For Official Use Only

Document of The World Bank

FOR OFFICIAL USE ONLY

Public Disclosure Authorized Report No: PAD911

INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

PROJECT APPRAISAL DOCUMENT

ON A

PROPOSED LOAN

Public Disclosure Authorized IN THE AMOUNT OF US$60 MILLION

GEORGIA

FOR A

TRANSMISSION GRID STRENGTHENING PROJECT

April 18, 2014 Public Disclosure Authorized

Sustainable Development Department South Caucasus Country Unit Europe and Central Asia Region

Public Disclosure Authorized

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

CURRENCY EQUIVALENTS

(Exchange Rate Effective April 15, 2014)

Currency Unit = GEL GEL 1.75 = US$1

FISCAL YEAR January 1 – December 31

ABBREVIATIONS AND ACRONYMS

ADB Asian Development Bank IFRS International Financial Reporting Standards AGL Adjaristsqali Georgia Limited Liability Company IPF Investment Project Finance BSTN Black Sea Transmission Network IPSAS International Public Sector Accoutering Standards CPAR Country Procurement Assessment Report IRR Internal Rate of Return CPS Country Partnership Strategy KfW Kreditanstalt für Wiederaufbau CQS Consultant Qualification Selection kV Kilo Volt CSPA Competition and State Procumbent Agency LCS Least Cost Selection DA Designated Account MIGA Multilateral Investment Guarantee Agency EBRD European Bank for Reconstruction and Development MO Market Operator ECA Europe and Central Asia MOE Ministry of Energy EHS Environment Health and Safety Specialist MOU Memorandum of Understanding EIA Environmental Impact Assessment MW Mega Watt EIB European Investment Bank MWh Mega Watt Hour EMP Environmental Management Plan NGO Nongovernment Organization ENPV Economic Net Present Value NPV Net Present Value ERR Economic Rate of Return PDO Project Development Objective ESCO Electricity Sector Commercial Operator POM Project Operations Manual ESIA Environmental and Social Impact Assessment PP Procurement Plan FBS Fixed Budget Selection PRAM Procurement Risk Assessment and Management FIRR Financial Internal Rate of Return QCBS Quality and Cost Based Selection FMM Financial Management Manual RAP Resettlement Action Plan FY Fiscal Year ROW Right of Way GDP Gross Domestic Product RPF Resettlement Policy Framework GSE Georgian State Electrosystem SCADA Supervisory Control and Data Acquisition GVA Giga Volt Ampere SDS Social Development Strategy GW Giga Watt SESA Strategic Environmental Social Assessment GWh Giga Watt Hour SS Substation HPP Hydropower Plant SSS Single Source Selection IBRD International Bank for Reconstruction and Development TGSP Transmission Grid Strengthening Project ICB International Competitive Bidding TL Transmission Line IDA International Development Association TOR Terms of Reference IFC International Finance Corporation USAID Unites States Agency for International Development IFR Interim Financial Reports WB World Bank

Vice President: Laura Tuck Country Director: Henry G. R. Kerali Sector Director: Laszlo Lovei Sector Manager: Ranjit J. Lamech Task Team Leader: Joseph Melitauri

TABLE OF CONTENTS

Page

I. STRATEGIC CONTEXT ...... 1 A. Country Context ...... 1 B. Sectoral and Institutional Context ...... 3 C. Higher Level Objectives to which the Project Contributes ...... 5

II. PROJECT DEVELOPMENT OBJECTIVE(S)...... 5 A. PDO...... 5 B. Project Beneficiaries ...... 5 C. PDO Level Results Indicators ...... 6

III. PROJECT DESCRIPTION ...... 6 A. Project Components ...... 6 B. Project Financing ...... 7 C. Lessons Learned and Reflected in the Project Design ...... 7

IV. IMPLEMENTATION ...... 8 A. Institutional and Implementation Arrangements ...... 8 B. Results Monitoring and Evaluation ...... 8 C. Sustainability...... 8

V. KEY RISKS AND MITIGATION MEASURES ...... 9 A. Risk Ratings Summary Table ...... 9 B. Overall Risk Rating Explanation ...... 9

VI. APPRAISAL SUMMARY ...... 9 A. Economic and Financial Analysis ...... 9 B. Technical ...... 11 C. Financial Management ...... 12 D. Procurement ...... 13 E. Social (including Safeguards) ...... 13 F. Environment (including Safeguards) ...... 14 G. Other Safeguards Policies Triggered ...... 16

Annex 1: Results Framework and Monitoring ...... 20

Annex 2: Detailed Project Description ...... 22

Annex 3: Implementation Arrangements ...... 26

Annex 4: Operational Risk Assessment Framework (ORAF) ...... 40

Annex 5: Implementation Support Plan ...... 48

Annex 6: Economic and Financial Analysis ...... 51

MAP IBRD 40799

. PAD DATA SHEET Georgia Transmission Grid Strengthening Project (P147348) PROJECT APPRAISAL DOCUMENT

. EUROPE AND CENTRAL ASIA

Report No.: PAD911

. Basic Information Project ID EA Category Team Leader P147348 A - Full Assessment Joseph Melitauri Lending Instrument Fragile and/or Capacity Constraints [ ] Investment Project Financing Financial Intermediaries [ ] Series of Projects [ ] Project Implementation Start Date Project Implementation End Date 14-May-2014 01-Jun-2019 Expected Effectiveness Date Expected Closing Date 13-Sep-2014 31-Mar-2019 Joint IFC No Sector Manager Sector Director Country Director Regional Vice President Ranjit J. Lamech Laszlo Lovei Henry G. R. Kerali Laura Tuck

. Borrower: Ministry of Finance Responsible Agency: Ministry of Energy Contact: Mariam Valishvili Title: Deputy Minister Telephone No.: Email: [email protected] Responsible Agency: Georgian State Electrosystem Contact: Sulkhan Zumburidze Title: Chairman of the Board Telephone No.: (995-32) 251-0202 Email: [email protected]

. Project Financing Data(in USD Million) [ X ] Loan [ ] Grant [ ] Guarantee [ ] Credit [ ] IDA Grant [ ] Other Total Project Cost: 61.88 Total Bank Financing: 60.00 Financing Gap: 0.00

Financing Source Amount Borrower 1.88 International Bank for Reconstruction and 60.00 Development Total 61.88

. Expected Disbursements (in USD Million) Fiscal 2014 2015 2016 2017 2018 2019 0000 0000 0000 Year Annual 0.00 5.00 10.00 15.00 20.00 10.00 0.00 0.00 0.00 Cumulati 0.00 5.00 15.00 30.00 50.00 60.00 0.00 0.00 0.00 ve

. Proposed Development Objective(s) The project development objectives are to provide reliable power transmission to the southwestern part of the grid, upgrade electricity exchange systems, and provide economically efficient, environmentally and socially sustainable electricity sector planning.

. Components Component Name Cost (USD Millions) Component 1. Transmission System Strengthening 52.35 Component 2. Wholesale Power Exchange Systems 6.00 Component 3. Strategic Environmental Social Assessment 1.00 Component 4. Project Management and Transmission 0.50 Systems Studies

. Institutional Data Sector Board Energy and Mining

. Sectors / Climate Change Sector (Maximum 5 and total % must equal 100) Major Sector Sector % Adaptation Mitigation Co-benefits % Co-benefits % Energy and mining General energy sector 100 Total 100 I certify that there is no Adaptation and Mitigation Climate Change Co-benefits information applicable to this project.

. Themes Theme (Maximum 5 and total % must equal 100)

Major theme Theme % Trade and integration Export development and competitiveness 100 Total 100

. Compliance Policy Does the project depart from the CAS in content or in other significant Yes [ ] No [ X ] respects?

. Does the project require any waivers of Bank policies? Yes [ ] No [ X ] Have these been approved by Bank management? Yes [ ] No [ X ] Is approval for any policy waiver sought from the Board? Yes [ ] No [ X ] Does the project meet the Regional criteria for readiness for implementation? Yes [ X ] No [ ]

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

. Legal Covenants Name Recurrent Due Date Frequency Institutional Arrangements X Description of Covenant The institutional arrangements are in place as set forth under the Section I.A of Schedule 2 to the Loan Agreement and the Section I.A of the Schedule to the Project Agreement Name Recurrent Due Date Frequency Subsidiary Agreement X Description of Covenant Subsidiary agreements are in place as set forth under the Section I.B of Schedule 2 to the Loan Agreement and the Section I.B of the Schedule to the Project Agreement Name Recurrent Due Date Frequency

iii

Safeguards X Yearly Description of Covenant Safeguards provisions are implemented as set forth under the Section I.D of Schedule 2 to the Loan Agreement and the Section I.C of the Schedule to the Project Agreement Name Recurrent Due Date Frequency Financial Covenants: X Description of Covenant Financial Covenants are met as set forth under the Section IV of the Schedule to the Project Agreement

. Conditions Source Of Fund Name Type IBRD Subsidiary Agreement Effectiveness Description of Condition The Subsidiary Agreement has been executed by the Ministry of Finance, Ministry of Environment and Natural Resources’ Protection and the Ministry of Energy on behalf of the Borrower and the Project Implementing Entity Source Of Fund Name Type IBRD Operational Manual Effectiveness Description of Condition The Project Implementing Entity has submitted to the Bank the Operational Manual in form and substance satisfactory to the Bank Team Composition Bank Staff Name Title Specialization Unit Arturo S. Rivera Lead Energy Specialist Lead Energy Specialist ECSEG Joseph Paul Formoso Senior Finance Officer Finance Officer CTRLA Deepal Fernando Senior Procurement Procurement Specialist ECSO2 Specialist Darejan Kapanadze Senior Environmental Environmental Specialist ECSEN Specialist Joseph Melitauri Senior Operations Team Leader ECSEG Officer Jasna Mestnik Finance Officer Finance Officer CTRLA Galina Alagardova Financial Management Financial Management ECSO3 Specialist Specialist Jorge E. Villegas Senior Social Social Development ECSSO Development Specialist Specialist Katsuyuki Fukui Sr Power Engineer Power Engineer ECSEG Sandro Nozadze Procurement Specialist Procurement Specialist ECSO2

Rusudan Mandzhgaladze E T Temporary E T Temporary ECCGE Nino Metreveli E T Consultant Social Development ECSSO Specialist Non Bank Staff Name Title Office Phone City Yan Li Economist/ Financial Washington, DC Specialist Matthew Mitchell J. Consultant

. Locations Country First Location Planned Actual Comments Administrative Division Georgia Ajaria Shuakhevi X Georgia Ajaria Bat'umi X Georgia Samtskhe-Javakheti Samtskhe-Javakheti X

I. STRATEGIC CONTEXT

A. Country Context

1. Georgia, a country of 4.5 million people, has a per capita gross domestic product (GDP) of US$ 3,500 and an extreme poverty rate of 3.7 percent. The country has a total area of 69,700 square kilometers. It is located south of the Caucasus mountain range, with Russia to the north, Armenia and Turkey to the south, and Azerbaijan to the east. Georgia is a fairly mountainous country with elevations ranging from zero to 5,000 meters above sea level. Key natural resources include hydropower, forests, manganese, iron ore and copper. Poverty and extreme poverty, measured using absolute1 poverty lines that are linked to the national relative poverty and extreme poverty lines, are high in Georgia. In 2012, roughly 14 percent of the population lived on less than US$1.25 per day and 78 percent lived on less than US$5 per day. The manufacturing sector (notably mineral products, food processing and beverages) and the trade sector, accounting for 27 percent and 21 percent of GDP, respectively, have been responsible for most of the economic growth in recent years. The Government of Georgia has also been highly successful in promoting tourism, increasing the sector’s revenues by 56 percent in 2012.2 Investments to expand and improve electricity and transport infrastructure are key for the expansion of this sector.

2. While conflict and the global economic crisis dampened the rapid economic growth that began in 2003, the recent government stimulus programs have restored economic momentum. Georgia’s economy grew roughly 6 percent during 2004-2013, fueled by a wide range of reforms and strong inflows of foreign direct investment (FDI). However, the 2008 conflict with Russia and the global financial crisis led to a sharp economic downturn, resulting in a contraction of GDP by 3.8 percent in 2009. The Government of Georgia (the Government) responded to the crisis by launching a fiscal stimulus package and public investment programs that emphasized infrastructure development. This stimulus led to substantial economic recovery, with economic growth at more than 5 percent during 2010-2013. However, the recovery remains largely driven by expanded public investment. Although FDI is recovering, by end 2013 it only amounted to third of what it was during the high point of economic growth in 2007 (roughly US$600 million).3

3. In 2013, economic growth slowed due to perceived policy uncertainty, but recent strong policy initiatives have greatly enhanced growth prospects for 2014. Following parliamentary elections in late 2012, the new government’s attempts to trim public investment spending, coupled with a weakening of consumer and investor confidence, exacerbated the slowdown, resulting in economic growth of only 3.2 percent in 2013. To stimulate growth, the Government in 2014 formulated a new economic policy, Socioeconomic Development Strategy 2020 (SDS 2020). In addition to the Georgian Energy Development Fund, established in 2010 to develop small and medium renewable energy projects, the Government has launched the Partnership Fund, designed to develop large strategic infrastructure projects, such as hydropower

1 An absolute poverty line is used to facilitate comparisons of poverty performance over time in Georgia. The 2012 values were GEL 91.2 per adult equivalent per month and GEL 52.9 per adult equivalent per month (extreme or food poverty line). 2 Georgia Partnership Strategy, Country Snapshot, October 2013. 3 Ibid. Figure 2, page 2.

1 stations at Khudoni, Nenskra, Namakhvani, and Oni. In parallel with public funding, a privately financed, co-investment fund was established to finance large infrastructure projects. Based on these developments, updated projections of the World Bank and the International Monetary Fund forecast economic growth of five percent for 2014.

4. Despite the economic recovery, Georgia has a high rate of unemployment and one of the highest poverty rates in the Europe and Central Asia (ECA) region. Strong economic growth during 2006-2007, resulting primarily from enterprise restructuring in the public sector, did not generate significant employment. The poverty rate actually rose, from 18 percent in 2006 to 20 percent in 2007, with the lower 40 percent of the income scale growing at only 0.7 percent per year compared to two percent for the overall population. Following the decline in GDP growth, the relative poverty rate increased to 21 percent in 2010. However, the post-crisis stimulus package helped reduce the poverty rate to 17.7 percent in 2011. Between 2010 and 2012, the depth and intensity of poverty declined, respectively, with the poverty gap narrowing from 6.8 to 4.3 and the squared poverty gap diminishing from 3.2 to 1.8. Nevertheless, unemployment remains high, at 15 percent (2012), with urban unemployment considerably higher, at 26 percent. Income inequality has also remained high with the Gini coefficient close to 0.40. The Government views increased spending on infrastructure development as a key factor for stimulating private investment and creating jobs.

5. There is significant international evidence supporting the critical role of infrastructure in promoting economic growth through productivity increases. The two principal drivers of investment for sustained high economic growth and job creation are (a) international competitiveness for export-led growth; and (b) urbanization, which facilitates productive economic activity4. These two drivers of investment and economic growth, in turn, depend crucially on efficient infrastructure. Public investment in infrastructure (including power) has been identified as having economically and statistically significant impact on long-run growth.5

6. Affordable, reliable, clean energy is essential for Georgia’s private sector to compete, grow and contribute to the job creation necessary for boosting shared prosperity.6 While the number of firms reporting electricity as a problem had declined in 2012 relative to 2008,7 three priorities remain. The first is ensuring that clean electricity supply grows fast enough to meet the demands of an expanding economy and domestic private sector. The second is supporting enhanced electricity infrastructure in the southwestern part of Georgia (Ajara region), which has been particularly vulnerable to blackouts and supply uncertainty. This region is a critical logistics hub not only for the country but also for the South Caucasus in general. The third is facilitating regional trade in the medium-to-long term, given Georgia’s high potential hydropower exports, through investments aimed at ensuring adequate transmission capacity.

4 Dan Biller and Ijaz Nabi, 2013 “Investing in Growth” 5 Seminal work by Calderon, Moral-Benito and Serven (2011). 6 World Bank 2013 “Georgia Rising.” 7 BEEPS 2013.

