro-swokWpe. Franc. (PAC) Grmt for snall project. in *ll seco. 3m PF p... ($0.5m). USAID The techia asitance. compomt of the propoed ARTS project wal provide trant to NGOa irvolved in hoeing to bliab and/or upgrade the cpacitia. of mall private eterprisee, cooprativ and umciadous. UNDP Micro-realization. Support for non-agricultur, rurally basd, micro-aitrprim. GCrman Fund for micro-reelizationa, DM100,000 pa. (S56,000). Mcinay, tool. Sc foer mall project. in AUlnsto. Swiu Uit and fond to mpport industrial innovatioDn.Joint-vea invesment in a brick-works ad papyis. roofing factory, accompaniedby managurial and technical mpport). Swiu Inveetnent support for units processing Soja and it. by-product. (accompanied by tenical saistance). nfr Ca Th reatructured micro-realization project. Modwriation of rural markets. structure USAID Primo project. Conutruction of artisan complem. at Kigali, Butare and Ruhegeri. investment H. TECHNICAL ASSLSANCE Technical UNDP (1989- Snrdi, pecializea in satin,promoten to realize their productive initiative end industry shdie. dtance 1991) Service USAID (1986- Tchaoeerve provide a compreheive rang, of consulting rvice for private enteprises ad prom. Center 1991) CCCe CSA provides, aithr directly of through the use of .b-oontractorn, conmalling6arice hr prive stnries. (1991 +) Othrr UNDP Micro-realizaion. Promotion of non-agricultural rurally basd micro-enteepriu. projects with EEC Celr of Inuratrial development. Promote. joint venue and trad bewee EEC cauki_e ad Rwvda. a technical assidance EEC countriea European DevelopmentCenter. Provision of expert, to start-up project, conduct abie and advise on eqsipsmmt component etc. Belgium Propowedproject - Center to provide expert advie and technicl since in the consdticn field. Canada A.P.E. Project activities and objective, curreatly under revision. Expected to provide intaive man_Emet sitance to medium-large sized enterpries. Canada CEFMIVA. Provides technical a.istanc ad traning to artisn working with clay. Swim Support for wood and forestry entprenes d tewwork-sbop UBUBAJI. T nical wastae nd traim hr cerpenters. Swim Support for the informal sector. Cretion of rtin aociation, training, facilitating accs to credit, e.c Frame (FAC) Production of school furniture. To eqipe comne clasm ad train capente. France (FAC) Support for the rurally based rtin. Training in the managemet of a work-aop for deectedwood-wking artisan. France Kigali East ad Wet. Technical aad managerial diace for gricultural cooperatives German Hanicoraft and "rtirn production. Training and tehnica astanc for rtisnr. Formatioa of aeeoci6tos. UNDP Proposed project for the promotion of grm root initiative. and micro-onterpriss develop rento maer.sde UNDP micro-realization project. Swir Promoting commercial links between Rwanda ad Switzerland. Triniing nd Assistance to re-enforce the aystm of qualification and profeional improvemnt. Seminars USAID Prime project. Seminr on buaineer topics for the private sctor (run in aseociation with Sordi). AID HRDA. Training in manaement and fiSnncial analysis for key privat and public sector opratos. (Washington) USAID Tedcnoewve. Co _mhegaivesemisa program for privatedentrpen s. CCCE A PAC Technological training CANADA APE. Fiancial aianc for uAdytripe to a Canadisn bad rsrch oentr on appopriae tchnology.

|Sa a* UNDP A istancefor the manement of i&sshtrial deveopmnt and a developmentprogram for tl m ia= stor policy Prim projct. Anlysis of bouehold expenditure wryc. Sudie am th mamafacturingsectr, moploy. Stc. USAID UNDP Exportation promotion. Studi identiing poiUbl export produc tc. Registy of exporting entepria. USAID MAPS. Statistical profile on the private sector and sesamentof the opportuAitie.thereof. USAID A component of the propoaed ARTS project is to at up a monitoring unit to m the impwct of trctal adjustment. - 57 - Annex 4 Page 1 of 5

RWANDESE REPUBLIC

PRIVATE SECTORDEEOMNPRJC

Review of ManagementConsulting Services Availablein Rwanda

I. Introduction

1. Sources of management consultingin Rwanda include about 12 enterprises listed as consultingagents or 'bureau d'etudes", 3 technicalassistance centers created by donors and over 130 individuals registered as having specialist expertise and capable of providing consulting services. Additionalimportant intermediariesinclude about 10 non governmentalorganizations, plus a handful of other institutions including the association of industry, the banks, the chamber of commerce, the universityand several technicalschools.

2. Existing providers of consultingservices offer a range of services and have the skills sufficient to meet the immediate assistance needs of most private sectors operators. There are, nevertheless, some deficienciesin the range and quality of services locally available such as specialist technicalknowledge. This is expectedto develop as the industryevolves and the private sector operators becomemore sophisticatedin definingtheir requirementsof consultingassistance. The structure of many of the existingproviders is sufficientlyflexible to adapt to less commonrequirements, for example, by sub-contractingthe expertise required for a particular intervention. This developingindustry needs to be reenforcedas most of its participantsare continuouslyrefining their services/approachesin an effort to become firmly establishedin this new market and to improve the quality of their service to meet the ever increasingneeds of the growing private sector.

II. Providers of consulting services

3. Private consulting firms. The review identified about 12 private firms with varying capacitiesto provide consultingservices to private sector promoters and enterprises. In an effort to compete effectivelyfor the limited business available the private firms tend to advertise a broad range of services, including: (a) a very comprehensive range of accounting and financial services; (b) managementand organizationalassistance; (c) feasibility,marketing and technicalstudies; (d) personnel and managerialtraining; and (e) preparation of the Acts of an enterprise, negotiationsand conclusions on commercialcontracts. In additionto firms in the general consultingcategory, there are at least seven private firms specializingin the data-processingarea which offer softwaretraining, advice on computer installation,development of personalizedsoftware for clients, and statisticalstudies/surveys. The bulk of the business for these private consultingfirms comes from one or two of these services categories, notablyaccounting work or the completionof studies. In general, private consultantfirms interventions are based on an agreed contract between the parties which precisely define the rights and obligations thereof While the rates vary accordingto the nature of the service, typicallythe private consultantfirms charge upwards of RwF2000 ($16) per man hour (starting at RwF300,000($2,400) per month).

4. TechnicalAssistance Centers Three centers offering management consulting and trouble-shootingservices were identified in the review: Serdi, Technoserveand the Center of Services for the Artisan (CSA). All three centers were set up under donor projects with the specific objective to - 58 - Anex4 Page 2 of 5 assist the developmentof a dynamic private sector. Serdi was establishedin 1989 under an UNDP project to assist the developmentof small and medium enterprises through the provision of consulting services, trainingand technicalassistance etc. Serdi specializesin assistingpromoters to materializetheir productive initiatives into bankable projects through the completion of feasibility studies, organizing finance for training/studytours and facilitating access to bank credit. The future of this center is under review and its privatizationis a likely outcome. Technoserve,a non-profitorganization financed by the USAID from 1986-1991,specializes in trouble shootingservices targeted at private enterprises through the provisionof its business advisoryservices (BAS)involving limited technical assistance interventions, and its management assistance programs (MAPS) providing long-term comprehensive managerial assistance. Technoservealso assists the private sector through training programs, business seminars and the publication of business guides and manuals etc. CSA, a service center funded by the CCCE, was establishedin 1991 to provide a comprehensiverange of trouble shooting services to small and medium sized enterprises and artisans. CSA provides assistance on several dimensions including, enterprise diagnostics,market studies, research into partnershippossibilities, materials, training informationas such like. CSA has been set up completelyindependent of the Rwandanadministration and intervenesonly in existing enterprises (i.e., excludespromoters) with high profitabilitypotential. CSA asks an average of RwF200 ($1.6) per hour for its managementconsulting services, with the other technical assistance centers generally demanding a nominal fee of about RwF5000 ($40) for a total service/intervention. These rates are significantlybelow those charged by the private sector.

5. BInks The three commercial banks in Rwanda do not offer any formal system of consultingservices for their clients. In contrast, the Rwandan Bank of Development (BRD) and the central branch of the BanquesPopulaires (BP)both have smallmonitoring units responsiblefor following clients progress and to provide managementand technical assistance. In both cases this is achieved through a regular visiting program. The quality and effectiveness of these consulting services are underminedby the resource constraintsof both the BP and BRD. The visits are both very infrequent(in the case of the BRD rarely more than a single visit per year) and serve primarily to assess the client's ability to repay the loans rather than to provide technical assistance.

6. Chamber of Commerce The only type of trouble shooting service provided by the Chamberof Commercefor its members is in the form of its legal assistanceservice where the Chamber will, on occasion, represent the interestof a particular enterpriseon some specificproblem/delay incurred in the enterprisesdealings with the Administration. Exampleswould includefacilitating the granting of an importinglicense, or acquiringpermission to set up an enterprise.

7. Ihe Associationof Industries This recently establishedproducer association, does not provide consultingservices on an individualbasis to its members but rather representsmembers' interests as a whole in the political, social and economicdomains. It strives to improve the operating conditions for the industrialsector and to develop the sector's dialoguewith the Authorities. The Associationalso monitorsproposed legislativeand regulatorychanges and draws attentionto any issues of interest for its members.

8. The Universityand Technical SchoolsThe University and the various technicalschools do not formally provide any form of technical assistance or managementconsulting services for the private sector. Approximately50 individualprofessors and researchers are registered as consultantsin all areas of expertise, availableon a private bases. - 59 - Annex 4 Page 3 of 5

9. The NationalOffice of Studies and Projects (BUNEP). The specific technicalservices (e.g., topography)and the financial services (eg. feasibilitystudies and audits) provided by BUNEP are structured to meet public sector needs. A restructured and privatized BUNEP could cater more effectivelyfor private sector needs.

10. Individual consultants Over 130 individualsl offer their services as consultants in a diverse range of expertise, includingeconomics, transportation, communications and law. Few of these individualsare engaged full-time as consultantsas the managementconsulting demand does not warrant this. This group represents a considerableresource to be drawn upon as the industry evolves and the private sector demand is heightened. Many of these individual consultants are, or have been, civil servants and have worked on studies and projects either financed by the Government or international donors, and by extension with the private sector. Some are occasionallylinked to local consultantfirms on a sub-contractorbases.

11. Non-governmentalorganizations. At least 10 Non-governmentalorganizations (NGOs) provide some degree of technicalassistance or training for the privatesector. The majorityof these NGO services do not cater specifically for private enterprises but are targeted at (i) associations and cooperatives, usually in an effort to improve the commercializationof their activities (for example, the Non-governmentalOrganization "IWACU operates as a nationaltraining and research center designed to provide training and services to cooperatives and to strengthen their management and commercial activities)or (ii) artisans, often by means of the day to day runningof small workshopsand the provision of on-the-jobtraining for artisan. The exceptionis 'Duterimbere', an NGO which was created to assist women entrepreneurs to start-up or expand micro- and small- enterprises through the provision of managerialadvice, enterprisediagnostics and facilitatingtheir access to bank credit. Someof the NGOs focus their activitieson re-enforcingthe NGO network which provides support and advice to artisans, micro-enterprisesand associations, rather than providing direct assistance themselves. Some of the NGO's have introduceda systemof cost recovery for consultingservices, but only symbolicamounts are involved at this stage.

IH. Assessment of the capadties of providers of consulting service.

12. The private consulting firms and the technical assistance centers have the greatest capacities of those reviewed to meet immediate private sector consulting needs, although many are strugglingto becomefirmly establishedin the market and reach high quality standards. Some NGOs and individual consultantsare also well placed to assist private sector enterprises and promoters in certain specialist fields such as energy and transportation, or with specific technical assistance in the areas of wood/metal working and the production of artisan goods, or for specific sub-groups such as assisting women entrepreneursto access bank finance.

13. A few related factors limit the private consultant firms ability to develop their full potential to cater effectivelyfor the private sector market, such as their lack of experience in working with this sector. Typically private sector clients represent only 2-5% of the workload of these private

X This includes 9 professional individual consultants, 16 burau d'tude officers, 47 academicresearhes, 32 civil serva and 33 officers of other insitutions, who have been identified in the regiAercurntly being prepared by Minisy of Plan on local expertise. - 60 - Annex 4 Page 4 of 5 consultingfirms, with the bulk of their business coming from the Governmentand internationaldonors. This lack of private sector work suggest that private enterprises are not yet used to paying for consulting assistance, not fully understandingthe nature of the services provided by this relatively new consulting industryand are only beginning to see the potentialvalue of such assistance. It also suggeststhat private sector firms do not fully recognize that consulting assistance could help it face up to the difficult economic situation through productivity gains. Until relatively recently the firms in Rwanda have operated in a protected environment. This is changingwith the deregulationof the economy. In order to survive in this changed environment,firms will need to operate more effectivelythan they have in the past. In many cases a major restructuring of their activities to increase production, managerial and technical efficiency may be required. At present, many entrepreneurs are solely blaming the poor economicand political situationfor their current difficulties. While this is true to an extent significant improvementin a firm's operations could be achievedthrough focussing on internal factors to a firm's operationsrather than such exogenousfactors. With further liberalizationof the economyand improved economicperformance, the private sector's demand for technical assistance and managementconsulting is expectedto increase significantlyto enhance their productivityand support new investments.

14. An element of distortion is the virtually free consultingservices offered by the technical assistancecenters and NGOs in comparison to the commercial rates charged by the private consulting firms. This lack of a level playing field makes it difficult for the private consultingfirms to compete effectivelyfor private sector business. This situationis expectedto improveslowly, given that the service centers cannot be sustained with donor subsidiesindefinitely. They too will have to operate on a more commercialbasis. Furthermore, as the local industry strengthensthe justification for subsidizingthe providers (as distinct from the service) of consultingservices will be undermined.

15. Togetherthe three technicalassistance centers offer a broad range of consultingservices in a manner sufficiently flexible to meet the demands of most of the private sector operators. The centers, not restrained by the need to operate commercially,now have considerableexperience working with small private and promoters. While there is room for improvement in the mode and cost effectivenessof delivery of the centers services, the on-goingmodification of their services reflectstheir efforts to fine-tunetheir approaches and services to best meet the requirementsof this market. These centers have also served to increasethe publicsawareness about the role and value of consultingservices.

16. The most commonexpertise provided in private sector interventionsare of an accounting and financial nature. Some of the private consultingfirms estimate that financial services, especially auditing, accountfor over 80% of their business. Similarly,many of interventionsprovided by technical assistance centers focus on organizing the enterprises accounting systems and financial declarations, because (a) the suppliers of technical assistancegenerally have an accountingbackground and therefore a tendency to interpret enterprises needs accordingly; and (b) private entrepreneurs have difficulty in defining their enterprise's problems and requirements of assistance, with concepts of marketing and human resource managementfor example, relatively less understood than accounting. Consequendy much potential consultantdemand is not recognizedand left unsatisfied.

17. Some deficienciesin the range of consultant services locally available is evident, for example in the area of specialisttechnical adviceon the use of machineryor the selectionof appropriate technology. It is doubtful that, given the small size of the private sector and the fact that many such technicalproblems would be 'once-offs', that the availabilityof such expertiselocally wouldbe justified. Access to foreign expertiseor techniciansworking in similaroperations in other countries either through - 61 - Annex 4 Page 5 of 5 studytrips, or visitsby expertsto Rwanda, is probably a more appropriateway of catering for such needs while greater local expertiseis developed. Many of the private consultantfirms and one of the technical assistancecenters pursue a policy of sub-contractingconsultants when the interventionrequired is beyond their own areas of expertiseor capacities. In these circumstancesthe firms usually draw from a pool of local free-lance consultantswith various skills and specializations. As the demand and requirements of the private entrepreneurs becomes more sophisticated, the pool of expertise utilized by the local consultingindustry is likely to be extended to include overseas technical experts. CSA already has a policy of utilizing foreign expertise when it is deemed the most appropriate for the job. Such logical extension of the pool of consultingresources will help to overcome deficienciesin the local market's present range of expertise and serve to strengthenthe local consultingindustry and therefore benefit the private sector as a whole in the longer-term.

IV. Conclusion

18. The provision of managementconsulting services, and particularly the development of private consultingfirms is a relativelynew phenomenain Rwanda. Accordingly, this sector is not, as yet, well establishedwith new firms opening each year and others dropping out of the market. Private consultingfirms' effortsto cater effectivelyfor private sector needs are being frustrated at present by the competitionof donor fundedprojects which providevirtually free technical assistanceand by the private sector's poor appreciationof the role of consultantfirms. The developmentof a more level playing field for the consulting industry would help the private consulting firms to develop their full potential in meetingprivate sector requirements. Private sector operators also need to be made more aware of their own shortcomings and how consultingassistance can help them increase their productivity through enhancingmanagerial and technicalefficiency. Both problems will be alleviated by the creation of the PSSF proposed by the project.

19. The providers of consultingservices identifiedin this paper together provide a range of services and have the skills sufficientto meet the immediatedemands of most private sector operators in Rwanda. Catering for the few deficienciesthat currentlyexist in the range of services locally available could probably not be justified on a permanentbasis in Rwanda due the small size of the private sector. However, the structure of several of the private firms and the technicalassistance centers are sufficiently flexibleto hire external expertisein these limitednumber of cases where the specializedknowledge is not locally available. As the consulting industry evolves and the private entrepreneurs become more sophisticatedin recognizingand defining their needs for managementconsulting assistance, the quality of local expertisewill improve. The need for foreign expertisewill probably be heightenedas private entrepreneursdemand more specialized assistance and the PSSF will encourage this, particularly by identifyingqualified international experts availableunder various retiree programs in Europe and North America. In the short-term, however, existingproviders of consultingservices have the capabilitiesto cater for the relatively uncomplicated immediate needs of the private sector. Moreover, private consultingfirms, through their own experience as private entrepreneursand understandingof the local market, customsand languageare seen as well placed to cater for the expected increase of demand for consultingassistance. The balanced growth of the consultingindustry will be enhancedby the existence of a range of sources of technical assistance, including NGO's and donor projects which often make availableexpatriate expertise and ensurethat private entrepreneurscan chosebetween alternativesources of assistance. - 62 - Annex 5 Page 1 of 8

RWADESE REPUBLIC

Private Sector Support Fund

I. Objective and Rationale

1. Firms in Rwandaface two types of constraints:external factors which affect the business environment; and internal managementinefficiencies. The Private Sector Support Fund (PSSF) is designed to address the second issue. The primary objective of the approach is to strengthen the managerial,technical and operatingexpertise within private businessesin Rwanda. A secondaryobjective is to encouragethe developmentof a growing and competitivemarket for professional,private consulting services.

2. The private sector in Rwandais most recently established(three-quarters of the firms are less than 20 years old), and has been sheltered from internal and external competitionfor most of its existence. In the new liberal framework, the most binding long-term constraint to its continued developmentlies in the lack of sufficientproduction and managementknow-how. Individualcompanies have insufficient management expertise and have had little exposure to international management practices. Surveys and availableinformation indicate that such shortcomingscan be found in companies of all sizes: manufacture reject rates as high as 20 percent are not uncommon, accounting systems generally are inadequateand only a few companieshave any form of cost accounting. As a result the private sector is inefficientand uncompetitive.

3. Most Rwandese entrepreneurs are not yet accustomed to identifying investment opportunities. New commercial and service companiesusually are copies of existing operations and manufacturing is limited to a small range of import substitutingproducts. In this environment, the relatively sophisticatedconcept of procuring expert advice from outside the company has gained little acceptance,other than for feasibility studies. Nonetheless,such advice is badly needed if the sector is to prosper in a newly liberalizedeconomy.

4. Between 10-15 private firms and three donor sponsored projects specializein providing business related expertise (see Annex 4). In addition, 14 NGO's provide some degree of technical assistanceor training for the private sector. The private firms offer a small range of services mostly related to basic auditingof accounts (there are no chartered accountantsin Rwanda)and mostly to donor organizations,NGO's and state agencies. While private sector clients represent only 2-5 percent of the worldoadof these consultingbureaus, these services are expectedto grow as private companies, learn what this type of outside assistancecan do for them and how they can exploit it. The private sector is also discouraged from turning to expert advice due to cost considerationsand uncertainty on potential benefits.

5. Several donor projects have attemptedto address these problems by providing higher qualityadvisory services free of charge or at heavilysubsidized rates, but so far with only partial success. Most of these projects provide a predeterminedrange of serviceswith emphasison accounting,feasibility analysisand some technicaltroubleshooting. Oftenthe initialcontact is establishedby project personnel. - 63 - Annex 5 Page 2 of 8

6. Entrepreneurs typically have difficultyspecifying the problems in their businesses and identifyingthe areas that need improvementand in practice project experts often end up formulatingthe need. In the absence of a clearly expressed demand the experts tend to recognize a problem that falls within the limited range of services that their project offers. In the process the assistance becomes a supply driven facility. Moreover, as the service usually comes at little or no cost to the recipient, the entrepreneurhas insufficientcommitment to the process and little vested interest in its outcome.

