Document of

The World Bank

FOR OFFICIAL USE ONLY

4-A 2- 6 / -

Report No. 7120-CO

STAFF APPRAISAL REPORT

COLOMBIA

WATER SUPPLY AND SEWERAGE S..CTOR PROJECT

May 26, 1988

Department IIIInfrastructure and Energy Operations DivisionLatin America and the Caribbean Region

This document has a restricted distribution and may be used by recipients only in the performance oft % >;r { '~" ' ' ~ I '~ V '

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CURRENCY EQUIVALENTS

Currency Unit = Peso Colombiano (Col$)US$1 ' Col $287.75 I/Col$l = US$0.003475 /

ABBREVIATIONS

ACODAL Associaci6n Colombiana de Ingenieria Sanitaria yAmb;ental

(Colombian Asfiociation of Sanitary andEnvironmental Engineers)

BCH Banco Central Hipotecario(Central Mortgage Bank)

CENAGUAS Centro Nacional de Adiestramiento de Aguas(National Training Center for the Water andSanitation Sector)

CONPES Consejo Nacional de Politica Econ6mica y Social(National Council for Social and Economic Policy)

DBRS Divisi6n de Saneamiento Bhsico Rural(Division of Basic Rural Sanitation)

DNP Departamento Nacional de Planeaci6n(National Planning Department)

DWSS Directorate of Water Supply and Sanitation(Direccion de Agua Potable y Saneamiento Basico)

EMPOS Empresas de Obras Sanitarias(Sanitation Works Corporation)

EPM Empresas Ptlblicas Municipales(Municipal Works Corporation)

FFDU Fondo Financiero de Desarrollo Urbano(Urban Development Fund)

FONADE Fondo Nacional de Proyectos de Desarrollo(National Fund for Development Projects)

INS Instituto Nacional de Salud(National Institute of Health)

1/ As of May 24, 1988.

FOR OFFICIA UE ONLY

INSFOPAL Instituto Nacional de Fomento Municipal(National Institute for Urban Development)

IVA Impuesto al Valor Agregado(Value Added Tax)

JM Junta Monetaria(Monetary Board)

JNT Junta Nacional de Tarifas(National Tariff Board)

LCB Local Competitive Bidding

MOH Ministry of Health(Ministerio de Salud)

MOPT Ministerio de Obras Pdblicas y Transporte(Ministry of Public Works and Transport)

NPBRS National Program for Basic Rural Sanitation(Programa Nacional de Saneamiento Basico Rural)

SRP Sector Reform Program(Programa de Reforma Sectorial)

UDB Urban Development Bonds(Bonos de Desarrollo Urbano)

UFB Urban Formation Bonds(Bonos de Fomento Urbano)

FISCAL YEAR

January 1 - December 31

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

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COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

TABLE OF CONTENTS

Page No.

I. PROJECT SUMMARY .................................. 1

II. THE WATER SUPPLY AND SANITATION SECTOR ................ 3

Service Coverage and Pu'1Llic Health .... .......... 3Sector Development Targets and Priorities ....... 4Sector Financing ................................ 4Tariff Policy ................................... 5Manpower Aspects and Training .... ............... 6Sector Performance and Prospects forImprovement ................................... 7

Sector Reform ................................... 8

III. BANK INVOLVEMENT IN THE SECTOR ....................... 9

Past and Ongoing Activities ..................... 9Sector Strategy ................................. 9

IV. THE WATER AND SANITATION SECTOR REFORM PROGRAM (SRPF) . 10

Objectives .......................... 10Reform of Sector Organization and Institutions-.. 11Decentralization Initative ..................... 11National Institutions .......................... 11Local Institutions ............................. 12Rural Water Supply ............................. 13

1988-1992 Sector Investment Program .... ......... 13Investment Levels .............................. 13Service Coverage Targets ....................... 13Financing Plan ................................. 14

Subproject Lending Policy and EligibilityCriteria .................................... 15

Eligible Institutions .......................... 15Institutional Strengthening .................... 16Project Types .................................. 16Tariff Policy and Cost Recovery ................ 17Tariff Setting Mechanisms and Approvals ........ 19Service Cross-subsidies ........................ 19Payment of Other Public Services ............... 19

This report is based on the findings of an appraisal mission which visitedColombia in October 1987. The mission comprised Messts. Walter Stottmann(Sr. Engineer), Thomas Zearley (Financial Analyst) and Luis Pisani(Sr. Education Specialist).

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TABLE OF CONTENTS (Cont.)

Page No.

Management Stability ........................... 19Financing Arrangements and Conditions .......... 19Project Eligibility ............................ 20Project Supervision ............................ 20

Design and Technology Improvements ............... 20T;-aining ......................................... 21

V. THE BORROWER AND EXECUTING UNIT ...................... 21

Introduction ....... ............ ................. 21The Borrower - BCH ............................ 21The Executing Unit - FFDU ....................... 22Current Portfolio . . 22Sources of Funds ............................... 22FFDU On-lending Procedures and Conditions ...... 23Organization and Institutional Capacity .. 24

Financial Analysis of BCH/FFDU . . 25Potential Creation of RegionalDevelopment Bank . . 26

VI. THE PROJECT .......................................... 26

Origin ......................... ................ 26Project Objectives .26Rationale for Bank Involvement .27Project Description .28Project Cost .29Foreign Exchange Risk and BCH/FFDU RelendingArrangements and Terms .31

Legal Instruments for Relending .31Implementation Specifics ......................... 32Investment Program Review .32Subproject Lending Policy and FFDU OperatingManual Statements ............................ 32

Strengthening of BCH/FFDU'sOperating Capacity .32

Establishment of DWSS and Execution ofComponent C .32

Establishment of CENAGUAS and Execution ofTraining Program .33

Tariff Policy .33Institutional Reform .33Monitoring of Sector Company Performance 33Preparation and Maintenance of SubprojectPipeline .33

TABLE OF CONTENTS (Cont.)

Page No.

Monitoring FFDU's Performance . . 34Reporting .................. 34Annual Program Assessment . .34Auditing . .35Subproject Approval and Monitoring bythe Bank . .35

Procurement . .35Disbursments . .37Environmental Aspects ....................... 38P-oject Benefits and Justification . . 38Risks ........................................... 39

VII. AGREEMENTS TO BE REACHED AND RECOMMENDATIONS .40

ANNEXES

Annex 1 Sector Policy Letter .43Annex 2 Sector Organization .50Annex 3 National Program of Basic Rural Sanitation 54Annex 4 1988 - 1992 Sector Investment Program .58Annex 5 Target Performance Indicators .73Annex 6 Terms and Conditions of FFDU Loans .74Annex 7 Program for Strengthening FFDU's Operating

Capacity .76Annex 8 BCH/FFDU Finances .78Annex 9 Project Investment Schedule .89Annex 10 Conditions to be Included in Subproject

Agreements ..................................... 90Annex 11 Plan of Action for the Establishment of DWSS and

the Execution of Component C of the Project 91Annex 12 Sector Training .93Annex 13 Monitoring Indicators for BCH /FFDU .100Annex 14 Documentation Required for the Review of

Subprojects by the Bank ........................ 101Annex 15 Limits on Type of Procurement and Prior Review

Thresholds .105Annex 16 Loan Disbursement Schedule .106Annex 17 Allocation of Loan Proceeds .107Annex 18 Selected Documents and Data Available

in the Project File ....... .................... 108

Map IBRD No. 18370

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

I. PROJECT SUMMARY

Borrower: Banco Central Hipotecario (BCH)

Guarantor: Republic of Colombia

Amount: US$150 million equivalent

Terms: Repayment in 17 years, including five years of grace, withinterest at the Bank's standard variable rate.