2 B. Sectoral and Institutional Context

7. Over the past decade, the Government has made remarkable strides towards improving power sector performance. Government policies to enforce financial discipline combined with public investment to repair dilapidated infrastructure have transformed a power sector on the verge of collapse to one that provides reliable electricity at reasonable cost. Collections for billed electricity have improved dramatically, from a low of 20 percent to the current level of nearly 100 percent. The enforcement of collection slowed the growth of consumption from three percent in 2005 to zero in 2006, followed by a two-percent contraction in 2007. Investments in power generation facilities increased electricity generation by 7 percent during the same period. The contraction in consumption resulting from better commercial management and increased generation capacity have minimized power shortfalls, with imported electricity sufficient to fill the supply gap, at least temporarily.

8. Although Georgia has no overall shortage of supply, it is highly dependent on imported power to meet seasonal demand, raising concerns over security of supply. Georgia’s has a 10 TWh power generation system, 82 percent of which comes from hydropower. The country’s power consumption peaks in the winter, when hydropower generation is at its lowest point. In the winter, Georgia must rely substantially on imported electricity or domestic thermal power generation using imported natural gas. In the winter, power from both sources amounts to roughly 49 percent of electricity supply, a stark contrast with the summer, when no imports are required and a surplus is available for export. By increasing the share of hydropower plants with seasonal storage capability, Georgia will be able to lessen its seasonal dependence on imported sources of energy, enhancing the security of supply and foreign exchange savings.

9. Without major investments in domestic seasonal generation, the security of power supply will diminish even further as Georgia’s economy grows. During the past 5 years, power demand grew in line with the economy, at an average annual rate of about 3.9 percent. Over the next 10 years, power demand is expected to increase at an average annual rate of 3 to 5 percent. Georgia relies on the export of surplus power during the summer to offset the cost of imported electricity during the winter. As power demand grows, the power surplus in summer will shrink, reducing the amount of power available for the offset. Therefore economic growth, without investments to increase domestic power generation, will undermine the security of power supply.

10. Even with a major increase in power generation capacity, weak parts of the transmission grid will impede security of supply. Georgia’s strong 500 kV loop and modern grid-control systems8 allow the system to meet a peak load at 1,800 MW with no system-wide outages. However, there are parts of the grid that have a weak connection with the main loop. The northern, southwestern, and northwestern branches of the transmission grid do not have sufficient capacity to transmit power from the new generation facilities in that area.9 Thus, the

8 A supervisory Controls and Data Acquisition System (SCADA) has been installed under the Bank financed Electricity Market Support Project in 2003. 9 Hydropower stations under Adjaristsqali Hydropower Project are located in southwestern Georgia. Khudoni, Namakhvani, and Nenskra Hydropower Stations are located in northwestern Georgia. The new Dariali Hydropower Station is located in northern Georgia.

3 proposed Transmission Grid Strengthening Project will improve the stability and security of supply of the transmission grid in southwest Georgia by constructing a new high voltage transmission line from Akhaltsikhe to Batumi to evacuate power from the newly developed Adjaristsqali Hydropower Project (see paragraph 11).

11. Although Georgia has large, untapped hydropower resources, most of the capacity being developed is not sufficient to reduce seasonal import dependency. The country’s economically viable hydropower potential is approximately 40 TWh.10 Of this potential, Georgia has harnessed roughly 8 TWh, with an estimated 2 TWh of new hydropower scheduled to come on stream by 2017. However, most of hydropower sites being developed are run-of-river operations, with limited or no seasonal storage capacity. Georgia has actively sought private investment for the development of hydropower stations with seasonal storage capacity amounting to approximately 6.4-7.9 TWh of annual electricity generation (1,800-2,000 MW). However, progress in developing this capacity has been slow.11 Nonetheless, preparation for construction of the Adjaristsqali Hydropower Project, the largest hydropower generation under construction since the 1980’s, has started. The Adjaristsqali Hydropower Project consists of two hydro schemes: the Shuakhevi scheme with an installed capacity of 185 MW; and the Koromkheti scheme with an installed capacity of 150 MW. The major financiers of the scheme are IFC,12 EBRD and ADB. MIGA may also provide a guarantee. (A detailed description of the Adjaristsqali Hydropower Project and status of construction is presented in Annex 2).

12. The eventual development of hydropower resources will expand opportunities for power trade that the existing platform for electricity exchange is insufficient to support. The development of approximately 8 TWh of hydropower, designed to meet peak demand in the winter, will result in a power surplus of about 6 TWh13 during the summer. However, the current power-exchange system cannot support power trade of this magnitude. In particular, the system lacks the necessary hardware and software to accommodate increased domestic generation (see Annex 2). The existing platform for power exchange is inadequate for hourly metering and balancing necessary for the new generators to exchange summer surplus of power with Turkey.

13. Planned hydropower development has yet to be optimized to increase overall economic benefits and minimize adverse environmental and social impacts. Georgia has been developing hydropower sites on a case-by-case basis, focusing on the benefits and costs of each site, rather than an optimal development framework. Technical, environmental and social assessments of each site have taken place in isolation.

14. The proposed Transmission Grid Strengthening Project (TGSP) will address the following key issues: (i) the lack of a hydropower development plan optimized for enhancing security of supply, realizing the economic benefits of hydropower assets, and

10 The overall hydropower potential has been estimated at 40 TWh but only about 25 percent has been harnessed. HPEP USAID, and Ministry of Energy Project. 11 Construction of the Khudoni Hydropower Station remains on hold due to outstanding environmental and social issues, and persisting resistance from civil society groups. The feasibility studies for the development of the Namakhvani and Nenskra Hydropower Stations have been completed but the lack of a financier has stalled their development. 12 IFC is only financing the Suakhevi scheme. 13 Regional Power Trade in South Caucasus, Stocktaking Study, World Bank, November 2012.

4 minimizing adverse environmental and social impacts; and (ii) inadequate infrastructure14 for a major increase in power trade. To help resolve these issues, TGSP, in collaboration with the programs of the Government and other development partners, will support: (i) strengthening and expanding the transmission grid to ensure it provides reliable transmission to consumers and suppliers of power, (ii) establishing systems for local and regional power exchange; and (iii) developing an analytical foundation for economically efficient and environmentally/socially sustainable electricity sector planning.

C. Higher Level Objectives to which the Project Contributes

15. The Project is aligned with the Government’s medium-term Socioeconomic Development Strategy (SDS 2020) and the FY14-FY17 Country Partnership Strategy (CPS). The maximization of transit potential through enhanced infrastructure is the key part of the Government’s SDS 2020 strategy. The SDS 2020 and CPS address the Bank’s twin objectives of reducing extreme poverty and boosting shared prosperity. To support these objectives, the strategies focus on: (i) strengthening public service delivery to promote inclusion and equity; and (ii) enabling job creation by the private sector by improving (enhancing) competitiveness. The TGSP will support improved service delivery by providing the infrastructure to strengthen the availability of reliable, affordable power supply, which will support competitiveness of businesses, and, in turn, enhance prospects for job creation.

16. The TGSP will support key factors identified in the Doing Business Report as pivotal to facilitating business development. By expanding power supply and improving its reliability, reducing the threat of power deficits and higher costs in the winter season, the Project directly addresses the removal of impediments to business development, operation, and competitiveness.

II. PROJECT DEVELOPMENT OBJECTIVE(S)

A. PDO

17. The project development objectives (PDO) are to provide reliable power transmission to the southwestern part of the grid, upgrade electricity exchange systems, and provide economically efficient, environmentally and socially sustainable electricity sector planning.

B. Project Beneficiaries

18. All power consumers of Georgia will benefit either directly or indirectly from adequate, more reliable electricity supply transmitted from a cleaner source of power. The power consumers in the Ajara region of southwestern Georgia will be direct beneficiaries of an improved quality of power supply, particularly Batumi, the region’s main city. The two projects: TGSP and Adjaristsqali Hydropower Project will indirectly benefit the entire country through additional inflows of FDI, which should contribute to economic growth. The excess power from the Adjaristsqali Hydropower Project, which will be exported, will provide an important additional flow of revenues to Georgia’s economy.

14 Infrastructure involves hardware and software for metering and power exchange

C. PDO Level Results Indicators

19. The achievement of the PDO level results will be monitored through the following core and custom indicators as follows: i) Total electricity evacuated from the newly developed power stations in southwestern part through the grid. This is a custom indicator which measures total MWh power delivered to the grid from newly constructed generation stations in Ajara region. ii) Total duration of outrages in Batumi substation. This is a custom indicator that measures total hours of un-scheduled power outages in the Batumi substation. iii) Power is exchanged (traded) using new exchange platform. This is a custom indicator demonstrating the establishment and functioning of the new electricity exchange platform. iv) The Government plans hydropower development with consideration to long-term economic efficiency and environmental and social sustainability. This is a custom indicator demonstrating that the results of the least cost planning and strategic environmental assessment have been incorporated into the Government’s hydropower development plan. v) Transmission lines constructed or rehabilitated under the Project. This is a core indicator that measures total lengths of transmission line constructed under the Project.

20. The intermediate outcome indicators measure the progress of the Project's implementation. There are three such indicators: (i) the progress of transmission line construction, (ii) preparation and public consultation for the Strategic Environmental and Social Assessment (SESA), and (iii) upgrade of the wholesale power exchange systems.

III. PROJECT DESCRIPTION

21. The Project will: (i) improve stability and security of supply of the southwestern part of the transmission grid by providing additional transmission connection and provide transmission of power from the newly constructed generation stations, (ii) establish a power exchange platform; and (iii) assess the environmental and social impact of the sector strategy. TGSP’s components are aligned with the three areas cited above. Annex 2 provides a detailed description of the Project’s components.

A. Project Components

22. Component 1: Transmission System Strengthening (US$52.35 million). This component will support the construction of a high voltage transmission line from Akhaltsikhe to Batumi, through: (i) the supply and installation of a double-circuit, 220 kV transmission line from Akhaltsikhe high voltage direct current converter station with back-to-back configuration and 500/400/220 kV substation (Akhaltsikhe station) to Batumi 220 kV substation; and (ii) the supervision of the supply and installation of the Akhaltsikhe Batumi transmission line.

23. Component 2: Wholesale Power Exchange Platform (US$6.00 million). This component will finance the design, supply and installation of a power exchange platform including: (i) the provision of hardware and software for metering, balancing, and trading systems; and (ii) supervision of the supply and installation of said platform through the carrying out of small works and the provision of goods and consultants’ services.

24. Component 3: Electricity Sector Strategic Environmental and Social Assessment (US$1.00 million). This component will provide consultants’ services to prepare a strategic environmental and social assessment for the electricity sector.

25. Component 4: Project Management and Transmission Systems Studies (US$0.50 million). This component will provide consultants’ services to assist the Project Implementing Entity for the purposes of: (i) effective management and implementation of Project activities; and (ii) the preparation of: (a) a new transmission-system expansion plan, (b) prospective transmission line feasibility studies; and (c) preliminary designs for the prospective transmission lines.

B. Project Financing

26. Lending instrument

27. The Project will provide Investment Project Financing (IPF) of US$60 million, on standard IBRD terms.

Project Cost and Financing Project cost (US$ IBRD Financing (US$ Project Components % Financing million) million) Component 1. Transmission System Strengthening $ 52.35 $ 52.35 100% Component 2. Wholesale Power Exchange Platform $ 7.50 $ 6.00 80% Component 3. Strategic Environmental and Social $ 1.25 $ 1.00 80% Assessment Component 4. Project Management $ 0.62 $ 0.50 80 % Total Costs $ 61.72 $ 59.85

Total Project Costs Front-End Fees $ 0.15 $ 0.15 100 % Total Financing Required $ 61.88 $ 60.00 97%

C. Lessons Learned and Reflected in the Project Design

28. The Project draws extensively upon the lessons learned from similar Bank engagements worldwide and in Georgia, reflecting three principal lessons. The first, from the Infrastructure Pre-investment Facility,15 is the importance of early public consultations and the extensive support to the Ministry of Environment and Ministry of Energy, in order to develop full

15 Project completed in 2011, total amount US$3.5 million.

7 ownership of the SESA. The second lesson, from the Azerbaijan Power Transmission Project,16 is the need to include the preparation of the design and detailed specifications for the metering, balancing and trading software, in order to create functioning power exchange platform on time. The third lesson, from the Kazakhstan Moinak Transmission Project,17 is to avoid a turn-key, design-supply-install contract, in favor of a supply-install contract, in order to mitigate the risk of delay and poor design.

IV. IMPLEMENTATION

A. Institutional and Implementation Arrangements

29. TGSP will be carried out by the Ministry of Energy, the Ministry of Environment and Natural Resources Protection, and the Georgian State Electrosystem (GSE). GSE will carry out components 1, 2, and 4, and the Ministry of Energy and the Ministry of Environment and Natural Resources will carry out component 3. GSE will also assist the Ministry of Energy and the Ministry of Environment and Natural Resources Protection in carrying out activities under component 3. GSE as an implementing agency, has successfully managed three projects that have received Bank financing and projects with financing from other development partners, including the Asian Development Bank (ADB), United States Agency for International Development (USAID), European Bank for Reconstruction and Development (EBRD), European Investment Bank (EIB), and Kreditanstalt für Wiederaufbau (KfW). The company has demonstrated good accounting and financial management, evidenced by clean audit reports for the past few years. GSE is committed to maintaining adequate in-house capacity to ensure smooth implementation of the TGSP. The company has demonstrated this commitment by hiring additional staff for environmental, social, and financial management, as necessary. GSE will be responsible for financial management arrangements, including the flow of funds, budgeting, accounting, progress reporting, and the submission to the Bank of annual budgets, semi-annual financial reports, Interim Financial Reports (IFRs), and annual financial statements.

B. Results Monitoring and Evaluation

30. GSE will monitor the Project’s results according to the framework in Annex 1. The Ministry of Energy, Ministry of Environment and Natural Resources Protection, and the Supervision Engineer, hired by GSE, will report progress to the GSE, which will prepare the Project’s semi-annual progress reports and submit them to the Bank. The Supervision Engineer will prepare quarterly progress reports and share them with the Bank through GSE. The responsibility for timely preparation and submission of the abovementioned documents will remain with GSE.

C. Sustainability

16 Project completed in 2012, total amount US$ 48 million. 17 Project completed in 2013, total mount US$ 48 million.

8 31. GSE has a good track record of operating transmission system assets and is capable of sustaining the operation of the new transmission line. Additional revenues arising from the electricity evacuated from the new hydropower station will provide adequate levels of financing for the maintenance of the transmission line. Annex 6 discusses the recovery of the operation and maintenance costs of the transmission line in relation to GSE’s tariffs and the Government commitment to maintain GSE’s financial viability.

V. KEY RISKS AND MITIGATION MEASURES

A. Risk Ratings Summary Table

Risk Category Rating Stakeholder Risk Moderate Implementing Agency Risk - Capacity Moderate - Governance Low Project Risk - Design Moderate - Social and Environmental Substantial - Program and Donor Moderate - Delivery Monitoring and Sustainability Moderate Overall Implementation Risk Substantial

B. Overall Risk Rating Explanation

32. Although the Project will use well-established technology, the Bank has rated the TGSP’s overall risk rating as substantial. This rating is appropriate due to the complex environmental, social, and technical challenges associated with the design, construction, and operation of the transmission line, as discussed below in Section VI. The rating also reflects the complexity of aligning the completion of the transmission line with the development of the associated hydropower project, which has multiple stakeholders. Finally, reputational risks that may emerge from the implementation of the associated hydropower project are likely to spill over to the TGSP, as the two are not distinctly separated in the public perception.

VI. APPRAISAL SUMMARY

A. Economic and Financial Analysis

33. Economic Analysis. A benefit-cost analysis was undertaken to assess the Project’s economic viability. TGSP’s investments will have three quantifiable benefits: (i) improved

9 reliability of transmission service in the Ajara region; (ii) lower regional cost of supply in the remaining part of the year; and (iii) lower domestic cost of supply during the winter months. The costs associated with the Project include upfront investments and the ongoing costs of operating and maintaining the network constructed.

34. The Project’s investments are expected to generate an economic net present value (ENPV) of US$3.12 million,18 and yield an economic internal rate of return (EIRR) of 12.7 percent. Moreover, roughly 81 percent of the estimated benefit from the Project comes from system reliability improvements and 19 percent from lowering the regional cost of electricity supply enabling regional power trade. (See Annex 6 for the details of the Project’s economic analysis.)

35. Financial analysis. The Project’s appraisal has considered two options for the construction of the transmission line: (i) a single-circuit line and (ii) a double-circuit line. The table below shows that the latter is the preferred option. The financial internal rate-of-return (FIRR) for the double-circuit transmission line at 13.6 percent, is only slightly higher than that of single-circuit line (13.1 percent). However, the financial net present value (FNPV) for the double-circuit line is about 75 percent higher than that of the single-circuit line.