7. The problem with the prevailing approach to supplying advisory services is that it fails to recognize that the advice needs to be broad to cover varying needs, and be 'owned' by the entrepreneur to be truly effective. This means that the entrepreneur has to: (a) take the initiative in procuringthe service; (b) match identifiedneeds with appropriateexpertise, and (c) be committedto the process and have a vested interest in its outcome. An integrated approach is therefore required that stimulates the entrepreneurs to take this initiative and at the same time challenges the providers of expertiseto upgrade and expand their services.

II. project Design

8. The proposed project component,which is inspired by successfulsimilar programs in other countries, would include the followingthree elements:

(i) a program of entrepreneurshipdevelopment seminars;

(ii) a fund for financingthe provisionof consultingservices to private sector companieson a cost-sharingbasis; and

(iii) an intensiveprogram of monitoringand evaluation.

EntrpreneurshipDevelpment Progam 9. The purpose of this program is to change the way entrepreneursapproach their businesses by reinforcingtheir analyticalskills and making them recognizethat the success of their businessdepends as much on their own initiative as on outside circumstances. The approachto be used will be based on the motivationaltraining methodologythat has been developed over the past two decades by several companiesand institutionsaround the world and which has achievedconsiderable success in encouraging the entrepreneursto amelioratetheir operationaland managerialknow-how (see paras. 31-39) for course outline).

10. The trainingmethodology is designedto foster and strengthenentrepreneurial motivation and certain types of entrepreneurialskills such as risk taking, persistence, self confidence, quest for quality, goal setting and planning. In the course of a two-weekworkshop participants are taken through a mix of practical exercises, case studies, simulationsand role plays. The central focus of the training is a business creation exercise in which each participant is required alone or in partnership with others to start a real business during the workshop. Approximatelyone third of the availabletime is devoted to a business planning exercise during which the entrepreneursare encouraged to analyze their own strengths and weaknessesand those of the company and formulate a plan of action. At the end of the two-weekperiod the participants are expected to have a heightenedsense of the shortcomings in their business and in their expertise, and thus seek solutions. - 64 - Annex 5 Page 3 of 8

11. The project will finance a series of these entrepreneurshipdevelopment seminars each to be attended by approximately25 participants. Each seminar will be preceded by an advertizing and promotioncampaign and a selectionprocess of participants. The training technologywill be transferred through a process of training of local trainers and translation of all materials into the national language.

ConsultingFnEd

12. A fund will be establishedthat will screen proposals for consultingassignments submitted by entrepreneursand the consultantsor consultingfirms that they have selected and will apply a simple formula for cost-sharingto these proposals. To help the entreprenurs in their selection the fund will establishand maintainan expandingdatabase on nationaland foreign individualconsultants and consulting firms. In identifyingthe foreign experts, a particular effort will be made to find qualified individuals availableat low cost throughvarious retiree programs (see sectionV for a descriptionof the policies and operating procedures governingthe fund).

13. By subsidizing the service and not the provider, the fund enables consultants and consultingfirms to charge commercial rates, even to small private sector clients, and gives them an incentiveto strengthentheir own expertise and enlargetheir network of contacts with experts within and outside of Rwanda. Growing demand is expected to attract the entry of foreign firms and Rwandan professionalscurrently working in the Governmentor abroadfield. As a result, the marketfor consulting will expand, become more competitiveand the quality of the services will increase. As demonstration effect takes place the fund will also contribute to the creation of a self-sustainingmarket for business consultingservices.

14. Experiencewith such consultingfunds elsewhere(reviewed in Annex 13) has shown that as a result of the transfer of expertisethe recipient firms increase their revenues by a multiple of the original costs of the consulting assignments. This experience is expected to be repeated in Rwanda. Thus, the Government will more than fully recoup its investment through increased tax revenues. Additionally,the proportionsof the costs to be borne by the fund will decrease with use to ensure that as many private firms as possible benefit.

Monitoringand Evaluation

15. A key innovationof this approach is to integrate motivationaltraining of entrepreneurs and cost-sharing consultingfunds. The combinationof the two elements is designed to reinforce the effectivenessof each and is expected to significantlyenhance Rwandesebusiness expertise. Due to of its experimentalnature, the effectivenessof the two elements will be monitoredand if necessary some of the arrangementsfollowing the first-year and the mid-term review will be altered or fine-tuned.

16. The decision on the types of consultingexpertise that are needed is left entirely to the entrepreneur. A preliminary assessmentby the appraisalteam establisheda demand for expert advice in such areas as project feasibility, equipment layout and manufactring efficiency, appropriate technology, quality and production management, product strategy and marketing, purchasing and inventory control, cost accounting and financial management, and personnel management. In some instancesthe entrepreneurmay not be able to find this expertise locally, particularlyin the early stages of the project. In such cases, an internationalexpert will be needed and could be found either directly or with the help of the project's data base or through a local consultingfirm. - 65 - Annex 5 Page 4 of 8

17. In this approach no particular categoryof enterpriseswill be targeted, except for PEs and large firms with more than 250 permanentworkers, and subsidiariesof multi-nationalcorporations, who will not be eligible. Eligibilityof entrepreneurswill be on the basis of showing the initiativeto formulate a need, locating an expert, and willingnessto pay part of the cost. The entrepreneurshipdevelopment seminars are designed to foster this type of attitude and therefore it can be expected that most of the demand will come from past participants,particularly in the early stage of the program. Participantsto the seminars will be selected based on their entrepreneurialinclinations rather than the type of business. It can be envisionedthat the initialseminar will be targeted to the decision makers of larger enterprises, thereby lending a certain prestige and credibilityto the program.

HI. Project Management and Implementation

18. The project component would be managed by a small unit of not more than two professionals,in charge of organizingthe seminar program, and the consultingfund. It is foreseenthat an internationalexpert will be recruited to head the unit for at least the first two years and the other professionalwould be recruited from the local private sector. Managementof the consultingfund would be kept as simple as possibleby keeping the eligibilityand approval criteria for consultingproposals to a minimum and hiring an outside firm to conduct regular audits of the accounts and disbursements.

19. The unit will be independent,but overseen by the Ministry of Commerce and Industry. The PSSF would be responsible for the advertising campaign, through the media and private sector organizations, overseeing the execution of the seminar program, managing the consulting fund and monitoringits results. An outside company would be contractedto prepare and conduct the first series of seminars, translatethe materials into Kinyarwandaand transfer the selectionand training methodology to a group of local trainers. Once fully qualified,these local trainers would be contractedby the unit to prepare and conduct the subsequentseminars.

20. No new institutionwill be created to house the program. A number existinginstitutions were considered to house the program. Government agencies were ruled out because too a close an identificationwith the Governmenthas been the main causeof failure of many past private sector support programs. Similarly, the Chamber of Commercewas excludedbecause it is being restructured. While, commercialbanks, the national developmentbank and a number of NGO's were also considered, the Banquede Kigali was selectedas the most suitablecandidate because it is a dynamicwell run commercial bank with a good image amongthe private sector of Rwanda. Under the proposed arrangementthis bank would provide the managementunit with office space and would manage its accounts. This bank would also serve as the official 'sponsor' of the entrepreneurshipdevelopment program, which will be held in facilitiesprovided by IWACU, and NGO. Identified co-sponsorswill include DUTEREMBE(a NGO helping women) and IWACU.

21. The project componentwill exposethe Rwandanentrepreneurs to a wide range of national and internationalexpertise and put them in a better position to face the competitivechallenges that will come with economicliberalization. In the immediatefuture this will help them save and restructuretheir current businesses. In the long term it will inducethem to capitalizeon the new investmentopportunities as they present themselves. The project would also promote the growth of a local class of management experts by facilitatingthe transfer of managementexpertise from abroad. The principal risk is that the present political and security situationfails to stabilize and that business confidenceand investmentfails to pick-up. - 66 - Annex 5 Page 5 of 8

IV. PSSF Draft Statement of Policies and Operating Procedur

Eligibility Criteria

22. Firm Eligibility The fund is intended for formal and informal private sector operators includingmanufacturers, retailers, traders, service providers and agro-processors. These businessesmay be located in Kigali or elsewherein the country and the fund does not make any distinctionbased on the size of the business or the nationalityof its owners. Purely agriculturalenterprises will not be eligible because their technical assistanceneeds are already provided for in other projects.

EXDendtitureEligibility

23. The fund is not intendedto finance equipmentpurchases even if such a purchase forms part of the consultant'srecommendations. Likewise regular payroll and operating expensesof the client are not covered. The fund would contribute to the expensesof technical and advisory services in such areas as:

- productivityimprovement and cost reduction; - product quality and consistency; - product design and packagingimprovements; - appropriate equipmentselection; - market research; - accounting,product pricing and financial management; - enterprise restructuring; - personnel managementand incentivesystems; - feasibilitystudies.

Funding and Cost Sharing Arrangements

24. During the four year commitmentperiod of the project, a total sum of US$4.0 million will be made availableto the fund. This amount will be allocatedas follows:

Training/Administrationand management US$1.0 million

Consultingservices US$1.50 million

Totat IUSS2.5million

25. Experiencewith these types of technical assistanceprograms elsewhere has shown that recipientsare much more interestedin and committedto the successfuloutcome of the assistanceif they are being required to participate in its costs. The fund will use a cost sharing formula that combines administrativesimplicity with the necessary flexibilityto decidewhether a local or foreign consultantwill be used and for how long. The total cost of the consultingis used as the base for establishinga cost sharing arrangement. The fund will contributeup to a maximumof US$43,000per single eligible firm. Each client is expectedto share in the costs accordingto the followingformula: - 67 - Annex 5 Page 6 of 8

U, to USSIO0000of Consulting: the client will pay 30 percent of the consultingcost;

From USSIO.001to USS50.000: the client will pay 50 percent of the total consultingcost of the assignment;

From USS50.001to USS100.000: 70 percent of the total cost is paid for by the client.

26. Most experience with consultingfunds has been gained where qualified consultants are readily available locally. The range of consultingexpertise on hand in Rwanda is more limited and therefore it can be expected that, at least in an early stage of the program, some of the expertiseneeds to come from abroad. The cost sharing formula has been designed not to penalize clients who want to procure expatriate expertise.

Aoroval of Consultants

27. The fund will maintaina register of consultantsand consultingfirms that can be consulted by the private sector. Individualsand firms providing the service will have to demonstratethey possess the expertiserequired. Consultantswho fail to perform more than once will be excluded.

Pocessine of Proooals

28. Although it will be the responsibilityof the client to submit a proposal for a consulting assignmentto the fund, the Fund Manager will ensure that the client formulatesclear and precise terms of reference. Experience with similar consulting funds elsewhere has shown that clients may have difficulty formulating sufficientlyspecified terms of reference and hence run the risk of not getting a satisfactory performance from their consultants. This risk is particularly acute in such difficult to circumscribeareas as marketingor personnelmanagement. The Fund Managerwill also decide with the client on the duration of the assignment. All of these details will be included in a contract drawn up betweenthe fund, the client and the consultantor consultingfirm. Concept contract forms, examplesof terms of reference and other forms will be Includedin an operational maumalthat will be developedin the first implementationphase of the project.

Monitoring

29. Upon completionof the assignmentthe consultantneeds to submit withthe Fund Manager a brief completionreport which follows a standard outline and has been approved by the client. Once this report has been receivedthe fund will release its paymentto the consultant. The Fund Managerpays a follow-upvisit to the client one month after the end of the assignmentto obtain feedbackand every six monthsthereafter to monitor the implementationof the recommendationsand any resulting improvement in the company's performance. - 68 - Annex5 Page7 of 8

Plannitf and R=prting Cl 30. Th manaer will prepareannual budgets. Every quarterthe managershould prepare reports on the activitiesof the fund during the previous quarter, will provide an update on the performanceof the clients,and submit an actionplan for the followingperiod which needs to specifysuch activitiesas seminars,publicity, extension efforts and upcomingconsulting assigmnents.

VI. tRhnirshig DevelopmentOutline of a 3)MicalCourse 31. Entrepreneursaround the worldshare certaintypes of characteristicswhich distinguish them fromother individuals.Among these are suchcompetencies as self confidence,persistence, goal utting, planning,risk taking,opportunity seeking, information seeking, a questfor qualityand efficiency, pesuaion and a commitmentto their work. An effectiveentrepreneurship development course is desWnedto foter ad strengthenthese competenciesand in the processreinforce the entrepreneurial motivationof the participants.The typical training methodology forces the participantsto reflecton their strengths and weaknessesin each of these competenciesand encouragesthem to reinforce their eteprenourial behavior. It shouldbe emphasizedthat thistype of coursedoes not intendto impartnew technicalskills, but rather to bring about a modificationin the behaviorof the participants. The methodologyhas provento be singularlysuccessfui in this respect. 32. A typicalcourse lasts abouttwo weeksand includesa mix of practicalexercises, case studies,simulations and roleplays. Thefollowing are someof the mostimportant features of the course s it has beentrained elsewhere in Africa,Asia, Europeand Latin-America: *'i) rla _ i". Eachparticipant alone or in partnershipwith others is required to startan actualbusines duringthe workshop.These micro-busineses in turn become the focusof many of the other exercisesin the workshop. Thus, the participantsare askedto conducta marketresearch on their micro-businessusing questionnaires that they themselvesneed to developand amongpotential clients that they themselvesneed to identify. Smallamounts of credit are madeavailable to thoseparticipants that submita writtenloan applicationand provide a physicalguarantee. Ihis exercisecontains a competitiveelement as the mostprofitable business is awardeda prize.

(il) . A speciallydeveloped format allows the participantsto work trough all the importantsteps of buinesuplanning and develop a completebuinoeu plan fortheir msting businessor a newventure. In the courseof this exercisea wholerange of conceptsand terms are clarifiedwhich until then may have been the source of considerableconfusion among the participants. (iii) CaseStudies. A numberof casesare developedwhich incorporate local conditions and are used for variousfinancial exercises, market research, and role playson persuasion strategiesand negotiationtactics. (iv) GustSgukg. A well knownentrepreneur from the communityis invitedto comeand sharehis or her experienceswith the class. Participantsare encouragedto recognizethe entrepreneurialcharacteristics in the speaker'sbehavior. - 69 - AnnexS Page 8 of 8

(v) Oualityand EfficiencyExercise. Using locally made products, participants are askedto identify ways that these products could be made better, faster and cheaper. Ihey ar encouragedto develop productiondiagrams and quality control systemsand are required to develop a plan on how to apply the leuons learned in their own busines.

(vi) Banker Presentation. Local banmsare invited to send representativeswho form one or more committeesto which each participantis required to make a presentation about his or her business. The participants have previously been coached and given the opportunityto rehearse their presentationon video. The objective of this exercise is not necessarilyfor the participantto apply for a bank loan, but to gain experience in malkin a public presentation.

33. Throughoutthe course the emphasisis on participationand team work andat the uadof the two to three-weekperiod the participants usually form an associationto retain some of thoe pirit of camaraderie that has developed. Experience elsewhere has shown that these asociations can become importantnetworking tools and venues for follow-uptechnical assistance. -70 - Annex 6-A Page 1 of 10

PRIVATE SECTO DEVELOPMENr PROJECT

BusinessLaw Reform in Rwanda

I. md

1. The present Rwandese legal system is not conducive to creating the kind of climrat necessaryfor the developmentof private sector commercialactivity. The shortcomingsof the systemstem from two sources. First, the legal system itself i antiquated and constraining. Most of the basic legislativetexts in force in Rwanda today date back to the colonial period. The recent reforms in a limited number of areas have only begun to address this problem. The formation and registration of business enterprises continues to be onerous; the Government continues to ask too many questions invasive of business privacy; the managers of companies are restricted in their authority to act in conformitywith their reasonablebusiness judgment. The institutionswhich are called upon to enforce and interpret these laws and enforce commercial contracts are inadequate, obsolete, ineffective, understaffed, and act very slowly. The courts of genend jurisdiction are seized with a proliferation of commercialcases with an average docket-life of seven years. Debtors hide behind delays and because there are no adequate conservationmeasures, creditors are often left unsatisfied. Therefore, creditors are reluctant to extend credit and guarantiesare not readily available. Since there is very little credit or installmentpurchases at the retail level, people often spend a long time to save enough for the full purchaseprice of durable goods. Reselling(particularly into a used or second-handmarket) is hampered by arcane rules governing ownership and the enforcementof the creditor's interests in the collateral.

2. At present, the developmentof private sector commercialactivity is marred by (a) a fear of risk-taking at both the owner's and managementlevels, reinforced by a justified fear of moral and personal fmancial consequencesof failure; and (b) a complex and intrusive set of requirementsfor the formation and registration of business entities. Once the corporal aspects of entrepreneurshipare completed, the enterprise begins operations in a legal environment given to arcane principles and practices, inefficientadministration of justice, and a gener anti-businessbias.

II. Measures Taken

3. Recognizingthe need for business law reform, the Governmenthas taken the first steps toward liberalizing the requirements for registration and licensing of businesses. In 1991 a new law moved the Registry of Commercefrom the Ministryof Commerceand Industry to the office of the clerk of the court of the first instance. The same law abolished the requirement that the creation of business entities be approvedby the Ministry of Commerceand Industry. This measure loosened the Ministry's grip on the formative stages of enterprise creation, and reduced the delays experienced in the creation and registration process (often over one year's delay). In response to the needs of investors and the Rwandanbusiness community,the Governmenthas also agreed to prepare an actionplan for commercial law reform. - 71 - Annex 6-A Page 2 of 10

m. Actions To Be Taken

4. The appraisalmission has identifiedsix major areas of reform. As describedbelow, they regard (a) creation and functioning of enterprises, (b) registration of businesses, (c) laws affecting commerceor business, (d) bankruptcy law and procedure, (e) creation of a commercialtribunal, and (f) privatizationof auxiliariesof justice. The detailed descriptionof the actions to be taken is contained in the attached Draft Business Law Reform Matrix (Annex 6-B).

Creation and Punctiong of Enerises

S. At present, the law places onerous requirementson the formation of companies,such as a minimum requirementfor capital and number of shareholders; limits business managers' freedom of action, such as requiring the managerto post personal bonds for performance; and requires disclosure of informationthat is by most standards intrusive, such as on personal assets, matrimonialassets, past proceedingswith creditors, and alike. Together, these requirementsstifle commercialactivity. This calls for a wholesale reform of the law governing the formationand operation of commercialenterprises.

6. From the point of view of risk managementand limitationson personal liability, the preferred form of business is limitedliability company (societe anonyme) and a lesser version of it called limitedliability partnership (societeI responsabilitelimitee). However, under the present law, the form of a S.A. busineu reserved for people who can trust and associatewith six others and raise a minimum of Fr 100,000,000 ($687,000) in the case of privately-heldS.A. and a minimum of Fr 200,000,000 ($1,334,000) in the case of a publicly-heldS.A. Equally, onerous is the requirement that an S.A.R.L. have a minimumcapital of Fr 500,000 ($3,300). Thus, wealth is a preconditionto doing business. Once a business is formed, the managers cannot exercise their judgment in the best interest of the company, because they are required by law to post personal guaranties Oike real estate or other valuables) as security. Further, by law, the manager is an instrumentallyof the directors rather than the steward of the corporation's interests. The founders of businessesare also required to disclosepersonal information that is in most part inconsequentialto the business-worthinessof an enterprise.

7. Therefore, the law governing the formation of business entities should be amended to extend the benefits of limited liabilityto as many formationsas possible, includingsole proprietorships. The law will be reformed so entrepreneursmay choosebetween a few basic business forms, leavingtheir permutation to the shareholders to contract whatever additional terms and conditions they wish to undertakeas among themselves. Moreover, the law will allow the directors and managers the freedom to exercise their best reasonablebusiness judgment without the fear of being personally liable for their corporate decision-making. Instead, the reform will provide for the company to buy director, officer, or manager liability insurance coverage eventually to insure against risks arising out of corporate management. Finally, the law will provide for greater privacy in the area of disclosureof personal and confidentialbusiness information.

Registrationof Businessesand Licensing

8. Reforming the registration requirements has three objectives. First, it is itended to encouragebusinesse to register, particularlythose active in the informalsector, and improve their access to credit. Second, to transform the registrationprocess from an impedimentto business fbrmationto a promoter of limited liability (no limited liabilityunless registered)and flexibilityin the conduct of one's affairs. Third, to shift the policingof enterprisesfrom the public sector (as evidencedby the requirement - 72 - Annex6-A Page 3 of 10 to disclose detailed information to the Registry of Commerce) to the private sector (through the mechanismof caveat emptor and due diligence). These would lead to changesin the Government's role from regulator to facilitator.