Proj ectDescription: To meet one of its major policy objectives--alleviation of poverty

through increased provision of social infrastructure services--theGovernment has decided to invest, in addition to US$820 million insector investments already under execution, US$600 million between1988-1992 for boosting water supply and sewerage coverage inmedium-size and small cities and towns and in rural areas. In aneffort to overcome a generally unsatisfactory sector performancein the past and to adjust sector management to its decentrali-zation policy, the Government is introduzing major reforms to thesector's institutional and policy environment. The objective ofthe proposed project is to underpin the sector reforms beingundertaken by the Government and to finance a US$430 million sliceof the Government's aforementioned US$600 million additional1988-1992 investment program. The Project would have thefollowing components: (a) a line of credit, administered by theUrban Development Fund (FFDU) of BCH to finance about 80subprojects involving the rehabilitation and expansion of watersupply and sewerage systems in some 400 conmunities and theupgrading of solid waste services in about 10 cities, where water,sewerage and solid waste services are provided by the samemunicipal utility; (b) a program to strengthen the operatingcapacity of FFDU; (c) execution of studies to improve sectorefficiency; and (d) establishment of a national sector traininginstitution and sector wide training. Total Project cost would beUS$435 million: US$430 million for water supply and sewerage; US$5million for solid waste; and US$5 million for Project components(b), (c) and (d).

Benefits: Project investments would provide water service to an additional1.9 million people and sewerage service to an additional 1.3million people. The implementation of the Sector Reform Program(SRP) would bring significant benefits to the country's economythrough internal sector savings.

Risks: The reform of the sector's institutional and policy framework isan ambitious and complex undertaking and will require a sustainedeffort in the years ahead. The maJn risk is that political

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pressures might undermine the new de.tanding sector lending policy.Although the risks are lessened by the conditionality and rcviewmechanisms built into the Project and the commitment of theGovernment and FFDU to tne objectives of the SRP, it is likelythat not all of the policy objectives will be achieved in full andthat some subborrowers will not succeed in meeting institutionalstrengthening and financial performance targets. Even so, theProject wovld contribute signifirantly to the development of amore efficient water supply and sewerage sector in Colombia.

Z ofProlect Costs Local Foreign Total Total

-------------US$ million-----------

Investment Subprolects 281.5 148.5 430.0 98.9Water Supply 137.5 112.5 250.0 '7.5Sewerage 97.5 32.5 130.0 29.9Solid Waste 2.0 3.0 5.0 1.1Institutional Development 11.7 0.3 12.0 2.8Supervision of Construction 16.0 - 16.0 3.7Pre-Investment Studies 14.0 - 14.0 3.2Training 2.8 0.2 3.0 0.7

Strengthening of FFDU 1.5 0.5 2.0 0.5

Studies by DWSS 1.0 0.5 1.5 0.3

Training Center 1.0 0.5 1.5 0.3

Total Project Cost 285.0 150.0 435.0 100.0

Financing Plan:

Operating Companies 55.8 - 55.8 12.8Local Government 55.4 - 55.4 12.7National Government 50.0 - 50.0 11.5BCH 68.5 - 68.5 15.7Financial Intermediaries 41.3 - 41.3 9.5FONADE 14.0 - 14.0 3.2IBRD - 150.0 150.0 34.5

Total Financing 285.0 150.0 435.0 100.0

Estimated Disbursementsat

Bank FY 89 90 91 92 93 94 95-----------------US$ million----------------

Annual 4.5 15.0 33.0 51.0 31.5 12.0 3.0Cumulative 4.5 19.5 52.5 103.5 135.0 147.0 150.0

Rate of Return: Individual subprojects are required to reach a Financial Rateof Return of at least 1OZ, with revenues taken as a proxy foreconomic benefits.

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II. THE WATER SUPPLY AND SANITATION SECTOR

Service Coverage and Public Health

2.01 Of Colombia's current estimated population of about 30.6 million, about572 has access to water supply through house connections and about 412 hassewerage services. Service levels and quality of service tend to be directlyrelated to community size. They are highest in the country's large MetropolitanAreas (Bogota, Cali, and Medellin), where more than 962 of the people haveaccess to piped water and are connected to a public sewerage service. In themedium-size cities and small towns, service levelb are considerably less withabout 65% for water and 502 for sewerage. With only about 26Z of the populationserved through house connections, Colombia's rural population 1 is affected mostby the lack of a safe and convenient water supply. Likewise adequate excretadisposal is lacking most in rural areas. People without piped water generallybel~ng to the poorer segments of the population. In urban areas, they rely onpurchases from private vendors which tend to provide water of deficient qualityat high costs. In rural areas, people without service draw water from oftencortaminated and distant sources.

24)2 Throughout the country, the quality of se-_vice to those connected towater and sewerage is uneven. In the larger cities, safe water is generallyavailable, but service tends to be irregular, especially in poor neighborhoods.In the medium-size and smaller cities and towns and in rural areas, thebacteriological quality of water provided is often unsatisfactory and service isfrequently intermittent. Surface runoff of sewage, because of malfunctioningindividual disposal facilities and overloaded sewers frequently creates healthand nuisance problems. Waste water is generally discharged without treatment,causing pollution in rivers and streams downstream of major population centers.

2.03 While the current level of service in Colombia is similar to thatfound in other middle-income Latin American countries, it is notable that overthe past two decades little progress has been made in improving service coveragein terms of proportion of population served. In Colombia's urban areas, servicelevels for water have not changed much from those reported for 1969, whenservice levels for water were estimated at 77? (81% in 1986). Sewerage servicelevels appear to have actually declined since 1969. There has been significantservice improvement in rural areas, although existing information does not allowa clear documentation of the progress made. On balance, sector investmentsduring the past 20 years were just about enough to keep pace with populationgrowth, but were not sufficient to bring about a significant increase in overallservice coverage.

2.04 Although substantial progress has been made in the past two decades inreducing mortality and morbidity in Colombia, infant mortality with about50/1,000 live births remains high. Diseases associated with unsafe water andlack of adequate sanitation are still prevalent, with diarrheal diseases andenteritis being among the five most important primary causes of deaths in allage groups up to 14 years. They account for almost two-thirds of deaths amonginfants in their first year and over one-third of deaths among children belowfive. The provision of safe water and adequate sanitation is essential to

1/ Communities with less than 12,000 inhabitants are classified as rural.

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complement other efforts by the Government in the Public Health field, if theincidence of mortality and morbidity from water and sanitation related diseasesis to be reduced to acceptable levels.

Sector Development Targets and Priorities

2.05 Colombia had subscribed to the targets of the International WaterDecade that implied complete coverage oi its population with safe water andsanitation by the year 1990, a target which obviously will not be achieved.Recently, the Government has established a new set of ].ong-tetm targets whichcall for connecting, by the year 2000, 95Z of the country's urban and ruralconcentrated population to piped water systems and 80% to public sewerage.About 50Z of the dispersed rural population is to be provided with low-costwater and sanitation facilities. About 50Z of sewage generated is to betreated. Achieving these targets would require supplying an additional 13million people with water and 11 million with sewerage in urban and ruralconcentrated areas and another 3 million people with water and sanitationfacilities in dispersed rural areas. To meet these objectives the total invest-ment needs in the Colombian water supply and sewerage sector over the 1988-2000period would be about US$4600 million in 1988 prices. Annual future invest-ments required would average about US$350 m'llion, more than twice as high asthose in the past (para. 2.07). To reach these targets, the Government andsector institutions would have to place more emphasis than in the past oi' sectorgrowth and remove the obstacles which have hampered more accelerated sectordevelopment.

2.06 In accordance with the Government's policy of poverty alleviatior., thefirst sector priority is to expand water and sewerage service coverage inmedium-size and small cities and towns and to provide services to the poorneighborhoods on the fringes of the country's large metropolitan areas. Asecond priority is to address the needs of agglomerated rural communities,followed by providing water/sanitation services to the dispersed rural popula-tion. Sewage treatment, the last among the sector development priorities, ini-tially concentrates on correcting the most severe existing environmental degra-dation (Rio BogotA, Rio Cauca downstream of Cali). The introduction of low-costsewage treatment is to be promoted whenever the financial capacity of operatingcompanies allows such investments.

