Document of

The World Bank

FOR OFFICIAL USE ONLY

4AM o/ 7 - Aot

Report No. P-4750-MA

MEMORANDUM AND RECOMMENDATION

OF THE

PRESIDENT OF THE

INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

TO THE

EXECUTIVE DIRECTORS

ON A

PROPOSED LOAN

IN AN AMOUNT EQUIVALENT TO USt66.0 MILLION

TO

MALAYSIA

FOR A

SECOND FELCRA LAND DEVELOPMENT PROJECT

February 12, 1988

.

Country II DepartmentAsia Region

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

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CURRENCY EQUIVALENTS

Malaysian Ringgit (M$) = 100 SenUS$1.00, at appraisal, July 1987 = M$2.50 (Free Market RatesUS$1.00, average 1986 = M$2.58 (Free Market Rate)

FISCAL YEAR

January 1 - December 31

WEIGHTS AND MEASURES(metric system)

I hectare (ha) = 2.47 acresI acre = 0.405 ha

ABBREVIATIONS

FELCRA = Federal Land Consolidation and Rehabilitation Authorityha = hectare

FOR OMCIAL USE ONLY

MALAYSIA

SECOND FELCRA LAND DEVELOPMENT PROJECT

Loan and Project Summary

Borrower: Government of Malaysia

Beneficiary: FELCRA

Amount: US$66.0 million equivalent

Terms: 15 years including a grace period of three years at thestandard variable interest rate.

Financing Plan: US$ million

Government 122.0IBRD 66.0

Total 188.0

Economic Rateof Return: 14%

Staff Appraisal Report: Report No. 7014-MA

ap: 20270

L This document has a restricted distribution and may be used by recipients only in the pe- .rni ^-eof their official duties. Its contents may not otherwise be disclosed without World Bank a. thoriza.j

MEMORANDUM AND RECOMMENDATION OF THE PRESIDENTOF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENTTO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO MALAYSIA

FOR A SECOND FELCRA LAND DEVELOPMENT PROJECT

1. The following memorandum and recommendation on a proposed loan toMalaysia for US$66.0 million equivalent is submitted for approval. Theproposed loan would have a repayment period of 15 years, including a graceperiod of three years, at the standard variable interest rate, and would helpfinance a land development project.

Background

2. Malaysia's agricultural sector has enjoyed a long period of highgrowth rate and continues to play a key role in the economy despite thedecline in its relative importance as industrialization proceeds. Tree crops,which account for 80X of the agricultural area and for which Malaysia has astrong comparative production advantage, contribute about one-third of thecountry's foreign income, Malaysia being the world's largest producer of bothrubber and palm oil. Despite increasing labor costs, Malaysia's high yieldsand wide use of advanced technology result in significantly lower marginalproduction costs for both crops, compared with those of most competitors.Similarly, Malaysian palm oil has a cost of production typically only one-halfto one-third those of other major traded edible oils.

3. Tree crop production in Malaysia is characterized by a large privateestate sector whose superior performance has had a major impact on the designof Government land development programs. Group farming systems have beendeveloped to provide for the transfer of estate-type production technology andmanagement to the smallholder sector. This strategy derives from policyinitiatives to raise rural incomes and generate foreign exchange and hasbecome increasingly important with the recent economic slowdown and the needfor fuller utilization of agricultural resources. In its effort to narrow theperformance gap between estate and smallholder production, the Government'smajor development program is designed to rehabilitate idle or underutilizedsmallholder lands, prima:ily with tree crops. The Federal Land Consolidationand Rehabilitation Authority (FELCRA) is the major implementing agency. The

4 Bank has supported many successful group farming land development projects inMalaysia involving tree crops, particularly rubber and oil palm, including twoFELCRA projects which are ongoing. 1/

4. Although Malaysia's medium-term agricultural strategy is based onspecialization in tree crops, Government has continued to explore the mostpromising opportunities for crop diversification in an effort to lessen thedependence of the economy on the rubber and palm oil industries. Padi, whichhas been the focus of the Government's food security program, enjoys a number

1/ FEi!-RA I project, Ln. 2013-MA, closing end December 1987 and Trans PerakArea Development Project, Ln. 1960-MA.