9. Consistent with the goal of reducing amount and nature of information disclosed by businesses,the present law on the Registry of Commerce must be amendedto provide greater privacy and confidentiality.The present acquisitionof detailedinformation and its retentionon a public document (registry) raises the fear that the information might be misused. This fear, in turn, discourages compliancewith registration requirementsand promotes false disclosures of informationon the part of founders and companies.

10. Another source of discontent with the registration scheme is the requirement that a business enterprise is licensed to be active only in the specific area of business which it state in its incorporationpapers and on the Registry of Commerce. Therefore, registrationtakes away the freedom of an entrepreneurto seize upon other opportunitiesas they arise. The desire to be flexible therefore argues against registering one's business, except as a purely non-bindingstatistical requirement.

CommercialLaws

11. The gradual diminutionof the Government'srole in the commerciallife of the country means that relationshipsbetween businesses themselves, businesse and the public, and the variousparties to a wide variety of transactionsmust be based on a set of predictable, consistent and stable rules of commerce. While the freedom to contract will take the place of ordering of relations by legislationor executivedecrees, the law shouldalso provide somesubstantive and procedural rules to protect rights and enforce obligations.

12. The present body of commnerciallaws Oooselydefined as the "commercialcode') is a compilationof texts, some amendedand some not, dating back to the colonial era. The antiquityof these laws aside, they do not reflect modem concepts includingthose currentlypracticed in Belgiumor France. Nevertheless, the Rwandese commercialpractice has adopted and does apply certain modern business conceptsfor which the law has been lagging. Examplesof such practices includethe current practice in the areas of guarantiesand installmentcredit purchases. However, where the practice and law converge, confusionreigns.

13. In the dailyjargon the term used often to indicatea guaranty is aval". Unless the parties indicatewith precision what they mean by the term, the law will determinethat the guaranty is 'joint and several' with the guarantiedparty having the right to go up against the guarantor for the entire obligation withoutthe need first to seek relief from the beneficiaryof the guaranty. Naturally, the ambiguityhas led to practices where people give 'avals" meaning to give 'cautionnements" (same as 'aval' but with the duty of first recourse againstthe debtor) and, conversely, people obtain a "cautionnement"and then insist on having obtainedan "aval" so as to gain rapid satisfactionof their claims.

14. Purchases on credit are very rare. This instrument would accelerate the rise In the standardof livingby removingthe capital formationrequirement for the full purchase price and allowing the buyer to gain possessionof durable goods earlier in life. Purchase on credit is also conduciveto greater commercial(buy/sell) activity. Under the current law, however, a credit purchase is viewed as a tool to manage poverty of means or indebtednessand not as a financing mechanism. Second-handor used markets for durable goods are also rare. The culprit is an arcane business notion that "one cannot -73 - Annex 6-A Page 4 of 10

sell that which is not his". Under this theory, one must first obtain title (as in document)to the goods purchased on credit before one can convey the goods to a third person. By the same token, the third party will not advance the purchase money required for the obtainment of the title without the reseller showingproof of ownership(i.e., the title document). Consequently,an entire area of modem commerce based on possession and transfers of possession is lost to the Rwandan business sector. To take the analysis one step further, this prohibition on transfer of possession has led to a situation where the creditors take, more often than not, a security interest in the physical goods, as opposed to a seller's lien on the balance of the purchase price as a liquidated debt of the purchaser. Therefore, as soon as one resells the goods to a third party, the creditor moves against the third party regardless of whether the third party is a bone fide purchaser. The up-shot is that the economy is stagnant, inventories over- stocked, commerceanemic, and the standard of living wanting.

15. Therefore, the Governmentneeds to (a) modernizeand clarify the confusionspresent in the existing laws touching on the substantive areas of commercialtransactions, such as in the areas of guaranties,secured transactions, and negotiableinstruments; (b) codifynew businesslaw conceptsalready in use, such as installmentcredit purchases, and to promote the use of new business practices based on legal concepts not as yet a developedpart of Rwanda's business culture, such as factoring, leasing and lease-financing. These objectives are designed to promote predictability and stability in the business environment,help developfinanced or credit-basedactivities, develop a legitimatemarket in second-hand or used goods, and encouragethe evolutionof the business legal environmentto a permissive one (that is, what is not expresslyprohibited is therefore permitted).

BankruptcyLaw & Procedure

16. The anticipated surge in business activity, including in credit-based or financed transactions,will necessitatea revisionof the laws governingcreditors' rights and assure prompt and fair dispositionof bankruptcy matters. The present system is based on Belgian laws half a century old. In the majority of cases, businessesclose and go out of business without properly addressingthe interests of the creditors. In a judicial system marred with inefficiencies,the historic anti-businessor anti-creditor sentiment makes it difficult for the creditors (usually, the banks) to receive satisfaction. Conservatory measures are not effective against a debtor bent on squandering one's assets. Judgments are delayed throughprocedural manoeuvreswhich permit the assets of the debtor to be wastedor hidden. Executions are late in coming, and often only a small part of the claim is recoverable.

17. From the point of view of judicial administrationand businesslaw, the present bankruptcy laws and procedures are inadequate. Resourcesare limited and under strain. The auxiliariesof justice specializedin bankruptcyand liquidationmatters are virtually non-existent. The bias of the system favors the debtor to the unfair detriment of the creditor. Creditors are thereforereluctant to lend, and when they do lend they require security beyond the means of most entrepreneursand, much less, the start-ups.

18. Therefore, the authorities should (a) unify and modernize the bankruptcy laws and proceduresto befit a modem businesslaw system; (b) provide for strongerprotection of creditor's rights; and (c) reduce the time in which bankruptciesare settled. In providing for these objectives, the reform will aim at two broader goals as well. First, the paralyzing fear of bankruptcy must disappear; bankruptcies,including compositions and concordats,must be viewed as business risk managementtools. Second,the penalties attendantupon going bankrupt must be civil damages;criminality must attach only to bankruptcieswhich are the result of or leading to fraud. - 74- Annex6-A Page 5 of 10

Tribunal of Commerce and Procedure

19. The present judicial systemdoes not meet the commerciallitigation needs of the business community. It cannot be expectedto accommodatethe predictablerise in commerciallitigation caused by future increases in commercial activity. The inadequaciesof the present judicial system are many. The most important shortcomingis excessive delays in the processing of cases. The average life from complaintto executionof judgment is seven years. The delay is caused by lack of qualified personnel, resources that are under severe strain, and by procedural manoeuvres used by litigants to delay the process. The strain is caused by under-staffing as well as the limited number of judges versed in commerciallaw matters. As of November, 1992, some 500 commercial cases are docketed for action andjust three judges of sufficientskill to preside over them. The delay postponestrial, which diminishes the incentive to ward off the prospects of an adverse decision by setting the matter out of court. No serious attempthu been made to create a private sector arbitrationpanel. Specializationis lacking, and often the judges themselves are manipulated by skillful attorneys. Meanwhile, contracts are left unenforced and the rights of creditors are violated. Measures of self-help such as personal settling of accounts seem to be on the rise. These measures could weaken the social order and confidencein the judicial system.

20. Therefore, a self-standing commercial tribunal with adequate expertise is urgently required. The proposed reforms call for the establishmentof an independenttribunal to deal exclusively with disputes arising under the business laws of Rwanda. This tribunal can (a) expedite the resolution of commercialdisputes by a judicial personnel trained in matters of commerciallaw and practice; and (b) expand the judicial resources of the country to cope with the increase in litigation arising from the expansion in private economic and commercial activities. The ultimate aim is to effect an orderly, prompt, and just enforcementof contractualobligations, and promote commercialactivity.

Privatizationof the Auxiliariesof Justice

21. The prohibition of private notaries public and other legal auxiliary activities (e.g., process-servers, auditors, evaluators, receivershipjudges, auctioneers) constitutesa constraint on the efficientfunctioning of the judicial system.

22. Consistent with the development of a modenized business law environment and the establishmentof an effective commercialtribunal, certain inefficientaspects in the deliveryof legal and paralegal services by the auxiliaries of justice also need to be streamlined. Presenty, the auxiliaries are governmentemployees and their number is determinedby the Ministryof Justice. There is no evidence, however, whether augmentingthe numbers of the auxiliarieswill increasethe efficiencywith which the services are delivered.

23. The proposed reform aims to shift to the private sector most of the functionspresently performed by the auxiliaries of justice. This action will (a) bring to the administrationof justice efficiencies(in cost, time, and speed) inducedby the profit motive, (b) decentralizeand thereforereduce the potential for conflict of interests innate in a vertically-organizedadministrative system, (c) provide the litigantswith an alternativesource for servicesperformed by the auxiliariesof justice, and (d) provide an independent source of auxiliary services for the aforementionedTribunal of Commerce and the litigants before it. It is hoped that this will eventuallyprovide the necesary impetusto a system-wide privatizationof the auxiliaries of justice. Annex 6-A Page 6 of 10

IV. Tribunal of Commerce

24. Purpose and Jurisdiction The Tribunal of Commerce proposed by the plan of action ("Tribunal")shall have plenary and exclusiveoriginal subject matterjurisdiction over all disputes arising under the business laws of Rwanda, without regard to the status of the parties be it merchant, civilian, governmental,or consumer.

25. Organic Law creating the Tribunal The Tribunal shall be created by the branch of government in which the Constitution vests the power to establish courts. The instrument which establishesthe Tribunal ("Act") shall inter alia:

(a) provide for the transfer to the Tribunal the commercialjurisdiction presently exercisedby the civil courts;

(b) charge the Ministry of Commerce and Industry to establish a Committee of Experts to author a plan of implementationwith respect to the creation of the Tribunal, its rules of procedure and evidence(the same as the Civil courts), and it composition;

(d) provide for the followingreferences of authority: (i) that the existingcaseload of the commercialchamber of the court of the first instance (Kigali) be transferred to the Tribunal; (ii) that the commercialcases pending before the other courts of the first instanceaccept complaints and pleadingsin commercialmatters and refer them to the Tribunal for judicial consideration;

(e) provide for the establishmentand functioningof the Tribunal within one year from the day of enactmentof the Act; and

(f) provide for the privatizationof the functionsof the auxiliariesof justice along the professionallines of "syndics", process servers, notaries public, appraisers, and liquidators.

26. There shall be no requirementthat the cases broughtbefore the Tribunalhave a minimum amount in controversy.

27. The statute of limitationsgoverning disputesreferred to the Tribunal shall be one year from the date on which the plaintiff became aware of being injured or damaged.

28. The duration of a case, from commencementof an action to judgment, shall take no longer than one year from the date of the commencement.

29. The Seat of the Tribunal and Access to Justice The seat of the Tribunal shall be located in Kigali. Until such time that each prefecture may have its own functioningbranch or division of the Tribunal, the Tribunal shall be the central organ for the docketingand trial of commercialcases. There will be instancesin which the disputantswill not have the means to acces the Tribunal in Kigali. In such instances, the cases filed in the court of the first instancefor the prefecture will be transferred to Kigali - 76 - Annex 6-A Page 7 of 10 for docketing; the trial and other matters requiring the presence of a judicial officer shall take place at the prefectureby a travelingjudge, magistrate, or other auxiliaryofjustice. For such purposes all judges and auxiliariesshall travel to the prefectureson a rotational basis.

30. Comoition The compositionof the Tribunal will be as follows. There shal be six judges, each qualifiedfor the job from the rank of presently active or recently retired judges versed in commerciallaw and of impeccablereputation for fairness. Nominatedby the President and endorsedby the Legislature, their tenure shall be for life and their salaries shall be established by the national legislature. They shall be subject to rigorous scrutiny as to conflicts of interests and appearance of impropriety. They shall recuse themselvesin the case of presiding upon a case involvingtheir interest or relatives.

31. Divisions The Tribunal shall consist of three divisions: (a) trial division, (b) administrativedivision, and (c) auxiliary services division.

(a) The Trial Division shall consist of one or several chambers, each consistingof the following:

(i) A presidingjudge;

(ii) At least two reputable professionalbusinessmen chosen from a roster maintainedby the President of the Tribunal.

Ciii) A full-time calendar clerk, who shall assist the judge in managingthe judge's caseload and administrative affairs ('Calendar Clerk'). No formal legal training is necesary for this position;

(iv) A full-timejudicial clerk, who shall assist the judge in researching and writing decisions and opinions ("Judicial Clerk"). Some legal training will be required for this position. Ideally, recent graduates or students of senior standingat the Facultyof Law at the UNR may be suitablefor this position;

(v) A part-time maitre-expert, who shall assist the judge and the judicial clerk in the ascertainmentof the facts of the case, custom and practice of the relevant trade, and the issues of law. No formal legal training is necessaryfor this position. A maitre-expertshould be versed in business law matters and have had experience in the private sector; and

(vi) A full-time maitre-judiciaire,to whom the judge may delegate certain judicial functions such as deciding matters which involve very insignificantamounts or touch upon legal issues which have been the subject of jurisprudenceconstante;

The constellationof the judge's helpers - calendar and judicial clerks, maitre expert, and maitre judiciaire - will constitute each chamber's staff. - 77 - Annex 6-A Page 8 of 10

(b) The AdministrativeDivision shall consist of the following:

(i) Clerk of the Tribunal, who shall be in charge of the administrative functionsof the tribunal, includingthe maintenanceof the premises, the calendar, records, external affairs of the Tribunal, and relationsbetween the chambers and the division of auxiliary services. No legal training is required for this position. The person presiding over this office shall have proven managerialcapabilities. The Clerk of the Tribunal shall be assistedby such additionalpersonnel as recommendedby the President of the Tribunal and endorsed by the Ministry of Justice or Commerce.

(ii) Registrar of Commerce, who shall have in his custody the Registry of Commerce. He shall be assisted in Its duties by such additional personnelas recommendedby the President of the Tribunal and endorsed by the Ministry of Justice or Commerce.

(i) A Director who shall supervise the following private Auxiliaries of Justice:

a. Six syndics (bankruptcyestate trustees) b. Twelve process servers c. Six conservators(Judicial bankruptcy trustees or conservators) d. Six appraisers e. Six liquidators(or auctioneers) f. Six bailiffs (for courtroom order)

The auxiliaries of justice shall be at the service and for the furtherance of the business of the chambers. Except the bailiffs and the conservators, none of the auxiliaries shall be employees of the government; they shall be independent contractors under 2-year contracts with the Tribunal, with each contract being renewable for 2 additional successive 2-year terms. They shall draw a base compensationadjusted upward on the basis of performance.

(ii) The Managershall be assistedby such additionalpersonnel recommended by the Presidentof the Tribunal and endorsedby the Ministry of Justice or Commerce.

Where it does not result in absurdity, the auxiliary of justice may be a legal or natural person.

32. President of the Tribunal The President of the Tribunal shall be nominated by the majority of the votes of the judges of the Tribunal. He shall serve for four-year terms not to exceed twelve years in total.

33. ApDels Appeals from the decisionsof the Tribunal shall be referred to the Chambre d'Appel of the Tribunal within fifteen days after the date of the decision of the trial division. The - 78 - Annex6-A Page 9 of 10

Chambred'Appel consistsat any given time of three disinterestedTribunal judges, who shall be elected from the pool of the disinterestedTribunal judges by a draw conductedby the Clerk of the Tribunal. The Clerk of the Tribunal shall managethe business of the Chambre d'Appel.

34. Apellate Decisions The decisionof the Chambre d'Appel shall be rendered in less than 10 days. The Chambre d'Appel shall not reverse a decision of the Tribunal unless a decision of the Tribunal is based on defectivejurisdiction, error of law, fraud, or egregiouserror of fact.

35. A decision of the Chambre d'Appel shall be appealed to Cour d'Appel only on the grounds of defective jurisdiction, error of law, fraud, egregious error of fact. No decision of the Chambre d'Appel may be reviewed for constitutionalityby any appellatecourt unless the issue is first certified by the Cour d'Appel shall be deemed as executed as against the losing party and kept in trust by the Tribunal until final dispositionof appeal(s). Such an entrustmentmay be avoided if the losing party posts a bond in the amount of the verdict. This blend of appellatereview will assure due process as well as guard against the abuse of the appeals process.

36. Articulationof decisions The decisionof the Tribunal at either trial or appealslevels shall be rendered in writing . Each decision shall set forth the following:

(a) The names of the parties, date of filing of the complaint, docket number, date of hearings or other oral presentations, date of decision, names of the persons representingthe parties, the name of the presiding judge, and the name of the judge rendering the decision.

(b) A brief descriptionof the procedural history of the case.

(c) A statementof the facts of the case as agreed upon by both parties. A statement of the facts not agreed to by both parties, but whichone party has admitted to his own detriment. A statement of the facts as found by the judge, or any of the maitre. Statements of fact must be based on documentary or testimonial evidence.

(d) A recitation of legal issue(s) raised by the parties. Issues not raised by the parties in writing or in oral pleadingsshall not be treated by the Tribunal; under no circumstancesshall such non-articulatedissues determine the outcomeof the case even if the Tribunal deems such determinationto be just or equitable.

(e) The decision of the Tribunal, which must be based on the facts before it, the issues as framed by the litigants, and the applicable law. No case shall be decided on the basis of what the law should or ought to be. No case shall be decidedsolely on the basis of public policy or social policy.

(f) The reasoningsupporting the decision.

V. Operational Considerations

37. The results intendedby the proposed reforms will be best achievedby a contemporaneous implementationof the following: - 79 - Annex 6-A Page 10 of 10

(a) automatingthe procedures attendant upon the registration of business entities at the Registry of Commerce;

(b) automating the filing of complaints, docketing procedures, and the entry of orders and decisionsof the Tribunal of Commerce;

(c) providing desk-top publication facilities to the entity responsible for the publication of the Official Gazette for the purpose of codifying and binding legislative and regulatory texts, the publication of judicial decisions of the Tribunalof Commerce,and the periodicalannotation thereof reflectingthe recent changes in the law, rules, and jurisprudence;

(d) training the auxiliariesof justice in the functions of their offices;

(e) instructing the six Tribunal of Commerce judges in the latest business law techniques;

(*) providing each of the six judges of the Tribunal of Commerce a clerk to assist in the managementof his caseload, and an expert from the private sector versed in commercialpractices;

(g) encouragingthe private sector to establish a center for the settlementof business disputes and fund. The center shall provide arbitration services, mediation services, and other non-judicialalternative methods of dispute resolution; and

(h) assemblingthe laws relatingto business into one body of work comprisedof one or more volumes.

Lmeabh 38. The proposed business law reforms are expected to take about one year from January 1994 to be adopted. Continuousmonitoring and follow-upwill be necessary, howeverto ensure adequate implementationand to identifyother constraintson private sector developmentnot apparentat the present.

Conclusion

39. The changes proposed are consistent with Rwanda's business law tradition, and any innovationor novel concept is proposed with the current and future Rwanda business law development in mind. Someof the innovativeconcepts such as factoringand leasing are of Anglo-Americantradition, but have been adopted by the French and Belgian systemsas well. Some others, such as corporate law reform, are inspired by the Anglo-Americansystem. Therefore, the proposed reforms will result in a so-called hybrid' business law system, that exists in some countries such as Canada. A business law reform based on simplicityof form and universalityof language,however, will permit Rwanda'sbusiness law and business communityto interface more effectivelywith the rest of the world. RWANDESEREPIULIC PRIVATE SECTOR DEVELOPMENTPROJECT Prvate Sector DveloDOeNStLeml RdeormMatrix

A. Soci&s Commerciales 1 Provide in the lw for soleproprietorship with linited La boi du 12 f6vricr 1988, potant organizationdes socit6 By end of responsibility- primary recoure to business asets comeriale - New article Decenber 1993 To simplifyand libelize before the engageme of peronal and unlimited the requrements for responsibility forming asocion for busine purposer; to 2. Simplifythe provimis regardingLimied Partnerships promote risk-taking by (La Societeen Commandile)as folows: enending the benefit of rcsponsabli lihne a. minimum requeunit of one genenl patner * Amendarticle 85 to asmany formation as (assoei commandi) and one liited partner possible; to ramove (associEcommandaire), the ltter can be a legalor burdnsome andinrusive natul person reporting nd discosure requiimnts b. permitto the limitedprt mangement functions b. Amendarticle 90 asiong assaid funcio arecovered by a bona fide employmentareat

3. Abolish the form of pr ship limed by shares (la 3. Delte aitices 96 - 109 sociMtEen commanditepar ations)

4. Abolish the form of limited iabiliy parteship (l 4. Delee articles110 -144 socia i -bili6fiitde)

S. Simpify andlibe the prvision govcrninglimited S. LA Loi du 12 fWvrier1988, supra: liabilitycompany (la socidteanonyme) as follows: a. reducethe requirementsof numberof shrehoken a. Amendarticle 145 to two

b. reduce substantiallyor abolishthe paid in capital b. Amendarticle 147 reuirementat fornmtiongages

c. provide for an incorporation fee and annual fee c. New Article baed on the numberof authorizedshae and their par value (at demint_ determinedby law)

d. abolishthe distinctionbween private andpublic d. Amendarticks 147, 151 CD companyat formation o x e. providefor a procedurewhereby a conmpnyfirst is e. Anmndarticle 151 formedand then goes publi g. permit enteprise to take out busns insurance, g. New artile insuringagant busns rik, incldn ligain

h. provide for the copn_y to be able to indeny it h. New article directors (adminsraer) and officers directl or through insurncoe, aint claims aising out of their dutiful dischargeof ortporateresponsibilte. i. allow directors to contrat with the company as i. Amendauticek 91 long as such coracts are discobsed to the shareholdersad are trnsprent in nature. j. broadenthe scopeof wddcisionsprises k Ia majorite j. Amendarticle 193 o des prEsent", to inchlde penson paticiaig by means of telecommunicationmedia...... _ }. abolishthe term requireuet for directors,alloig k Amend article 190 the term to be aet by the stautes.