Sector Financing

2.07 Over the past ten years, average annual sector investments haveamounted to about US$150 million equivalent (1987 prices), or about 0.4Z of GDP.In 1987, total sector investments were about US$150 million. About 65Z of pastinvestments were for water supply, the remaining 35Z for sewerage. Adisproportionately large share of investments (55% of total) took place in thelarge metropolitan areas of BogotA, Cali and Medellin, where efficiently runwater companies had the managerial, technical and f'nancial strength to prepareand carry out large investment programs. About 35Z of total investments weremade in medium-size cities and small towns and 10% in rural areas. Thecontinuing dominance of the large city companies in preparing investmentpackages and in attracting investment funds is reflected in the existing sectorinvestment program. Of the about US$820 million of sector investmerLts alreadyunderway for the 1988-92 period, about 90Z are destined for projects in thecountry's four largest cities which have 30Z of the total population. For the

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rest of the country assured financing for future investments for the same periodamounts to only about US$80 million. Unless this lopsided balance in investmentlevels is corrected, service coverage for water and sewerage in the medium-sizecities, small town and rural subsectors will fall further behind the servicesituation found in the large cities.

2.08 The mairn sources of funds for sector investments over the recent pasthave been: 452 from external sources; 30% from National Government contribu-tions; 152 from the internal generation of operating companies; and 10! fromlocal sources (municipalities, departments) and domestic credit. There wereconsidereble variations in the sources of investment funds among subsectors.The large-city companies (Bogota, Medellin, Cali) relied heavily on externalcredit (about 502) and internal generation of funds (about 352) and needed onlyminor support from national and local governments and domestic credit. Incontrast, financing of investments in the medium-size city, small town and ruralsubsectors depended predominantly on direct or indirect central government con-tributions (about 45Z) and external financing (about 40Z). The origin ofremaining funds were grants from local governments (about 102) and internalgeneration (about 52). The excessive dependence in these subsectors on scarcecentral government contributions and their inability to generate internallysignificant amounts of funds for investment partially explain the large discre-pancies in service coverage between the large cities and other parts of thecountry.

Tariff Policy

2.09 Tariff setting for public services (water, sewerage, electricity, tele-communications, solid waste collection and disposal) is controlled by theGovernment through its National Tariff Board (Junta Nacional de Tarifas, JNT).JNT is composed of the Director of Planning, the Ministers of Finance and of thecorresponding sector and a representative of the President. Its staff, adminis-tratively part of the National Planning Department (DNP), is headed by an Execu-tive Secretary. Decree 3069 of 1968, founding JNT articulates the followinggeneral tariff policy: "Tariff levels should cover the cost of service andprovide a return sufficient to facilitate appropriately the financing of invest-ment programs. To this effect, tariffs should be adjusted to changes in realcost which alter the financial balance of a company and the cost of meetingfuture demands". Operationally, JNT's mandate is limited to the review andauthorization of requests for tariff adjustments submitted by operatingcompanies. It has only limited power to impose tariff increases on operatingcompanies unwilling to adjust tariff levels.

2.10 In the absence of an effective monitoring and control capability torwater and sewerage tariffs, the principles of the general tariff policy statedin Decree 3069 of 1968 have been violated more often than not in the past. Manyoperating companies, often ̀ or political reasons, were able to maintain tarifflevels unchanged over extended periods of time with obviously disastrous effectson their finances. Other companies wbich submitted requests for tariffadjustments to JNT found their requests denied, delayed or severely cut duringperiods when the Government considered tariff increases inopportune forpolitical or economic reasons. As a result, water and sewerage tariff levelshave been kept generally low and vary widely among operating companies, oftenbearing no relationship to the financial needs of a company and the cost ofservice or its customer's capacity to pay. The overly political management of

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water and sewerage tariffs over the past two decades is one of the reasons forthe chronically deficient financial performance of rnany operating companies andresponsible for their inability to adequately maintain and operate theirfacilities and generate sufficient funds for service expansions.

2.11 Alarmed by the poor financial state of many sector companies and thelarge discrepancies in tariff levels and structures, the Government recently hasembarked on a series of actions to make water and sewerage tariffs morerational. First, sector companies were encouraged to submit requests for tariffadjustments and a more responsive JNT has approved over the past six monthssubstantial tariff increases for imany water and sewerage companies. Secondly,JNT introdXced the indexation of tariff levels and now authorizes automaticmonthly tariff adjustments ranging from 1.5Z - 2.5Z. Thirdly, JNT issued, underDecree 394 of 1987, a unified tariff structure to be adopted by all water andsewerage utilities. The new structure is adequate, making a basic consumptionaffordable to all strata of the population and introduces progressively highertariffs with increasing consumption. The new structure, however, does not makeany statement on the absolute tariff levels to be charged. It is alsodisturbing that JNT in recent tariff authorizations has approved the low waterconsumption bracket up to an unacceptable high level 40 m3/connection month.These levels should preferably be in the 15-25 m3/connection/month range. Whilethe recent actions by the Government are an important step towards rationalizingtariff levels and have already contributed substantially to a better financialperformance of many operating companies, the Government has no effectiveregulatory mechanisms at its disposal for enforcing the introduction andcollection of adequate water and sewerage tariffs by operating companies.Clearly, one of the most important elements for improving the financialperformance of the sector is the application of a consistent and adequate tariffpolicy followed by national and local governments.

Manpower Aspects and Trairiing

2.12 Total staff in the water supply and sewerage sector numbers about25,000. The share of professionals in total sector staff stands at about 82.On the average, operating companies employ about five workers/l,O0O connections,which by regional standards is quite satisfactory. Staff productivity varieswidely among companies. There are companies (Bogota, Medellin, for example)which have built up an excellent staff capacity in all areas of operations andmanage efficiently large water and sewerage systems with less than threeemployees/l,000 water connections. On the other side of the spectrum, there arecompanies with poor staff resources and inefficient operations employing morethan 10 employees/l,000 water connections.

2.13 The quality and number of professional manpower vary widely amcag thedifferent areas of exDertise reR.uired in the water sector. Although it will benecessary to sensitize the engiA;eering community to the need for more economyand realism in the formulation of projects, Colombia has in place a compara-tiv6ly strong engineering capacity in the sector. With regards to other equallyimportant professional expertise (facility operation and maintenance, finance,administration, management), there are serious deficiencies in terms of numberand quality of personnel. The upgrading of the professional capacity in thesedisciplines is an essential priority for accelerated and more efficient sectordevelopment.

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2.14 Training of sector personnel has been largely neglected. In the past,a minimal amount, less than 12 of the sector's annual operational budget wasspent on staff training. During tne last five years, only about 4,600 sectorpersonnel received any kind of training. In comparison, Brazil, which has oneof the most advanced training programs in the region, offered sector personnelfour times more training opportunities than Colombia. Training in the sector isimpeded by four major constraints: (i) lack of training policy and objectives;(ii) inadequate mechanisms for the coordination, planning and implementation oftraining programs; (iii) insufficient managerial knowledge of personneladministration and training; and (iv) lack of training resources. Thedevelopment of a sufficiently large base of qualified sector personnel is essen-tial for improved sector development. Therefore, the establishment of anadequate permanent training capability in the sector must have high priority.

Sector Performance and Prospects for Improvement

2.15 With some notable exceptions (Bogota, Medellin, Bucaramanga), mostoperating companies are weak. Many of them do not have the necessary financialand managerial resources to fully satisfy demand for services and to properlyoperate and maintain existing systems and facilities. The combined effects oflow tariffs, poor commercial practices and fast rising costs are key obstaclesto achieving and sustaining financial viability and generating sufficientresources for investments. Frequent, mostly politically motivated changes intop and middle management positions and the absence of adequate control systemscontribute to ineffective management. These shortcomings manifest themselves inthe poor upkeep and inefficient operation of facilities. High levels of unac-counted-for water, often in excess of 50Z, are common. Investment projects tendto be overdesigned and tie up scarce financial resources. The application oflow-cost technologies and the rehabilitation of existing infrastructure receiveinsufficient attention. The strong political influence to which most companiesare subject often prevents the implementation of unpopular measures (tariffincreases or reduction in staff, for example), which would be necessary totransform them into financially healthy and operationally efficient publicutilities. Water and sewerage utilities providing other services (solid waste,public markets, slaughterhouses, etc.) practice cross-service subsidy. Particu-larly, deficits attributable to solid waste collection and disposal strain theoverall financial performance of many companies and divert funds needed "or theoperation, maintenance and expansion of water supply and sewerage services.