Table 1: Comparative Results of the Project’s Financial Evaluation Single-Circuit Line Double-Circuit Line Present Value of Costs US$35.12 million US$45.01 million Present Value of Benefits US$37.46 million US$49.05 million NPV US$2.31 million US$4.05 million FIRR 13.1% 13.6%

36. Table 2 shows the sensitivity of the FIRR to key variables affecting it, (i) the increased cost of the transmission line and (ii) the reduction in the volume of power transmitted. The analysis shows that the FIRR is highly sensitive to the both parameters, falling below 12 percent if either parameter changes by more than five percent. Moreover, the FIRR falls below the weighted-average cost of capital with a 20 percent reduction of transmitted power or a 20 percent cost overrun. Annex 6 provides the detailed assumptions and results of the financial analysis.

Table 2: Results of the Sensitivity Analysis of the FIRR

Cost Overrun (%) Change in the Volume of Power Transmitted 0% -5% -10 % -20% 0 13.60% 12.60% 11.70% 9.90% 10 11.60% 10.60% 9.70% 7.90%

18 At an Economic Opportunity Cost of Capital, EOCK, of 12.0 percent.

10 20 9.80% 8.80% 7.90% 6.10% 30 8.20% 7.20% 6.20% 4.40%

37. GSE’s financial performance. GSE has been operating under a 15-year bankruptcy recovery (financial rehabilitation) plan. The recovery plan has enabled GSE to continue operations while gradually repaying old debts to the Government. Due to an increase in transmitted power and improved collection rates, GSE’s revenues from core operations rose by about 40 % between 2008 and 2013, from GEL 46.6 million to GEL 64.9 million. These developments have improved the overall financial performance of the GSE, which Annex 6 describes in detail. GSE has also number of ongoing litigation cases and claims in courts however; these cases will not materially and adversely affect GSE’s financial viability.

B. Technical

38. System operation. GSE established a fully-functional supervisory control and data acquisition (SCADA) system and a communication system through a previous Bank-financed Electricity Market Support Project.19 Furthermore, the company has implemented an Emergency Control System to secure system reliability and stability. As noted earlier, the power system is characterized by seasonal imbalances, with power imports in the winter to avoid shortfalls, and power exports in the summer. Table 3 shows import/export data for 2007 to 2013. Between 2007 and 2010, Georgia generated an overall surplus of power, but since 2012, as power demand has grown, the country has become a net importer of power.

Table 3: Electricity Import/Export Statistics 2007-2013 (GWh)

2007 2008 2009 2010 2011 2012 2013 Import 433 649 255 222 471 615 484 Export 626 680 749 1524 931 528 450 Balance -193 -31 -494 -1302 -460 87 34

39. Planned generation developments. The Government has signed memoranda of understanding (MOUs) with private developers for 1420 ongoing hydropower projects and one thermal power project. These projects will increase hydropower generation to an additional 0.5 TWh and to 2014, 2.2 TWh GW by 2017. A 500kV transmission line connects Georgia’s power system to that of Russia, via the Enguri Hydropower Plant (1300 MW) in the northwest to Zestaponi, from which a 500kV transmission line connects to Gardabani. As a part of the Black Sea Transmission Network (BSTN) Project, the new 500kV transmission line connects Zestaponi to Gardabani, via the Akhaltsikhe power substation, for asynchronous operation with Turkey. This configuration will result in the operation of the 500kV eastern loop.

40. Expansion of the transmission system. GSE’s strategic plan for 2012 to 2020 includes projects designed to improve transmission availability and reliability. The total interconnection capacity of the high-voltage lines (>=220kV) will increase from 700 MW asynchronous to about

19 Completed in 2010, total amount SDR21.1 million (about US$32.7 million). 20 As of April 2014.

11 1400 MW by 2020. The proposed 220kV, double-circuit transmission line from the Akhaltsikhe station to the Batumi substation will consist of two sections: an east section and a west section. The east section will start from the Akhaltsikhe station and reach the Shuakhevi hydropower plant (175MW) with a 87 km line. The west section will start from the Shuakhevi hydropower plant and reach the Batumi substation, via the Koromkheti HPP (150MW), with a 55 km line. The expected commissioning date of Shuakhevi HPP (Phase 1) is tentatively September 2016 and that of the Koromkheti HPP (Phase 2) is early 2018. The main purpose of the transmission line is to evacuate power from these two plants in the Adjaristsqali Hydropower Project to Georgia’s 220kV network. The transmission line will normally evacuate about 110MW to the Akhaltsikhe station and about 210 MW to the Batumi substation. In addition, the line will improve the reliability and qualities of supply to the southwest area served by the Batumi substation, where an important Black Sea port and tourist resort are located.

41. Metering systems for wholesale trade. The Electricity System Commercial Operator (ESCO) commenced in 2006 with the following functions: (i) registering direct contracts, (ii) sales and purchase of balancing electricity; and (iii) securing imported electricity. Wholesale trade in electricity takes place through direct contacts with suppliers or through ESCO, which registers electricity buyers and sellers with GSE. Some wholesale customers are not fully metered, and others are not equipped with an hourly-reading metering function,21 because of direct or long-term contracting. Therefore, it is difficult to create a real-time, demand-supply balance for system operation. In addition, not all customers have a backup meter to ensure continued metering of consumption if the main meter fails. In order to facilitate an active trade mechanism, such as the Day-Ahead-Market, which performs settlement based on hourly metering and allows direct sales to the Turkish market, the system must have real-time metering functions for all wholesale market participants and obtain the system software for managing trade and balancing of power. In this context, the Project will ensure that meter from all sellers and buyers are connected and feed information to the metering system. For monitoring meters and managing the balancing of the market, the Project also will install enterprise system software and associated hardware at the office of GSE, and GSE’s dispatching center for network operation, located in Tbilisi.

C. Financial Management

42. GSE’s and MOE’s arrangements for financial management meet basic World Bank requirements. The GSE will customize the automated software for financial management to generate standard reports required by the Bank, such as statements of expenditures (SOEs) and annual financial statements. The customization also will include a budgeting module. The system will have adequate security safeguards for reliable reporting and data integrity. The MOE will utilize Oris Accounting software for project accounting purposes. All financial management (FM) staff will receive focused training when the Project launches and hands-on training during implementation. The Project Operational Manual (POM), in the chapter on financial management (FMM), will describe budgeting, audit arrangements, internal control and accounting policies and procedures. This section of the POM will also reflect the policies and procedures applicable for conflict of interest and related party transactions (real and apparent)

21 Georgia has about 1034 settlement were inspected in 2013.

12 and provide safeguards to protect the organization from associated risks. Project funds will flow from the Bank to separate Designated Account (DAs) held at the commercial banks, by the GSE. The replenishment of funds will take place according to the World-Bank’s usual disbursement procedures. Annex 3 provides the details on financial management arrangements.

D. Procurement

43. Procurement will take place according to the “Guidelines for Procurement of Goods, Works, and Non-Consulting Services under IBRD Loans and IDA Credits & Grants by World Bank Recipients,” January 2011; “Guidelines for Selection and Employment of Consultants under IBRD Loans and IDA Credits & Grants by World Bank Recipients,” January 2011; and the provisions in the Project’s Loan and Project Agreements. The Bank’s anti-corruption policies (“Guidelines on Preventing and Combating Corruption in Projects Financed by IBRD Loans and IDA Credits and Grants”) of October 15, 2006, revised in January 2011, will apply to the Project. The latest Country Procurement Assessment Report (CPAR) dated April 2009, which includes recommended priority actions under four pillars, found that all four of OECD-DAC/World Bank pillars for public procurement required improvement in order to meet international standards and best practices. However, Georgia is making considerable progress in implementing a three-year action plan for improving procurement. The most recent and notable procurement reform is the successful implementation of the electronic procurement system (e-procurement) for all government contracts in Georgia. The Bank has evaluated this system and agreed with the Competition and State Procurement Agency (CSPA), on the system’s use, with minor modifications for Bank-funded projects. The e-procurement system will apply to the procurement of simple goods, following shopping procedures, below the threshold of US$ 100,000. The Bank is currently working with the CSPA and other counterparts to further modify the e-procurement system for the use with the more complex National Competitive Bidding (NCB) and International Competitive Bidding (ICB) procurement methods.

44. There is a risk that GSE may not be able to conduct a proper, timely evaluation of bids for the supply and installation of Akhaltsikhe-Batumi Transmission Line. Therefore, TGSP has allocated funds to hire an independent consultant, on a competitive basis, to support GSE in procurement. Also, the Bank’s procurement specialist assigned to the TGSP, together with a senior procurement specialist, have conducted a training course for GSE staff. The course gave particular attention to bid-evaluation procedures and the preparation of bidding documents based on World Bank standard bidding documents. GSE staff will attend regional procurement training organized by the Bank, to be conducted in April 2014, in Tashkent, Uzbekistan.

45. TGSP’s procurement risk has been rated moderate with the application of the aforementioned mitigation measures.

E. Social (including Safeguards)

46. The design of the Project’s transmission-line corridor and the Environmental and Social Impact Assessment (ESIA) include measures to minimize adverse social impacts. The ESIA has been subject to a consultation process and it includes a Stakeholder Engagement Plan that describes all engagement activities to date and actions to ensure ongoing engagement during the life of the TGSP, including the implementation of a grievance redress mechanism. The Project

13 triggers OP/BP 4.12 on Involuntary Resettlement because it will require permanent acquisition of land for the erection of towers and imposition of easement for the transmission line’s Right- of-Way (ROW). Impacts from land easements for the ROW will be marginal and temporary as agricultural activities in the area will be able to continue. The transmission line will require up to 500 towers, resulting in the acquisition of 10 hectares of land. The easement for the ROW will be approximately 65 meters wide covering a total area of 975 hectares. The Project may also require the relocation of roughly 60 houses. Total land requirements for access roads are expected to be minimal. Approximately70 percent of parcels required for the positioning of towers are expected to be located on state-owned land. During Project appraisal, the details of the transmission line’s routing were not known. Therefore, GSE prepared a Resettlement Policy Framework (RPF), which focused on the principles, criteria and procedures for managing resettlement resulting from Project-related land acquisition. The preparation of site-specific Resettlement Action Plans (RAPs) will take place once the exact positioning of the line is known.

47. Given that the Project will provide more secure and reliable power supply from a cleaner source of power to the general population in Batumi and the Ajara region, no gender differentiated benefits and/or impacts directly associated to power transmission are expected. As part of the ESIA process gender-disaggregated data was gathered and no gender-specific risks and impacts were identified. Additional socioeconomic studies will be carried in preparation of the Resettlement Action Plans (RAPs) which will also include gender differentiated information to ensure that any project-related adverse impacts are mitigated taking into consideration any potential gender-based inequalities related to compensation and land rights. Single mother headed households, and project-affected people with disabilities, elderly or below poverty line will be given special consideration as part of the RAP implementation. The employment of local labor will be maximized during the operational phase of the projects (e.g. in providing security, undertaking vegetation control, etc.). Job trainings will be equally offered to men and women and the project will provide equal employment opportunities to women within the project skills requirements.

F. Environment (including Safeguards)

48. Environmental aspects related to the development of hydropower generation facilities in Georgia have been controversial and remained the focus of civil society attention since 1980. Public debates over the feasibility of constructing large Hydro Power Pants (HPPs) and environmental and social costs of such developments heated up a few years ago, once the abandoned idea of constructing Khudoni HPP appeared on the Government’s agenda along with an ambitious plan for installing a number of other large and medium HPPs. Several shortfalls in the national legal and institutional framework for environmental management contribute to lack of public trust in the soundness and sustainability of decisions being made with regard to enhancing the country’s power generation infrastructure: (i) national law does not carry provisions for conducting SESA of sectoral/regional development plans; (ii) national law does not require environmental screening and scoping of infrastructural projects at the early stage of their development; therefore an ESIA is carried out once a project financing decision is already taken and “no-project” scenario is actually ruled out; and (iii) there are no national rules on the methodology for determining an acceptable minimal water flow (“ecological flow”) that shall remain in a river after water obstruction in order to sustain aquatic life and down steam ecosystems. Technical assistance to be provided to the Government under the TGSP includes

14 financing of the SESA of the national policy and strategic plan for the power sector, which is expected to contribute to the creation of a reliable platform for well-informed and streamlined Government decision-making on investment decisions in future. Inclusion of this technical assistance component in the Project, as well as the support that the Bank will support the Borrower in managing environmental and social aspects of the investment component of this Project.

49. The Project triggers OP/BP 4.01 Environmental Assessment, it is classified as Environmental Category A, and requires a full-scale environmental assessment.22 The ESIA has provided an environmental and social management matrix for mitigating expected adverse impacts and monitoring outcomes of mitigation measures. Despite proximity to several protected areas, historic monuments, an evolving skiing resort, and numerous human settlements, the transmission line does not adversely affect these areas. To mitigate adverse impacts in the construction phase, the Project will apply conventional environmental good practices. In addition, the humid, subtropical climate of the Ajara region provides favorable conditions for a rapid, natural regeneration of areas impacted by construction.

50. The transmission line is also associated with the construction of the Adjaristsqali Hydropower Project, owned by the Adjaristsqali Georgia LLC (AGL) and financially supported by IFC, MIGA, ADB and EBRD. The ESIA report developed for this scheme covers major environmental, social, and cultural heritage aspects related to the construction and operation of the Adjaristsqali Hydropower Project.23 The ESIA report24 for the hydropower scheme is of high quality. However, it carries generic guidance on the ongoing adjustments of environmental mitigation measures to be applied during construction and operation of the HPPs. This feature of the ESIA report reflects the overall approach of the Adjaristsqali Hydropower Project to the system of environmental and social management to be applied under it. This system implies collection of supplemental site-specific information through additional studies and monitoring work to be undertaken on a rolling basis and to refine the development of concrete and adjusted mitigation measures as project activities unfold. Knowing that the Ministry of Environment and Natural Resources Protection of Georgia has already issued an environmental permit for the construction of the scheme (185 MW Shuakhevi scheme and 150 MW Koromkheti station), and being aware of the institutional weaknesses of public entities in environmental controls and enforcement, the Bank team notes that quality control over the site-specific safeguard documents to be developed at later stages of the project cycle is expected to be weak on behalf of the state environmental bodies and the GSE. Therefore, the main responsibility for ensuring quality of future environmental work and adequacy of mitigation measures to be prescribed based on the outputs of this work will rest with the IFC, ADB, EBRD and (primarily) AGL. AGL has an Environmental, Health & Safety (EHS) unit that is responsible for managing environmental, social and health & safety risks and impacts during construction and operations in accordance

22 This also is required by Georgia’s national environmental legislation. 23 In accordance with IFC’s Access to Information Policy, early drafts of the ESIA of the Adjaristsqali Hydropower Project were disclosed on IFC's website on May 24, 2013. Updated ESIA documents were disclosed on October 3, 2013 along with an Environmental and Social Review Summary prepared by IFC. 24 The ESIA prepared for the Adjaristsqali Project included the initial schemes of Shuakhevi 185 MW, Koromkheti 150 MW scheme, and Khertvisi 65 MW. Detailed assessment identified significant economic and environmental risks of the Khertvisi 65 MW scheme therefore AGL is not pursuing development of the Khertvisi scheme.

15 with the Environmental and Social Management Plan commitments. The EHS unit’s role includes monitoring compliance of construction contractor’s performance with IFC's Performance Standards. AGL will develop a detailed audit/monitoring schedule, including EHS, labor and social issues. IFC, ADB and EBRD, in their capacity as lenders, together with MIGA as a political risk insurance provider, will require periodic, independent external monitoring of works by an industrial environmental management specialist. The Bank will maintain dialogue with IFC and MIGA to remain up-to-date on the status of the project’s adherence to the performance standards and will receive environmental and social audit reports on a regular basis. Joint supervision of the associated TGSP and Adjaristsqali Hydropower Projects may also be considered, as appropriate.

51. In terms of social issues, the Adjaristsqali Hydropower Project involves land acquisition and resettlement which has been addressed as per IFC’s requirements. It must be noted that the project has faced active opposition from selected local communities, including blockage of access road, related to demands from communities for compensation and/or resettlement from their current villages, which are mostly built on unstable landslips, on the basis that the hydropower construction could trigger landslips and/or impact their water supplies. The AGL is working with Government to find solutions to the grievances by certain communities, some of which relate to compensation for historical events and others of which relate to a desire for guarantees of compensation should any project-related landslide damage occur.