1. abolih the requiranent for personal guarnie by 1. Amendarticle 19S the manger

in. abolishthe requirensof three-yearexistence and m. Amendarticle 224 postng of balace ahect as pro-conditionsto go public

n. restrict the unqualifiedfreedom of access by third n. Amend auticke1 pauties to the stock-share ledger-registr of a companyto pr.athorized access in writing for a

______staed pue______

x Fh0 Annex 6-B - 82 - Page 3 of 7 ,.,,'.' 'I'':t

0~~~~~ e4

,.,.a...,I I ... j I ..IE,\.TiEi.I ;lli:iity. Are en =be tve A tO -ab ncnntuata e~u

C. Droits de Commerce 1. Sales: To promotethe uchae and resle of goodsand 1. Code Civil, livre Ttroisime, Thcr mI, Chapitre m By end of cncOour3gcstaflmejt OxOditpurfch55 December1993 To simplfy8,up-dte and supplemat the existing *. Abolish thepr.... ion.in com.mere againstsale.of a. Amendulaicl .276(1)6cret) teits reat to the goodspronxt toobtai titl thereto.c conduct of commesuein the aes of negotiable b. provide for kwfh posesion as the basis of a valid b. Ncw auticle(Wacrt) instrunes including commecil trIanction bdween a reseller and a (commercIal paper and bous fide p-ur. documentary titles), guaranties, secured c. Link teo se's mouws to rewller to the tfid c. Amendauticle 276 (DNaet) transactions, sales, balanceof the odi l pure pnre. niand factoring. 2. Guaratie: To clari the confusion wih reqet to types of g_ia (msu as stie, sOudt, awkl etc.) by the Mowing mdlod: a. Dclete all re1I--ee to the tema sifying 2. a. CC. Liv.m, The IX, in passes (Ddcret). D&ee duo gurusty' and adept the word gu "atyas the se 10 decembrc 1951, a amn_ded, porant chbque CD term to sif the contatual assmnption of pasen, Ddat du 21 julflt 1934 portat letre de respomskaky by ae of the debts or oblgtiom of chae at cbapi IV.

b. Combineall te prisions in tbh civil code denin b. New title, combiningthe proviion cied in a. above with g- nder cte tn e called 'Garaatis". DistinguishbP-ween types of guaanties by the use of adjcives sudc a joist, joint and everal. c. Provide fDr tie uimesl rule that unme c. New article spqcifraly provided for or staed, the guarantor's liabiliy is oondary. Te creditor's pry rcourw being the guaatied paty or b ary of the guaanty. 3. NegotiableInstrumets: to codify and define precisely 3. Ddcr&du 2 ao8t 1913 portart commerpat ct de k preuve the va forms of negotiableindsumen (inchluing de engagemet cowmer_ux commercial ppe, stocks, documentary tite, dc.):

a. Crete a new title providingfor a descriptionof the a. Add titk m enitled 'Effets de Commerceet Valeur oq > following insuments and the conditionsfor their Mobilikres to replae Ddcret du 28 juilk 1934 negotiability: portant kttre de change, and D6crct-loidu 20 nmsa x 1923 portantwarrants 0 Annex 6-B - 84 - Page S of 7

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.:::Ii * Annex 6-B - 85- _Page 6 of 7

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1* Xii 111*i *I eWr| >l fi]ti al ' jsliSI I:4 t 3_tfl]* id 8 III

'ASZQ& ftfrmM an Obc tivea ; ft; fo Acio tS0$0000tbe Taes 0;$;000 lnttma of Reor ScheduiB

E. ComWrcialTribunal d 1. Estabhlishan indepent tribunalcompiet with plenary 1 D6crct-loidu 7 juillet 1980 portant code d'organiation ct Before end of Pocedure and originaljurisdiction to decide ca asing under de comp6tencojudicia - Ncw tite December1994 the busine lws of Rwanda. To prvide for the efficient and prompt diposition of 2. Provide for a i-ycar statto of limition for 2. Now Article commercial cascr thereby o _at of commerciallitigation. promoting ncforcement of contracs: 3. Service of prmcesto be at the cxpcn of li4nt. 3. Ncw law F. APjilsrim of Justice 1. Enat kgsltion providing for the licning by the 1. New legislation Befon end of Ministryof Commrce of persons,natural or klg, to December1994 To privatimthe professionof perinm the foowing functionsof aurmilia of justice: the auxlarirs of justice; to proot, the efficincnyof the a. proess serv (other than the aberifl), court-room dcivery of justice by bailiff sWa remai a govrnmeutemployee permitinga pivate citizen to pc!foen the duties of an b. arO e. Sydic (reciv or trumteeof a debor's este) (jmaicis comervatecrshull remaina goveru

d. evah Zoa

OQ D

x 0 to' -I RWANDRSEREPUBI PIVA11TSE Cl DEVELARMENTPbROJESCT Aho Plane Rdeam of lAbw Laws

A. obliyof Labor 1. Abl th* na_ rcuui-lp_snu ytn 1. Presdejialdecree Decmbr1993 To elimiatethe providefor direct anployent by Ihe _lpoes. prov.iou which retict 2. Modify the procedure regadn t declarton of 2. Miniherialdeacrc Deceniber1993 the mobilt of labor auhia at thecMinistry of Labor, peritn only machdeclton for sttsia perpose.

______3. ~~~~~~~~..Abolish reiec .... permits and wor permt cad 3.. . La: amndet December 1993 B. Cort of Labor 1. A*o unifommnimum wage for all profesin Law. aednt Decen*er 1993 and Minisril doecr June 1994 To c_niae lictors which unduly raise the 2. Abolish or rss of 4%. in Ie prte secor, Law: a ent J 1994 coat of labor for the alwn nployeea or the unionsa*ndemploypn to and Ministerialdecree June 1994 employr-, to permit negotiat the terms of raise; abolish the automac employesandeployers annual ras in the public sector. to negotite raise and

C. Prod vy ofLabor 1. Definep meilelywhat oonstutesotme y Labor Code: e December1993

T o ra*ise lasb or 2. Leave vacationdays intact Presidenil decree December1993 poduiviat by lowering the mamber of paid 3. Roducespecia maesrevs do four das in the Prsidenstia decree Dcoember1993 vatioy, hoidas ad c of dth i the immediatefamil, nd to two days other leae; to define in the case of death of otherreais and -nrvefor ovettime

D. M i_scefLAnos 1. Women'srigitmto noctumnallabor a 2. F le ve (pn and m ) ( Consitte d goup Decenber 1993 To study thedulaliaiy of 3. LAborTriounal , CompkwteStudy Decmber 1993 reominthe following 4. EmploymentMonitor (

To implement the 1. Women'sright to nocturnallabor Labor Code: Amendment December1993 f rcommendaions of the 2. Fa7mi eave(pregnanc and mandpy) Law: Ammendmen June 1994 uies folbwa:t enas 3. The creationof a djudicatoryorgan to settl lbor ad Labor Code, Code of Civ Pr e: Amedmet June 1994 o ra employmentdispute wMox 4. CReationof EmploymentMonitor Presidentialdecree June 1994 - 88 - Annex 8-A Page 1 of 7

RWANDESE REPUBUC

PRIVATE SECTOR DEVELOPMENT PROJECT

Structure and Characteristics of the Flnancial Sector

A. Background

1. The Bank carried out a detailed studyof financialpolicies and institutionsof Rwanda, the main conclusionsand recommendationsof which are containedin a report entitled Rwanda- Financial Sector Review (Report No. 8934-RW), distributedto the Executive Directors on May 16, 1991. The sector review led to the preparationof a Financial SectorAdjustment Credit (FSAC)which was appraised in May 1991, and negotiatedin October 1991. The Credit will be submittedto the considerationof the ExecutiveDirectors when the macroeconomicconditions permit.

2. The Governmenthas madeprogress in implementingsome aspectsof the reform program, as described below. Minimumconditions for a line of credit are met given the developmentson interest rate policy; the reformsbeing introducedin prudentialregulations affecting bank provisionsfor risks, and financial audits; and the strengtheningof the supervisory function of the Central Bank. Technical assistance in support of financial sector reforms will be provided by the Swiss Government, under a program which has been developedin cooperationwith the Bank, and which will be administeredby the Bank.

B. Structure of the Financial Svstem

3. The financial system of Rwanda has fared better than that of many other African countries. However, the system is fragile and has been adversely affectedby the economicdownturn of the past three years. The financial sector is comprised of the Central Bank, the Banque Nationale du Rwanda (BNR), three commercialbanks - Banque Commercialedu Rwanda (BCR), Banquede Kigali (BK), and BanqueContinentale Africaine du Rwanda(BACAR) - and two savingsinstitutions, the Caisse d'Epargne du Rwanda (CER) and the Union des Banques Populaires (UBP). A development bank, Banque Rwandaisede Developpement(BRD), a housing finance institution, Caisse Hypothecaire du Rwanda (CHR), and three insurance companies(SONARWA, SORAS, and INGOBOKAa newcomer in 1991)complete the financial sector. Caisse Sociale du Rwanda (CSR, the social security and pension fund), is an importantholder of long-termgovernment obligations.

4. Government equity participation in the capital of financial institutions is important. Except for one, relativelynew commercialbank (BACAR),two insurance companiesand the systemof savings and loans cooperatives("banques populaires"), the operating budget of which is subsidizedby the Swiss Government aid agency, all other financial institutions have total or significant public ownership. However, contrary to practices prevalent in other Sub-Saharancountries, the Government generally has not interfered in the managementand credit policiesof the commercialbanks where it has a substantialequity participation. This is not the case for the government-ownedhousing institution (CHR) and the savingsinstitution (CER), where mismanagementby governmentappointees and political interferencehave led to their virtual bankruptcies. Further to agreementsreached with the Government under FSAC, the Caisse d'Epargne du Rwanda is being liquidated. The Union des BanquesPopulaires, developed with the assistance of the Swiss Governmentis well run, although not yet self-sustaining. - 89 - Annex 8-A Page 2 of 7

Donor representationin the developmentbank's Board has stymiedgovernment interference, although governmentpressure did lead BRD to a period of lax credit policies during 1988-89 (Annex 8-B para. 15).

5. Rwanda's financial system is rudimentarywhen comparedwith that of other countries at a similar level of development,especially outside Sub-Saharan Africa. Indicatorsof the degree to which financial products are available, or financial depth (M2/GDP of about 17 percent over the past four years), put Rwanda well below the averagefor Africa as a whole (22.3 percent). Low incomelevels of the largely rural population, and very high taxation rates of banking activities and profits, have discouragednew entry in the sector and contributedto the shallowfinancial depth. As a result, the range of financial services remains limited, and financial and capital markets undeveloped. Prior to 1987, the banking system was segmented and specialized. Commercialbanks were largely restricted by BNR regulationsto short-term credit activities,while medium-/long-termlending was virtually the monopoly of BRD, the developmentbank, and CHR, the housingbank.

6. The commercialbanks are generally well-managed,and for two of them, BCR and BK, capitalizationlevels are within internationallyrequired levels, relative to their risk-weightedassets. For the third bank, BACAR, not only is there a RwF9 million shortfall in the second-tier required risk coveragelevel, but it has a low provisioncoverage of non-performingloans (Annex 8-C tables A8.3 and A8.6). Due to of the size of the country, bank risks, includingBRD's, are concentratedin a few large borrowers, many of whom have been hit hard by increased exposure to external competitivepressures stemmingfrom economic policy reforms enacted under the Government's adjustmentprogram, and by the economicdownturn resulting from the civil strife. As a result, there has been a deteriorationof the loan portfolio of the commercialbanks and of the developmentbank, and therefore a substantialincrease in the required level of provisionsfor risk of losses. The traditionallysolid financial situation of BRD, the developmentbank, has deterioratedover the past three years as a result of the worsening economic environment. In addition, BRD has been subject to political pressure, and was blamed for the low investmentsin productiveactivities in the late eighties,particularly of the indigenoussmall- and medium- enterprise sector. This pressure led BRD to substantiallyincrease lending with adverse results on its portfolio and financial situation(Annex 8-B).

C. Developments in Monetar, and Credit Polides

Ibe Central Ban

7. Banque Nationale du Rwanda (BNR), the Central Bank, was created in 1964, and reorganized into its current structure in 1981. It is headed by a Board of Directors presided by a Governor who assumes day-to-daymanagement and has wide ranging powers. Board members and the Governor are proposed and appointedfor three years by the Minister of Finance and the President of Rwanda, respectively. The Ministerof Finance is empoweredto veto within three days any decisionof the Board. An OversightAuditing Board assumes externalcontrol of BNR financesand operations.BNR has a staff of 495 persons, includingtwo Vice-governors,eight departmentdirectors, 42 division chiefs and 46 professionals. The bank has a heavy structure and the departmentsoperate with little coordination among themselves. The quality of the staff is satisfactoryand compares favorably with that of some African Central Banks. The staff will, however, require substantialtraining to carry out its monetaryand supervisory functions. This training is contemplatedunder the FSAC. - 90 - Annex 8-A Page 3 of 7

8. Until 1990, BNR's monetary and credit policies relied heavily on direct instrumentsof control. Interest rates and selective credit controls were used to direct credit to favored productive activities (such as coffee) and thereby discouraged a much-needed diversificationof the economy. Priority sectors (primarily agriculture and manufacturing for import substitution) benefitted from subsidizedinterest rates, while coffee exports were financed with a flat fee per kg, irrespective of the duration and estimated cost of financing. In 1990, the effective interest rate for coffee exports was less than three percent, while that for commercialactivities was 12 percent. Credit to non-priority sectors was also tightly controlled by BNR through a system of prior approval, and coffee financing was syndicated among commercial banks through BNR directives. Finally, in 1991, Central Bank rules governing maximumbank exposure in medium and long-termlending, which were originally designed to ensure sound lending practices, were converted into credit targets. The latter could be met by includingamounts lent to the Government. BNR policies stifled the developmentof money and capital markets, and restricted competitionamong banks through specialization. As a result, Rwanda has no interbankmarket and non-bankfinancial intermediariesface a number of restrictionson borrowing and lending. Governmentsecurities are not tradeableand are purchasedprimarily by the banks and the social security fund, which hold them to maturity. The Governmentstarted moving away from these policies starting in 1987with the despecializationof banks and financial institutions.

9. Starting in 1990, the Governmentbegan taking steps to move to a system which will depend on indirect methods of control of money and credit aggregates. In November 1990, the prior approval system for bank credits was eliminated. BNR also began setting targets for monetary aggregates,controlled through separatecredit ceilingsfor banks, thus replacingthe system of selective credit controls. These policiesare being revised, and new policiesand instrumentsintroduced as a result of agreementsreached in connectionwith the proposed FSAC.

Interest Rate Policies

10. Lending interest rates were generally positive in real terms through most of the 1980s when measured relative to the consumerprice index for Kigali (maximumlending rates were 12 percent and the minimum deposit rate was 3.5 percent). They turned negative in real terms, however, towards the end of the decadeas a result of mountinginflation. A policy of maintainingpositive real interestrates has been agreed upon with the Government, as discussed below. In addition, in November 1990, the interest rate structure was simplifiedthrough the eliminationof differentialrates, and interest rate levels were increased substantially. The rediscount rate was set at 14 percent, a maximum lending rate establishedat 19 percent (i.e., rediscountrate plus a maximum5 percent margin), and the minimumrate for 12-monthdeposits set at 12 percent. Inflationexpectations for 1991 had been projected at 28 percent (averageof 1991 over average of 1990)by the Bank and Fund, reflecting largely the expectedimpact of the November 1990 devaluation. In actual fact, inflationdecelerated sharply during 1991, and averaged 15 percent for the year.

11. In June 1992, maximumlending and minimumdeposit rates were reducedbecause of the decelerationof inflation. The rediscountrate was reduced to 11 percent, and the maximumlending rate automaticallydropped to 16 percent (11 + 5 percent); the minimum rate of a 12-month deposit was reduced to 9 percent. Inflationfor 1993 is currentlyprojected at 5 percent, although it may be higher given the budgetary problems faced by the Government. However, as credit to the economyhas been low because of the politicalsituation, actual lending by the banking sector that has resulted is not likely to lead to high levels of inflation. Interest rates are currently positive in real terms. In its Letter of Financial Sector Development,the Government is committedto reviewing, and if necessary, revising - 91 - Annex 8-A Page 4 of 7 interestrates to ensure that they remainpositive in real terms. In addition,the Governmentis committed to full interest rate liberalization by end 1993. During negotiations of the Credit, the Govermnent confirmed, in writing, its commitmentto maintainingpositive real interest rates.

Other Monetary Policy Instruments

12. The Government is committedto changingdirect monetarypolicy instrumentsin favor of indirect ones, includingreserve requirements,the rediscount facility at BNR and the flexible use of interest rates. This will eliminatethe need to use bank-by-bankcredit ceilings with their adverse effect on bank competition. As part of these reformsBNR introduced,in 1991, reserve requirements, initially at a low level (one percent of deposits). BNR will review the experienceof reserve requirementsduring 1993 with the Bank and the ultimate level will be set taking into accountmacroeconomic conditions and the situation of banks. In the program it is anticipatedthat reserve requirements will be increased to about five to ten percent of deposits. This gradual introductionof reserve requirementswill enableboth the banks and BNR staff to become familiar with the new system, and to make adjustmentsto avoid a destabilizingeffect on the economy. BNR is expectedto remunerate reserves above a certain minimum to ensure that they do not constitutea tax on the banking system. As promised in the letter of Financial Sector Development Policy: (a) in December 1991, BNR issued a statement informing the financial institutionsof changes in monetaryand credit policies; and (b) beginning with the 1992-93 coffee crop campaign (which started in March 1992) BNR discontinuedits practice of allocating shares of coffee export financingamong financial institutions,and abolishedthe flat fee per kilogram, as a methodof bank renumeration, in favor of a normal lending rate to be negotiatedwith coffee marketing firms.

13. The rediscount facility at BNR has been expanded to cover short term credit for all sectors (not just coffee), and rediscountingprocedures have been streamlinedwithin the limits permitted by the banking law. This has improvedthe ability of commercialbanks to managetheir own liquidity. Also, a flexible rediscountfacility will serve as a tool of monetarypolicy because the Central Bank will be able to change the money supply through its lending to commercialbanks. In the context of the revision of BNR statutes, the refinance facility will be expandedfurther to cover long term credit, and the statutoryrequirements for refinancingwill be simplified.

14. Lastly, money marketinstruments will be developed. A moneymarket will help facilitate implementationof monetarypolicy and it will also assist banks in managingtheir liquidity, which will increaseefficiency and reduce their costs of operation. To spur the establishmentof money markets, a proposed treasury bill auctionsystem is expectedto be put in place. A study on the establishmentof the treasury bill auctionand on the diversificationof the range of money market instrumentswas completed in 1992. The appropriate timing of the treasury bill auction implementationwill be discussed in the contextof the macroeconomicand financial sector reform programs.

D. Banking Lgislation, Regulation and Supervision

Current Situation

15. Shortcomings in the legal and regulatory framework for financial institutions have contributedto the current difficultiesof the sector. As the financialsystem moves further towards market mechanismsand away from direct controls, an appropriateregulatory framework will be necessary to identify troubled institutionsat an early stage as well as to create an environmentconducive to greater competitionbetween institutions. - 92 - Annex 8-A Page 5 of 7

16. The banking law (Law of Financial Institutions)has several problems. First, BNR's power to request informationfrom financial institutionsis restricted, leading to protracted discussions between the banks and BNR. Second, the law does not provide BNR with sufficientautonomy from the Ministry of Finance; indeed, the Minister of Finance has the power to reverse most BNR decisions, includingthose dealingwith bank licensing. Third, the minimumcapital required for establishinga new bank needs to be raised to come into line with internationalstandards and the criteria for determining capital adequacyneed to be revised. Fourth, the legislationdoes not provide for penalties in case of non- compliancewith the bankinglaw and prudential regulations. Finally, amendmentsare necessary to tailor some of the regulations to small operations of the individual members of the Union des Banques Populaires, the associationof savings and loan cooperatives.