2.16 The generally poor performance of operating companies and the slow andinequitable sector growth can be traced to a number of, often interrelated,constraints brought on by the lack of commitment by the Government to formulateand enforce appropriate sector policies and to develop strong national institu-tions capable of guiding and supervising sector development. Inadequate plan-ning at the central level has prevented a more balanced allocation of resourcesfor sector investment based on identified needs and priorities. The absence ofa clearly defined lending policy conditioning the provision of credit on effortsby credit recipients to become more efficient and the availability ofunconditional grant funds from the Government resulted in the lack of incentivesfor operating companies to improve their operational and financial performanceand generally stifled initiative. Excessive political interference in the day-to-day management and staffing of sector institutions on all levels hasprevented continuity. This, together with low level of salaries, makes theseinstitutions an urnattracti:s place of employment for experienced and qualified

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professionals. Finally, the sector has been without strong technical andfinancial lead institutions capable of promoting improvements in the operationalefficiency and financial viability of operating companies and the design andexecution of more cost-effective investment projects. In particular, theNational Institute for Urban Deveiopment (INSFOPAL), the agency responsible forexecuting national sector policy in the urban subsector, was unable to dischargeadequately its technical and financial leadership role.

2.17 The assessment of sector performance presented in the preceeding para-graphs depicts a sector with serious structural and attitude related problems.It is apparent that accelerated sector growth as envisioned by the Government(para. 2.05) will not be possible without major adjustments to the existingpolicy framework and institutional environment. Fortunately, there is consider-able potential for improved sector development since Colombia is generally bles-sed with ample water resources; the great majority of the country's pol' lationhas the capacity to pay the cost of services; a re'.atively large ool ofqualified sector professionals and technicians is available; and several exam-ples exist of sector companies operating efficiently and providing good service.Most importantly, however, there is growing awareness among Government andsector officials of the key sector issues and constraints and of the need forsector reform.

Sector Reform

2.18 The awareness of the need for change and pressure to deliver on one ofits major development objectives--poverty alleviation through increased invest-ments in social infrastructure sectors--prompted the Government to develop overthe past three years, with the assistance of the Bank, a Sector Reform Program(SRP). This Program (described in detail in Chapter IV of this Report) isdesigned to carry out additional investments in water supply and sewerage ofabout US$600 million during the 1988-1992 period targeting those sector segmentswhich in the past have received less attention and where needs are greatest,i.e. the poor neighborhoods of large and medium-size cities, small towns andrural areas. In parallel with its investment objective, the SRP introducesmajor reforms to the existing sectoral policy and institutional environment tocorrect the deficiencies which have been at the root of the sector's past poorperformance. Among the main reforms are: (a) major changes to the sector'sinstitutional setup in line with the objectives of the decentralization policyintroduced by Law 12 of January 1986; (b) the adoption of a 1988-1992 SectorInvestment Program based on clearly defined objectives and priorities andfinanced with high emphasis on local resources and less reliance on CentralGovernment grant and external loan funding; (c) the introduction of a new sectorlending policy linking the provision of credit for sector investments to acommitment by credit recipients to improve their operational efficiency andfinancial performance and specifying criteria for the cost-effectiveness andfeasibility of investment projects; (d) the review and update of technicaldesign criteria and norms to promote the formulation of more cost-efficient andtechnically more appropriate and affordable projects; and (e) the establishmentof a permanent training capacity for sector personnel. With these reforms, theGovernment expects to create the conditions necessary for meeting the sectordevelopment targets described in para. 2.05.

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III. BANK INVOLVEMENT IN THE SECTOR

Past and Ongoing Activities

3.01 Since 1968, the Bank has made 12 loans totalling about US$425 millionfor water supply and sewerage sector investments in Colombia. The Bank fundsaccount for about 70Z of all external resources made available to the sector.The remaining external funds were made available predominantly by the Inter-American Development Bank. About 80Z of total Bank loan funds (US$340 million)were granted to five municipal water companies (BogotA, Cali, Barranquilla,Cutcuta, Palmira) through nine separate operations. The Bank made three loanstotalling US$67.1 million to INSFOPAL to finance investments in intermediate-size and small cities and to help INiSFOPAL develop into an effective technicaland financial intermediary. The operations with INSFOPAL involved 36 subpro-jects in thirty different cities and towns. The remaining US$ 20 millionsupported rural water supply through water supply components in variousintegrated rural development and health and nutrition projects.

3.02 At present the Bank supports sector development through projects withthe EPMs in Bogota (Loan 2512-CO), CGrcuta (Loan 2470-CO) and Barranquilla (Loan2637-CO). A US$16 million rural water supply component under the Health Inte-gration Project (Loan 2611-CO) has been cancelled because of the imminentabolishment of the component's executing agency under the institutionalreorganization and would be included in the proposed sector project.

3.03 The Project Completion and Performance and Audit Reports prepared forfive projects 2 and the supervision of ongoing projects show that in largemeasure, projects have been successful in achieving their physical objectivesand, thus, have contributed importantly to the development of the water supplyand sewerage sector. The operations with the Bogota Water and Sewerage Companywere particularly successful and the Bank can be credited with helping thiscompany develop into a strong and efficient water utility capable of servingnearly all of Bogota's 4.5 million inhabitants. Most beneficiaries of past Bankloans, however, did not attain, or were unable to sustain, the institutional andfinancial performance goals envisioned at appraisal. Most disappointing was theinability of INSFOPAL to develop into a strong and efficient intermediary. Thisprevented the Bank from helping shape more efficient sector policies and fromchanneling more resources to the intermediate-size and small cities and townsubsector.

Sector Strategy

3.04 Given the still immense investment requirements of the sector and theGovernment's increased emphasis on improving service coverage in its quest foralleviating poverty, the Bank plans to continue its role as primary externalsupplier of finance for sector investments. However, continued lending for the

2/ Loan 738-CO, Palmira Water Supply Project: Report No. 4589, June 1983; Loan1523-CO, Second Cali Water Supply and Sewerage Project; Report No. Sec.85-029, December 1984; Loan 536-CO, Bogota Water Supply Project; Report No.2003, March 1978; Loan PU-30,-CO, Cali Water Supply Project; Report No. 2638,

* August 1978; Loans 860-CO and 1072-CO, Medium-size Cities and Second Multi-City Water Supply and Sewerage Projects; Report No.6594, January 1987.

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sector should be contingent on the Government's commitment to sectoralinstitutional and policy reforms which would allow more efficient and sustain-able sector growth within the context and constraints of overall macro-economicdevelopment and public sector investments. The aforementioned Sector ReformProgram (para. 2.18) has been designed with the assistance of the Bank to bringabout the reforms required to address the sector's many problems and cons-traints. It would be supported by the Bank through the provision of financingfor sector investments and continued advice. The proposed sector investmentloan covering external resource needs of all sector segments through 1991 wouldbe the most appropriate tool for assisting the Government in improving andexpanding service and in implementing the reforms being introduced under theSector Reform Program. The sector loan approach would be continued in thefuture as a means of Bank support to sustain and deepen the adjustment processcurrently being undertaken by the Government. To complement the sector loanapproach, the Bank may consider continuing the provision of finance for majorinvestment projects for the country's largest municipal companies (Bogota, Cali,Medellin) through independent operations.

3.05 The Bank's support of the SRP would complement, on the sector level,many of the economic and policy adjustments currently being pursued by theGovernment with the advice of the Bank. These include: (a) reduction of fiscaldeficit and less reliance on external funding for public sector investmentsthrough improved domestic resource mobilization; (b) enhancement of publicsector efficiency through institutional reform and stimulation of internalsector savings; (c) more effective use of existing resources through the designand execution of more cost-effective investment projects; (d) more socially-oriented allocation of resources for public sector investments to meet basicneeds of the country's poor; and (e) creation of a more effective and responsivesector organization taking into account the ongoing decentralization effort.