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of protective subsidies, but production has nevertheless stagnated with lowcommodity prices and unsatisfactory yields. Other diversificationpossibilities which are being pursued include cocoa, coffee and some fruits(especially bananas) and vegetables. Cocoa and coffee, again tree crops, aredeveloping well, but progress with other crops will be quite slow over themedium-term, as major efforts are needed to develop suitable production andpost-harvest technologies, particularly for fruits.

5. Rationale for Bank Involvement. FELCRA's land development programis closely identified with Government's agricultural objectives, which theBank supports. The proposed project would ensure continuation of an effectivedevelopment program for rehabilitation of large areas of idle smallholderlands with valuable export earning tree crop3. It would also provida a stronginstitutional arrangement for the transfer, through group farming systems, ofmodern production technology and management typical of the high performanceestate sector, to the smallholders. The project addresses rural poverty,particularly prevalent among rubber farmers because of low-yielding trees, andwould raise the farm family income of working scheme participants from belowthe Government poverty benchmark of M$360/month to a maximum of aboutM$850/month at full development at 10 years (net of loan dues). The projectwould also counter urban drift and promote Malaysia's export revenues. FELCRAis a mature agency with experience in implementing Bank-financed projects and,with some further institutional strengthening, it has the capacity to respondto greater development program challenges.

6. Project Objectives. The project would support government polices toincrease the efficiency of smallholder agricultural production, enhancenational export revenues and raise smallholder incomes. By creating more jobopportunities in rural areas and improving the quality of rural life, theproject would help to reduce the rate of urban drift. It would bring idle andlow producing agricultural land into full production with high value treecrops, transfer modern production technology and management to the smallholdersector, promote the formulation of larger and more efficient smallholderproduction units and encourage some crop diversification.

7. Project Description. The proposed project would finance a three-year expenditure time slice of most of FELCRA's total development program. Itwould provide for (a) the rehabilitation of about 45,000 ha of idleagricultural and old rubber lands organized as group farms, with oil palm,rubber and diversified crops suited to the local conditions in an approximateratio of 6:3:1 respectively; (b) the maintenance during crop development ofabout 99,000 ha of rehabilitated areas, including some 69,000 ha rehabilitatedover several years prior to the project; (c) construction of scheme accessroads, staff quarters and offices, FELCRA State Offices, two palm oil millsdeferred from other projects and a Central Training Center; (d) provision ofvehicles and equipment; and (e) strengthening of FELCRA's scheme supportservices and management. Some 18,000 new participant families and 27,000already involved families would benefit from the project. Total project costis estimated at US$188.0 million equivalent, with a foreign exchange componentof US$66.5 million (35%). The proposed loan of US$66.0 million would providefunds for agricultural development, scheme infrastructure, palm oil mills,training, vehicles, equipment and furniture, including up to US$5.0 million in

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retroactive financing for eligible expenditures incurred from the start ofappraisal on July 1, 1987. A breakdown of costs and the financing plan areshown in Schedule A. Amounts and methods of procurement and of disbursements,and the disbursement schedule are shown in Schedule B. A timetable of keyproject processing events and the Status of Bank Group Operations in Malaysiaare given in Schedules C and D, respectively. A map is also attached. TheStaff Appraisal Report, No.7014-MA, dated February 12, 1988 is also attached.

Agreed Actions

8. During negotiations, confirmation was obtained from the Governmentand FELCRA on the following: (a) an annual review and agreement with the Bankon FELCRA's proposed annual work program and its funding in advance of eachfiscal year; (b) the development of a settler loan accounting system; (c) theupdating of monitoring of land development costs used in budget and programplanning; and (d) the Public Works Department having sufficient capacity toadequately undertake its portion of the engineering design and constructionsupervision of scheme access roads.

9. Benefits. Benefits under the proposed project are expected from:(a) total annual incremental production at full development of 100,000 tons ofpalm oil and 15,000 tons of rubber, amounting to about 3% and 1X respectivelyof total national production, and 10,000 tons of diversified crops; (b)improved farm incomes for smallholders, particularly those previously earningbelow the relative poverty leveL; (c) continued institutional strengthening ofFELCRA. The internal economic rate of return (ERR) for the project isestimated at 14%. At the farm level the rates of return range from 12% forrubber replanting to 25Z for oil palm planted on idle land. The return oninvestment in palm oil mills is 21%. The project ERR is comparatively robust,requiring either a 20% fall in the price of both ruboer and oil palm or a 25%rise in project costs to switch the ERR to below 10%.