17. Implementationof the existinglaw has been uneven, in part because BNR has not issued supportinginstructions and regulationsto the banks. Supervisorycapabilities at BNR are also in their infancy. BNR has begun tackling these problems, as discussed below.

18. Substantial efforts are also necessary to improve accounting standards in Rwanda. Rwanda has no local independentauditors and most institutions (includingthe banks) have relied on having their financial accounts certified rather than audited. While national charts of accounts exist for enterprises, their use has not been enforced. Consequently,companies present their accounts in a wide variety of formats, and reliabilityof the accounts is suspect.

Reform Program: the Legal and RegulatoryFramework and Bank Supervision

19. The reform of the regulatory and legal framework is underway as part of the financial sector reform program of the Government. BNR already has begun changing, (within the existinglaw) the regulationson provisioning,setting clear guidelineson when and how much to provide and when and how to deal with interest accruals on non-performing loans. In addition, the banking legislation (FinancialInstitutions Law and BNR Statutes)is being revised, (a draft sent to the Bank and the Fund has been commentedupon). The revised legislationwill give clear authority to BNR over all financial institutions,and will spell out the policy instrumentsthat will enable BNR to conduct monetarypolicy, includingthe rediscount of long term credit. The revised legislationwill includeprovisions for BNR to have a clear mandateover the regulation and supervisionof financial institutions,including licensing of financial institutionsas well as to set appropriate minimum capital requirements. A minimum capital- adequacyratio, in line with internationalstandards, will also be established,taking into account quality and type of risk assets of banks, includingoff-balance sheet risks. Further changes in the regulations regarding the classificationof loansby risk category, the treatmentof non-performingloans, appropriate provisions and interest accrual guidelines will also be implemented. Limits will be set on bank's exposure to a single customer or group. In addition, external audits of all financial institutionswill be required every year. As a first step, BNR requested external audits of the 1991 accountsof all banking institutions. These have now been completed. BNR has issued instructionsto that effect and defined the terms of reference for future audits.

20. For BNR to carry out, effectively,its role of monitoringand preservingthe health of the financial system, the skills, training, staffing and methodologyof its Inspection Department are being strengthened. The InspectionDepartment has already been expanded to include five professionals. In addition, supervisionand training plans have been prepared and are being implemented. The initial inspectionsof commercialbanks will be undertakenwith the help of external advisors. An IMF advisor is assisting with the simplificationof existing regulationsand with the strengtheningof the Inspection - 93 - Annex 8-A Page 6 of 7

Department. TechnicalAssistance in this area has also, been discussedjointly between BNR, the Bank and the Swiss aid agency, and an implementationprogram agreed to in principle.

E. Supply and Demand for Term Credit

21. In the past, credit (especiallyshort-term) did not present a constraintto the development of enterprises in the modern sector, although this situationhas changed dramatically in the past three years, as banks began to curtail lending when faced with growing portfolio losses. The despecialization of banks introduced in 1987 had an impact on credit distribution. BRD no longer enjoys a virtual monopoly of investment financing, and enterprises can shop around and negotiate best terms for investmentloans from one of the three commercialbanks. The latter's capacity for term lending is limited only by lack of adequately matched resources, and to a lesser extent, by BNR's prudential regulations.

22. Under BNR term lending ratio applicableto commercialbanks, the latter must limit term lending, investmentin governmentsecurities and equity participationto an amount proportionalto equity funds (net of non-performingloans) plus percentagesof depositsvarying from 25 percent of sight to 100 percent of term depositsof 12 monthsand above. Relativelyhigh exposurein 5-year developmentbonds and other term loans limit banks' capacity to significantlyincrease term loans on the basis of their own resources. The proposed IDA Credit would therefore be welcome as BNR regulationswould not be applicableto term loans funded by long term resources. In fact BCR and BK have written to IDA to confirm their interestand desire to participatein the proposed line of Credit. When this BNR prudential ratio is applied to the three commercialbanks, their theoretical potential for term loans stood at the following estimatedamounts as of December 31, 1991:

BK: RwF2,378 million (US$18.3 million) BACAR: RwF 404 million (US$3.1 million) BCR: 0

23. With the proposed reform of the Special GuarantyFund, small- and medium-enterprises would have greater access to institutionalterm lending. In addition to the Guaranty Fund, the new liberalizedinterest rate regime is progressivelyencouraging banks to increaseterm lending. As has been the case in the recent past in most African countries, small scale enterprises have had little access to credit from the banking systemdue to low administeredlending rates and lack of guarantiesfor high risk operations. As agriculture, agro-processingand other small service enterprises are likely to provide the greatest opportunitiesfor employmentin the near- and medium-term, increasing access to credit for private, and especially small and medium-scaleenterprises will be critical to renewing growth in the Rwandeseeconomy. BRD is expected to retain its leadershipposition in the financingof medium and larger modern enterprisesbut it is expectedto syndicatemost of its future loans with commercialbanks, particularlyas it enters short-term loan business which, by nature, must likewise be syndicated.

24. Investment Financing Demand. Implementationof investment plans and projects is currently constrainedby the ongoingpolitical reform process. Because of delays in investmentfor the past three years, demand is likely to pick up sharply as the political crisis is resolved, following the signatureof the peace accord in August 1993. Several projects under implementationhave been stopped due to transportation difficulties for imported equipment and material, and limited supply of locally produced or imported inputs. In spite of these factors, investors remain guardedly optimisticand are eagerly awaitingthe expectedend of the politicalstalemate to resume investmentactivities. There exists - 94 - Annex 8-A Page 7 of 7 an importantpipeline of investmentprojects, in additionto a growing demand for financial restructuring and rehabilitationof several enterprises in difficulty. BRD's pipeline of projects under study includes some 70 investmentproposals estimatedto require RwF935 million (US$7.2million) in term loans. The Ministry of Commerceand Industry has also produced a list of 60 projects which have been studied and approved. Implementationof many of these projects stopped during to the civil strife, and additional updating studies and financing are required to complete them, if their viability is established. These projects are estimated to require RwFS.1 billion (US$40 million) in investment loans. Assuming a conservativecasualty rate of 50 percent of these projects would lead to a potential demand of US$20 million in term loans. Another source of investmentdemand would come from enterprises in financial or technicaldifficulties due to various factors includingthe economic downturn and stiffer competition from imports. Such enterprises will require financial restructuring, in particular a shoring up of their permanentworking capital. IDA funds couldbe used to refinanceterm loans to importspare-parts, raw materialand other semi-finishedintermediate inputs. Such term loans would strengthenthe capitalization structure of viable entities and generate some working capital. Demand in this area has not been estimatedbut a list of 27 medium-and large-enterprisesin difficultieswas prepared jointly by BRD and Ministryof Commerceand Industry for the purpose of setting up an Industrial RehabilitationFund. The indebtednessof these enterprisesamounted to RwF2.2 billion(US$17 million)as of September30, 1992. Assumingthat 25 percent of those debts are short term facilitieswould lead to an estimatedUS$4 million in potential term financing. Excluding SSEs and rural/urban micro enterprises, investmentfinancing demand in the modem sector could range from US$7 million to US$20 million, for investment in productive facilities, and US$4 million in working capital requirements. Estimated demand for investmentcould reach $30 million in the modem sector alone for next two to three years.

F. Flnancial Sector Development StraWtei

25. The developmentof the financial sector is critical to successful implementationof the Government's structural adjustmentprogram, and in particular, will contribute to facilitating efficient investmentand spurring new growth. The strategy for the developmentof the financial sector includes: (a) reliance on market-determinedinterest rates and indirect instrumentsof monetary control and the elimination of direct controls on credit; (b) the strengthening and restructuring of existing financial institutionsto make them more competitiveand efficient;and (c) the introductionof sound regulatoryand supervisorypractices in the Central Bank. The key objectiveof Rwanda's financial sector strategy is to create a sound policy environmentand a solid institutionalframework appropriate to the current needs of the private sector as both saver and investor. As part of this strategy, the Governmentwill also reduce its direct ownershipof financial institutionsand promote greater competitionbetween institutions. Strong and competitive commercial banks, a small interbank and money market, a competitive development/investmentbank and an efficient network of rural savings and loans institutions, are likely to meet the economy's needs for the medium-term. In the longer term, once the existinginstitutions have becomestronger and more efficient, and as the Rwandeseprivate sector grows and diversifies, there may be scope for greater expansionwithin the financial sector.

26. The Credit will help implementthis strategy and will support both policy and institutional reforms in Rwanda's financial system. It is also a critical componentof its overall structural adjustment program as detailed in the current PFP. These reforms are designedto make Rwanda's financial system more efficient and market-oriented,thereby enablingit to support the increasedinvestment needed to meet its economic growth objectives. They will lead to more competitionwithin the system and stronger institutions,an increasedbreadth of financialinstruments and greater flexibilityin the pricing of financial services. - 95 - Annex 8-B Page 1 of 11

RWANDESE REPUBLIC

PRIVATE SECTOR DEVELOPMENT PROJECT

Financial Intermediaries

A. Commercial Banks

Ownershipand Management

1. There are three privatelycontrolled and operatedcommercial banks, two of which, BCR, a Banque Bruxelles Lambert subsidiary, and Banque de Kigali (BK), a Belgolaise-SocieteGenerale de Belgiquesubsidiary, have sizeable governmentparticipation. The third commercialbank, BACAR is wholly privately controlled and operated by local and foreign investors led by Banque Continentaledu Luxembourg. Althoughthe Governmentand public sector entitiescontrol 44.5, 50, and 4 percent of the capital of BCR, BK, and BACAR,respectively. The three foreign partners manageand provide technical assistanceto the three banks. Managementpractices inherited from parent banks still apply, including operational, accounting, auditing and lending procedures. The parent companies' european offices regularlycarry out periodic internalaudits of operations,accounts and credits. A detailed review of these proceduresshows them to be comprehensiveand up to date, and more importantly,they are consistently being applied by the subsidiary banks. The accounts of all banks were audited in 1991 by external auditors.

2. In 1992, the senior managementof the three commercialbanks numbered 17 officers, includingfive expatriates,and middlemanagement and professionalsnumbered 131 Rwandese. The same year the three banks had 820 clerical staff. Commercialbank staffing, managerial and organizational structures have also been reviewed and found in all banks to be satisfactory and efficient. Staff and managerialtraining and upgrading are generally lacking in all banks. Due to the high income taxation rates that make them rather cost conscious,most banks are generally unwillingto invest significantlyin staff training and upgrading activities. (para. 7).

FinancialPosition and Performance

3. Deposits and Liquidity. The higher deposit renumeration rates, along with the political situationwhich discouragedspending and investnient,have resulted in increaseddeposit levels in banks, which amountedto RwF27.4 billion ($210 million) in 1991. Deposits grew by 15 percent in 1991, comparedto 1.7 percent in 1990. Total depositsalso grew in 1992, reaching RwF 32.0 billion (US$228 million) as of December 31, 1992, an increase of 16.8 percent. Commercial bank deposits, which accountedfor 78 percent of the total (the balance was held by the savings institutions)and amountedto RwF21.4 billion ($165 million), grew by about 26 percent in 1991. In 1992 such deposits increased again by 19 percent to reach RwF 25.5 billion (US$180million). The increase in depositshas come at a time when banks curtailed lending, because of reduced demand resulting from the macroeconomic situation. Banks were also reluctant to lend to any but their best clients, as they cleanedtheir portfolio. Consequently,the liquidityof banks increasedin 1992. Commercialbanks, particularlyBK, also resorted to more borrowing from their correspondentsin order to financecoffee marketingoperations and decrease cost as BNR rediscount rate was high for most of the period. - 96 - Annex 8-B Page 2 of 11

Rwandese Banks: Evolution of Deposits and Borrowing (RwF Million)

Dmber 31 1990 1221 192

Total Deposits 23,750 27,338 31,975 of which: sight deposits 9,706 11,446 14,170 1- to 6-month time deposits 4,885 7,052 7,402 12-monthtime deposits 8,136 8,026 7,789 Certificatesof deposits 1,023 814 739

Commercial Banks (t.share) 17,699 21,400 25,464 (65.8%) (78.3%) (79.6%)

Other banks 6,051 5,938 6,511 (34.2%) (21.7%) (20.4%) Borrowing 2,622 2,795 2,088 BNR RefinancingAdvances 194 453 9,920 Bank Correspondents 2,756 4,175 4,925

4. Lending Operations. As of December 31, 1991, total assets of commercial banks amountedto RwF29.6 million (US$228million), includingRwF15.4 million ($118 million) in credit to the economy, and RwF4.3 million ($33 million) in investmentsin government securities (Annex 8-C Tables A8.1 and A8.2). Commercialbanks accountfor about 68 percent of bankingsystem credit to the economy. Followingthe 1987despecialization of banks, commercialbanks increasedtheir medium-and long-term loan portfolio by 50 percent during 1987-89. Term loans accounted for 35 percent of commercialbank portfoliosin 1991. Commercialbanks have also increasedtheir exposurein government security and cut back lending to enterprises and individualswhere risks have worsened following the economicdownturn. In 1991, while commercialbank deposits rose by 26 percent, their loan portfolio grew only by 11 percent, and investmentsin higher yield governmentsecurities by 25.5 percent. Short- term credit increased substantially by 46 percent at the end of 1992, reflecting mainly arrears of payments, for in the annual coffee campaign financing. Credit for the 1992 coffee campaign was financedexclusively by BK and amountedto a RwF2,137million (US$15million) advanceto Rwandex, as of December31, 1992 the country's private coffee exporter, which has had a long standing banking relation with BK and its European parent bank. The structure of assets in the banking system is detailed below. - 97 - Annex 8-B Page 3 of 11

Rwandese Banks: Structure of Assets (RwF Million)

December31 1290 1221 Total Assets 38,244.6 41,777.8 46,891.1 Of which: Commercialbanks (26,603) (29,621) (33,248.2)

S.T. Loans 8,273 5,843 of which: CommercialBanks (7,640) (5,502)

M.T. Loans 4,349 3,141 3,601.3 of which: CommercialBanks (2,717) ( 1,957) ( 2,551.5)

L.T. Loans 4,184 3,540 3,163.4 of which: CommercialBanks (1,170) ( 1,010) ( 765.2)

Non-Performing of which: CommercialBank

Total Loans Outstanding 17,091 13,252 20,199.30 of which: CommercialBanks (11,527) (8,469) Percentage (67.4%) (63.9%)

GoverunmentSecurities 3,495 5,122 of which: CommercialBanks 3,411 4,282

Source: BNR statistics

5. Loan Portfojio. The deterioratingmacroeconomic situation has had an adverse impact on the banks' portfolios. The non-performingportfolio of the commercialbanks increased from 5.3 percent of total portfolio in 1987 to 15.6 percent in 1990, and 21.7 percent in 1991 (Annex 8-C Table A8.3). The share of non-performingloans is unevenly distributedbetween banks, with BACARhaving the largest portion. The non-performingportfolio is likely to remain relatively high because of the politicalproblems that the country is facing. BK does not currentlyhave problems, although it has a very high temporary exposure in coffee (para. 4). Given the volume of financing required for the coffee campaign,and its self-liquidatingnature, bank exposuresto a single customer alwaysreach exceptionally high levels during the campaign. BACARhas serious portfolio problems that stemmed from its first years of operation when its original managementteam, not fully familiar with the market, gave large loans to a few clients. BACARpolicies have changedsince that time, although it has not yet completely - 98 - Annex 8-B Page 4 of 11 resolved the portfolio problems. Banks allocated a greater share of their income to provisions which grew by 21.5 percent in 1991.

6. There are other factorsthat affectthe evolutionof the non-performingportfolio. Foremost amongthese is the inefficientprocess of guaranty constitutionand realizationimposed by administrative and judicial institutions. There are hundreds of guarantiesto be registered and legalizedstill pending at the Ministry of Public Works' Urban Departmentand Ministry of Justice's Notary Public Department. Administrative problems are compounded by unclear commercial and business legislations. The complicatedprocedures delay loan recovery litigationswhich are treated on an ad hoc basis by the same courts that handle commercial as well as civil and criminal litigations. This cumbersome process considerablyslows down all commerciallitigations. Accordingto the BankingAssociation, there are over 700 loan litigation cases pending in the Rwandesecourts, of which more than 550 have been under litigation for over five years. Banks favor the creation of a separate Tribunal of Commerce and the establishmentof private auxiliaries of justice (e.g., process-servers, auctioneers,liquidators) in order to alleviatethe problem and speed loan recovery procedures. Secondly,guaranties granted to banks by the Government-controlledSpecial Guaranty Fund (para. 20)-for small scale enterprise lending, are not being honoredby the Governmentand BNR. The loans guaranteedby FSG and under litigationamount to RwF230.4 million (US$1.8 million) for BCR and RwF43.5 million ($334,000) for BRD. During negotiationsagreement was reached with the Governmenton the following initiatives:

(i) as a condition of disbursement, create staff and render operational within a year an autonomousTribunal of Commercial.

(ii) As a conditionof disbursementreduction of the number of loan litigationcases pending in the commercialcourts accordingto an agreed timetable.

(iii) As a conditionof disbursement,submission of an acceptableschedule of reimbursement of FSG arrears.

7. A third problem affectingthe portfolioquality of commercialbanks relatesto unfavorable fiscal regulationsthat do not allow deductionof loan loss provisions, and that impose high taxation of operatingprofits. In fact, banks have tended to understatethe extent of problem loans in their portfolio so as to justify lower provisionsfor risks. Banks have been able to do so partly because, until 1991, their financial accounts were not independentlyaudited, and partly because BNR does not have a clearly establishedloan classificationsystem by risk categoriesor guidelinesfor provisioning. In the Letter of Financial Sector Policy, the Governmentis committedto legalizingtax-deductibility of provisionsfor risks on bank loans.

8. CaDitalAdequacy Ratio. Estimated 1991 capital adequacy ratios calculated during appraisalare detailed in Annex 8-C Table A8.6 and summarizedbelow for the three commercialbanks, and the developmentbank. - 99 - Annex 8-B Page 5 of 11

(RwF Million)

BACAR BCR BK BRD1'

EstimatedRisk-Weighted Values 3,588 6,313 6,623 4,584 Capital Requirements(Tier 2: 8%) 287 504 530 458 Net AvailableCapital 277.7 1,021 970 1,362 Capital (Shortfall)/Surplus (9.3) 517 440 904

9. BACAR. As seen above, with the exception of BACAR, the banks that will act as financial intermediariesunder the Credit have adequate equity capital funds to meet internationally accepted levels of risk capital coverage. However, as banks tend to understate problem loans, the estimated capital surpluses shown may offset additionalloan loss provisioningrequirements that a more thorough loan audit may recommend in future. The auditors of BACAR estimate shortfalls in loan provisionsrequired at some RwF600million (US$4.6million) which its managementdoes not agree with, arguing that most of the loans in question are adequatelycovered by real guaranties, and that prospects for their recovery are good. In view of this uncertainty,BACAR's eligibly as a participatingfinancial intermediarywill have to be reviewed on the basis of its 1992 audited financial statements, and of the adequacyof both its capital ratio and levels of provisionsfor risks.

10. Banguede Kaj. BK's exposurein coffee advancesto a singlecustomer, Rwandex,was earlier of deep concern when it reachedRwF2.137 million (US$9.3million), in December 1992. Coffee marketing and export financing advances are being funded by BK with its own resources and with an advancefrom its parent bank (guaranteedby chattel mortgagingof coffee export proceeds), rather than through BNR refinancing. Such coffee operations are normallyself-liquidating and until last year were financedby BK and BCR who have alwaystaken the commercialrisk with the implicitguarantee of the Government. The Government has always honored its obligations to the banks resulting from the subsidiesto coffee producers, and it can be expectedthat it will do so again this year, albeit with some difficulties. In view of its importance for the Rwandese economy, the coffee issue is being closely monitored,in the contextof the on-goingmacroeconomic dialogue between the Government,Bank, IMF and other donors. BK's exposurewas substantiallydecreased to RwF345million (US$1.5million) at end of March 1993, with no BNR refinancing. The coffee stabilizationFund transferred enough resources to meet its commitmentsand to subsidizecoffee marketingoperations.