G. Other Safeguards Policies Triggered

52. The Project triggers OP/BP 4.04 Natural Habitats because, as noted above, a section of the transmission line will fall within an important, international corridor of bird migration, requiring measures to minimize adverse impacts on this habitat. Throughout operation, a land strip under the power cables must be free of high-growing vegetation throughout operation of the transmission line. Therefore OP/BP 4.36 Forests is triggered. TGSP triggers OP/BP 4.11 Physical Cultural Resources to manage any possible impacts of the Project on the cultural and historic monuments registered along the ROW, as well as to provide guidance on handling possible chance finds during earth works. Finally, the Project triggers OP/BP 4.37 Safety of Dams. Although the TGSP will not finance the construction of any dams, it is associated with the Adjaristsqali Hydropower Project, which will. Therefore, TGSP’s preparation required review of the dam quality-assurance arrangements in place under the Adjaristsqali Hydropower Project, which the Bank has found to be satisfactory. Due diligence throughout the TGSP cycle will include the tracking of risk-management efforts applied under the Adjaristsqali Hydropower Project to the construction and operation of dams.

53. Disclosure of Safeguard Documents

ESIA TOR at scoping stage 07/25/2013 Draft final ESIA report 12/17/2013 Executive Summary of ESIA report to Board 12/17/2013 Final ESIA report 04/04/2014 Draft final RPF 03/13/2014 Final RPF 04/04/2014

Annex 1: Results Framework and Monitoring

. Country: Georgia Project Name: Transmission Grid Strengthening Project (P147348)

. Project Development Objectives

. PDO Statement The project development objectives are to provide reliable power transmission to the southwestern part of the grid, upgrade electricity exchange systems, and provide economically efficient, environmentally and socially sustainable electricity sector planning. These results are at Project Level

. Project Development Objective Indicators Data Responsibility Cumulative Target Values Source/ for Unit of End Methodolog Data Collection Indicator Name Core Baseline YR1 YR2 YR3 YR4 Frequency Measure Target y Total electricity evacuated from the newly developed power Gigawatt- GSE 0.00 0.00 0.00 200.00 400.00 400.00 Annually GSE generation hour (GWh) Dispatch stations in southwestern Georgia through the grid Total duration Hours 136.00 100.00 100.00 0.50 0.50 0.50 Annually GSE GSE of outages in

17 Batumi substation Power is exchanged (traded) using Yes/No No No No No Yes Yes Annually GSE GSE new exchange platform The results of the least cost planning and strategic environmental assessment have Ministry of Ministry of been Yes/No No No No Yes Yes Yes Annually Energy Energy incorporated into the Government’s hydropower development plan Transmission lines constructed or rehabilitated Kilometers 0.00 0.00 0.00 52.00 142.00 142.00 Annually GSE GSE under the project Transmission Kilometers lines constructed Sub-Type 0.00 0.00 0.00 52.00 142.00 142.00 Annually GSE GSE under the Breakdown project

. Intermediate Results Indicators Data Responsibility Cumulative Target Values Source/ for

18 Unit of End Methodolog Data Collection Indicator Name Core Baseline YR1 YR2 YR3 YR4 Frequency Measure Target y Section from Once at Shuakhevi to completion Batumi Kilometers 0.00 0.00 0.00 52.00 52.00 52.00 of the GSE GSE transmission transmissio line constructed n line Strategic Environmental Impact Once at the Assessment Ministry of Ministry of Yes/No No No No Yes Yes Yes mid-term of prepared based Energy Energy the project on the feedback from all stakeholders Wholesale power exchange Yes/No No No No No Yes Yes Annually GSE GSE systems updated

19 Annex 1: Results Framework and Monitoring

. Country: Georgia Project Name: Transmission Grid Strengthening Project (P147348)

. Results Framework

. Project Development Objective Indicators Indicator Name Description (indicator definition etc.) Total electricity evacuated from the newly developed Total electricity in GHh delivered to the grid by hydropower stations developed after power generation stations in southwestern Georgia 2013 in Ajara region through the grid Total duration Total duration of un-scheduled outages of Batumi substation Power is exchanged (traded) using new exchange GSE uses new power exchanged platform to balance and trade power platform The results of the least cost planning and strategic The Ministry of Energy modifies results of least cost plans based on the environmental assessment have been incorporated into recommendations of the Strategic Environmental Assessment and updates hydropower the Government’s hydropower development plan development plan accordingly Transmission lines constructed or rehabilitated under the This indicator measures the length of the transmission lines constructed or project rehabilitated/upgraded under the project. Transmission lines constructed under the project No description provided.

. Intermediate Results Indicators Indicator Name Description (indicator definition etc.) Section from Shuakhevi to Batumi transmission line The section 2 of the transmission line from Shuakhevi to Batumi constructed, tested constructed and accepted by GSE. Strategic Environmental Impact Assessment prepared The Government discloses draft Strategic Environmental Impact Assessment, receives based on the feedback from all stakeholders and incorporates feedback from all stakeholders Wholesale power exchange systems updated GSE updates wholesale electricity metering, balancing, and trading systems, tests them and puts them into operation.

Annex 1: Results Framework and Monitoring Country: Georgia Project Name: Transmission Grid Strengthening Project (P147348) Results Framework Project Development Objective Indicators Indicator Name Description (indicator definition etc.) Total electricity evacuated from the newly developed Total electricity in GWh delivered to the grid by new power stations developed after power stations in the southwestern part, through the grid 2013 in Ajara region Total duration of outages in the Batumi Substation Total duration of non-scheduled outage of Batumi substation Power is exchanged (traded) using new exchange GSE uses new power exchanged platform to balance and trade power platform The results of the least cost planning and strategic The Ministry of Energy modifies results of least cost plans based on the environmental assessment have been incorporated into recommendations of the Strategic Environmental Assessment and updates hydropower the Government’s hydropower development plan development plan accordingly Transmission lines constructed or rehabilitated under the This indicator measures the length of the transmission lines constructed or project rehabilitated/upgraded under the project. Transmission lines constructed under the project No description provided. Intermediate Results Indicators Indicator Name Description (indicator definition etc.) Section from Shuakhevi to Batumi transmission line The section 2 of the transmission line from Shuakhevi to Batumi constructed, tested constructed and accepted by GSE. Strategic Environmental Impact Assessment prepared The Government discloses draft Strategic Environmental Impact Assessment, receives based on the feedback from all stakeholders and incorporates feedback from all stakeholders Wholesale trading and metering systems updated GSE updates wholesale electricity metering, balancing, and trading systems, tests them and puts them into operation. Hydropower resources are developed according to the The Ministry of Energy adopts hydropower development scenario according to the Strategic Environmental Impact Assessment recommendations of the Strategic Environmental Impact Assessment

21 Annex 2: Detailed Project Description Country: Georgia Project Name: Transmission Grid Strengthening Project

54. The Project finances construction of the transmission line which connects the newly constructed hydropower scheme in Ajara region with the transmission grid through double circuit high voltage overhead transmission line, wholesale electricity market metering and trading systems, and preparation of the Strategic Environmental Impact Assessment. The Project consists of 4 components as follows:

The Project consists of four components; 55. Component 1. Transmission System Strengthening (US $52.35 million). This component will finance a high voltage transmission line from Akhaltsikhe to Batumi. This component will have two sub-components; i) Subcomponent 1a (US $48.15 million,). This sub-component will finance the supply and installation of a double-circuit, 220 kV transmission line (TL) from Akhaltsikhe high voltage direct current converter station and 500/400/220 kV substation (Akhaltsikhe station) to Batumi 220 kV substation. It will connect with the two hydropower plants (HPPs): 175 MW Shuakhevi HPP and 150 MW Koromkheti HPP. The estimated length of the TL is 142 km. It is composed of two sections: Section 1 is a 87 km TL from Suakhevi HPP to Akhaltsikhe station and Section 2 is a 55 km TL from Batumi substation to Suakhevi HPP via Koromkheti HPP. This subcomponent will also finance contingency. ii) Subcomponent 1b (US $4.2 million). This subcomponent will finance supervision consultant for the supply and installation of Akhaltsikhe Batumi transmission line. This subcomponent will also finance consulting services for evaluation of bids under this component.

56. Transmission line. The proposed 220kV double circuit TL from Akhaltsikhe station to Batumi substation consists of two sections. The East section will start from Akhaltsikhe station and reach Shuakhevi HPP (175MW) with 87 km length. The western section will start from Shuakhevi HPP and reach Batumi substation via Koromkheti HPP (150MW) with 55 km length. The expected commissioning date of Shuakhevi HPP (Phase 1) is September 2016 and Koromkheti HPP (Phase 2) is early 2018. The main purpose of the TL is to improve the security and reliability of power supply to the southwestern part of the country. It will also connect Adjaristsqali Hydropower to the Georgian 220kV network, and will support the evacuation of excess power from that part to the country. The TL will normally evacuate about 110MW to the Akhaltsikhe station and about 210 MW to Batumi substation. The estimated cost of the entire transmission line including phases 1 and 2 is $45.65 million.

57. In addition to hydro power evacuation, this new 220kV TL is expected to improve the reliability and quality of supply to the southwest area supplied by Batumi Substation where an important Black Sea port and touristic resort are located. Currently, Batumi Substation is located at the tail end of southwest network and the main supply route is only one from north side. However, this TL will provide additional connection of Batumi substation with two lines one

22 from 500/220kV substations of Enguri (Vardnili) and Akhaltsikhe. This will achieve 500kV- 220kV loop operation of the western part of the grid and will result in the significant reliability and stability improvements In particular, the short-circuit capacity of Batumi substation will be increased from an estimated 1.5GVA to an estimated 3.8GVA.

58. Component 2. Wholesale Power Exchange Platform (US $6 million). This component will finance hardware and software for the power exchange systems. It will comprise two subcomponents: i) Subcomponent 2a (US $5.5 million). This subcomponent will finance the supply and installation of a power exchange platform which includes hardware and software for metering, balancing, and trading systems. The GSE will be the beneficiary of the power exchange platform. ii) Subcomponent 2b (US $0.5 million). This subcomponent will finance the design and supervision of the above platform.

59. The Electricity System Commercial Operator commenced in 2006. ESCO represents an important link of the energy system value chain. The ESCO performs some of the functions normally performed by the Market Operator (MO). The ESCO functions include: (i) sales and purchase of balancing electricity (on a monthly basis); (ii) trade with guaranteed capacity; (iii) set-up and operation of a unified database of wholesale traders; (iv) submission of relevant information to GSE; and (v) wholesale meter inspection. The electricity wholesale trade is performed through direct contracts or through the ESCO. ESCO also registers all electricity buyers and sellers.

60. Although there are many wholesale meters in Georgia (1034 settlement meters were inspected in 2013), some meters are not equipped with a real time metering function because of direct or long-term contracting and it is difficult to measure hourly demand-supply balance for system operation. In order to facilitate active trade mechanisms such as the Day-Ahead-Market, to perform quick settlement, and to export to Turkey, GSE should upgrade its metering system to correspond to hourly balancing mechanisms.

61. The Project will update the existing metering system to meet requirements of a hourly balancing system; it will feed information to the balancing trading platforms. The Project (subcomponent 2a) will finance preparation of design of metering, balancing, and trading platforms. The subcomponent 2b will finance preparation of the design and supervision of the above sub-component.

62. Component 3. Strategic Environmental and Social Assessment (US $1.0 million). This component will finance the preparation of the Strategic Environmental and Social Assessment report.

63. The Ministry of Energy and the Ministry of Environment and Natural Resources Protection will jointly carry out this activity. Both ministries will prepare Terms of Reference for the study, will jointly conduct public consultation meetings and will contribute to the finalization of the study based on feedback from the public consultations. The outcome of the assessment will then be considered in the power sector strategy and a revised sector strategy will be developed.

64. Component 4. Project Management and Transmission Systems Studies. (US $0.5 million). This component will finance consultants' services to assist the Project Implementing Entity in effective management and implementation of Project activities, and the preparation of a number of transmission system studies including: (i) an updated transmission-system expansion plan; (ii) prospective transmission line feasibility studies; and (iii) preliminary designs for the prospective transmission lines.

65. The transmission systems studies are important to the achievement of economically efficient, environmentally and socially sustainable sector planning. As a part of overall sector planning the Government and GSE are seeking supplemental grant financing for the studies which will complement the Project financed studies.

66. Associated Adjaristsqali Hydropower Project is the largest hydropower generation under construction since the 80s. There is strong commitment from the Government to advance the scheme. The major financiers are IFC, EBRD ADB. In addition, MIGA may provide a guarantee. The Adjaristsqali Hydropower Project originally consisted of a cascade of 3 run-of- river schemes (Shuakhevi 185 MW scheme, Koromkheti 150 MW scheme and Khertvisi 65 MW scheme) with a total installed capacity of 400 MW. After the detailed assessment, the third Khertvisi 65 MW scheme will not be pursued by AGL, due to a combination of environmental, social, and economic considerations. IFC, EBRD and ADB are financing the Shuakhevi scheme (which now consists of Shuakhevi and Skhalta HPPs 175 MW and 6 MW respectively). The total project cost of the Shuakhevi scheme is estimated at $417 million. The Shuakhevi scheme is expected to generate 433 GWh of electricity which is about 5 % of Georgia’s total generation. The Project will supply power to the Georgian market in the three consecutive winter months, (about 15% of annual generation). The remainder will be exported to the Turkish market. While the hydropower cascade peaks in summer time, the storage capacity enables it to generate power in winter months. The reservoir enables the Shuakhevi HPP to store water during winter night off-peaks and to provide power during evening peaks, which is significant to enhanced security of supply.

67. The preparatory works for the construction of the Adjaristsqali Hydropower Project has started, the construction contractor has mobilized and all construction camps have been constructed. It is expected that the financiers IFC, ADB, EBRD, will reach closure of financing agreements in May 2014. MIGA is considering providing a political insurance risk guarantee to the Adjaristsqali Hydropower Project.

68. The Georgian power sector is being financed by multiple bilateral and multilateral international and national financers and organizations. The key financers of the sector are USAID, ADB, EBRD, KfW, and IFC. In addition, there are privately owned distribution and generation companies including ENERGO-PRO, (Czech Republic), RAO UES (Russia), Anadolu Group (Turkey) owning and operating main distribution companies and generation stations.

69. The USAID through the Hydropower Investment Promotion Project and the Hydropower and Energy Planning Project, supported wholesale power market reforms, provided assistance to

24 the Ministry of Energy in sector strategic planning and provided assistance to the National Energy and Water Regulator, and supported the development of small and medium hydropower stations. The USAID also financed construction of the high voltage Senaki high voltage reconstruction. The EBRD and KfW jointly financed the main export transmission line and with high voltage direct current substation with back-to-back configuration, in Akhaltsikhe.

25 Annex 3: Implementation Arrangements Country: Georgia Project Name: Transmission Grid Strengthening Project (P147348)

Project Institutional and Implementation Arrangements

70. TGSP will be carried out by Ministry of Energy, Ministry of Environment and Natural Resources Protection, and GSE. The Georgian State Electrosystem (GSE) will carry out Components 1, 2, and 4, the Ministry of Energy and the Ministry of Environment and Natural Resources will carry out Component 3. GSE will also assist Ministry of Energy and the Ministry of Environment and Natural in carrying out activities under component 3.

71. Ministry of Energy and Ministry of Environment and Natural Resources Protection will prepare and approve terms of reference for the preparation of the strategic environmental and social assessment under Component 3. The Ministries will be responsible for the review and approval of the strategic environmental and social assessment report.

72. The Project will be implemented by GSE, which is fully state owned Joint Stock Company which owns and operates high voltage transmission network of Georgia. GSE has successfully managed three projects that have received Bank financing and projects with financing from other development partners, including ADB, EBRD, KfW, EIB, and USAID. The existing International Project’s Unit of the GSE will act as a project implementation unit; however other departments and units of the GSE will also be involved in the Project implementation.

73. The company has hiring additional staff for environmental, social, and financial management, for the implementation of specific projects. GSE will be responsible for financial- management arrangements, including the flow of funds; budgeting; accounting; progress reporting; and the submission of annual budgets, semi-annual IFRs, and annual financial statements to the Bank.