10. Risks. The project imposes a continuing obligation on Government tofund and maintain infrastructure in areas replanted under the project. FELCRAwould need also to finance scheme operating costs after development, shouldparticipants leave schemes for work elsewhere. FELCRA's ability to meet theseobligations is dependent on the market prices for the commodities beingplanted, and on the long-run success of the developmental approach beingtaken. However, this is not expected to be a problem. Projected long-termprices are high enough to attract sufficient scheme participants to sustainthe momentum of the land development program, and the Government confirmed itscommitment during appraisal to provide adequate funding to FELCRA.

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I1. Recommendation. I am satiefied that the proposed loan would complywith the Articles of Agreement of the Bank and recommend that the ExecutiveDirectors approve the propose Loan.

Barber B. ConablePresident

Attachments

Washington, D.C.February 12, 1988

Schedule A5

MALAYSIA

SECOND FELCRA LAND DEVELOPMENT PROJECT

Estimated Costs and Financing Plan

Estimated Costs /a

Local Foreign Total------ (USs million) ------

Agricultural development 74.4 46.2 120.6Scheme infrastructure 10.0 5.6 17.5Palm oil mills 6.8 6.8 13.6Vehicles equipment 0.3 4.6 4.6Training 1.0 0.4 1.4Project management 26.7 1.5 30.3

Total Base Costs 119.2 65.1 184.3

Physical contingencies 0.4 0.4 0.8Price contingencies 1.9 1.0 2.9

Total Project Cost /a 121.5 66.5 188.0

Financing Plan

IBRD 0.0 66.0 66.0 /bGovernment 121.5 0.5 122.0

Total 121.5 66.5 188.0

/a Exclusive of taxes and duties, estimated at US$1.4 million.

/b Including up to US$5.0 million of retroactive financing.

-6- Schedule BPage 1

MALAYSIA

SECOND FELCRA LAND DEVELOPMENT PROJECT

Procurement Method and Disbursements

PROCUREMENT ARRANGEMENTS /a(US$ million)

TotalItem ICs LCB Other NA cost

WorksAgricultural developmentNew rehabilitation - 33.4 8.4 - 41.8

- (11.5) (2.9) - (14.4)Ma'-ntenance lb - 58.3 22.4 - 80.7

- (20.2) (7.7) - (27.9)

Infrastructure - 18.6 - - 18.6- (11.1) - - (11.1)

Palm Oil Mills 11.0 - - 11.0(4.3) - - - (4.3)

Subtotal 11.0 110.3 30.8 - 152.1Mt) T ) (TI.) - t577J)

GoodsVehRicles 2.8 0.3 - - 3.1

(2.4) (0.3) - - (2.7)Equipment - scheme, office 0.4 0.9 0.6 - 1.9

(0.4) (0.8) (0.6) - (1.8)

Equipment - palm oil mills 3.6 - - - 3.6(3.6) - - - (3.6)

Subtotal 6.8 1.2 0.6 - 8.6(s0 (Trr) (M) - (=T)

Training and Advisor - - - 0.2 0.2- (nh ()W

AdministrationSalaries - - - 18.5 18.5

_ _ - (0) (0)Services - - - 8.6 8.6

_ _ - (0) (0)

Total 17.8 111.5 31.4 27.3 188.0- (xU7) 4) (Wr7) r7) )

Percentage of Procurement 9 59 17 15 100( ls) (67) M1) (ZT) (TM)

Estimated Number of Contracts 25 660 -

/a Figures in parenthesis represent Bank financing.7h During crop development.

Schedule BPage 2

Disbursements

Category Amount _(US$ millions)

Agricultural development 42.3 35X (of expenditures)Infrastructure 11.1 601 (of expenditures)Palm oil mill works 4.3 40% (of expenditures)Vehicles, equipment, furniture 8.1 100l (of foreign expenditures

and local ex-factorycxpenditures

75Z (of imported itemsprocured locally)

Training and advisor 0.2 1001 (of expenditures)