11. Frofitabiliy. As shown in Annex 8-C Tables A8.7 and A8.9, commercial banks' profitabilityhas been decliningover the past four years; profits before tax fell by about 24 percent and profits after tax declined by about one-third. During 1991, however, thanks to the sharp increases in lending rates, and the eliminationof the lending limits on banks, commercialbank net profits doubled to reach RwF122 million (US$940,000) compared to RwF58 million (US$446,000) in 1990. Deteriorating economic conditions, past interest rate policies, increased taxes and the October 1990 hostilities have all contributedto the poor performance of the banks through 1990. Past interest rate policies, which imposed preferentialinterest rates on some activitieswhile putting a cap on the quantity of credit which could be given at non-preferentialrates, reduced the interest margins of banks. High taxes, which include compulsoryallocations of 10 percent of operating profits to FSG, the government guarantee fund for small enterprises, further contributedto the decliningfinancial performanceof banks

1/ For BRD a 10% capital adequacy ratio i required - 100 - Annex 8-B Page 6 of 11

(in 1990, profits before tax were 23 percentof equity while profits after tax amountedto only 9 percent). Finally, the October 1990,political eventsreduced businessactivity and made loan collections, especially in rural areas, more difficult. An improvingprofitability trend seems to be emerging following reform of interest rate policies, and needs to be sustained to enable banks to generate sufficient profits for provisioningand reinforcementof their equity bases.

B. Development Bank - Banque Rwandalse de Development

12. The developmentbank of Rwanda, BRD, was created in 1967, and has been the main source of investmentfinancing in Rwandauntil 1987. It has been the exclusivebeneficiary of four IDA Credits since 1979;the last Credit (No.1650-RW) of US$9 million, was approved on January 14, 1986, and becameeffective October 31, 1986. The Credit is 100 percent committed,and 75 percent disbursed, and is expectedto be closed before the original target date of December 31, 1993. Project Completion Reports (Nos.4921and 8799-RW)dated February 10, 1984 and June 28, 1990, on the first IDA credit (no.655-RW),and the Secondand Third IDA Credits (Nos. 896-RWand 1344-RW),respectively, were circulatedto the Board. The two PCRs concludedgenerally that the first two IDA Credits focused on institutionbuilding, and economicdevelopment objectives and achieved satisfactoryresults. However it was also stresed that these operations failed to address issues affecting overall financial sector performance, or its impact on the real economy. Hence, a broader sectoral approach, through Apex operations, was recommendedfor future financial intermediaryoperations.

13. Ownershipand Managgmnt. At end 1991, BRD had total assets of RwF4,680.7 million ($36 million), of which RwF3,756.9 million ($29 million) in term loans, accountingfor about 8 percent of banking sector assets (excludingBNR). BRD has also been the sole beneficiaryof substantialforeign exchangeresources from its bilateral agency shareholders, which, when added to its virtual monopoly on term lending for investment,gave it prestige in the business communityof Rwanda (para. 15). BRD's capital is controlled 59 percent by the Government (50%) and public entities (9%) while bilateral developmentagencies (e.g., Caisse Francaise de Developpement,ex. CCCE, DEG, AGCD, etc.,) and local private investors(including the two commercialbanks, BCR and BK, with 2.28 percent each) hold the balance of 29.4 and 11.6 percent, respectively. The Governmentappointed general manager leads a team of relatively competent managers. The staff of 107 includes 25 professionals. BRD's management,lending, accountingand internal auditingprocedures are well known to the Bank through a long associationand intensivesupervision. These procedures, and the quality of managementand staff have generally remained satisfactory, while day-to-day managementand decision-making, which are characterized by a very conservative and prudent approach, do not raise any issue. However, the worsening portfolio problems that the institution faces requires a restructuring of BRD's operations, managerialorganization and staffing level.

14. Leading O2aions. The evolutionof BRD's lending operations is detailed below and shows a steep decline of activitiessince the peak of 1988. That year BRD was put under pressure to increaselending to the financiallyrisky small private enterprise sector, at fixed relatively low interest rates, without adequate institutionalpreparation and operational strategy to underpin the new lending orientation. As BRD was more familiar with larger size, modern industrialconcerns, not only did the institutionhave problems in evaluatingthe risks involved in SSE financing, but the larger number of projects thus financed resulted in a relaxation of appraisal procedures and strained BRD's portfolio managementcapacities. Moreover BRD could not mobilize the required resources to fund such large volumes of lending, thus putting additional strains to its availablefinancial resources. As a result, the following years, BRD had to curtail its lending activitiesas shown. It was too late, however, to limit the expecteddamage both to the portfolio and financial situationof BRD as analyzedbelow. - 101 - Annex 8-B Page 7 of 11

BRD: Evolution of Lending Operations (RwF Million) December31 1988 1989 1990 1991 1992 (RI/ 1)

Commitments 1,089 722 307 382

Disbursements 1,644 753 573 149

Loans Outstanding 3,827 4,027 4,222 3,757

Non Performing Loans Outstanding:

- Amounts - 1,498 1,397 1,390 - As % of Portfolio - - 35.5% 37.2% -

Loan Collection Rates on:

Total Loan Portfolio (%) 40.4% 33.7% 32.7% Performingand Doubtful (%) - N/A 67.3% 79.8% 71.9% LitigiousLoans (%) N/A 7.0% 6.6% 12.6%

15. Loan and Investment Portfolio. Although BRD had generally avoided many of the problems that have plagued development banks in other countries, it now faces a number of such problems as a result of the aforementionedgovernment interference in lending policies. As BRD doubled its lending to small and mediumprivate enterprises, in one year, and because a number of the projects approved were of questionableviability, BRD's external donors (including IDA) declined to finance several of them. This led BRD to finance its long-termloans with short-term refinancingfacilities from BNR the Central Bank. MoreoverBRD's loan portfolio is highly concentratedby sector and geographic location. Large industrialborrowers in the capital city, Kigali, area, and some seven enterprisesaccount for over 50 percent, and 40 percentof loans outstanding,respectively. AlthoughBRD's policy statement limits individualfinancial risk exposure to a maximum 20 percent of its unimpairedequity, and to 70 percent of total project costs, such concentrationin few borrowers may be detrimental in the long run. As importsubstituting industries account for 40 percent of the portfolio, BRD vulnerabilityto the slightest economic downturn is thus quite real. The addition of a large number of financially risky, small borrowers did not arrange matters for BRD. Not surprisinglyportfolio quality and collectionsdeclined sharply because of the worseningeconomic situation. Overall loan collectionsin principal and interest, fell to 76 percent in 1989 and declined thereaftercontinuously as arrears built up and the non-performing portfolio increased substantiallyas a percentage of total loan portfolio, as shown above. Overall loan collectionrates have dropped to dangerouslylow levels of about33 percent when litigiousloans are taken into account. The loan portfolio, and collection problems faced by BRD, and to a lesser degree commercialbanks, also find their roots in the aforementionedadministrative and legal constraints faced by all institutionallenders (para. 6).

16. ResourcePosition. IDA funds from the BRD-IV Credit (No. 1650-RW)have been fully committed,and the undisbursedbut committedbalance of SDR1.3 million ($1.8 millon) is expected to be drawn down before end 1993, as estimated during appraisal. BRD has not fully utilized most of the - 102 - Annex 8-B Page 8 of 11 resources available from donors foreign exchangelines of credit, partly because BRD has curtailed its lending operations, and partly because of constraints in the use of these lines. Total undisbursed resources available for new commitments are given below and include $15 million mostly from AfDB/ADF, $3.6 millionfrom a BelgianGovernment loan, and $3.2 million from a French CCCE line of credit. These term resources from other donors are mostly directed to specific targets (e.g., rural/agriculturalSSEs and micro-enterprisesfor the AfDB),and limitedin their procurementpossibilities as regard the two bilateralborrowings. IDA funds under the proposed operationwould not have sectoral, size or similar procurementconstraints. Furthermore, IDA funds are expected to be also utilized for working capital financing requirements and financial restructuring of viable private enterprises in difficulty. As BRD resources could not cover the whole range of investment demand, particularly projects channelledthrough commercialbanks, an IDA line of credit of $5 million would be justified. IDA funds will complementresources from other donors. BRD's resource position as of August 31, 1992 is presented in details below:

BRD: Resource Position as of 8/31/1992 (RwF Million)

Resources Total Foreign Exchange Local Currency Equity Funds: 1,724.9 Managed Funds: 79.6 Borrowing: 6,099.1 5,417.6 681.5

Total Resources 7,903.6 5,417.6 2486.0

Utilization

Net fixed Assets 379.2 OutstandingLoans 2,578.7 2,217.1 361.6 Equity Investments 656.6 35.2 621.4

Available for Disbursements: 4,289.1 3,165.3 1,123.8

UndisbursedCommitments: 333.0 333.0

Available for New Commitments 3,956.1 2,832.3 1,123.8 ($30.4 M) ($21.8 M)

Of which AfDB/ADF: ($15.0 M) BelgianAGCD: ($3.6 M) French CCCE: ($3.2 M)

17. Profitabilityand liguidity. The need to constituteadditional loan loss provisionsled BRD to declare steep operatinglosses of RwF 300 million (US$2.3 million) and RwF66.3 million ($510,000) in 1990 and 1991, respectively- the first losses in its history. The low collectionsand the temporary mismatchof assets and liabilitiesled to a serious liquidity squeeze during 1988-90, and to the necessity to shore up the institution's equity base through a share capital increase to which BRD shareholders responded positively. A capital increase of RwF364 million ($2.8 million) was approved in January, - 103 - Annex 8-B Page 9 of 11

1992, to offsetthe cumulatedlosses and maintain an adequateequity level, and has been fully subscribed and is about 72 percent paid in. The Government,with a 50 percent share of the increase has fully paid the RwF188 million ($1.4 million) it has subscribed. Only two donor shareholdershave so far failed to pay in. Following, and as a condition of the capital increase, BRD's Board introduced tough restructuringmeasures, focusingon loan recovery activities. BRD, also, reimbursed BNR's short term advances and was able to even place some RwF200 million ($1.5 million) in term deposits, a sure indication that it has resolved its short-term liquidity problems. However, the current levels of loan collectionrates are not sustainableand it is likely that further operatinglosses will be incurred owing both to lower operational revenues, higher allocationsto provisionsfor risks, and maintenanceof the same staff and administrativelevels of expenses. During negotiationsBRD and the Governmentagreed on a plan of actions to reduce operatingcosts and beef up provisions(para. 19).

18. Financial Structure and ProsDects. As mentionedearlier BRD's capital base is quite comfortable, and its risk coverage ratio more than adequate based on its 1991 financial statements, particularlyfollowing the capital increaseof January, 1992. However, the levels of provisionsrequired to cover risks of losses grow by the day and there is a likelihoodthat BRD would need to increase its allocations to provisions, thereby further chipping away at its capital base. In addition to its current financialdifficulties, BRD is now facing the same challengesconfronting development banks throughout the world. Its traditional client base - 42 percent of which are import substitutionindustries - are threatenedby the adjustmentprogram, and at the very least will need some financial restructuring. The financial sector reforms have subjected BRD to greater competition from the commercial banks, particularly in medium-termloans to "blue chip" companies. Consequently,BRD needs to undertakea radical review of its vocation as developmentbank, diversify its lending activities, and provide new commercialbanking services and short term lending to its current customer base.

19. However, at this stage BRD is not prepared for diversificationwhich requires careful planning, market studies, retraining of management and staff, redirection of lending policies, managerial organization, accountingand internal auditing systems and procedures. To help formulate alternative diversificationscenarios a special audit and study was recently completed by a team of specialized bankingconsultants. Objectiveswere to ascertainthe level of additionalrequired loan provisioning,and to segregatethe loan portfolio between performing, non-performingbut viable, and non-performingand irrecoverableloans, with a view to proposing differentfinancial projectionscenarios for restructuringof the institution and diversificationinto commercialbanking activities in the future. The major findings and recommendationsof the aforementionedstudy are summarizedin Annex 14 and constitutean action plan for BRD. During negotiations,agreements were be reached on a short term action plan to reduce operatingcosts, which BRD has agreed to implementas a conditionof eligibility.

C. Special Guaranty Fund

20. Ownership. Managementand Procedures. FSG is a loan guaranty fund created in 1978 by the Governmentto provide collateral guarantiesto enable greater access to banking credit by small entrepreneursin agriculture, animalhusbandry and artisanalactivities. FSG has no legal personalityand is constitutedby a simple credit account in the Ministry of Finance books at BNR. The fund has no capitalbase and charges a 3 percent commissionon loans guaranteed,which in additionto the compulsory 10 percent allocationof pre-tax operating profits of banks and financial institutions,constitute its sole resources. Loans eligible for guaranty range from RwF5 to 10 million ($38,500 to $77, 000), and guarantycommitments are taken on its behalf by an OversightCommittee chaired by a member appointed by the Minister of Finance and composedof representativesof the Agricultureand Industry Ministries, BNR and two participating banks (BRD and UBP). Day-to-day operations have been assumed by a - 104 - Annex 8-B Page 10 of 11

Director, a legal staffer, and five clerks. The operating budget was funded from 1988 to 1991 by USAID; since then, the budget has been financed from FSG own resources.

21. The fund's by-laws and operating regulationsare not adequate with respect to the type of guaranty granted, its coverage, the obligationsof the guaranteedparties, the loan interest accounting rules, and the trigger mechanismfor the fund's guaranty to apply. The fund provides a full 100 percent guaranty of principal and interest through a short worded letter of guaranty sent to the guaranteedbank by the OversightCommittee. That letter of guaranty is tantamountto a co-signatureof the loan being guaranteed, since the fund commitsitself implicitlyto pay on first demand in lieu of the principal debtor whenever the letter falls in arrears. The objective of the fund is to fully guaranty poorly endowed borrowers that either do not dispose of any assets to put forward as collateral, or cannot muster any other types of guaranties. As a result lending banks have not resisted political pressures to take risks so guaranteedby FSG.

22. Guaranty Operations. The Fund has so far guaranteed over 300 small loans for about RwF 745 million (US$5.7 million), while its resources amountedto RwF623 million ($4.8 million) as of October 30, 1992. Current claimson the fund resources amount RwF273.9 million ($2.1 million) in non performing, irrecoverableloans guaranteedon behalf of BCR and BRD, as of October 31, 1992. Payments of these claims would deplete 50 percent of the Fonds' resources. BNR is opposing any paymentsto BCR and BRD on the ground that they did not take adequatecollateral and were not diligent in taking action to recover some of these risks. BNR also argues that many of the loans made and guaranteedby the FSG were politically motivated and known from the beginning to be irrecoverable. The banks are threateninglegal action against the FSG and have stopped operationsneeding guarantees. Furthermore, banks argue rightly that the resources of the FSG belong to them since they have been building them up through compulsoryallocations of 10 percent of pre-tax operating profits since 1978.

23. Non-paymentsof guaranteesby the FSG could adverselyaffect BRD and BCR's financial position in view of the large loan commitmentsthey made with that guaranty. Moreoverbanks lending to the SSE sector would stop altogetherif this issue is not resolvedto their satisfaction. Currently banks continueto accrue interest on such loans, a practice that may unduly increase the amounts to be paid in future by the FSG. The by-laws and operatingregulations of the FSG need to be revised and the notion of guaranty of risk of loss introduced, and the Governmentand banks have agreed to such revision and reform, and to draft terms of reference of a proposed study to that effect. As part of the study a special audit of all loansgranted under the FSG guaranty will be conductedto review the proceduresbehind their approval, the diligence taken by banks to obtain other guaranties, supervise the loans, and pursue delinquentborrowers with the means at their disposal prior to asking FSG payment. The study would be financed under the Public Enterprise Credit (No. 2113-RW). This issue is being addressed in the context of the FSAC. However, given the negative developmentsin this area, and importance of the issue, during negotiationsagreement was reached with the Governmentto settle this issue on terms and conditionssatisfactory to IDA as a condition of disbursementsunder the line of credit componentu follows:

(i) the Minister of Finance has, officially, directed BNR to effectuate payments on FSO guaranteedbank claims.

(ii) BNR will execute this directive and prove, to IDA and guaranteedbank satisfaction,that paymentwas effectivelymade. - 105 - Annex 8-B Page 11 of 11

(iii) The laws and operatingregulations of the FSG will be reformed with a view to (a) reduce the amount guaranteedto a guarantyof protectionagainst documentedlosses after banks show due diligence; (b) diminishthe weightof governmentinfluence in its management; and (c) better define trigger mechanismsand accountingrules and the type of guarantee given. - 106 - Annex 8-C Page 1 of 16

Table AB.1: CommercialBanks: Breakdownof Deposits, by Source (RwF Million)

Public Private 12ec. 31 Govermnent Entr=rises ISe/'Iai

Amounts

1987 1,637 1,648 11,922 15,207 1988 2,058 1,775 12,944 16,777 1989 2,706 2,685 12,149 17,540 1990 2,590 3,336 12,404 18,330 1991 2,347 3,638 14,335 20,320

percentage Distribution

1987 10.8 10.8 78.4 100.0 1988 12.3 10.6 77.1 100.0 1989 15.4 15.3 69.3 100.0 1990 14.1 18.2 67.7 100.0 1991 11.6 17.9 70.5 100.0

i Including sidat and non-zusident individuab nd entapr, andjitentionul oanizai.

Soure: Mision eaaes (basd on information obtained from the individual banks). - 107 - Annex 8-C Page 2 of 16

TableA8.2: Comercial Banks: Aggregated Balance Sheets (RwFMilLion)

December31 11989 1920 11

ASSETS Cashand CentraLBank 557 454 713 4,74 Due frombanks and FIs 2,807 2,411 4,030 5,295 Governmentsecurities 6,104 5,309 4,407 4282 Treasurybills) (1,650) (950) - DeveLopmentbonds (4,454) (4,359) - - Loansand overdrafts 12,518 13,774 10,357 6,965 Short-term 9,263) (9,571) - - Medium-term (2,565) (3,123) - - Long-term (690) (1,080) - - Otherdebtor accounts 932 1,224 3,205 4,211 Itemsfor coLLection 1,549 1,323 2,049 1,722 Orderand regularizationaccounts 520 497 681 895 Equityinvestments 208 208 208 208 Fixed assets (net) _13 876 ff53 1299 TOTALASSETS 26,108 26,076 26,603 29,621

LIABILITIES Due to CentraLBank 2,794 2,390 1,035 406 Refinancing (2,526) (1,966) - - Otheraccounts (268) (424) - - Due to banksand FIs 2,153 1,801 2,558 3,462 Call accounts (457) (328) (759) (766) Term accounts (1,589) ( 1,365) (1,699) (2,385) Certificatesof deposit (107) ( 108) (100) (311) Customerdeposits 16,777 17,540 17,936 20,133 Demand (9,563) ( 8,252) (10,233) (11,828) Time (4,442) ( 6,548) (5,248) (6,499) Certificates of deposit (691) ( 1,008) (1,006) (494) Other accounts (2,081) (1,732) ( 1,449) (1,312) Other creditors 156 169 - - Itemsfor collection 1,545 1,322 2,110 (1,764) Orderand regularizationaccounts 492 545 307 401 Provisions 758 829 1,179 1,529 Specificand generalLoan lossprovisions (699) (768) (1,047) (1,450) otherprovision _ 59) ._1 (flt) (79) SHORTTERM LIABILITIES 24 675 24596 25.125 27 I695 EOUITY CapitaL 825 825 825 825 Reserves 455 530 595 979 Annual Profit 153 58 1i SharehoLders' Equity Ian3 1480 1478 126 TOTALLIABILITIES AND EWUITY 26,108 26,076 26,603 29,621 .. 5.5.5 usussEs . 555 5555.. ContinaentLiabilities Documentarycredits 5,107 4,547 5,657 7,014 Guaranteesand acceptances 648 1,124 29,994 30,777 Other liabilities 71 2 31457 24 737 TOTAL 6,474 6,363 67,108 62,528 among BUSSE...... U.....

Source: Unauditedfinancial statements of the three commercial banks, except for 1991. - 108 - Annex 8-C Page 3 of 16

Table A8.3: CommercialBanks: Performanceof the Loan Portfolios (RwF Million)

12ec.31 1990 1221 1992 (8/31)

Loan Portfblio

Non-PerformingLoans 1,823.0 2,055.0 2,355.0

OutstandingLoan Portfolios jI 11,691.0 9,482.0 12,123.0

Total Specificand General Loan Loss Provisionsy 859.0 1,043.8 1,131.0

rovision Ratios (Percentage) Non-PerformingLoans/Outstanding Loans 15.60 21.70 19.40

Provisions/OutstandingLoans 7.35 11.00 9.33

Provisions/Non-PerformingLoans 47.12 50.79 48.00

I/ Excluding placcant in Oovesnmmt sewiiu ad deposits with banking conrepondents. 2 For BACAR, the geneal ln omprovion is not availsbil. The total provisons ae therefore understated.