Financial Management, Disbursements and Procurement

74. There will be two implementing agencies involved in the financial management function under the proposed project. The GSE will implement all components of the Project except for Component 3. The financial management of the Component 3 will be implemented by the MOE. Under those components to be implemented by GSE the FM functions of the project will be handled by GSE. In particular the organization will be responsible for the flow of funds, accounting, planning and budgeting, financial reporting, internal controls, and auditing. The organization has the prior experience in implementing the Bank financed projects through the Project Implementation Units established within the GSE and those Units have been dissolved upon projects closing.

75. MOE will implement Component 3 and related project management under Component 3. MOE will be responsible for the financial management arrangements including the flow of funds, budgeting, accounting, reporting, and auditing under the remaining project components.

26 The GSE will be responsible for the consolidation and submission of the project’s annual budgets, quarterly IFRs, and annual financial statements to the World Bank

76. It has been agreed that prior to the project implementation the GSE will elaborate the Financial Management Manual for the project (including the Component 3) to reflect the activities of the project including procedures for budgeting, accounting, reporting, internal control and audit. The overall financial management risk for the project was assessed as Moderate, with Inherent and the Control Risks of the project before and after mitigation measures also rated as Moderate.

77. There two actions (not a conditions but a capacity building action) agreed during the assessment relates to: 1) the elaboration of the project’s Financial Management Manual (FMM) to cover the FM arrangements under the proposed project; and 2) modification of the existing 1 C software to allow automatic generation of the Bank required reports such as statements of expenditures (SOEs), IFRs and annual financial statements and will include the budgeting module. The system shall have adequate security safeguards for reliable reporting and data integrity.

78. GSE will take over the responsibility for the FM function for those components to be implemented by GSE. GSE will assign its own accounting staff to maintain the project financial management system. The assigned GSE FM staff will participate in the Fiduciary Training to be organized in Tbilisi in May 2014. MOE’s Chief Accountant will be responsible for Project related accounting duties. He will participate in the Fiduciary Training to be organized in Tbilisi in May 2014. The Chief Accountant will be assisted by the GSE project assigned financial specialist in elaborating the first two withdrawal applications and SOEs preparation.

79. Overall, GSE has acceptable planning and budgeting capacity in place. MOE will be assisted by the GSE in the budget preparation for Component 3. The annual consolidated budget of the Project will be based on the final procurement plan that is to be discussed and agreed with GSE management, and approved by the World Bank. All changes to the procurement plan will be reviewed by GSE management and MOE, Minister/Deputy Minister and approved by the World Bank. The GSE will take overall responsibility for the compilation of the budget, its approval and entry into the accounting system.

80. The financial and accounting division of the GSE is staffed with 6 financial specialists and 13 accountants. The FM staff has strong private sector accounting background. Particularly, the board member responsible for financial management has prior work experience in private sector companies including consulting experience in Big 4 auditing firms. A full time financial specialist with relevant experience in Bank financed projects and knowledge of Bank FM policies and procedures will be assigned to assist the GSE in managing project-related financial management and disbursement work. The board member responsible for financial management will have primary responsibility for the consolidated un-audited IFRs and will prepare the annual consolidated financial statements for audit. All FM staff will receive focused training when the project launches and hands-on training during implementation.

27 81. GSE’s accounting books and records are maintained on an accrual basis and follow local legislation. MOE’s accounting books and records are maintained following the modified cash basis International Public Sector Accoutering Standards (IPSAS). The GSE and MOE will use modified cash basis for accounting purposes and cash basis IPSAS for project reporting purposes. The risk associated with accounting policies and procedures is assessed as moderate. Project financial statements, including IFRs, will be presented in US dollars. GSE utilizes the standard 1C accounting software for its statutory accounting and reporting purposes. The software will be modified to allow automatic generation of WB required reports such as statements of expenditures (SOEs), IFRs and annual financial statements and will include the budgeting module. The system will have adequate security safeguards for reliable reporting and data integrity. The MOE utilizes Oris Accounting Software for its accounting purposes and it was found adequate. The accounting software has functionality of exporting data into Excel (report writing tool). This simplifies further modification of the data formats and production of user-friendly reports. The MOE will use Oris for the project accounting.

82. For the purposes of the current project, a sound internal control system will be maintained. At GSE all expenditures will be authorized by the GSE Director (Chairman of the Management Board) and verified for eligibility and accuracy by the board member responsible for financial management. At MOE all expenditures will be authorized by the Head of the Administrative Department and verified for eligibility and accuracy by the Chief Accountant

83. Project related specific internal control activities will be described in the Financial Management Chapter of the Project Operational Manual (POM) including: expenditure authorization, invoices approval and payments processing procedures; data backup arrangements; reconciliation procedures of project records with Client Connection, safeguards of assets, including cash. This section of the POM also reflects the policies and procedures that clearly define conflict of interest and related party transactions (real and apparent) and provides safeguards to protect the organization from associated risks. The bank account reconciliation will be prepared by the assigned financial specialist and reviewed and approved by the respective financial staff at MOE and GSE.

84. GSE and MOE will produce separate financial reports for the part of the project that is implemented by that respective agency. The GSE will consolidate IFRs and produce a full set of the project consolidated IFRs every six months throughout the life of the project to minimize the financial reporting risk. The format of IFRs has been confirmed during assessment and includes: (i) Project Sources and Uses of Funds, (ii) Uses of Funds by Project Activity, (iii) Designated Account Statements, (iv) A Statement on Financial Position, and (v) SOE Withdrawal Schedule. These financial reports will be submitted to the Bank within 45 days of the end of each calendar semester. The first semester IFRs will be submitted after the end of the first full semester following the initial disbursement.

85. The audit of the proposed project will be conducted (i) by independent private auditors acceptable to the Bank, on terms of reference (TOR) acceptable to the Bank, and (ii) according to the International Standards on Auditing issued by the International Auditing and Assurance Standards Board of the International Federation of Accountants. The GSE’s current auditing arrangements and findings are satisfactory to the Bank. Particularly, the sample audit TOR

28 agreed with the Bank shall be attached to the FMM, and the annual audited project financial statements will be provided to the Bank within six months of the end of each fiscal year and also at the closing of the project. If the period from the date of effectiveness of the loan to the end of the borrower’s fiscal year is no more than six months, the first audit report may cover financial statements for the period from effectiveness to the end of the second fiscal year. The Borrower has agreed to disclose the audit reports for the project within one month of their receipt from the auditors, by posting the reports on the www.gse.ge website or by publishing them in a national newspaper. Following the Bank's formal receipt of these reports from the Borrower, the Bank will make them publicly available according to the World Bank Policy on Access to Information. The contract for the audit awarded during the first year of project implementation may be extended from year-to-year with the same auditor, subject to satisfactory performance. The cost of the audit will be financed from the proceeds of the loan.

Disbursement

86. To implement its components GSE will establish a Designated Account (DA) in a commercial bank in US dollars and maintain it until project completion. The DA will be drawn upon to meet payments to contractors, suppliers and consultants under the components. The Designated Account Statement will be audited in conjunction with the annual audit of the project. Detailed instructions on withdrawal of IBRD Loan proceeds are provided in the Disbursement Letter.

87. Project funds for GSE implemented components will flow from (i) the Bank, either: (a) via the DA to be maintained in the commercial bank, which will be replenished on the basis of SOEs or full documentation; or (b) on the basis of direct payment withdrawal applications and/or special commitments, received from GSE; and (ii) the own funds via the commercial bank through normal budget allocation procedures initiated by the implementing agency in accordance with the Company’s and Budget execution regulations. Those funds will be used to finance eligible expenditures under the Project. Withdrawal applications documenting funds utilized from the DA will be sent to the Bank at least every three months.

88. Project funds for MOE implemented component will flow from (i) the Bank on the basis of direct payment withdrawal applications and/or special commitments, received from MOE; and (ii) the own funds via the Treasury through normal budget allocation procedures initiated by the implementing agency in accordance with the MOE’s and Budget execution regulations. Those funds will be used to finance eligible expenditures under the Project.

Environmental and Social (including safeguards)

89. The TGSP will support construction of a new Akhaltsikhe-Batumi overhead high voltage electric transmission line (TL), most of which will pass through Ajara region, and the rest of which will be located in the Adigeni and Akhaltsikhe provinces of the Samtskhe-Javakheti region of Georgia. Part of the TL corridor gets pretty close to Georgia's State border with Turkey. The transmission line will connect the town of Akhaltsikhe - located on the plateau of semiarid hills with continental climate, to Batumi - a sea port and beach resort on the Back Sea coast. The line will cross over the Goderdzi mountain pass located 2025 meters over the sea

29 level. The corridor passes through highly diverse types of terrain, ranging from alpine meadows to subtropical forests and the coastal zone. These areas include populated and cultivated parcels of land, pastures, as well as remote and minimally transformed forests. Certain sections of the TL alignment overlap with bird migratory routes. The Project triggers OP/BP 4.01 Environmental Assessment and according to this Policy, is classified as an Environmental Category A, requiring a full scale environmental assessment. According to the national legislation as well, the project is subject to an environmental impact assessment, State Ecological Expertise, and environmental permitting.

90. The Borrower financed and carried out an Environmental and Social Impact Assessment (ESIA) of Project, having agreed the TOR of this task with the Bank. This TOR was disclosed to the Project stakeholders and discussions regarding the scope of the ESIA took place between September 17-19, 2013 in Tbilisi, as well as in Batumi - the main city of the Autonomous Republic of Ajara, and administrative centers of Akhaltsikhe, Adigeni, Keda, Khulo, Shuakhevi, and Khelvachauri districts that are located along the TL corridor. The scoping process considered discussions with the Ministry of Environment, Ministry of Energy/GSE, regional authorities of the Autonomous Republic of Ajara and Samtskhe-Javakheti Region, and several NGOs. The draft ESIA report was cleared for disclosure by the Bank and was posted on the web page of GSE in Georgian and English languages on November 25, 2013. On December 17 the draft ESIA report was disclosed through the InfoShop and its executive summary was distributed to the Board of Directors. The stakeholder consultation process is documented in the minutes of the conducted meetings, and the feedback is incorporated in the present ESIA report. The major concerns that were raised during the scoping meetings included: expected impacts on the natural environment, potential threats to public health coming from the magnetic fields of the TL, land take needs, and impacts on agriculture. Questions were raised about prospects for local employment.

91. Consultation meetings on the draft ESIA report were held in Tbilisi on March 20, 2014 and in Batumi, the main city of the Ajara region, on March 24, 2014, where local stakeholders and people directly affected by the TL construction were able to participate. No significant problems were raised in the consultation process and the feedback received does not call for revisions to the project design and/or the environmental and social mitigation measures suggested in the ESIA report. The ESIA report includes a Stakeholder Engagement Plan that describes all engagement activities to date and actions to ensure ongoing engagement during the life of the TGSP, including implementation of a grievance redress mechanism.

92. The ESIA studied baseline information in the project area, identified sensitive environmental and social receptors, analyzed potential positive and negative impacts of the project, and provided an environmental and social management matrix for mitigating the negative impacts and monitoring outcomes of the application of mitigation measures. Environmental and social aspects were fully considered during assessment of various alternatives of the technical solutions, design details, placement of towers, and the alignment of the TL, and were adequately built into the preferred project design. Despite proximity to several designated protected areas, historic monuments, an skiing resort, and numerous human settlements, the TL corridor does not affect these protected areas, does not destroy or fragment significant natural

30 habitats, has the least negative impact on the aesthetic appearance of the landscapes, and involves limited physical resettlement of population.

93. The selected most optimal alignment of the TL still has a few kilometers of overlap with a sensitive section of an international migratory corridor of birds, where the only option is to design the TL towers and conductors applying best practice features to reduce the likelihood of bird collisions and electrocutions. This will include placing of conductors within the distance established to avoid electrocutions while perching, and equipping the cables with bird reflectors to increase their visibility and rescue collisions. Bird monitoring will be ensured at the TL operation phase to check birds’ mortality rate, verify effectiveness of mitigation, and determine the need for additional measures. Mitigation of the construction-phase negative impacts will be possible by applying conventional good environmental practice and strong supervision of works. In addition to that, the humid subtropical climate of the Autonomous Republic of Ajara provides favorable conditions for a rapid natural regeneration of a number of construction impacts in most parts of the project area.

94. OP/BP 4.04 Natural Habitats is triggered because roughly 10 km long lower section of the TL alignment falls within the important international migratory corridor of birds, out of which the potential impacts of the TL construction and operation may be significant within 5-6 km segment, where birds are known to fly closer to the earth surface. The TGSP is expected to have modest impact on the forest habitats as well.

95. OP 4.09 Pest Management is not triggered, because ESIA confirmed that no herbicides will be used during construction and operation of the TL with the purpose of clearing and/or controlling vegetation.

96. The Akhaltsikhe-Batumi TL will pass the area with a number of registered historic monuments. Although the TL is designed the way to avoid direct impacts on the these cultural assets, a need for the construction and operation of service roads, construction camps and other supporting infrastructure carries certain risk of negative impacts. Also, there is a likelihood of encountering chance finds during earth works required for the construction of towers. OP/BP 4.11 Physical Cultural Resources is triggered to manage any possible impacts of the Project on the cultural property.

97. Significant part of the transmission line corridor passes through forested areas. Placement of towers and arrangement of service roads will require tree cutting. Natural forests, predominantly located on mountain slopes, will therefore be affected. A land strip under the power cables shall be maintained free of high-growing vegetation throughout operation of the TL. OP/BP 4.36 Forests is triggered to address risks associated with the expected impacts of the TGSP on the forest stands.

98. The Bank-financed construction of TL does not include any physical activities on dams and is not directly dependent on the safe operation of dams, however, the construction of HPPs associated with the TL entails placement of two large dams with the height of 22m and 39m and the OP 4.37 Safety of Dams is triggered. The Bank team reviewed arrangements in place for ensuring dam safety under the IFC-supported Adjaristsqali Hydropower Project and will track

31 how the quality control will actually work at the dams’ design, construction and operation phases as activities for the arrangement of HPP reservoirs progress.

99. The Bank-financed construction of TL does not trigger OP 7.50 Projects on International Waterways. Three HPPs to be constructed under the associated Adjaristsqali Hydropower Project will abstract water from the rivers of Chorokhi river basin that drains into the Black Sea in the territory of Georgia. Construction of these HPPs will not have any trans-boundary impacts. Therefore, OP 7.50 is not triggered.

100. The design of the Project’s TL corridor and the Environmental and Social Impact Assessment (ESIA) include measures to minimize adverse social impacts. The Project triggers OP/BP 4.12 on Involuntary Resettlement because it will require permanent acquisition of land for the erection of towers and imposition of easement for the transmission line’s Right-of-Way (ROW). Impacts from land easements for the ROW will be marginal and temporary as agricultural activities in the area will be able to continue. The transmission line will require up to 500 towers, resulting in the acquisition of 10 hectares of land. The easement for the ROW will be approximately 65 meters wide covering a total area of 975 hectares. The Project also may require the relocation of about 60 houses. Total land requirements for access roads are expected to be minimal. About 70 percent of parcels required for the positioning of towers are expected to be located on state-owned land. During Project appraisal, the details of the transmission line’s routing were not known. Therefore, GSE prepared a Resettlement Policy Framework (RPF), which focused on the principles, criteria and procedures for managing resettlement resulting from Project-related land acquisition. The preparation of site-specific Resettlement Action Plans (RAPs) will take place once the exact positioning of the line is known.

101. Given that the Project will provide more secure and reliable power supply from a cleaner source of power to the general population in Batumi and the Ajara region, no gender differentiated benefits and/or impacts directly associated to power transmission are expected. As part of the ESIA process gender-disaggregated data was gathered and no gender-specific risks and impacts were identified. Additional socioeconomic studies will be carried in preparation of the RAPs which will also include gender differentiated information to ensure that any project- related adverse impacts are mitigated taking into consideration any potential gender-based inequalities related to compensation and land rights. Single mother headed households, and project-affected people with disabilities, elderly or below poverty line will be given special consideration as part of the RAP implementation. The employment of local labor will be maximized during the operational phase of the projects (e.g. in providing security, undertaking vegetation control, etc). Job trainings will be equally offered to men and women and the project will provide equal employment opportunities to women within the project skills requirements.

102. GSE has undergone an institutional re-arrangement recently, which resulted in the creation of an Environment and Social Safeguards Unit under the International Projects and Reporting Department. The unit has one staff unit for an environmental specialist and two for social specialists. Although the safeguards unit would have been better positioned outside of the International Projects Department due to general nature of its services, and although more than one environmental specialist is required to adequately cover entire scope of GSE’s activities, this new set-up is an improvement as compared to just one safeguards specialist located within the

32 main body of the Department a few months ago. GSE will use services of an international supervision engineer to ensure quality of works under TGSP, and monitoring of safeguards application will be an integral part of the consultant’s assignment. Additional consultancy may be sought to supplement GSE’s in-house capacity of safeguards management as required.