IV. THE WATER AND SANITATION SECTOR REFORM PROGRAM (SRP)

Objectives

4.01 The outline of the SRP was approved first by the Government's NationalCouncil for Economic and Social Policy in February 1986 and was reconfirmed bythe present Government in November 1986. It has been discussed extensivelybetween the Government and the Bank over the past three years and incorporatesmany of the recommendations made in the Bank's Sector Report of March 4, 1985.The main objectives and the policy framework of the SRP are contained in theGovernment's sector development policy letter dated May 5, 1988 (Annex 1). TheSRP policy is to:

(a) rationalize overall sector investment policy by adopting a medium-term (1988-1992) sector investment plan with clearly identifiedtargets, priorities, investment levels and financing arrangementswithin the constraints imposed by the restrictions on the sector'scapacity to generate resources and the public sector investmentprogram;

(b) adjust the financing policy for sector investments to reducereliance on central government contributions and external debtand, in accordance with the policies of the decentralization

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process, increase the share of domestic and local resources andinternal cash generation of operating companies;

(c) establish a more responsive and effective sector organization onthe national level with institutions capable of providing leader-ship to the sector, being able to provide assistance to operatingcompanies and enforce policies conducive to improving sector per-formance and sparking accelerated and efficient sector growth;

(d) upgrade the performance of operating companies through the intro-duction of a more efficient institutional framework on the localand regional level and a new sector lending policy linking theprovisior. of credit to a commitment by credit beneficiaries tostrengthen their management, administration, operations andfinances and setting standards and more selective criteria forproject selection and eligibility;

(e) reduce the per capita costs of sector investments through theformulation and implementation of more cost-efficient and appro-priate design standards and technologies; and

(f) upgrade the level of skill of sector personnel through the crea-tion of a sector training center and the execution of appropriatetraining programs.

4.02 The main elements of the SRP described below include the: (a) institu-tional reorganization; (b) 1988-1992 sector investment program; (c) projectlending policy; (d) design and technology improvement program; and (e) trainingof sector personnel.

Reform of Sector Organization and Institutions

4.03 Decentralization Initiative. The passage of Law 12 of January 1986 hastransferred the responsibility for decision making and administration from theCentral Government to municipalities. Over the next five years, the CentralGovernment will allocate about US$500 million of value added tax revenues to thetreasuries of primarily smaller municipalities with populations under 100,000.With the transfer of these new resources, municipal governments are expected toprogressively assume more responsibility for the financing and management ofmunicipal infrastructure, including water supply and sewerage. As themunicipalities assume these responsibilities, the present strong involvement ofCentral Government institutions in the financing and execution of municipalinfrastructure projects is to be discontinued. Law 12 provided the Governmentwith wide authority to make adjustments to the institutional framework ofsectors dealing with municipal infrastructure. By passing Decree 77 of 1987,the Government made substantial changes in the organization and institutions ofthe Water Supply and Sanitation Sector. The changes in the sector'sorganization are depicted in Annex 2 and described in paras. 4.04 - 4.06.

4.04 National Institutions. The adjustments to the sector's nationalorganization mandated by Decree 77 of January 15, 1987, and regulated by Decree1723 of September 4, 1987, constitute a major break with the past. While theNational Planning Department (DNP) continues to have responsibility for planningand coordinating sector and overall development policy, the Sector's overall

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management is transferred from tne Ministry of Health (MOH) to the Ministry ofPublic Works and Transport (MOPT). The National Institute for Urban Development(INSFOPAL) which was at the helm of the sector for the past three decades, butwas unable to bring about satisfactory sector development and growth is beingabolished as of January 15, 1989. Likewise the Division of Basic RuralSanitation (DBRS) of the National Institute of Health (INS), in charge of ruralwater supply and the administration of the National Program for Basic RuralSanization (NPBRS), is to be dissolved by the same date. In replacement ofINSFOPAL and DBRS, a Directorate for Water Supply and Basic Sanitation (DWSS) isbeing established in MOPT as the primary technical sector support agency withsector wide responsibilities for planning, setting and enforcing of technicalnorms, research, assistance to operating companies and training. The CentralMortgage Bank (BCH), through its Urban Development Fund (FFDU), will take overas primary intermediary for sector investments with responsibilities formobilizing domestic and external resources for sector investments andidentifying, preparing, evaluating, approving and supervising sector projects(Chapter V).

4.05 Local Institutions. Consistent with the Government's decentralizationinitiative, Decree 77 places the responsibility for managing water supply andsewerage services into the hand of individual municipalities. Existing autono-mous municipal works companies (Empresas P6iblicas Municipales, EPM) providingwater, sewerage and at times other municipal services in the country's largest35 municipalities (covering about 40% of the total population) are not affectedby the reorganization. The abolishment of the INSFOPAL owned and controlledsystem of Sanitation Works Companies (Empresas de Obras Sanitarias, EMPOS) whichprovides services to about 460 smaller municipalities (covering about 16X of thetotal population) and the abolishment of INS' regional offices in charge ofrural water supply development (covering about 30X of total population) willleave about 1000 mostly small municipalities free to decide how to organize themanagement of their water and sewerage systems. Many of these municipalitiesare too small to have the financial, managerial and technical capacity to carryout their new responsibilities by themselves. The great challenge andopportunity of the institutional reform on the local level lies, therefore, inthe creation and development of an efficient institutional framework on thedepartmental or regional level to provide satisfactory services. To managewater supply and sewerage service in communities too small to justify theestablishment of an independent municipal water company, and too large to usethe National Program of Basic Rural Sanitation (NPBRS) methodology (Annex 3) asthe vehicle for sector development and management, the Government promotes thetransformation of the INSFOPAL controlled EMPO's into autonomous departmental orregional companies. The establiqhment of these companies, to be owned byassociated municipalities, is essential to avoid the fragmentation of servicemanagement into too many and excessively small independent operating units andto allow the efficient and professional management and operation of water supplyand sewerage services in small municipalities. The success of the institutionalreform on the local level will depend, therefore, on the willingness of smallmunicipalities to ioin together in departmental or regional companies ofsufficient size to take advantage of the economies of scale inherent in themanagement of water and sewerage services. The credit policy being introducedunder the SRP provides guidance wnd incentives to departmental and municipalgovernments to develop and implement appropriate and workable institutionalarrangements based on the regional company concept.

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4.06 Rural Water Supply. Decree 77 of December 1987 stipulates that ruralwater supply projects will continue to be executed in accordance with theprinciples of the National Program for Basic Rural Sanitation (NPBRS) which hasproven to be an excellent strategy for rural water supply development in thepast (Annex 3). With the abolition of INS' regional offices, the administrationof the NPBRS must be continued on the departmental or regional level. Thecreation of strong and responsive departmental or regional rural water supplyagencies throughout the country is key to the successful implementation of theGovernment's ambitious rural water supply investment program contemplated underthe SRP. Likewise, the establishment of a rural water supply unit in DWSS ofMOPT capable of providing technical back-up, assistance to and control of localNPBRS executing units will be essential.

1988-1992 Sector Investment Program

4.07 The Government has defined, with the Bank's support, a sector invest-ment program for the 1988-92 period with specific annual targets for servicecoverage, investment lev.ls and financing sources (Annex 4). These targetsdistinguish between major subsectors (large, intermediate and small cities andtowns and rural areas) and service type (water, sewerage). The program providesa base line against which the Government and the Bank would be able to monitorshort- and medium-term sector investments. It would be updated annually by DNPand reviewed by the Bank.

4.08 Investment Levels. An investment program of about US$820 million(current prices) for the 1988-1992 period is currently under execution. AboutUS$730 million (902 of total) finance projects in the country's four largestcities. The remaining investments are destined for medium-size cities, smalltowns and rural areas.