Some: BNR Centrale des Bilsa and 1990 unaudited nd 1991 unditod finamcial reports of banks (BACAR, BCR and BK). - 109 - Annex 8-C Page 4 of 16

Table A8.4: RwandeseBanks ji: Structure of Lending Operations (RwF Million)

December31 1990 1991 1992 (8/31)

Type of Loan

Short-term 8,273 5,843 9,847 Medium-term 4,349 3,141 3,072 Long-term 4,184 3,540 3,000

Other Debtor Accounts 285 728 292

TotalOutstanding Loan Portfolios 2/ 17.091 13.252 16 211

of which:

DoubtfulLoans 2/ 4,219 4,760 5,134

GovernmentSecurities 4,491 5,122 5,122 of which:

Treasury Bills 550 1,765 2,417 DevelopmentBonds 3,441 3,357 2,704.8

1/ Commerial Banks, BRD, CHR nd UBP ai Excluding GovenmmetSecuritie I/ Declard to BNR

Source: BNR, und 1990 uuwd and1991 auditedfinancial astmnb of comnmcialbanks and BRD. - 110 - Annex 8-C Page 5 of 16

Table AM.: RwandeseBanks: Distributionof Credits to the Economy (by Loan Maturities)I/ (Percentages)

Short-Term Medium-Term Long-Term TQa

12i 55.4 20.3 24.3 100.0

1289 54.6 22.9 22.5 100.0

1990 50.0 25.5 24.5 100.0

1991 49.6 23.7 26.7 100.0

1292 62.5 19.0 18.5 100.0 (8/31)

I/ Excluding invemt in Govemmmt Securite Zt M.T. omnuhave matitis of I to S yer.

eM: BNRreports. - 111 - Annex 8-C Page 6 of 16

Table A8.6: CommercialBanks and BRD: Capital AdequacyAnalysis I/ for 1991

BACAR BCR BK BRD

Total Net Assets 4,199.6 13,538.8 11,705.0 4,414.0 ContingentLiabilities N.A 679.8 2,133.0 0.0 Equity Capital 277.7 YI 685.7 962.0 1,932.6 Gross Loan Portfolio 2,830.0 7,767.5 4,766.0 3,756.9 Gross Equity Investments 7.8 78.0 122.0 690.0 Risk Weighted Values 3,588.0 6,313.0 6,623.0 4,584.0

Capital Requirements Core Capital (Tierl):4% 143.5 252.0 265.0 183.0 Net Available Core Capital 277.7 Y 587.0 558.0 1,057.0 Tier 1 (shortfall)surplus +134.2 +330.0 +293 +874.0

Total Capital (Tier 2):8% 287.0 504.0 530.0 367.0 Net AvailableTotal Capital 277.7 Y 1,021.0 970.0 1,362.0

Tier 2 (shortfall) surplus -9.3 +517 +440.0 +995.0

1/ BRed on Basls ConmnitteeRecomme_ations (Cook RAtio). a/ Excluding General Provisions for Risks (not available).

Sou: Audited Finacial Staments - 112 - Annex 8-C Page 7 of 16

Table A8.7: CommercialBanb: AggregatedProfit and Low Accounts (RwF Million)

Decmber 31 1288 1989 1290 1991

Interest Income 1,390 1,585 1,215 1,806

Interest Charges 410 55 S5 9S6

Interest Margin 98 1 .02 85

Commission& Fees (net) 253 230 253 281 Foreign ExchangeIncome 162 148 61 65 Other income 205 2 9 947

Other OperatingIncome 620 584 909 1,293

G3rowEaniinp Marzin 1,600 1,616 1,567 2,143

PersonnelExpenses 655 684 702 832 Other Opeating Expenses .2 7 3423S

Operating Expenses 921 296 LA0418

Not Earnings Margin 2655 95

DepreciationAllowances 97 98 114 169 Allocationsto Provisionsfor Risks 109 130 89 242 Guantee Fund Contributions 48 44 32 57 Other Income (Net) 11 A _2 Other OperatingCharges 248 261 234 440

OperatingProfits 431 394 289 S1S

Taxes (269) (23()

Profits after Tax

Allocationof Profits Dividends 71 55 20 53 Paymentsto Board memben 7 6 - - Reservesand retained eamings 75 74 38 69

SoIM: Unaudited fiia semewa of t individua bak. - 113 - Annex 8-C Page 8 of 16

Table A8.8: CommercialBanks: Structure of the Cost of Intermediation (as a percent of average total assets)

Dec. 31 12 1989 190 1221

Interest Income 5.72 6.08 4.61 6.42

Interest Charges 1.692 .24114-1a2

Interest Margin 4.03 3.96 2.50 3.02

Commissionand Fees 1.04 0.88 0.96 1.00 Foreign ExchangeIncome 0.67 0.56 0.23 0.23 Other Income 0.8Q4 02.262 37

Other OperatingIncome 2.55 2.23 3.45 4.60

Gross Earnings Margin 6.58 6.19 5.95 7.62

PersonnelExpenses 2.70 2.62 2.67 2.96 Other OperatingExpenses 1 27 Total OperatingExpenses 3.79 3.68 3.97 4.23

Net Earnings Margin 2.79 2.51 1.99 3.40

DepreciationAllowances 0.40 0.38 0.43 0.60 Allocationsto Provisions 0.45 0.50 0.34 0.86 GuaranteeFund Contributions 0.20 0.17 0.12 0.20 Other Income (Net) QQ40 .-

Other Operating Charges 1.02 1.00 0.89 1.56

OperatingProfits 1.77 1.51 1.10 1.83

Taxes on Income 1.14 1 03 Lo1

Net Profits 0.63 0.48 0.22 0.43

Sou: Unru&dit bal ahwetud iWcome tatemnu of commurial banka. Average total a*ue refer to the aithnedc avenge of two ruccive end yeor fuz. - 114 - Anne 8-C Page 9 of 16

Table A8.9: 1991Financial PerformanceIndicators of Selected Banks

BACAR BCR BK BRD

ProfitabilityIndicators (Percentages)

Operating Profits/Av. Assets 1.20 2.26 1.62 - Operating Profits/Equity 18.01 43.31 17.96 -

Net Return on Average Assets 0.33 0.49 0.40 - Net Return on Equity 4.98 9.48 4.44 -

Interest Income/AverageLoan Portfolio 11.49 15.79 14.98 12.62 Interest Charges/AverageDebt 5.95 3.37 3.53 5.83

Gross Interest Margin S5 1242" 11U445 7

Allocationsto Provisions/LoanPortfolio 0.20 0.83 1.48 5.24

Net Interest Margin 534 11L2 ml 7 .5L

Portfolio Condition

Total Loan Provisions/GrossLoan Portfolio 5.88 I/ 5.59 8.07 27.00

Total Provisions/Non-PerformingLoans 18.33 92.22 56.23 72.66

I Excludinggma provmo for nib (not available). lg=: Audied Financil Staamma of Ban. - 115 - Annex8-C Page 10 of 16

Table A8.10: CommercialBanks: ProfitabilityIndicators

Return on Shareholders' Funds

AdjustedAverage Profit Profit Shareholders'Funds before Tax after Tax

1988 1,318 32.67 11.57 1989 1,387 28.43 9.02 1990 1,439 20.08 4.03 1991 1,666 30.91 7.32

Return on AverageTotal Assets

Average Profit Profit Total Assets Before Tax After Tax

1988 24,302 1.77 0.63 1989 26,092 1.51 0.48 1990 26,340 1.10 0.22 1991 28,112 1.83 0.43

-s3urc: Balance gxed and income ate_m of comnercial banks. Adjustd average shaeholders' funds refer to the arihmeic average of two successive end year figures, after subtracting dividends distributed to sarholde and payments mado to Board member as their share of profits. Average total asst rotr to the arithentic averag of two successive end year figures. - 116 - Annex 8-C Page 11 of 16

Table Ag.11: Estimated Contributionto GovernmentRevenues from the CommercialBanks j/ (RwF Million)

Source of Revenue

1. Taxes on OperatingProfits 287 278 269 232

2. Income Taxes Paid by Expatriates 123 118 108 124

3. Estimatedtaxes on deposit interests 35..i 22 30 35

Total Revenue: 494 473 455 429

Gross EaningL ManS: 1,567 1,600 1,616 1,555

AverageTotal Assets 22,195 24,302 26,092 26,322

R (%)

GovernmentRevenues/ Gross Earnings Margin 31.52 29.56 28.16 27.59

GovernmentRevenues/ Average Total Assets 2.23 1.95 1.74 1.63

1/ Thee do not refer to all goven t mveme, sno. thdy mciac me toaxespad by th ntionl aff of the bans ad dividends received by the Goveesnit a a bareholdw.They inclde thoe te tht lead, direcly or indircly, to an increa in the cot of itennedistion. 21 Eainated on the assumption that the 20% tax is levied on 50 peumt of intet income of depositor.

Sio: Based on infomation obtained from the indiviual banks. - 117 - Annex 8-C Page 12 of 16

Table A8.12: Banque Rwandaisede Ddveloppement:Audited Balance Sheet (RwF Million)

Dec. 31 1988 1989 1990 1991

ASSETS Cash and Banks 191.20 129.00 134.40 333.80 Other Current Assets I/ 53.79 52.14 98.46 39.10 Term Deposits - - - 250.00

Total Liquid Assets 244.99 181.14 232.86 622.90

Loan Portfolio Principal Outstanding 3,621.43 3,756.73 3,868.68 3,369.47 Interests receivable 206.18 269.94 353.75 387.43

Gross Loan Portfolio 3,827.61 4,026.67 4,222.43 3,756.90

Ls: Provisionson Principal 312.49 191.65 567.60 717.80 Provisionson Interest 118.59 136.36 276.00 297.10 Net Loan Portfolio 3,396.53 3,698.66 3,378.83 2,742.00 Gross Equity Portfolio 674.71 674.71 686.70 690.00 L&es: Provisions 33.11 16.71 21.77 24.24 Net Equity Portfolio 641.60 658.00 664.93 665.76 Net Fixed Assets 445.73 430.93 403.76 383.08 Miscellaneous 0.33 0.33 0.28 0.28

TOTAL ASSETS 4,729.18 4,969.06 4,680.66 4,414.02

LIABIL[ES Total Short-TermLiabilities 1,051.16 959.13 796.75 515.00 Term Debts 1,674.11 1,975.37 2,131.15 2,183.12 ManagedFunds 25.13 44.93 52.17 72.28 Total Medium/LTDebts 1,699.24 2,020.30 2,183.32 2,255.40 Provisionsfor General Risks 139.53 139.88 139.88 140.58 Equity Paid-in Capital 1,120.00 1,120.00 1,120.00 1,120.00 Legal Reserves 86.47 95.68 98.36 98.36 Unrealized Gains 366.86 366.86 365.73 365.73 StatutoryReserves 158.58 193.58 203.58 203.58 Retained Earnings Oosses) 46.05 13.43 (298.37) (364.70) EquipmentSubsidy 7.29 4.17 Equity Funds 1,777.96 1,789.55 1,794.96 1,791.84 GuarantyFund Liabilities 61.28 60.25 64.30 76.89

TOTAL LIABILITIESAND EQUITY 4,729.17 4,969.11 4,680.84 4,414.01

I/ I:luding liquid anos of BR'u ownd nagd Qaamie Fun - 118 - Annex 8-C Page 13 of 16

Table A8.13: Banque Rwandaisede Developpement:Audited Income Statements (RwF Million)

1988 1989 1990 1991

Interest Income 325.90 402.40 445.10 440.20 Interest Charges 119.40 127.40 142.10 167.70

Interest Margin 206.50 275.00 303.00 272.50

Commissionsand Fees 5.70 6.10 4.70 Other Operating Income 58.10 48.30 61.30 21.30

Gross Earnings Margin 270.30 329.40 369.00 293.80

PersonnelExpenses 72.70 80.20 79.60 91.80 Other Operating Expenses 41.60 34.30 36.60 44.90 Subtotal 114.30 114.50 116.20 136.70

Net Earnings Margin 156.00 214.90 252.80 157.10

Allocationsto Provisions 84.40 175.80 520.50 182.70 DepreciationAllowance 24.20 24.00 22.50 21.20

Gross Operating Profit (oss) 47.40 15.10 (290.00) (47.00)

Less: S. G. Fund Contribution (4.7) (1.3) - Previous Losses - (2.2) (9.3)

Net Operating Profit (Loss) j/ 47.40 15.10 (299.30) (66.30)

I/ BRD is tax-excnpt - 119 - Annex 8-C Page 14 of 16

Table AS.14: Banque Rwandaisede Developpement:Financial PerformanceIndicators (in percent except as noted)

Financial Structure Indicators IMi2 12 199i

Total Debt/EquityRatio 1.55 1.54 1.77 Long-termDebt/Equity Ratio 1.05 1.13 1.44

Profitabilit Indicators (Percentages)

Return on Average Assets 0.24 - Return on Equity 0.61 -

Loan Income/GrossLoan Portfolio 10.25 12.28 12.62 Finance Charges/TotalDebt 4.45 4.77 5.83

Gross Spread 5.80 7.51 6.79

Allocationsto Provisions/GrossLoan Portfolio 4.48 14.92 5.24

Net Spread 1.32 (7.51) 1.55

Portfblio Conditio

Total Loan Provisions/GrossLoan Portfolio 8.1S 26.18 27.00

Equity Provisions/EquityPortfolio 2.48 3.17 3.51

IoM: BRD auditedFinancial Statenws - 120 - Annex S-C Page 15 of 16

Table AS.IS: Evolutionof Interest Rates on Bank Loans 1/ (Percent per Annum)

August November June 1990 1990 1992 (8/31)

MaximumRegulated Rates

All Sectors 12.0 19.0 15.0

GovernmentSecurities z (free) Ranze

9.0 to 12.0 by non-bankinginstitutions I/

14.0 to 15.0 by banks

12-MonthDeposit - 12.0 9.0

RediscountRate 14.0 14.0 11.0

I/ Excluding condition for refinmncai of coffee and t expos, which were detrmined sepately uuti 1991. i/ 5-year development bonds and 6-monh Treasy bills 2/ Chiefly CSR (social ecurity fund) nd insunnce conmanies.

Sou: BNR. Table A8.16: Term Deposit interest Rates Jj (percentper annum)

July 1, 1987- September 1, 1990- August30. 1990 November 11. 1990 November 12. 1990 December I9 June 1992 (8/31)

RMIuated UuMfglated

1 month 3.00 3.00 7.50 7.50 - 3.00 2/ 5.35 yI 5.00 y/

3 months 3.50 3.50 8.75 8.00 - 5.00 4.60 8.00

6 months 4.00 4.00 10.00 10.00 - 6.00 8.49 8.00

12 months 4.50 6.00 12.00 12.00 9.00 9.00 11.99 10.00 regulated z, over 12 months, free

I/ Go rate. inebuive of 20 peauaa ieiome tax on dividends and itera weemiea.s _t 12-mouth deiok rte ane r tpedaJ id at mini fixed by BNR sine November 1990. All other deposi rates for depouits below, and over 12 monwthar frely negotiatd. 2/ Actul rntes appEed.

~: BNR and Banque de Kigal.

a'i o x

-I 0'c) - 122 - Annex 9 Page 1 of 2 IWAND REUJBIC

PRIVATE SEC1Y)R DEVELOPMENT PROJECT

Support to the Ministra of Commerce and Industry

Outline of the Terms of Reference

I. Introduction and Global Context

1. The support will includefinancing for:

- long- and short-term, local or international,experts; - specialized training; - office equipment.

HL Objectives

2. Provide the Ministryof Commerceand Industry with the means to coordinateand ensure proper implementationof actions aimed at helping the private sector. This will include inter alia helping the Ministry to:

- conceptualize, prepare, implementand follow-up the agreed private sector developmentstrategy, identifynew constraints and enhancethe strategy.

- Internalizeand keep abreast of information,issues, and actions related to the private sector by keeping appropriate documentationon studies and donor actions.

- Enhancethe quality and the depth of the dialogue with the private sector.

m. Specfic Tasks

Implementin2the Private Sector DevelopmentStrategy

3. At first the primary priority will be to ensure timely and effective implementation of the reform program agreed to during negotiationsand outlined in the policymatrix. As these objectives are attained new elements of the strategy should be identified and the appropriate reform measures proposed and implemented. In particular the team of long term consultants should:

- help ministerial staff prepare the required documentationand background documents to specify the modalitiesof the policy reforms, ensures that the appropriatemeasures are taken, and assess their impact.

- Advise the Minister of any delays, shortcoming in implementation,and problems encounteredand propose solutions. - 123 - Annex 9 Page 2 of 2

- Recommendhow the strategy shouldevolve once all the agreed measures are implemented,particularly during and after Mid-term review.

GainingKnowledge About the Private Sector

4. The team of long term consultants should within about one year of credit effectivenessundertake the effortsnecessary to gain a better understanding,primarily on the basis of existingdocuments, of the private sector's structure, performance,issues and constraintsby:

- compilinga comprehensivelibrary and bibliographyof all studiesand surveys related to private sector activities in industry and services, as well as compiling all economic, legal and regulatory texts with an impact to the business environment.

- Create a database containingthe available statistics and the aforementioned bibliography.

- Adopt appropriate mechanismsto engage the private sector in an effective dialogue, receive and answer their complaints, and if required propose solutions which can be adopted with the help of the Government or internationaldonors.

Monitoringand coordinationof donor activities

5. To ensure that the Ministry is informed of donor activities and is given an opportunityto provide appropriate inputs into such efforts, drawing on the lessons from past experience, the team of consultantsshould:

- collect and analyze all relevant information concerning donor initiatives, includingappraisal, supervision,restructuring and completionreports. Such informationwould be entered in the aforementioneddatabase.

- Assessthe impactof each initiative,its shortcomingsand achievements,on the basis of documentsprovided.

- Be actively involved in a dialogue with donors so as to ensure that to the extent possible lessons from the past are incorporatedin the design of new operations and that unnecessaryduplication of efforts is avoided.

- Propose new initiatives and studies.

Training the Ministerialstaff

6. Training will be provided in part on the job by the consultants who will be expectedto ensure that ministerialstaff are conversantwith what they are doing and can before the end of the project take over the functions temporarily provided by experts financed by the project. In addition, a specifictraining program to be provided by specialistswill be developed for ministerialstaff whose educationalbackground and experience meets the minimum that is required for their benefitting from the training. - 124 - Annex 10 Page 1 of 1

RWANDESEREPBIC

PRI[VATESECITOR DEVELOPMENTPRlC

Selected Documents and Data available In the Project file

1. Rwanda: Public Enterprise Sector Review Pager. Staff Report, Susan Goldmark (AFTPS),December 9, 1988.

2. Cadre Administratif et RdglementaireEtude de Simplificationdes Procedures. Euro Africaine do Conseil, Nguyen Tu Son, February 1992.

3. La legislation du Travail et le Marche du Travail au Rwanda. Paul-Martel Ray, Consultant,May 1992.

4. Rwanda: The ManufacturingSector: Performance and Policy Issues. Staff Report, Eastern and SouthernAfrica Projects Department,July 10, 1985.

5. Crio: Mission a la B.R.D. Rapport. ConsultantReport, December 1992.

6. The InvestmentClimate and Operatine Environmentfor Private Enterprise in Rwanda. United States Agency for InternationalDevelopment, Micheline Mescher, September 1987.

7. Obstacles au Developpement du Secteur Prive au Rwanda. Kalinijabo Charles, Consultant,Ministry of Finance and Economy, September 1988.

8. Etude sur le DdveloDpementdu Transport Aerien au Rwanda. RepubliqueRwandaise Ministbredes Transports et des Communications,June 1988.

9. Analyse Financiere et Fiscale des Societes au Rwanda. Case Study, Chamber of Commerce of Rwanda, May 1989.

10. Rwanda: Etude prospectivedes problemes fiscaux et douaniers. Report, Departmentof Public Finances, March 4, 1991

11. ADDuiau Ministeredu Commerce. de l'Industrie et de l'Artisant.

12. Accord de Participation. - 125 - Annex 11 Page 1 of 1

RWANDESEREPUBLIC

ERIVA11SECTOR DEVELjOPMENTPROJEC

Scheduleof Disbursements (USS,000)

IDA Fiscal Year and APEX PSSF Institutional Total Quarter Ending Strengthening

EX2

March 31, 1994 250 160 240 650 June 30, 1994 500 280 480 1,260 EX29 Sep 30, 1994 750 450 600 1,800 Doc 31, 1994 1,100 620 720 2,440 March 31, 1995 1,450 790 840 3,080 June 30, 1995 1,800 960 960 3,720 En9

Sep 30, 1995 2,150 1,130 1,080 4,360 Doc 31, 1995 2,500 1,300 1,200 5,000 March 31, 1996 2,850 1,470 1,320 5,640 June 30, 1996 3,200 1,640 1,440 6,280 EY9

Sep 30, 1996 3,550 1,810 1,560 6,920 Dcc 31, 1996 3,900 1,980 1,680 7,560 March 31, 1997 4,250 2,150 1,800 8,200 June 30, 1997 4,600 2,320 1,920 8,840 E12

Sep 30, 1997 4,950 2,490 2,040 9,480 Jan 01,1998 5,300 2,660 2,160 10,120 March 31, 1998 5,650 2,750 2,250 10,650 June 30, 1998 6,000 11,000 E12

Sep 30, 1998 6,350 11,350 Jan 01, 1999 6,700 11,700 March31, 1999 6,900 11,900 June 30, 1999 7,000 12,000 - 126 - Annex 12 Page 1 of 2 RWANDESEREMU

PRIVATE SECTOR DEVELAPMENT PROJECT

Bank Supevision into Kea Activities

Approximate AiAtv ExpectedSkills (SW)

October 1993 Supevision Mission - (a) finaliation of project implementing Operations Officer (2) arrangements, schedule, staffing and consultancy requests for PSSF and Ministry of Commerce and Industry; (b) launching studies for Lawyer (2) Tribunal of Commerce; (d) follow up on conditions of effectiveness and disbursements.