103. The Adjaristsqali Hydropower Project (Associated Facility) is an ongoing activity initiated for the construction of Shuakhevi scheme consisting of Shuakhevi and Skhalta HPPs – 175 MW and 6MW respectively in the Ajara region, implemented with financial participation of IFC, MIGA, ADB and EBRD, which is associated with the construction of the TL. Namely, the TL will evacuate power generated in the Shuakhevi scheme (under construction) and the Koromkheti schemed to be developed at a later stage. In accordance with IFC Access to Information Policy, early drafts of the ESIA of Adjaristsqali Hydropower Project were disclosed at IFC's website on May 24, 2013. Updated ESIA documents were re-disclosed on October 3, 2013 along with an Environmental and Social Review Summary prepared by IFC. The Bank’s Task Team preparing the TGSP reviewed the ESIA reports developed for Adjaristsqali Hydropower Project, and was satisfied to see that all important environmental, social, and cultural heritage aspects related to the Project are covered in these reports. However, the Bank noted certain aspects of the ESIA report that lacked clarity or otherwise raised concerns. The Bank and IFC teams corresponded and held discussion on the Bank’s questions pertaining some statements and conclusions made in the ESIA report of Adjaristsqali Hydropower Project as well as to clarify how the system of environmental and social management will function under this project.

104. The Bank was pleased to receive confirmation that as a result of ESIA findings, construction of the Khertvisi HPP scheme was dropped from the Adjaristsqali Hydropower Project mostly due to a need for land take from the Machakhela National Park. IFC project team explained that based on the public feedback received at an early stage, some additional studies had been undertaken and a number of smaller changes introduced to the initial project design. This included thorough research of geomorphology and geological activity in the project area prompted by local communities’ sensitivity to landslide threats. Furthermore, the original scheme design included dams and weirs on a number of tributaries of the Adjaristsqali river. As the ESIA process revealed higher sensitivity and conservation value of the habitats on these tributaries, the scheme has been modified and the locations of the dams and weirs have been changed to other locations which are less sensitive.

105. The Bank expressed concern over the ESIA report’s suggestion to set an ecological water flow of the river at 10% of the annual flow despite acknowledgement of its significant negative impacts on the river ecosystems and a recommend that re-calculation is made based on research to be undertaken in the second phase of the project. ESIA report is unclear on why a supposedly detrimental arrangement with 10% flow is accepted for the first stage, how long may this arrangement remain in force, and whether the minimum flow requirement may be raised depending on the research outcome. Clarification received from IFC is that the 10% regulation is not only a current common practice in Georgia, but is still used by a number of developed countries worldwide. Nonetheless, prior to commissioning of the Adjaristsqali Hydropower Project in 4 to 5 years, a scientifically justified decision will be derived on what is an acceptable minimum flow for Adjaristsqali river and its tributaries and an appropriate mitigation measures,

33 including possible increase of the minimal water flow requirement, will be made as required prior to any damage is made.

106. Clarifications were received on a number of other issues, including biodiversity offsets, cumulative impacts within the river basin, and long term positive environmental impacts of the Adjaristsqali Hydropower Project. Overall outcome of the Bank’s due diligence in examining environmental and social management system under the Adjaristsqali Hydropower Project is that the studies undertaken so far are of a high quality and cover all significant aspects of the project’s activities however guidance provided on the environmental mitigation measures to be applied during construction and operation of the HPPs is of a generic nature. This system implies collection of site-specific information through additional studies and monitoring work to be undertaken on the rolling basis and to inform the development of concrete and adjusted mitigation measures as the project activities unfold. Knowing that the Ministry of Environment and Natural Resources Protection of Georgia has already issued an environmental permit for the construction of HPPs, and being aware of institutional weaknesses of public entities in environmental controls and enforcement, the Bank team notes that quality control over the site- specific safeguard documents to be developed at later stages of the project cycle is expected to be weak on behalf of the State environmental bodies and the GSE. Therefore, the main responsibility for ensuring quality of future environmental work and adequacy of mitigation measures to be prescribed based on the outputs of this work will rest with the IFC, ADB, EBRD and primarily with AGL. AGL has an Environmental, Health & Safety (EHS) unit that is responsible for managing environmental, social and health & safety risks and impacts during construction and operations in accordance with the Environmental and Social Management Plan commitments. The EHS unit’s role includes monitoring compliance of construction contractor’s performance with IFC's Performance Standards. AGL will develop a detailed audit/monitoring schedule, including EHS, labor and social issues.

107. IFC, ADB and EBRD, in the capacity of lenders, together with MIGA as a political risk insurance provider, will require periodic independent external monitoring of works by an industrial environmental management specialist. The Bank will maintain dialogue with IFC and MIGA to remain up-to-date on the status of project’s adherence with the Performance Standards and will receive environmental and social audit reports on regular basis. Joint supervision of the associated TGS and Adjaristsqali Hydropower Projects may also be considered, as appropriate.

108. In terms of social issues, the Adjaristsqali Hydropower Project involves land acquisition and resettlement which has been addressed as per IFC’s requirements. It must be noted that the project has faced active opposition from selected local communities, including blockage of access road, related to demands from communities for compensation and/or resettlement from their current villages, which are mostly built on unstable landslips, on the basis that the hydropower construction could trigger landslips and/or impact their water supplies. The AGL is working with Government to find solutions to the grievances by certain communities, some of which relate to compensation for historical events and others of which relate to a desire for guarantees of compensation should any project-related landslide damage occur.

34 Procurement

109. GSE that will be the implementing agency of the project. The GSE is a 100% state-owned joint stock company providing transmission and exclusive dispatch services to about 50 eligible companies in Georgia. GSE was formed in 2002 from the merger of JSC Electrogadatsema and JSC Electrodispetcherizatsia. These two entities were themselves established in 1999 and 2000 respectively to own the transmission assets of the state utility Sakenergo and to manage the national dispatch center.

110. GSE has been engaged carrying out procurement under financing of different donors – ADB, KfW, including World Bank financed Electricity market Support Project estimated at US$ 27 Million which included installation of energy meter, System Control And Data Acquisition (SCADA), and the Energy Management System (EMS) at the National Dispatch Center.

111. Procurement under the proposed Project will be carried out according to the “Guidelines for procurement of Goods, Works, and Non-consulting services under IBRD Loans and IDA Credits & Grants by World Bank Recipients” (January 2011), and “Guidelines for Selection and Employment of Consultants under IBRD Loans and IDA Credits & Grants by World Bank Recipients” (January 2011) and the provisions in the Loan Agreement.

112. The Bank’s anti-corruption norms (“Guidelines on Preventing and Combating Corruption in Projects Financed by IBRD Loans and IDA Credits and Grants”) of October 15, 2006 and revised in January 2011 will be applied.

113. Country and sector level risks: The latest country level risk assessment for public procurement was carried out during the preparation of the Country Procurement Assessment Report (CPAR) in 2009. It was conducted on the basis of the OECD-DAC/World Bank four pillars for public procurement. The conclusion was that all four Pillars needed improvements in order for the system to meet the international standards and best practices. A three year action plan was prepared and Georgia is making slow progress towards fulfilling the proposed actions. One important completed step was the introduction and implementation of an electronic procurement system of Georgia for all government contracts. The Bank has assessed mentioned system and the decision has been reached to use the same for the Bank funded projects for procurement of simple goods following shopping procedures, below threshold of US$ 100,000 with minor modifications to the current system, as agreed with Competition and State Procurement Agency (CSPA). The Bank is currently working with the CSPA and other counterparts to further modify the e-procurement system to be used for more complex NCB and ICB procurement methods.

Procurement risk assessment and mitigation measures

114. Procurement capacity assessment has been conducted. Risks have been identified, and respective mitigations measures proposed. Procurement Risk Assessment and Management report (PRAM) was prepared for Project Concept Note stage after Project appraisal. GSE conducts several other projects in addition to Bank financed ones (from state budget as well as other IFI-s). Therefore, there is the risk that GSE may not have sufficient staff and time to

35 coordinate the procurement action under new TGSP Project, to this end Head of Procurement Department will be assigned to TGSP project. The head of International Projects Department will exercise the oversight and be a key person for all procurement related issues under the project. In additional in case of excessive workload, support will be provided by procurement specialist whose qualification has been found to be sufficient.

115. Also Contract management capacity is in place but needs to be strengthened through assigning dedicated contract management specialist for managing all contracts envisaged to be financed under the project.

116. There is a risk that GSE without proper support by independent consultant, may not be able to properly evaluate the bids in a timely manner summited for Supply and Installation of Akhaltsikhe-Batumi High Voltage Transmission Line. - Funds are allocated under the project to hire independent consultant on competitive basis to support GSE in evaluation of bids, preparing bid evaluation report in agreed format and conclude the contract for Supply and Installation of Akhaltsikhe-Batumi High Voltage Transmission Line.

117. The Bank’s designated procurement specialist assigned to the project together with senior procurement specialist have conducted two day training course for GSE staff in overall World Bank procurement procedures and particular in bid evaluation procedures and preparation of bidding documents based on World Bank Standard Bidding Documents.

118. GSE staff (at least two persons) will attend regional procurement training organized by the Bank, to be conducted in April 2014, in Tashkent, Uzbekistan.

119. GSE has already invited Expressions of Interest to support in evaluation of bids and shortlist evaluation report has already been provided to the Bank for its review. GSE has also undertaken evaluation of expressions of interest submitted for Supervision of Supply and Installation of Akhaltsikhe-Batumi High Voltage Transmission Line. The Bank has received Shortlist Evaluation Report and will provide its comments in due course. GSE is expected to submit for the Bank’s review the draft bidding document for design, supply and installation Akhaltsikhe-Batumi High Voltage Transmission Line, not later than end of March 2014. The Project procurement risk is rated “Moderate” after mitigation measures are applied.

120. The procurement department of GSE will be responsible for implementing procurement under the project. The Procurement Department consists of 7 staff members (1 Head of Division and 6 procurement specialist). In addition to the regular procurement functions, the head of procurement division is responsible for overall monitoring and management of the unit. The procurement staff of GSE is experienced in carrying out procurement under financing of different donors – ADB, KfW, including World Bank Contract monitoring/management department is composed of 9 staff members with adequate qualification in state as well as donor’s procurement procedures.

121. Decision-making process follows the following formal procedure; each decision of the evaluation group, as well as of the tender commission, is described in minutes of meetings. The decree which describes each department’s responsibilities is approved by the Board of Directors.

122. All written records are in Procurement Department. After contract completion (for Civil Works after defects liability period is over) the contract as well as all supporting procurement documents are transferred to Procurement Archive. No special system is in place, but required documents can be easily obtained manually. Records both in archive as well as in procurement department are protected from loss or damage, access to archive is granted only to 3 person – Chairman of Management Board, Head of International Projects Manager and Procurement Manager.

123. A post review of procurement actions shall be conducted once a year. At least one out of five procurement packages not subject to Bank prior review will be examined ex-post.

124. The procurement procedures along with the thresholds for Bank review are described below as well as in the Procurement Plan (PP). The PP will be updated as agreed with the Project Team annually or as required to reflect the actual project implementation needs.

125. Procurement of goods and non-consulting services. Goods and non-consulting services estimated to cost US$1 million equivalent and more will be procured through ICB. Goods, and non-consulting services estimated to cost less than US$1 million may be procured through NCB, and less than US$100,000 through shopping, using e-procurement platform.

126. Procurement of works: Works contracts estimated to cost more than US$10 million equivalent will be procured through ICB. Those estimated to cost US$10 million or less may be procured though NCB, and less than US$200,000 through shopping.

127. Selection of consultants. Consulting services will be procured according to the Bank’s Consultant Guidelines mentioned above and will include consulting services to the Ministry of Energy to prepare Electricity Sector Strategic Environmental Impact Assessment and other sector related studies such as power electricity sector expansion plan, hydro power development value for money analysis, and other energy sector strategy related studies, as well as consulting services to supervise supply and installation contract for the Akhaltsikhe Batumi transmission line, preparation of new transmission system expansion plan, prospective transmission line feasibility studies, and services of consultants to support implementation of the project. The Bank’s Standard RFP (revised in October 2011) will be used to select all consulting firms. Consultant selection methods will include Quality and Cost-Based Selections (QCBS), Fixed- Budget Selection (FBS), Consultant Qualifications (CQS), Least-Cost Selection (LCS), Single- Source Selection (SSS) and Individual Consultants (IC). The latter will be selected according to Section V of the Consultant Guidelines. This method will require comparing at least three qualified and available candidates.

128. Short lists composed entirely of national consultants. Short lists of consultants for services estimated to cost less than US$300,000 equivalent per contract may be composed entirely of national consultants, according to the provisions of paragraph 2.7 of the Consultant Guidelines.

129. The Bank has cleared the draft PP dated 25 November 2013. GSE is expected to submit revised PP to reflect new sub-component. Any further revision in the PP will be discussed

37 between the GSE and the Bank team. The PP will be updated in agreement with the Project Team annually or as required to reflect the actual project implementation needs.

130. Incremental Operating Costs: The recurrent costs for GSE covering office supplies, utilities, operating and maintenance expenditures of office equipment and etc. will be financed by GSE on the basis of annual budgets of GSE.

Prior Review Thresholds

131. For goods and works and services other than consulting services:

Exp Category Method Prior Review Thresholds 1. Goods ICB All contracts -“- NCB As agreed in PP -“- SH As agreed in PP -“- DC As agreed in PP 2. Works ICB All contracts -“- NCB As agreed in PP -“- SH As agreed in PP -“- DC As agreed in PP

For consulting services: Procurement Exp Category Method Method Prior Review Thresholds Thresholds 3. Cons. Services firms QCBS All contracts > 100 FBS All contracts > 100 QBS All contracts > 100 LCS All contracts > 100 CQS ≤ $300 K As agreed in PP SSS As agreed in PP 4. Cons. Services individuals IC As agreed in PP

SSS As agreed in PP

Particular Methods of Procurement of Goods and Works 132. Except as otherwise provided in table below, goods and works shall be procured under contracts awarded on the basis of International Competitive Bidding (ICB).

133. Other methods: The following table specifies the methods of procurement, other than ICB, which may be used for goods and works. The Procurement Plan shall specify the circumstances under which such methods may be used.

38 Procurement Method (a) National Competitive Bidding, subject to the additional provisions set forth in below:

(i) “Open competitive procedures” (i.e., “public tender”) shall be the default rule. A single envelope procedure shall be used for the submission of goods, works, or non-consulting services.

(ii) Invitations to bid shall be advertised in at least one widely circulated national daily newspaper allowing a minimum of thirty (30) days for the preparation and submission of bids. Advertisements published in foreign language newspapers shall be in compliance with such a 30- day-minimum in number of days for bids preparation and submission.

(iii) Bidding shall not be restricted to pre-registered firms. If registration is required, it shall not be denied to eligible bidders for reasons unrelated to their capacity and resources to successfully perform the contract (e.g., mandatory membership in professional organizations, classification, etc). Post-qualification shall be conducted to verify that the bidder has the capability and resources to successfully perform the contract.

(iv) Government-owned enterprises in Georgia shall be eligible to participate in bidding only if they can establish that they are legally and financially autonomous, operate under commercial law and are not a dependent agency of the Government. Government-owned enterprises will be subject to the same bid and performance security requirements as other bidders.

(v) Procuring entities shall use the appropriate Bank’s sample bidding documents, including pre-qualification documents, for the procurement of goods, works, or non-consulting services, and such documents shall contain draft contract and conditions of contract including clauses on fraud and corruption, audit and publication of award, all acceptable to the Bank.

(vi) Bids shall be opened in public, immediately after the deadline for submission of bids. Bidder’s representatives shall be permitted to attend the bid opening.

(vii) Extension of bid validity shall be allowed once only for not more than thirty (30) days. No further extensions should be requested without the prior approval of the Bank.

(viii) Evaluation of bids shall be based on quantifiable criteria expressed in monetary terms as defined in the bidding documents, no merit point system and no domestic preference shall be used in the evaluation of bids. Contracts shall be awarded to qualified bidders having submitted the lowest evaluated substantially responsive bid and no negotiations shall be carried out prior to contract award.