4.09 Under the SRP, the Government plans to invest an additional US$600million (current prices) over 1988-1992 to be allocated among subsectors asfollows: about 712 (US$423 million) for medium-size cities and small towns; 132(US$79 million) for large cities; and 162 (US$98 million) for the rural popula-tion. About 652 of the resources to be provided under the SRP would supportwater supply and 352 sewerage projects. In total, about US$1,420 million would,thus, become available for sector investment over the 1988-1992 period. Itwould cover about 30Z of the investment needs up to the year 2000 and representa major step toward the achievement of Colombia's long-term sector developmenttargets (para 2.05). Average annual investments would be about US$370 millionover the 1988-1992 period, more than twice the annual sector investment levelsin the recent past. The sector would be one of the major beneficiaries of theincreased social emphasis in the country's Public Investment Program. It'sshare of total public investments would rise from about 6.5Z in 1986 to almost13Z in 1990. In relation to GDP, sector investment would almost double, fromabout 0.5Z in 1986 to about 0.92 in 1990.

4.10 Service Coverage Targets. As a result of the Government's total1988-1992 sector investment program, service levels on a country-wide basis areprojected to increase from a current 57Z to 632 for water supply and from 41Z to50Z for sewerage. About 3.8 million additional people would receive watersupply and about 4.4 million, sewerage services. The US$600 million SRPinvestment program alone would allow the connection of about 2.5 millionindividuals to a safe water supply and about 1.8 million to sewerage. The great

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majority of the SRP beneficiaries would live in medium-size and small cities andtowns and in rural areas. The above figures clearly reflect the Government'sobjective of improving services in long neglected sector segments. Without theSRP investments, service levels in the large cities would remain stable atalready acceptable levels, while they would decrease slightly in other sectorsegments.

4.11 Financing Plan. The financing plan for the 1988-1992 SRP investmentprogram (Annex 4) aims at decreasing the role of Government transfers andexternal credit for sector investments and increasing the availability of localfunds and domestic credit. The proposed SRP investments would be financed asfollows:

Amount 2 ofSources of Funds US$ Million Total

Cash Contributions 155.2 25.9

Operating Companies 77.9 13.0Local Government 77.3 12.9

BCH/FFDU Loans 444.8 74.1

National Government 50.0 8.3External Loans 210.0 35.0BCH Domestic Borrowings 98.8 16.5Financial Intermediaries 66.0 11.0FONADE 20.0 3.3

TOTAL 600.0 100.0

4.12 Given the poor financial position of the majority of the country'ssector operating companies, the Government has decided to provide grant fundstotalling US$50 million. These funds would be used to soften the terms ofBCH/FFDU loans for subprojects benefitting the poorest segment of thepopulation. In addition, local governments are encouraged to provide equitycontributions to operating companies in accordance with the tariff and costrecovery principles established in the Sector Lending Policy (paras. 4.21-4.26).These equity contributions would come from direct cash contributions fromrevenueis or from loans provided by BCH/FFDU. In relation to total SRPinvestments, equity contributions from local governments would account for 40.8Zof total SRP investments, 12.92 in cash and 27.9Z through BCH/FFDU loans (Annex4, Attachment 10).

4.13 A comparison of the SRP financing plan and historic sources offinancing for the medium-size cities, small towns and rural subsectors (para.2.08) illustrates the adjustments to the sector financing policy being intro-duced under the SRP. While external credit, with 35Z remains an importantsource of financing, reliance on central Government contributions decreases from45Z to below 10Z, domestic credit amounts to 27.5? as compared to negligible inthe past, local governments are expected to contribute about 36Z vs. 5? before,and internal generation from operating companies increases from 5Z to about 13?.Compared with past levels of Government support for the sector, the SRPinvestments are being funded without requiring any additional appreciable burdenon the Government's public sector investment budget.

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Subproject Lending Policy and Eligibility Criteria

4.14 To introduce the policy objectives and the reform measures of the SRPon the subproject level, the Government has defined a set of criteria andconditions which would be used by FFDU in the selection and appraisal of sub-projects. These conditions and criteria are based on the policies andprinciples set forth in the Gov2ernment's sector development policy letter (Annex1). They would be contained in a new Operating Manual Statement which BCH/FFDUwould adopt as its guideline for evaluating future water supply and sewerageoperations. The most important of the conditions, criteria and provisions ofthe SRP lending policy are described in the following paragraphs.

4.15 Eligible Institutions. As a general principle, the SRP adopts thepublic utility arrangement as the most appropriate vehicle for the managementand operation of water supply and sewerage services in urban areas. Therefore,one of the most important objectives of the SRP is to promote the establishmentof autonomous, operationally efficient and financially viable municipal,departmental or regional water supply and sewerage utilities. Of particularconcern is the establishment of institutional structures for the provision ofwater supply and sewerage in small municipalities, commensurate with: (a) thedecentralization policy introduced by Decree 77 of 1987; and (b) the need forconcentrating service management and operation in order to take advantage of theeconomies of scale inherent in the delivery of water supply and sewerageservices. The SRP lending policy introduces a framework of criteria andincentives to bring about the institutional framework described above. To thisend, the policy distinguishes between: (a) entities responsible for theexecution of investment projects and the management and operation of watersupply and sewerage services; and (b) sponsor institutions (municipalities anddepartment, for example) which assist a project executing entity by providingequity contributions to cofinance investments.

4.16 To qualify as beneficiaries of SRP financing, project executingentities will be required to meet the following criteria: (a) managerial,administrative and financial independence; (b) technical capacity and financialstrength to ensure an efficient and adequate management, administration,operation and maintenance of services and facilities; and (c) efficient size ofoperations. With these criteria in mind, FFDU would determine whether or not aproposed project executing entity has the capacity to carry out investmentprojects and maintain and operate systems and facilities independently. In theabsence of such capacity, FFDU will not finance a proposed subproject unless theentity affiliates itself with a departmental or regional company of sufficientsize and operating capacity.

4.17 The execution of Rural Water Supply Projects will require the existenceof departmental or municipal entities capable of carrying out the NationalProgram for Basic Rural Sanitation (NPBRS). The most convenient organizationfor this purpose would be the Departmental Health Service as executing agencyand the Department as borrower and intermediary of loan funds.

4.18 Institutions eligible for contracting SRP loan funds are all entitiesqualifying as project executing agencies, i.e. municipal, departmental andregional entities with a sufficient degree of autonomy and operating capacity.Departmental governments can enter into agreements for the execution of ruralprojects. Other public institutions, municipal and departmental goveraments,

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urban and regional development corporations, for example, would be eligible toobtain loan funds as sponsors for the purpose of providing complementary equitycontributions to eligible project executing agencies.

4.19 Institution8' Strengthening. Project executing entities are expectedto commit themselves to the execution of an insti utional strengthening effortto bring its performance up to acceptable levels. Annex 5 lists selectedmanagerial, operational, administrative, and financial indicators generallyassociated with satisfactory performance of water and sewerage companies. Theseparameters will be used as a guide by FFDU and loan applicants to define jointlyspecific performance targets to be attained during the course of projectexecution and to design an Institutional Strengthening Program necessary toachieve them. In the formulation of these targets, FFDU will consider projecttype and view a company's potential for improvements taking into account factorssuch as its size, the socio-economic capacity of service beneficiaries, initialcondition and the availability of human resources. As part of the institutionaldevelopment process promoted under the SRP, operating entities are expected toimprove their administrative systems and procedures. Special emphasis will begiven to the introduction of adequate and appropriate systems for accounting,control, information, human resources development, and commercial operations.FFDU will promote and assist in the introduction of uniform, sector wideaccounting and management information systems. The institutional developmentplan agreed to between an operating entity and FFDU would be reflected in thesubproject description and a list of monitoring indicators to be included in thesubproject agreement between FFDU and a beneficiary subproject executing agency.