January 1994 Sunenision Mission - (a) follow up on conditions of effectiveness Operations Officer (2) and/or disburement, and project implementation; (b) first review of progrsa in regulatory reforms for enterprises, in financial sector Financial Sector reforms and leglp studies and reforms; (c) review the DPM's Specialist (1) organization and procedures for APEX (d) T.A. for Tribunal of Commerce ; (e) organization trmining in procurement. Disbursement (2)

May 1994 Sunervision Mission - (a) Assessment of PSSF and Ministry of Operations Officer (2) Commerce and Industry functioning, preparation of reporting and auditing rangements; (b) selectioncriteria for environmentalimpact Economist(1) test of subprojects and review of environmental regulations; (c) review progrwion policy implementation, particularly the implementationof the agreedtax reforms.

August 1994 Supvsion Mission - Review progress (a) in implementationof air OperationsOfficer (2) transport regulations and privatization of Air Burundi; (b) in implementation of legal reforms and studies; (c) assessment of Lawyer (2) expatriate consultantrequirenents for PMU and PCU (d) assessment of demand under the credit component; (e) review of progress under InstitutionalExpert (2) institutional strengthening and PSSF components and donors' contributionsand plans.

November Suervision Mission - Review progress on (a) procurement and Operationsofficer (2) 1994 disbursements;(b) draft proposals of proposed reforms subjected to dated covenants;and (c) review PSSF's first operationalaudit. Economist(2)

Lawyer (2)

Procurement(1) March 1995 SugWrvisionMision - Review implementationof dated covenants. OperationsOfficer (2) Ases PSSP's first year in operation. Preparation of detailed terms Economist(2) of reference, staffingand cheduleof execution of Mid-Term Review of project implementation. Reviewof project implementation. Lawyer (2) -127- Annex 12 Page 2 of 2

July 1995 Joint Bnk/Govenmnt Mid-Term Review of Progress in Project OperationsOfficer (2) Implementation Lawyer (2) Financial Sector Specialist(2) Disbursement(1) September Supervido Mision - Presentationand review of issues, conclusions OperationsOfficer (2) 1995 and recomnendationsof Mid-TermReview. Preparation of follow-up action plan and implementingcalendar. Lawyer (2)

Consultant(2)

January 1996 Suporvion Misdon - Follow up of Mid-Term Reviewaction plan and OperationsOfficer (2) revised policy matrix. Review of progress in project implementation and other reforms and sudies. Industrial/Regulatory Economist(2)

July 1996 Survision Mission - Review of progress in project implementation OperationsOfficer (2) and of outstandingissues. Lawyer (1) 3January 1997 !Supervision Mission - Review of progres in project implementation. OperationsOfficer (2) Consultant(2)

July 1997 Suprvsion Misdon - (u above) OperationsOfficer (2)

Lawyer (1)

February Suprvsion Missi - (a above) OperationsOfficer (2) 1998 September Suviso Minio - (as above) OperationsOfficer (2) 1998 Lawyer(1) June 1999 Suorvision Minion - PCR prepartion OperationsOfficer (2) - 128 - Annex 13 Page 1 of 6

RWANDESE REPUBLIC

pRIVATE SECTOR DEVELOPMENT PROJECT

Survey of Consultancy Funds

I. Background

1. ThePSSF componentproposed herein isthe latest in a growing series initiatives,not only in World Bank fimded projects but also some which are sponsored by other donors or governments, containing a componentwith a fund which subsidizespart of the cost of expert advice to the private sector. In such approaches, private entrepreneursare encouragedto take the initiativeof hiring private managementconsultants to help them become more efficient and competitive, and thus invest and grow. At first, these funds primarily targeted export oriented firms, as part of an export developmentproject, and replaced the previous model of creating public sector promotion agencies which, except for rare exceptions,were proven to be ineffective.'

2. During the past few years, it has been increasinglyrecognized that, particularly in the least developedcountries, the private sector as a whole would benefit from improved practices. Pilot programshave thus been developedduring the past few years that with significantlybroader scope. Such schemes tend to be open to all types of firms, particularly small- and medium-enterprisesas well as private sector associations. More specializedfunds, for exporters or aimed at encouragingtechnological acquisition, are thus promotional tools adopted by the governments of more advanced economies, includingin a number of industrializedcountries.

3. All of these programs, be they in Asia, SouthAmerica, Africa or Europe, includingthose reviewed below or others sponsored by different donors or governments, have in common that they recognize the importance of the entrepreneur's initiative as a key to success. Rather than offering a predeterminedrange of expertisethey leave it to the entrepreneursto define their needs. Moreover, all of these schemes rely on the private sector to deliver the services and insist that the recipients pay a significantportion of the costs. A numberof Bankfinanced funds are reviewed below and the PSSF has been designeddrawing on the lessons of their success and identified shortcomings.

Th fWm of public edor agens andthe jutifiaoa and cownaptu frmwork for a priva ector approah, so " to esne owneshipby the tagd beneficiri, an dissed in a report publishedby EDI in 1991, by Hoan, Keesingand Singer, and ertided 'the roleof mport servcesin expndingmanufactured expors in developingcounbies.' - 129 - Annex 13 Page 2 of 6

II. Selected World Bank Exoerdence

Case 1 - South Asia

Project1

4. One of the earliest schemes sponsored by the Bank was a 1985 industrial and export project which containedtwo consultancyfunds: the Export MarketingFund and the ProductivityFund, each of US$10million. The Export MarketingFund intendedto support engineeringproducts with a high export potential. Such activities as market research, product adaptation, travel, training and travel to India by potential buyers would be eligible for a subsidy of up to 50 percent of total costs. The ProductivityFund targeted firms with export prospects and would finance up to 50 percent of the cost of consultancies in productivity and quality improvement. Individual firms, groups of firms and engineeringassociations could apply and a single project could receive up to US$200,000in subsidy.

5. Both funds were managedby banks who maintaineda roster of consultants and kept the permanentstaff managingthe funds to a minimum. Each fund was supervisedby a steering committee composedof representativesfrom the Governmentand the privatesector. Perhaps the biggest innovation was that the approval procedures were kept as simple as possible with much of the authority left to the managementteams. The respectivesteering committeesretained the right to approveproposals involving more than US$50,000 in the case of the Export Marketing Fund, and more than US$100,000with the ProductivityFund.

6. The project was completedin 1992, two and a half years later than foreseen. During the start-up phase, the project ran into considerable delays caused primarily by difficulties in designing appropriateprocedures, finding qualifiedstaff, and governmentrestrictions on obtainingforeign currency to fund foreign consultantsand travel abroad. Oncethe Governmenteased these restrictionsin mid-1987, the rate of grant commitmentaccelerated. In the course of the project both funds relaxedtheir eligibility criteria somewhatwhich further increasedthe interest in the project.

7. By project completionthe 2 funds had financed359 grants to 292 firms totallingUS$16 million, which representeda disbursementrate of 80 percent. The project was nonetheless considered a success. The recipientsof the Export Marketing Fund and the ProductivityFund reported on average an annual export growth of 68 percent and 48 percent respectively. Both percentagesfar exceededthe national average. Other positive effects that were noted among the recipient firms included an increase in capacity utilizationrates, a reductionin rejection rates and in general, a more sharpenedfocus on the need to improve efficiency and become more responsiveto the demands of foreign customers. The Project CompletionReport concludedthat this change in thinking could well prove to be of critical importanceto the long term competitivenessof the recipient firms.

8. The experiencewith the aboveproject was incorporatedin the designof the 1989 ongoing export developmentproject. This project includes 4 consultancyfunds totallingUS$20 million. A wide range of activitiesare eligible for a support of up to 50 percent provided they form part of an approved export development plan. An export development plan is expected to cover three phases: market exploration, product adaptation and sales promotion. Activitieseligible for support include: desk and - 130 - Annex 13 Page 3 of 6 field market research, product redesign, overseas travel, product inspection services, training, consultanciesand travel to the country by potential buyers. Not more than one export expansion plan per firm can be financedand the cumulativegrant support cannot exceed US$500,000.

9. The two original banks each continuedto manageone fund, and the other two funds are managedby two commercialbanks. Again, the approval procedures are kept to a minimum and each bank is expected to set up a separate internal unit staffed by a small number of export development specialiststo manage the program.

10. At the time of this writing, it is not yet clear how well the new project is performing. Experiencehas shownthat it is difficult to designobjective criteria for success for this type of assistance. Each fund is expectedto generate incrementalexports of at least ten times the total value of the grant support. Experience with the first project would indicate that the recipient firms will safely exceed this target, but these indicatorsare clearly affected by other factors such as governmentpolicies, company management,and general economicconditions, all of which may contributeto improved performanceas well. Nevertheless, the beneficiaries'performance is expectedto exceed that of its local competitors.

Case 2 - East Asia

Ewject I

11. An export developmentproject, started in 1986, providedon a trial basis US$7.9 million for an export support fund. This fund was intendedto promote non-oil exports by subsidizingfour types of activities:all aspectsof export marketingand productionmanagement; firm specifictraining; technical assistanceto organizationsservicing the export community;and small equipmentpurchases. Firms with export potential and profit-makingexport organizationscould qualify for a subsidy of up to 75 percent and non-profitorganizations for a subsidyof up to 100 percent. Total supportfor a single proposalcould go as high as US$300,000.

12. The fund was managedby the Export SupportBoard (ESB), an autonomousbody whose chairman and a majority of its members would be recruited from the private sector. The ESB was usisted by a small secretariat, five project officers and two senior technical advisors. The entire staff was recruited from the private sector and paid private sector salaries. The secretariatwas to maintain a list of eligible service suppliers and establish a range of acceptablefees. The intentionwas that after three years the private sector would be encouragedto take over the managementof the fund on a self- financingbasis.

13. At project completionin 1991, ESB had signed 308 contracts, assisting 186 companies and 20 export support organizations. Ihis project also experienced considerable delays which were causedby an applicationapproval process that proved muchslower than expected. At project completion, only 68 percent of the funds originally committed had been disbursed. With simplified approval proceduresand more clearly definedresponsibilities, it was reckonedthat each project officer could have concludedan average of 4 contractsper month comparedto their actual monthlyrate of 2.5 contracts.

14. Otherwise, this project was considered to be a success. A sample of recipient firms reported that the value of their exports had increased 14.3 times the total cost of the assistance. Consultancieson how to increase productivity, improve product quality and install better accounting - 131 - Annex 13 Page 4 of 6 systemswere found to be particularlyuseful. Nevertheless,a majority of the firms interviewedobjected to the idea of having to pay full price for the services and at project completionit was unclear whether the scheme could be continuedon a self-sustainingbasis.

Project 2

15. Experience with the above was continuedin 1989 with a small and medium industrial enterpriseproject. This project is essentially a credit program but contains as one of its componentsa US$13.6million consultancyfund. The project targets small and medium-scalemanufacturing and agro- processing enterprises and the fund supports such activities as feasibility analyses, business plans, loan applications,market research, production analyses and managementaudits. The project funds up to 60 percent of the costs with a maximumof US$10,000per assignment.

16. The fund is managed by a newly created Technical Assistance Unit (TAU) which is lodged in a banking developmentinstitute which is generally consideredto be a strong, autonomousand neutralinstitution. This unit maintainsa roster of approvedservice supplierswhich includesgovernment institutes,universities, NGO's and private firms.

17. As was the case with the other projects, this fund ran into considerabledelays at the outset and operationsdid not effectivelycommence until almost one year after effectiveness. TAU has been criticizedfor its low approval rate, sometimestaking as much as 9 monthsto process an application. But procedureshave been improved and at the current approval rate of 20 applicationsper month, it is expectedthat the target of 520 interventionswill be met by project completionin 1993.

18. Perhaps not surprisingly,since the consultancyfund is an integralpart of a credit project, most of the consultancieshave involved feasibility studies. But following mixed feed-back from the recipients on the usefulness and value of feasibility studies, TAU has started to emphasize technical assistanceon other subjectssuch as marketing, accountingand productionmanagement. There are clear indicationsthat the fund is meeting a pent-up demand since TAU continues to receive requests even though the credit line has been exhausted. It is expected that a follow-up project would include a technicalassistance component that would be patterned after the current one.

Case 3 - Latin American

19. In 1990, US$4.8 million technical assistance fund was included as part of a private enterprisedevelopment project. This fund is intendedto provide assistance to groups of entrepreneurs or individualfirms and private sector institutions. Grants would finance consultingservices, equipment purchase, study trips, preparationof studies and training programs. Each beneficiary receives a non- reimbursablecontribution of up to 80 percent of the costs of the activity.

20. Over the three years of the project, the fund plans to assist 450 firms and prepare at least 30 investmentprofiles. In addition, the fund would: organize 80 technicalassistance seminars reaching 1600 entrepreneurs; develop publications, training materials and market studies; organize study trips; provide assistance to private sector institutions that intend to restructure themselves; and provide managementtraining, in particular to women entrepreneurs. - 132 - Annex 13 Page 5 of 6

21. The central bank financosUS$1.4 millionout of the total budgetof US$4.8 million from the fee it earns on a US$14 million IDA credit line. The balance is fundedby a US$2 million loan from IDA, contribudonsfrom beneficiariestotalling US$0.5 million and the US$0.9 million proceeds from a surcharge to the users of the credit line.

22. As was the cue with the consultancyfunds reviewed above, this fund has been designed to be demand driven and to avoid as much as possible the establishmentof new bureaucratic structures. The fund is therefore administered by an existing unit within the central bank. Two long-term internationalconsultants have been contractedto assessproposals, verify expendituresand administerthe fund's financial resources.

23. Indicationsare however, that the institutionallocation of the fund within the CentralBank has not been conduciveto an efficient operation of the scheme. Preliminary conclusions have also pointed out the need for good accountingand auditing systemsto combat the potential for fraud which this type of assistanceevidently entails. Althoughthe impactof the assistancehas not yet been assessed, the demand for it is clearly exceedingthe available funds. So much so that means are currently being explored of transferring some of the funds of the credit line, which is experiencing a disappointing demand, to the technicalassistance fund.

Case 4 - Recent African Experience

Qjl1

24. In 1991 the concept of the consultancyfund was introducedin East Africa as part of an export development project. This project includes on a pilot basis for two years a US$3.6 million technical assistancefund which is patterned after the aforementionedconsultancy funds in Asia.

25. Prior to this project, the Ministryof Commerceran a program to assist exporters which includedtrade fairs, publicitycampaigns, information services and training. The program was generally consideredto be ineffectivebecause of budgetary constraints, its bureaucratic orientation and lack of accountabilityto the private sector. Moreover, the range of skills that are required to design, produce and marketexport qualitygoods was not availablewithin such a single source and the private sector was consideredas more effective in providing these services.

26. Hence, the grant scheme finances the provision of consultancyservices from competing privatesector sources. Servicesthat would qualify include:market research and exploration,product and packagingdesign, product inspectionand qualitycontrol systems, cost reductionmethods, travel, training, pre-investmentstudies, and establishingdistribution and seling operations in export markets. The fund subsidizesup to 50 percent of the costs of an agreed upon enterpriselevel export developmentprogram. It was expectedthat grants would averageUS$10,000 and that the fund would support 140 interventions during the 2-year period.

27. The fund is administeredby a 2-person staff and is lodged at a commercialbank. The Government is expected to contribute US$0.2 million in local operating costs, beneficiaries would participatefor US$1.4 millionand the remainderUS$2 million would be lend to the Governmentby IDA. - 133 - Annex 13 Page 6 of 6

28. Althoughthe fund was expectedto support 140 interventionsduring a 2-year period, by August 1992, only 4 grants had been executed. The fund did experiencesome difficultiesin establishing appropriateprocedures but the delay was primarily causedby the failure of the Governmentto implement agreed upon policy changes to facilitate exports.

Proect 2

29. In late 1992, a private sector assistance project in a West African country proposed a US$8.9 million consultancyfund. This fund would support private enterprises includingservice firm and would financeup to 75 percent of the costs of training and consultingassignments. Firms would be eligible for a maximumof two interventionsand a cumulativesubsidy of US$60,000.

30. The fund will be administeredby a newly created non-profit professionalassociation of private business people. The fund would be governedby a board composedof representativesfrom the local banks and private sector organizations. - 134 - Annex 14 Page 1 of 2

RWANDESE REPUBLIC

PRIVATE SECTORDEVELOPMENT PROJECT

Action Plan for Bangue Rwandaisede Developpement

1. A detailed independentspecial audit of BRD's loan and equity portfolio, was undertaken in November 1992, by a team of three experienced,professional consultant bankers hired by IDA, with financingfrom a Japanesegrant. This audit, covered 85 percent of the portfolio outstanding,which was thus classifiedinto five categoriesaccording to increasingrisks of losses and degree of interest earning performanceand capacity. The current 1991 audit, as well as previous audit reports of BRD's financial statementsdid not go into such details and coverage, and are therefore less reliable sources to measure realisticallyBRD's portfolio performancefor the purpose of the static analysisbelow. The conclusions of this special loan and equity portfolio audit is that, as of end 1992, BRD's loan and equity portfolio is under-provisionedby RwF370 million (US$2.8million).

2. On the basis of the foregoing portfolio analysis, and an estimationof the performing loans, defined stricto-sensuto exclude all non-performingloans and those expectedto become fully non- performing. A zero-basedbudgeting exercise was also undertakenby the consultantsto determine and forecast (a) the interest earning capacity, ceteris-paribus,of BRD; and (b) the ensuing sustainable,and downsized, operating capacity and structure to generate profits while managing the reduced, but performing loan portfolio amountingto RwF2,089 million (US$15 million, equivalentto 62.5 percent of the gross loan portfolio outstanding). In this regard the consultantsundertook a detailed evaluation and appraisalof BRD's operational, lending, and financial capacities,including a review and analysisof its cost of intermediation,and margins of profits, organizationalstructure and procedures, staffing and lending policies and strategies. The conclusions and recommendationsof the study were reviewed by BRD and agreed during negotiationsfor implementationas a conditionof eligibilityof BRD under the line of credit componentof the project. The consultants' recommendations,which are detailed and numerous, include, inter alia, the followingactions grouped into three major headings:

A. Human Resources

(i) Restructuringand downsizingof the operational and managerialorganization to reduce costs, increase accountability,and improve efficiency. Priorities include (a) reinforcing the Litigation and Legal division; (b) strengthening of the Inspectiondepartment; and (c) adopting a monitoringsystem for new operating budgets, treasury operations, and so on.

(ii) Evaluation of jobs, staff competencies and aptitudes for retraining and reassignment;reclassification and decreaseof the number of staff by 41, from the current 107 to 66, thus generatingsavings of RwF35 million a year.

(iii) Immediate closing of BRD's three banking branches in Butare, Giseny and Gikongoro, and reassignmentof their 10 professionalstaff to headquarters(these brancheshaving treated less than 15 loans, and generatingheavy overhead costs with no profits). - 135 - Annex 14 Page 2 of 2

(iv) Preparation of a Staff Reconversion Plan for the 41 persons expected to be reclassifiedas redundant.

B. Risk Managementand Provisions

(v) Revisionof lending criteria, limits and procedures.

(vi) Reinforcementof the legal division and of loan administrationand supervision.

(vii) Revision of loan classificationby risk categories and of provisions policies; implementationof the recommendedRwF370 million, in additionprovisions over 3 years.

(viii) Ensuring a minimumbank intermediationmargin of 7 percent, and maintaining for at least 5 years, the income tax exemption regime already granted by the Governmentto the BRD in order to allow the institutionto provision adequately its riskcs, and remunerate its capital; the current 6.5 percent intermediation margin does not allow for such a policy.

C. BudgetingControl and Programming

(ix) Developmentof new programming, budgeting and budget monitoring systems and procedures.

(x) Preparation of a 3-year Budget, showing the financial impact at the various measures of the Action Plan.

(xi) Preparing terms of reference and work program for a computerizationmaster plan with a view to creating a universal system based on a more systematic 'client-indexing' rather than on an 'operation-indexing' software; such client based bank software are more flexible and have a wider coverageof accounting operations that are necessary, in commercial banking activities in particular. This would ease BRD's possible future transitionfrom pure investmentlending to a full service commercialbanking institution.

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