(ix) Civil works contracts of long duration (e.g., more than eighteen (18) months) shall contain an appropriate price adjustment clause.

(x) No bid shall be rejected purely on the basis that the bid price is higher than the estimated budget for that procurement. All bids shall not be rejected and new bids solicited without the Bank’s prior concurrence.

(b) Shopping (c) Direct Contracting

Annex 4: Operational Risk Assessment Framework (ORAF)

Georgia: Transmission Grid Strengthening Project (P147348)

. Project Stakeholder Risks Stakeholder Risk Rating Moderate Risk Description: Risk Management: Early consultations with affected people, implementation of a stakeholder engagement The Transmission Grid Strengthening Project and the plan, and effective disclosure of and consultation on the Resettlement Policy Framework associated IFC- and MIGA-supported Adjaristsqali (RPF), Environmental and Social Impact Assessment (ESIA) report, engagement with Hydropower Project will affect large number of the developer of the Adjaristsqali Hydropower Project, and ongoing coordination with stakeholders. This will include residents who are directly IFC and MIGA. or indirectly affected by the construction of Hydro Power Plants (HPPs) and the Transmission Line (TL). Resp: Status: Stage: Recurrent: Due Date: Frequency: Client In Progress Both There is a risk of opposition to the TL from communities and NGOs by association to the linked Adjaristsqali Risk Management: Hydropower Project which has already faced active Close coordination with the financiers; IFC, EBRD, and ADB opposition, including work stoppages in November 2013 and February and March 2014. Opposition to this Resp: Status: Stage: Recurrent: Due Date: Frequency: hydropower project relates to demands from communities Bank In Progress Both for compensation and/or resettlement from their current villages, which are mostly built on unstable landslips, on the basis that the hydropower construction could trigger landslips and/or impact their water supplies.

There is a risk of conflicting implementation arrangements and contradicting procedures used for environmental and social management of TL construction and for implementation of Adjaristsqali Hydropower Project due to involvement of multiple financiers (IBRD, IFC, MIGA, EBRD, and ADB) in these two operations.

40 Implementing Agency (IA) Risks (including Fiduciary Risks) Capacity Rating Moderate Risk Description: Risk Management: A full time financial specialist with relevant experience in Bank-financed projects, and Delays in project implementation may occur given the knowledge of Bank FM policies and procedures will be assigned to assist the GSE in Implementing Agency's lack of experience with Bank managing project-related financial management and disbursement work. The 1C utilized procedures, especially in procurement and financial by the GSE for its statutory reporting and accounting purposes will be modified to allow management. automatic generation of the Bank-required reports such as statements of expenditures

(SOEs), IFRs and annual financial statements, and will include the budgeting module. Environmental and social risks of the project may not be All FM staff will receive focused training when the project launches, and hands-on properly mitigated during construction as well as training during implementation. operation of the TL due to lack of staffing in the Implementing Agency. The Financial Management chapter (FMM) of the Project Operational Manual (POM) will be elaborated and will describe budgeting, audit arrangements, internal control and accounting policies, and procedures to be followed over the course of the project implementation. Resp: Status: Stage: Recurrent: Due Date: Frequency:

Client In Progress CONTINUO US Risk Management: The GSE has one person assigned to handle all environmental and social matters of the GSE’s routine activities and donor-supported projects. The position is called International Projects Coordinator for Environmental and Social Issues and this staff unit is placed within the International Projects and Reporting Department. Although the position is filled by a well experienced specialist with relevant educational and employment background, she is stretched thin over multiple tasks, including travel all over the country and internationally. Implementation of a Category A project with the Bank financing will require enhancement of the GSE’s capacity to manage environmental and social safeguards. This may be achieved by adding a staff unit to the core structure of the GSE, or hiring a term consultants either based in the central office, or in the Autonomous Republic of Ajara. Generally, it is highly advisable that the GSE creates a specialized unit for handling environmental and social performance of the company and has an adequate size team of professionals of each of these fields.

41 Resp: Status: Stage: Recurrent: Due Date: Frequency:

Client In Progress Governance Rating Low Risk Description: Risk Management: Given the current composition of the supervisory board Re-assess the overall Governance and capacity of the GSE and top management of GSE the risk is low however, Resp: Status: Stage: Recurrent: Due Date: Frequency: there is potential upside risk of change of the top management of GSE which may create a perceived risk of Bank Not Yet Due Implementation poor governance. Risk Management: Re-assess GSE's performance with respect fraud and corruption Resp: Status: Stage: Recurrent: Due Date: Frequency: Bank Not Yet Due Implementation Project Risks Design Rating Moderate Risk Description: Risk Management: Include design review in the ToR for owner' engineer Complicated geology and topography of the area of the TL alignment poses challenge to the quality of the design of Resp: Status: Stage: Recurrent: Due Date: Frequency: the TL. Client In Progress Implementation 15-Jan-2014 Risk Management: Provide additional qualified staff to GSE to review detailed design Resp: Status: Stage: Recurrent: Due Date: Frequency:

Bank Not Yet Due Implementation 16-Dec-2013 Social and Environmental Rating Substantial Risk Description: Risk Management: The Borrower carried out an Environmental and Social Impact Assessment (ESIA) of

42 The project will support construction of a new TL in a the project investments. ToR of this task was shared with the Bank for comments to difficult and highly diverse terrain, ranging from alpine ensure that the ESIA report is in line with the requirements of the Bank’s safeguard meadows to subtropical forests and the coastal zone. policy and meets quality expectations. This ToR was disclosed to the Project These areas include populated and cultivated parcels of stakeholders and a discussion was held on the scope of the upcoming ESIA. The draft land, pastures, as well as parts remote and minimally ESIA report was shared with the Bank for clearance and disclosed for soliciting public transformed forests and rivers. Certain sections of the TL feedback. Consultation meetings on the draft ESIA report were held in Tbilisi and alignment may overlap with bird migratory routes. Batumi. ESIA report carries environmental mitigation and monitoring plans. Therefore construction of this line may have a variety of Compliance with the mitigation plan will be mandatory for works contractors and its negative environmental impacts at the construction and implementation will be monitored throughout the Project life. Mitigation measures and operation phases. parties responsible for their application are provided for the operation phase of the TL as well. Construction of the TL may not commence prior to issuance of an environmental About 10 km long southern section of the TL corridor falls permit by the Ministry of Environment and Natural Resources Protection. within the important international migratory corridor of Resp: Status: Stage: Recurrent: Due Date: Frequency: birds, out of which the potential impacts of the TL construction and operation may be significant within 5-6 Client In Progress Both CONTINUO km part of the line, where birds are known to fly closer to US the earth surface. Risk Management:

Significant part of the TL corridor passes through forested The selected most optimal alignment of the TL still has a few kilometers overlap with a areas. Placement of towers and arrangement of service sensitive section of an international migratory corridor of birds, where the only option is roads will require tree cutting. Natural forests, to design the TL towers and conductors applying best practice features to reduce the predominantly located on mountain slopes, will therefore likelihood of bird collisions and electrocutions. This will include placing of conductors be affected. A land strip under the power cables shall be within the distance established to avoid electrocutions while perching, and equipping the maintained free of high-growing vegetation throughout cables with bird reflectors to increase their visibility and rescue collisions. Bird operation of the TL. monitoring will be ensured at the TL operation phase to check birds’ mortality rate, verify effectiveness of mitigation, and determine the need for additional measures. The Akhaltsikhe-Batumi TL will pass the area with a Resp: Status: Stage: Recurrent: Due Date: Frequency: number of registered historic monuments. Although the TL is designed the way to avoid direct impacts on the Client Not Yet Due Implementation CONTINUO these cultural assets, a need for the construction and US operation of service roads, construction camps and other Risk Management: supporting infrastructure carries certain risk of negative Exact locations of towers and alignment of the power cables are yet to be decided by impacts. Also, there is a likelihood of encountering chance designers. The detailed design will be undertaken in the way to minimize impact on the finds during earth works required for the construction of forest stands. During construction, contractor will be required to mark trees that have to towers. be removed and to formally agree vegetation clearing plan with the technical supervisor

representing the client.

43 Monitoring environmental performance of works for the Resp: Status: Stage: Recurrent: Due Date: Frequency: construction of the TL will be a major challenge for the Client Not Yet Due Implementation CONTINUO GSE due to complexity of terrain along the TL corridor, US multiple types of mitigation measures to be applied, distance of the project site from the GSE's office in Risk Management: Tbilisi, and lack of staff in the GSE mandated for Construction contractors will be mandated to formally agree the locations and sketch safeguards management. drawings of construction camps and designs of access roads with the technical supervisor representing the client. Locations for this infrastructure will be chosen so as Adjaristsqali Hydropower Project is an ongoing activity to keep it in a safe distance from the cultural assets in order to prevent their damage as for the construction of four HPPs in the Autonomous well as temporary or permanent deterioration of their aesthetic value. Republic of Ajara, implemented with financial participation of IFC, MIGA, ADB and EBRD, which is Construction contractors will be instructed to take all activities on hold in case of a associated with the construction of Akhaltsikhe-Batumi chance find. Technical supervisor will immediately contact Ministry of Culture and TL. Environmental and social impacts of Adjaristsqali Monuments Preservation and works will be authorized to resume once a formal consent Hydropower Project will have certain influence on the is provided from this Ministry. public perception of TGSP and on the corporate image of the Bank. Resp: Status: Stage: Recurrent: Due Date: Frequency:

Client Not Yet Due Implementation CONTINUO GSE lacks staff for the successful implementation and US monitoring of RPF and RAPs which may lead to delays in the land acquisition process and potential complaints from Risk Management: affected people. GSE hired environmental and social staff and will maintain in-house capacity for providing general oversight on the safeguards compliance under the Project. Day-to-day While the overall project is expected to benefit women environmental supervision of works will be carried out by a supervision engineer to be and men equally, during implementation, land acquisition contracted by GSE to oversee all aspects of the TL construction works, including could have a differentiated impact on some women, adherence of construction contractor to the Environmental Management Plans. ToR of particularly impacts on single mother-headed households. the supervision engineer will be agreed with the Bank to ensure that all relevant aspects of this assignment are included. The GSE will be responsible for ensuring quality of the supervision engineer's outputs, and for timely and adequately reacting on the information provided. The GSE will be sharing supervision engineer's reports with the Bank, so that the Task Team is informed on various aspects of works progress, including status of environmental performance, and can provide the required implementation support to the client. Resp: Status: Stage: Recurrent: Due Date: Frequency:

Client Not Yet Due Implementation CONTINUO

44 US Risk Management: The Bank Task Team preparing the TGSP reviewed ESIA report developed for Adjaristsqali Hydropower Project and found it of a generally good quality. Some unclear points in the report were discussed and IFC’s interpretation of the ESIA statements were received request. Overall outcome of the Bank’s due diligence in examining environmental and social management system under the Adjaristsqali Hydropower Project is that the studies undertaken so far cover all significant aspects of the project’s activities however this system implies collection of site-specific information through additional studies and monitoring work to be undertaken on the rolling basis and to inform the development of concrete and adjusted mitigation measures as the project activities unfold. The Bank will maintain dialogue with IFC to remain up-to-date on the status of project’s adherence with the Performance Standards and will receive environmental audit reports generated on the Adjaristsqali Hydropower Project on regular basis. Joint supervision of the associated projects of TGS and Adjaristsqali Hydropower Project may also be considered, as suggested by IFC. Resp: Status: Stage: Recurrent: Due Date: Frequency:

Bank In Progress Both CONTINUO US Risk Management: Improved staffing of the GSE’s safeguards team and continuous supervision and support from the Bank team.

GSE prepared a sound Resettlement Policy Framework in accordance with OP 4.12 and with clear guidance to mitigate potential issues associated to land acquisition. GSE has allocated staff for working on social issues. Their capacity will be improved by thorough consultations from the Bank team during RAP preparation and implementation process.

During the preparation of site-specific RAPs, additional socio-economic studies will be conducted to identify potential gender-differentiated impacts and corresponding mitigation measures. Additionally, GSE and its contractors will be encouraged to include women in job training efforts and give them equal opportunity to work on the construction of the TL construction.

45 Resp: Status: Stage: Recurrent: Due Date: Frequency:

Both In Progress Both Quarterly Program and Donor Rating Moderate Risk Description: Risk Management: Coordination between GSE, AGL, the project team, and Identify key contact persons from each entity responsible for coordination and enforce hydropower financiers IFC, MIGA, ADB, and EBRD fails regular information exchange between parties Resp: Status: Stage: Recurrent: Due Date: Frequency: Both In Progress Both CONTINUO US Delivery Monitoring and Sustainability Rating Moderate Risk Description: Risk Management: Select supervision engineer based on Quality Based selection method Timely delivery of the TL coordinated with the hydropower station completion date is a complex task Resp: Status: Stage: Recurrent: Due Date: Frequency: which carries substantial risks. The TL passes through Client In Progress Implementation 10-Feb-2014 high altitude plateau (about 2000 m above sea level) which is characterized by high precipitation and short Risk Management: construction period Provide TA assistance to the regulator to review transmission pricing models and overall tariff system Conversely if the Adjaristsqali Hydropower Project is not completed by 2016, there is a risk that benefits of Resp: Status: Stage: Recurrent: Due Date: Frequency: improved power supply to Batumi are delayed. Client Not Yet Due Preparation 24-Mar-2014

In addition, reluctance of the Government to support Risk Management: electricity transmission and dispatch tariff increase, poses The Bank team will coordinate with financiers of the Adjaristsqali Hydropower Project a risk to sustainability and financial viability of GSE to closely monitor progress and address implementation issues as they arise, if necessary. If the Adjaristsqali Hydropower Project is not completed by 2016, the Bank and GSE can accelerate completion of the section of the Transmission Line from Suakhevi HPP to Akhaltsikhe station. Resp: Status: Stage: Recurrent: Due Date: Frequency:

Both Not Yet Due Implementation 01-Jun-2016

46 Other (Optional) Rating Risk Description: Risk Management:

Resp: Status: Stage: Recurrent: Due Date: Frequency:

Other (Optional) Rating Risk Description: Risk Management:

Resp: Status: Stage: Recurrent: Due Date: Frequency:

Overall Risk Overall Implementation Risk: Rating Substantial Risk Description: The substantial rating is appropriate due to the complex environmental, social, and technical challenges associated with construction and operation of the TL and the associated Adjaristsqali Hydropower Project, which has multiple stakeholders. The reputation risks that may emerge from the implementation of the associated activity are likely to spill over the Project, especially as the two are not distinctly separated in the public perception.

47 Annex 5: Implementation Support Plan COUNTRY: GEORGIA Transmission Grid Strengthening Project

134. The proposed Project is the first project which lends to the energy sector after 5 years of no lending activities in that sector. GSE has substantial past experience the implementing World Bank projects, GSE also implements a number of other projects funded by different financiers. Bank implementation support is essential to the successful implementation of the project re- engagement into the sector and to realize the transformational potential of the project.

Strategy and Approach for Implementation Support

135. The strategy and approach for implementation of the Project stem from the risks associated with the implementation of the Project and mitigation measures as described in the ORAF. The following implementation support is proposed which reflect key risks of the Project: a. Schedule of delivery and implementation. The Bank has engaged with the GSE and AGL at a very early stage of Project identification. By close coordination measures the Bank tightly monitored implementation progress of the Project and its timing with the implementation of the hydropower stations. Advanced site visits, regular formal and informal meetings, consultations with GSE, IFC, and AGL preceded Project preparation. Consultations with the Government on the key issues like, transmission tariffs, safeguard compliance, were undertaken well in advance of the formal request from the Government for the Project financing. The similar preemptive approach will be applied to the Project implementation, with particular attention to the coordination of actions with AGL and IFC. b. Environmental and social safeguards: The Bank’s environmental and social specialists will continue providing regular support to the Borrower in tackling safeguards related issues during the Project implementation and will closely monitor its compliance with the EMPs and RAPs. Due to the nature of the Project design, RAPs could not have been prepared by appraisal, and hence their review and approval will be part of the Project’s implementation support. The locally based social specialist will be mentored by the senior specialist which is based the same region in order to provide timely feedback and fast response to social issues. issues. The Bank’s Task Team will apply an additional effort in the course of TGSP implementation by reviewing environmental audit reports generated under the associated Adjaristsqali Hydropower Project, and by participating in the joint supervision of its implementation along with IFC, EBRD, and ADB. Overall, tracking and supporting safeguards compliance under the TGSP as well as following status of Adjaristsqali Hydropower Project’s compliance with IFC’s Performance Standards will be a challenging task and will require greater resources than other Environmental Category A investments ongoing in Georgia.