Estimated Loan Disbursements

Bank FY 1988 1989 1990 1991

------Us$S millions- …---

Annual 6.0 17.0 22.0 21.0Cumulative 6.0 23.0 45.0 66.0

Schedule C8

MALAYSIA

SECOND FELCRA LAND DEVELOPMENT PROJECT

Timetable of Key Project Processing Events

(a) Time taken to prepare 1 year 9 months

(b) Prepared by: FELCRA with Bank assistance

(c) First preparation mission October 1985

(d) Preappraisal mission departure June 26, 1986

(e) Appraisal mission departure July 1, 1987

(f) Negotiations February 8, 1988

(g) Planned Date of Effectiveness June 15, 1988

Schedule D- 9 - Page 1 of 2

MALAYSIA

SECOND FELCRA LAND DEVELOPMENT PROJECT

THE STATUS OF BANK GROUP OPERATIONS IN MALAYSIA

A. STATEMENT OF BANK LOANS /aAs of September 30, 1987

Amount in US$ millionLoan (less cancellations)no. Year Borrower Purpose Bank Undisbursed

Forty-eight loans fully disbursed 1 062.701717 1979 Malaysia MUDA II Irrigation Z9.60 1.221899 1980 Malaysia Kelantan -and Scheme Rehab. 18.00 8.241960 1981 Malaysia Trans-Perak Area Dev. 30.65 11.022013 1981 Malaysia FELCRA I 37.00 13.592145 1982 Malaysia Industrial Training (Educ. VI) 40.60 24.712146 1982 Nat'l Elec. Board Rural Electrification (Power X) 36.30 4.522147 1982 Malaysia Malacca Agri., Development 17.75 4.922220 1983 Malaysia Kedah Valleys Agri. Development 34.50 10.772291 1983 Malaysia Sabah-Sarawak Road 71.22 61.232438 1984 Nat'l Elec. Board Power (XI) 70.00 53.792471 1985 Malaysia Small Scale Enterprises 51.96 45.112530 1985 FELDA FELDA Palm Oil Mill Project 26.10 18.012550 1985 Malaysia Sabah Forestry Tech. Assistance 6.50 4.902601 1986 Malaysia Second Industrial Training 68.50 65.912642 1986 Malaysia Land Settlement Infrastructure 50.00 47.592654 1986 Malaysia Johore Water Supply Project 62.00 56.872685 1986 Malaysia Primary and Secondary Education 127.00 106.172686 1986 Malaysia Port Kelang 2.10 2.102687 1986 Malaysia Port Kelang 16.70 16.112740 1987 Malaysia Second Western Johore Agr. Dev. 55.00 54.682770 1987 Bank Kemajuan Development Finance Project 20.00 20.002771 1987 Sabah Dev. Ba-,& Development Finance Project 45.00 45.002772 1987 Nat'l Elec. Board Energy Efficiency & Plant Rehab. 100.00 100.002828 1987 Malaysia National Forestry Research & Dev. 9.00 9.00

Total Loans (less cancellation) 2,079.18of which has been repaid 498.30

Total now outstanding 1,580.88

Amount sold 118.81of -which has been repaid 61.48

Total loans now held by Bank 1,462.07Total undisbursed a 785.46

/a The status of the projects listed in Part A is described in a separate report on allBank/IDA financial projects in execution, which is updated twice yearly and circulatedto the Executive Directors on April 30 and October 31.

Schedule D

- 10 - Page 2 of 2

B. STATEMENT OF IFC INVESTMENTSAs of September 30, 1987

Amount inType of US$ million

Year Obligor business Loan Equity Total

1964-74 Malaysian Industrial Devel- Financing - 1.94 1.94opment Finance Ltd. (MIDF)

1987 Malaysia Fund, Inc. Money and - 25.46 25.46Capital Mkt.

1985 SEAVI-MA Money and - 1.00 1.00Capital Mkt.

1966 Tasek Cement Ltd. Cement 1.28 0.28 1.56

1968-69 Malayavata Steel Ltd. Steel 2.45 1.24 3.69

1970 India-Malaysia Textiles, Ltd. Textiles 1.25 0.25 1.50

1985 Pacific Hardwoods Pulp and 9.97 1.53 11.50Paper Prod.

Total Gross Commitment 14.95 31.70 46.65

Less: repayments, sales, cancellations,terminations and write-off 6.40 29.17 35.57

Total Commitments Now Held by IFC 8.55 2.53 11.08

Total Uitdisbursed - 0.41 0.41

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