4.20 Project Types. Given the wide discrepancies existing in theinstitutional capacity and financial conditions among the sector's operatingentities, a distinction would be made between four subproject types withdifferent conditionality in terms of subproject scope and expected financial andoperational performance:

(a) Type A - Regular Projects in urban areas carried out by existingmunicipal, and regional operating companies which have reached areasonably efficient level of operational and administrativeperformance and an adequate level of financial viability. Thesecompanies would be eligible for receiving financing for majorwater supply and/or sewerage expansion projects.

(b) Type B - Rehabilitation Projects carried out by existingfinancially and operationally weak municipal and regionalcompanies which have to undergo a major institutional andfinancial rehabilitation before being able to qualify for a Type Aproject. The main element of a rehabilitation project wouldinclude the rehabilitation and repair of existing facilities andthe execution of institutional and financial strengtheningefforts. A rehabilitation project generally would have a durationnot exceeding two years and total investments would be less thanUS$50 per connection existing at the time of project initiation.

(c) Type C - Transition Projects designed specifically to facilitatethe reorganization of the institutional framework for themanagement and operation of water supply and sewerage services in

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municipalities where services are provided by an EMPOS or directlyby the municipal government. In some of the largermunicipalities, the reorganization would require the establishmentof a municipal water supply and sewerage entity meeting the afore-mentioned institutional eligibility criteria. In most cases,however, the reorganization would involve the transformation of anexisting INSFOPAL-owned EMPOS into an independent, viable regionalentity owned collectively by member municipalities. Transitionprojects would support the financing of: (i) inputs needed(studies, technical assistance, training, equipment) to establisha functional regional or municipal operating entity; (ii) watersupply and sewerage infrastructure rehabilitation and expansi3n inselected municipalities; and (iii) studies and designs for follow-up projects. Transition projects would be executed by existingEMPOS or, in special cases, by departmental or municipalgovernments. A transition project would have an execution periodnot exceeding three years. Upon its completion, the new operatingentity would be expected to be legally established andoperationally functional.

(d) Type D - Rural Projects carried out by departmental or municipalgovernments through an administrative unit capable of executingsubprojects in rural communities in accordance with the NPBRSmethodology and financing arrangements. A rural water supplyproject would finance: (i) strengtilening of the NPBRS unit; and(ii) the promotion and execution of projects in individual ruralcommunities.

4.21 Tariff Policy and Cost Recovery. The financial policy to be pursuedunder the SRP reaffirms the principle of recovery of the cost of water supplyand sewerage operation and of investments. Nevertheless, the present financialcapacity, institutional strength and the quality of service provided by manywater companies would not allow their full compliance with the cost recoveryprinciple at this time. Particularly companies in smaller municipalities couldnot be expected to raise existing tariffs to the levels required to recover allinvestment costs, given the poor service provided, large investment needs toovercome decades of neglect and the limited capacity of the population to pay.Many of the newly elected Mayors, now directly responsible for the provision ofwater supply and sewerage services in their jurisdictions have indicated theimmediate improvement of water and sewerage services as the most urgent priorityand expressed their determination to use part of the value added tax (IVA)resources now becoming available to the municipalities under Law 16 to invest inwater supply and sewerage system expansions.

4.22 In this situation, the Government has adopted a policy (Annex 1) ofencouraging municipal governments to use IVA funds in support of the investmentsneeded to bring water supply and sewerage services up to an acceptable level.At the same time, the Government has taken the position that IVA contributionsto the sector should not substitute a reasonable tariff effort by operatingentities. As a minimum, such entities would be required to adjust tariffs tolevels sufficient to fully cover operation and maintenance costs, workingcapital needs and the higher of depreciation and payment of present debt. Eachoperating entity would also be required to make a cash contribution to projectinvestments and assume a part of the debt service obligation. The size of thesecontributions would depend on an operating entity's present financial

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conditions, the potential for tariff increases, investment needs and quality ofservice provided. The Government expects that the use of IVA funds for spctcrinvestments would be discontinued after the mcst urgent initial investments havebeen completed and a reasonably adIequate service has been attained. TheGovernment's policy has been accepted as the only realistic way to revive aseverely undercapitalized sector and to bring rapidly acceptable services to thecountry's poor population. Based on this policy, the Government and FFDU haveagreed on minimum levels of contributions to investments from the internalgeneration of project executing entities. These levels, to be reflected inFFDU's Operating Manual Statement, would vary depending on an entity's initialfinancial condition, project type (para. 4.20) and communitv size as anindicator of the socio-economic capacity of beneficiaries.

4.23 For Type A projects, the following levels of contributions would apply.For cities with more than 800,000 people (BogotA, Cali, Medellin, Barranquilla),the company would be required to contribute at least 252 from its internalcontributions to total project cost and in addition assume loan obligations forat least 50? of total project cost. Local authorities would be allowed toprovide equity contributions for up to 252 of total project cost, primarily tosupport investments in poor unserved neighborhoods (Agua Blanca in Cali and ZonaSuroccidental in Barranquilla, for example). In intermediate-size cities(300,000-800,000), equity contributions by local governments would be limited toso5 of total project cost and project executing entities would be required tocontribute at least 15Z of project cost from their internal generation. Inmedium-size cities (80,000-300,000) and small cities (30,000-80,000) equitycontributions from local governments would be limited to 602 and 70Z of totalproject cost, respectively and minimum cash contributions to investments of 102and 52, respectively would be required. Regional companies providing servicesgenerally to communities below the 30,000 population limit would be required asa minimum to contribute 52 of total project cost in cash and to repay 152 ofBCH/FFDU loan.

4.24 For Type B projects, small and short duration projects designed torehabilitate the institutional and financial capacity of particularly weakcompanies, financing would rely heavily on contributions from local governments.Equity contributions up to 902 of total project cost would be accepted. Theexecuting entity would be required to contribute, over the life of the project,a minimum of 5? of total project cost from its internal generation.

4.25 For Type C projects, designed to facilitate the creation of newdepartmental, regional or municipal companies, participating municipalities anddepartmental Governments would provide 95Z of total financing. Tariffs in eachmuricipality would be required to be sufficient to contribute 52 of investmentcost. In general, no assumption of loans would be required as the newdepartmental or regional companies would not yet exist at the beginning of theproject. For Type D projects, communities with a population of less than 12,000would be required to contribute 152 of project cost in form of cash, labor andmaterials. In addition, it would assume a minimum of 152 of the debt service.The rest would be financed through equity contributions from local governments.

4.26 Recovery of investments through revenues generated by operatingcompanies would be, on average, about 602 of total SRP Program costs (Annex 4,Attachment 10). The remaining funds would be provided by local governments inthe form of equity contributions. SRP financing and cost recovery policieswould greatly require more financial discipline from operating entities compared

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to pre-SRP practices. For the first time, all companies would be forced tocover operating costs, working capital needs, the higher of depreciation and aaddebt service and contribute a minimum 5Z to investments in order to be eligiblefor loan funds from BCHIFFDU. Equity contributions wou]d be made entirely fromthe resources of local governments unlike in the past whei such contributionswere distributed by the Central Government in an uncontrolled fashion. The useof financial intermediaries by BCH/FFDU, assures the repayment of loan fundsmade available to project executing agencies and local governments. Interestrates would be positive in real terms. Under pre-SRP conditions, debt serviceobligations often were not met, as financial intermediaries (INSFOPAL) wereunable to fully collect amortization and interest payments and interest ratescharged tended to be highly subsidized.

4.27 Tariff Setting Mechanisms and Approvals. In the past, delays inapproving adequate tariff levels by JNT and the implementation of such tariffswere among the main reasons for the poor financial condition of sector companiesand their inability to carry out inve qtment projects in a timely faahion. Toavoid these shortcomings during the execution of the SRP Program, the Government(JNT, DNP) agreed during negotiations that: (a) BCH/FFDU during the subprojectappraisal process would seek JNT's opinion on the viability of tariff actionproposed in the financial projections submitted by the project entity, and (b)as a condition for subloan signature, it would be required that JNT has issued asatisfactory tariff resolution and the project entity has implemented in fullthe tariff levels authorized by JNT.