48 c. Technical inputs: An individual consultant will provide assistance to the GSE in technical review of the transmission line design, the technical specifications of the contract bid documents for supply of other Project equipment. d. Procurement: The procurement related implementation support will include advance consultations on the procurement related issues and will be provided from the country office based procurement officer. The GSE team will be supplemented by team of consultants to evaluate bids for supply and installation of the transmission line, and for selection of the supervision consultants. e. Financial management: The Bank will conduct risk-based financial management implementation support and supervision mission within a year from the project effectiveness, and then at appropriate intervals. In addition, the regular IFRs and annual project audit reports will be reviewed by the Bank. As required, a Bank- accredited Financial Management Specialist will assist in the implementation support and supervision process. f. Operation: The TTL of the project is based in the country office and will conduct daily supervision of the project and coordinate with the client and other project team members to provide timely guidance and support to the client.

Table 4: Estimated Resources Required for Project Supervision

Time Focus Skills Needed Resource Estimate First year Technical Review, Transmission line 3 Staff Weeks procurement review, bidding engineer documents Procurement 2 Staff Weeks RAP Implementation Social specialist 4 Staff Weeks Senior Social Specialist 2 Staff Weeks Environmental Supervision Senior Environmental 3 Staff Week Specialist Senior Financial 2 Staff Weeks Management Specialist

Financial Management 2 Staff Weeks Specialist

Procurement Specialist 2 Staff Weeks Public outreach Senior Communication 1 Staff Week Specialist 2nd-4rd Project Construction IT/ engineer 4 Staff Weeks months Procurement and 4 Staff Weeks contract management Environmental and Social Senior Environmental 2 Weeks Monitoring Specialist

Senior Social Specialist 2 Staff Weeks

49 Time Focus Skills Needed Resource Estimate

Social Specialist 3 Staff Weeks Financial Management, Financial Management 2 Staff Weeks Disbursement, Report Specialist Task Team Leadership TTL 8 Staff Weeks

Table 5: Skills Mix Required

Skills Needed Number of Staff Number of Comments Weeks Trips TTLs 8 Annually Field trips Country office based as required Senior Environmental specialists 2 annually Field trips Country office based as required Senior Social Specialist 2 Annually Field trips International as required Social Specialist 4 for the first year 3 Field trips Country office based the second year as required Senior Procurement Specialist 1 Annually Field trips International as required Procurement Specialists 2 Annually Field trips Country office based as required Power Engineer 3 for the first year Field trips International then 2 Annually as required Senior Financial Management 1 Annually Field trips International Specialist as required Communication Specialist 1 Annually Field trips Country office based as required

Table 6: List of Partners

Name Institution/Country Role IFC International Financier of Adjaristsqali Financial Institution Hydropower Project MIGA International Provides Political Risk Insurance Financial Institution to Adjaristsqali Hydropower Project

50 Annex 6: Economic and Financial Analysis COUNTRY: GEORGIA Transmission Grid Strengthening Project

136. Economic Analysis. A benefit-cost analysis (BCA) was carried out to assess the economic viabilities of the Project. The analysis was carried out over a 20-year period from 2015-2034, discounted at the economic opportunity cost of capital (EOCK) of 12 percent. The economic benefits and costs were expressed in US dollars and constant 2013 prices net of costs of transfer, financial charges and price contingencies. Local costs were converted to US dollars at an exchange rate of GEL 1.75 to US$1.00. Project costs and benefits were estimated on a without- and with-project basis.

Costs 137. The costs associated with the Project include i) upfront investments of US$45 million for the construction of the transmission line, and an estimated US$6 million for the metering and trading system; and ii) ongoing costs of operating and maintaining the network constructed, assumed at an annual amount of 2 percent of the total capital investment.

Benefits 138. The primary benefit of the Project comes from improved reliability of transmission service in the Ajara region. In spite of a booming economy with an average annual growth rate of 11.6 percent over the past half a decade, the Ajara region, situated in the southeast end of the country, is connected through the weakest link of the national grid. The power supply in the region is highly unstable with frequent outages and below standard voltage levels. A single blackout in the winter of 2013 lasted nearly 10 days bringing the regional economy into a halt. During the blackout, manufacturing and port operations dwindled; schools were shut down; hospitals switched to diesel-based backup generators. The total cost of the blackout to the regional economy was estimated at around US$14 million, or US$0.56 per kWh. The Project investment in the transmission line will substantially reduce annual unplanned power outages from an average of 68 hours to below 0.5 hours.

139. Moreover, the Project investments, i.e., the cross-border transmission line and the metering and trading system, will enable and facilitate domestic and regional power trade through evacuating an estimated 483 GWh of lower-cost hydro power from the Shuakhevi HPP annually. The power supply from the HPP will be exported to Turkey for nine months of the year, and used to serve domestic market during the three winter months. The benefit of lower cost of regional power supply is conservatively assumed at US$0.03 per kWh based on the spread between the lowest wholesale tariff rate in Turkish at US$0.08 per kWh and the proposed PPA from the HPP at US$0.05. The benefit of lower cost in domestic power supply is conservatively estimated at US$0.008 per kWh, based on the spread between the average domestic wholesale tariff during the winter months at US$0.058 and the proposed PPA from the HPP. Since the

51 HPP with an estimated investment of US$356 million is outside the scope of the Project,25 the portion of the total benefit from domestic and regional power trade attributed to the Project is estimated at around 12.5 percent, based on the percentage of the Project investment in the total investments of the HPP, transmission, and trading infrastructure.

140. Strategically, the Project will serve as a catalyst for the development of large hydropower facilities in Georgia. The feasibility studies for the new transmission lines, which are part of GSE’s expansion plan, are expected to address risk of evacuation of power from newly constructed hydropower facilities.

Results of the Economic Analysis

141. At an EOCK of 12.0 percent, the Project investment is expected to generate an economic net present value (ENPV) of US$3.12 million, and yield an economic internal rate of return (EIRR) of 13.4 percent. Moreover, about 81 percent of the estimated benefit from the Project comes from system reliability improvements and 19 percent from lowering regional cost of supply through enabling regional power trade.

Table 7: ENPV and EIRR ENPV, 12% EOCK26 EIRR (Million US$) Investments 51.00

O&M 8.53 Improved Reliability 54.11 Lower domestic cost of supply 0.41 Lower regional cost of supply 11.75 Net Benefit 3.12 12.7%

Sensitivity Analysis

142. Both NPV and EIRR are sensitive to the unit valuation of the economic impact of blackouts. It is estimated that every US$0.01 per kWh increase/decrease in the valuation will increase/decrease the Project ENPV by US$0.9 million as shown in the graphs below.

25 Jointly financed by an A loan of up to US$70 million, a B loan of up to US$180 million and an equity of $110 million. CEI (owned by Norsk Mineral), Tata Power and IFC will contribute 40%, 40% and 20% of the equity, respectively. Adjaristsqali Georgia LLC will develop the Project. 26 Economic Opportunity Cost of Capital is commonly abbreviated as EOCK

52 Graphs NPV and EIRR Sensitivity

NPV Sensitivity to EIRR Sensitivity to WTP for Load Loss during Blackouts WTP for Loadd Loss during Blackouts 50.0 30.0% y = 90.176x - 47.376 y = -0.1086x2 + 0.3311x - 0.0246 20.0%

- 10.0% - 0.20 0.40 0.60 0.80 1.00 1.20 0.0% (50.0) - 0.20 0.40 0.60 0.80 1.00 1.20

143. GSE’s financial performance. Since 2008, the GSE has been operating under a 15-year bankruptcy recovery (financial rehabilitation) plan which was approved by Ministry of Finance on November 20, 2008. Prior to that date, GSE was not able to pay its liabilities due to low tariffs, low collection rates, accumulated debts due to poor management, as well as tax and salary arrears. The RP sets out the strategic targets of the Georgian State Electrosystem and the debt repayment schedule shall be completed by 2023. The total GSE debts under the plan were about $US67,6 million. The overall debt is comprising of 75% of the debt owed to the Government, 22 % payable to other creditors and 3 % as salary arrears, with the following net amounts respectively equivalent to approximately: US $51,2 million, tax arrears payable to the Government; US $14,9 million as trade payables; US $1,5 million as salary arrears.

144. Beginning in 2008, GSE revenues from core operations started to increase and grew by about 40 % from GEL 46.6 million to GEL 64.9 million in 2013. Mostly due to increase of total transmitted power. The company’s total operating revenues were GEL 69.5 million in 2013 (unaudited) and its long-term assets grew from GEL 158 million in 2008 to GEL 306.7mln as of December 31, 2013. Operating expenses increased by only 21 percent from 2009 to 2013, when the amounted to GEL 41.4 million in 2013 (less of depreciation).

145. The increased revenues from operations allow GSE to fully service its debts under bankruptcy plan. As of April 2014, the total outstanding debt equals US$60,7 million comprising of US$45,7 million payable to the Government and US$15,0 million as trade payables.

146. Table 9, shows GSE’s operating revenues since 2009. Operating revenues grew along with operating expenses; however the net operating margin remained negative throughout the entire period.

Table 8: Operating Margins of GSE in 2009-2013 (US $1 = GEL 1.7)

$ thousand 2009 2010 2011 2012 2013 Operating Revenues 25,219 29,383 32,279 37,669 38,192 Operating Expenses (35,895) (33,883) (34,467) (43,284) (39,795) Net Operating Margin (10,677) (4,500) (2,188) (5,615) (1,603)

147. The negative operating margin of the period from 2009-2013 was reflected in the main financial ratios of the company.

Table 9: Key Financial Ratios

Key Financial Ratios 2009 2010 2011 2012 2013 Current Ratio 193% 141% 254% 150% 162% Receivables Turnover Ratio 5.75 6.07 7.08 8.99 8.19 Total Assets Turnover 0.21 0.15 0.13 0.17 0.16 Operating Profit Margin -42.3% -15.3% -6.8% -14.9% -4.2% Taxable Profit Margin -28.4% -7.1% 4.2% -1.0% -20.5% ROE 5.43% -0.66% 1.06% -0.30% -5.04% Cash Flow from Operations to Revenues 37.6% 47.8% 54.6% 41.1% 49.0% Debt-to-Equity 61.5% 54.4% 37.7% 35.0% 34.7% Debt Service Coverage Ratio 6.84 3.16 6.17 9.79 2.05 Cash Flow Coverage of Debt Service 1.09 (1.23) 0.97 2.93 (1.34)

148. Current Ratio defined as current assets to current liabilities has been used to monitor GSE financial performance. Starting from 2009 GSE Current Ratio has been substantially above 100%. Not to limit GSEs’ ability to borrow according to the Capital Investment Plan discussed in the section below, GSE will maintain the current ratio not less than 1.

149. Capital Investment Plan. For the next five years, GSE plans to invest GEL 445 million in grid development, the company intends to implement five major projects during the period 2014 to 2017, as presented in the table below.

Table 10: Capital Investment Plan

Capital Investment Plan 2014 2015 2016 2017 Name of the Project Debt Equity Debt Equity Debt Equity Debt Equity Regional transmission improvement 16,745 282 34,000 12,287 27,455 10,653 Project Construction of 220-500kw Substation 28,928 6,644 53,304 16,882 45,075 13,436 and Transmission Lines - Jvari Rehabilitation and Construction of - 5,100 220kv line Senaki 1 and Senaki 2 Construction of 220kw Transmission 19,125 4,165 30,600 11,142 26,775 10,193 Line, Akhaltsikhe - Batumi Construction of 500kv Transmission 14,875 595 23,800 6,021 20,825 5,284 Line . Georgia - Russia Total 64,798 16,191 132,779 40,906 123,105 40,303 20,825 5,284

150. Current tariffs and projected increases. The implementing the bankruptcy recovery plan at the same time borrowing for planned transmission grid expansion will undermine current financial viability of the GSE, unless there is gradual increase of GSE tariffs or reduction of GSEs debts to the key creditor which is the Government. The Government is financing expansion of the transmission grid through debt and budget co-financing. It is committed to keeping GSE a financially viable company. In order to achieve that the Government intends to apply one or combination of the following three measures; (i) increase transmission tariff, (ii) restructure of the Government debt, and (iii) write off the Government debts, to ease repayment burden.

151. GSE is a natural monopoly and its tariffs are regulated by Georgian National Energy Regulatory Commission. The applied methodology allows recover of all costs of the company. Currently, GSE receives about 0.4 US cents/kWh (0.65 Tetri) for transmission and dispatch services. However, the plan to extend the grid through borrowing requires tariff increases in the medium- to-long term. Projections of tariff increases during 2014-2019 are shown in the table below.

Table 11: Tariff Projections

Thousand $, US C/kWh, GWh 2014 2015 2016 2017 2018 2019 Operational Costs 41,176 72,800 76,440 81,026 85,888 90,182 Total Required Funds 59,825 130,058 134,042 103,884 134,282 138,791 Total GWh 11,506 12,081 12,685 13,319 13,985 14,684 Break-Even Tariff 0.52 0.63 0.62 0.46 0.56 0.56 Current Tariff 0.38 0.38 0.38 0.38 0.38 0.38 Difference between 0.14 0.25 0.24 0.08 0.18 0.17

152. The implementation of these plans requires an average increase in GSE’s tariff by at least 0.27 Tetri per kWh for the next ten years (break-even tariff). If the tariffs are calculated based on the assumption that the company’s return on equity should equal its capitalization rate on equity (10.5 percent), the rate should further increased by 0.06 Tetri per kWh, a total increase of 0.33 Tetri per kWh. This cost-plus methodology and the asset-based tariff methodology yield the same tariff increase. As the new hydropower generators come online and the overall volume of power transmitted increases, the need for tariff increase decreases.

55 40°E 42°E 44°E This map was produced by the Map Design Unit of The World Bank. GEORGIA The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of The World Bank 44°N GSDPM Group, any judgment on the legal status of any territory, or any TRANSMISSION GRID Map Design Unit endorsement or acceptance of such boundaries. 44°N STRENGTHENING PROJECT PLANNED EXISTING RUSSIAN FEDERATION GEORGIA 500 kV SUBSTATIONS 220 kV SUBSTATIONS 220 KV SALKHINO MAIN HYDROPOWER PLANT (HPP) (ABOVE 50 MW) 500 kV HIGH VOLTAGE LINES 400kV HIGH VOLTAGE LINE Gagra Bzipi 220 330 kV HIGH VOLTAGE LINES 220 kV HIGH VOLTAGE LINES Sokhumi 220 MAIN INTERCONNECTIONS 500 KV KAVKASIONINENSKRA Mestia Suhumi MAIN CITIES AND TOWNS KHUDONI HPP Tsk li NATIONAL CAPITAL Tkvarceli eniscka

Jvari R 500 KV KAZBEGI ENGURI HPP io INTERNATIONAL BOUNDARIES Ochamchira n DARIALI HPP Dzvari TSAGERI HPP i LAJANURI HPP VARDNILI-1 HPP Vektori 220 Oni Kazbegi ri gu In Zugdidi Ambrolauri

Menji 220 Tkibuli Sachkhere Tskaltubo 220 Kutaisi DZEVRULA HPP Senaki Chinvali Iori Black Sea Poti D. Kutaisi 220 ZHINVALI HPP Samtredia Fero 220 R D. Zestaponi 42°N ioni Khashuri 220 Akhmeta 42°N Gori Khashuri Telavi Ozurgeti ) Gori 220 A Lagodehi ra Mtskheta la u z (K Ksani a Kobuleti i Gldani 220 n ar i tkv Didube 220 Gurjaani M TBILISI Gurjaani 220 Batumi 220 SHUAKEVI HPP Akhaltsikhe Lisi 220 Batumi Navtlughi 220 Akhaltsikhe Iori KOROMKHETI HPP Rustavi 220 KHRAMI-1 HPP Marneuli Rustavi PARAVANI HPP Tsiteli- Marneuli 220 Gardabani Tskaro Ahalkalaki 500 KV AZERBAIJAN 220 KV AJARA KHRAMI-2 HPP 330 KV GARDABANI Kazreti

Ninocminda Mtkvari

Iori (Kura) TURKEY 220 KV ALAVERDI

500 KV GEORGIA-ARMENIA Mingechevir 0 20 40 60 Kilometers Reservoir

Lake IBRD 40799 0 10 20 30 40 50 Miles Sevan APRIL 2014 ARMENIA AZERBAIJAN

40°E 42°E 44°E 46°E