4.28 Service cross-subsidies. Operating companies providing services otherthan water supply and sewerage will be expected to attain financial self-sufficiency for the services provided. To this effect, operating companiesproviding other services would be required to commit themselves to adoptmeasures, including the adjustment of tariffs and fees, to meet the abovecondition. Loan funds would be mada available to assist operating companies inimproving solid waste operations.

4.29 Payment of Other Public Services. Sector operating companies in thepast have often failed to pay for other public services (electricity, socialsecurity, etc.). In particular, the electricity sector's financial performancehas been affected deeply by the failure of sector operating companies to paytheir electricity bills. Therefore, the SRP credit policy requires water supplyand sewerage companies to strengthen their finances to the extent that they areable to pay in full and on time, rates and fees due other public enterprises.As a condition for disbursing funds under a sub-loan, FFDU would require thatbeneficiary companies enter into agreements to repay existing debt and arecurrent on their payments to other public enterprises. The SRP policyencourages sector operating companies to bill and obtain payment for servicesprovided to nitional, departmental and municipal institutions.

4.30 Management Stability. Frequent changes in the management andprofessional staff contribute significantly to the poor management andadministration of sector companies. The lending policy requires sectorcompanies to maintain stability in the companies' management and higher levelprofessional staff.

4.31 Financing Arrangements and Conditions. Credit from BCH/FFDU or othersources to project executing agencies and cofinanciers will be limited to 80? of

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total projec'. cost. The financing gap is filled by cash contributions fromoperating entities and equity contribu,tions from local government in accordancewith the limits established for each project type. Interest rates and termsapplied by BCHjFFDU are those specified by the National Monetary Board (para.6.11). The Government has provided US$50 million in support of the SRPinvestment program. These funds would be used to reduce interest rates forsubprojects benefitting the poorest segment of the country's population.Interest rates will be adjusted periodically to ensure that they are sufficientto cover the cost of funds to BCH/FFDU and administrative expenses. BCH/FFDUloan funds would be rediscounted through financial intcrmediaries which would beresponsible for loan collection and for that purpose would require the pledgingof revenues of loan beneficiaries.

4.32 Project Eligibility. Projects would be eligible for financing if theyare:

a) technically sound, i.e present a least cost solution, are based onacceptable demand projections and design parameters, take intoconsideration adequately the rehabilitation of existing facilities anduse cost-efficient and appropriate technologies;

b) institutionally acceptable, i.e. the project executing entity mustdemonstrate sufficient capability to carry out the project and commititself to the implementation of an institutional strengthening program;

c) financially viable, i.e. the project financing plan must be assured andthe project executing entity's financial performance must meet theconditions of the lending policy;

d) economically justified, i.e. project design represents the least-costsolution; and Type A subprojects would ve required to yield a financialrate of return of at least 1OZ;

e) socially acceptable, i.e. provides services at affordable costs to thepoor segment of the population; and

f) environmentally acceptable, i.e. major undesirable environmentaleffects are mitigated through appropriate remedial action.

4.33 Project Supervision. FFDU would be responsible for supervising theexecution of physical project components and for monitoring compliance with theprovisions in the subproject agreement between FFDU and project executingagencies. Most important among the provisions contained in the subprojectagreement would be: (a) the project description, incluetng an institutionaldevelopment and training component; (b) a list of annual administrative,operational and financial monitoring indicators; (c) financial covenants; and(d) a satisfactory management clause. The subproject agreement would stateclearly FFDU's obligation to suspend disbursements, or even cancel subloans, incase subborrowers are in prolonged and substaatial incompliance with covenantsin subproject agreements.

Design and Technology Improvements

4.34 The current design standards and procedures are outdated and often leadto elevated per capita costs. Likewise the technologies employed are often

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inappropriate and more costly than necessary. The SRP, therefore, includes aprogram of review and update of design parameters and procedures (water consump-tion, demand forecast, staging of construction, design horizons, network design,etc.) and technologies (water and sewage treatment, sewage collection, etc.)with the objective of promoting the design of least-cost and technologicallymore appropriate projects.

Training

4.35 The Government and sector officials are conscious of the need for moreintensive and better focused training of sector personnel at all levels as a keyelement for the more efficient operation and administration of sector companiesand the formulation of more appropriate and cost-effective investment projects.In response to the obvious need for upgrading training, the Colombian Associa-tion of Sanitary and Environmental Engineers (ACODAL) with the support of and incoordination with the Government and operating companies has created on June 19,1987, the National Training Center for the Water Supply and Sanitation Sector(CENAGUAS). A priority objective of the SRP is to develop CENAGUAS into thesector's central planning and "nordinating agency for training, while making useto the extent possible of e%Jat:r; facilities and training materials. Under thedirection of CENAGUAS, train±ng f about 35Z (8000 persons) of the sector'smanagerial, technical, and adwii. strative staff over the 1988-1992 period is animportant objective of the SRP.

V. THE BORROWER AND EXECUTING UNIT

Introduction

5.01 In accordance with Decree 77, the Central Mortgage Bank (BCH) will actas financial intermediary for the water supply and sanitation sector with itsUrban Development Fund (FFDU) responsible for the'evaluation and supervision ofsector projects. For the proposed sector Project, BCH and FFDU will be theBorrower and Executing Unit, respectively.

The Borrower - BCH

5.02 BCH was founded in 1932 by legislative decree and is a stock company(sociedad an6nima). It is 87t owned by Banco de la Repdblica, with theremaining 13Z of its shares held by public and private financial institutions.The purpose of BCH is to guide, finance and execu.e works aimed at implementingthe government's housing and urban 'development policies. To accomplish this,BCH raises pu'lic and private funds, which it earmarks for the financing of theconstruction and acquisition of homes and for the execution of regional andurban development projects. BCH ranks fourth among all Colonmbian banks(exceeded only by Banco de la Republica, Caja Agraria and Banco de Colombia) interms of asset amounts. Its assets as of December 31, 1986 amounted to theequivalent of US$1,020 million, about 8Z of the banking system's total assets.

5.03 BCH is governed by an eight-member Board of Directors, composed ofrepresentatives of the public and private sectors and chaired by the Minister ofFinance and Public Credit. BCH's day-to-day management rests in the hands ofits General Manager and five deputy managers, including a deputy manager forFFDU. At present, BCH has about 3,370 employees, of which about 2,800 are

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assigned to 51 branch offices and the rest, about 570 staff members, work atheadquarters in Bogoto.

5.04 BCH's accounting and record keeping is computerized and reliable.Four-year budgets and lending programs are revised annually and submitted to thenational government for review and comment. BCH is examined continuously by theSuperintendent of Banking (Superintendencia Bancaria) to ensure compliance withbanking laws and regulations. BCH has its accounts audited annually by aninternationally-known accounting firm (Arthur Anderson for 1986 and 1987) andintends to continue this practice.

The Executing Unit - FFDU

5.05 Established in 1968, FFDU, the proposed project's executing unit, is asubdivision of BCH which offers financing to municipalities and departments aswell as to other eligible public enterprises for investments in urban develop-ment and sanitation works. FFDU is responsible for the coordination of projectpreparation, the evaluation of project feasibility and project supervision.Although it must submit loan proposals to the BCH Board of Directors for reviewand approval, FFDU has considerable operational autonomy within BCH. FFDU hasits own systems for reporting, budgeting, control and project monitoring.

5.06 Current Portfolio. As of December 31, 1986, FFDU had total outstandingloans of about Col$21,000 million (US$102 million equivalent). This representedabout 12% of the total loans of BCH. Between 1983 and 1986 FFDU approved loansfor (60 projects amounting to Col$44,613 million (US$300 million equivalent).Of this amount, Col$24,371 (US$160 million equivalent) million had beendisbursed by year-end 1986. FFDU's recent lending has been concentrated in twosectors: sanitation (water supply, sewerage and solid waste removal) and urbantransport. Of FFDU's total 1983-86 disbursements, 442 were for sanitation and31% for urban transport operations. The remaining 25Z was for a variety ofother urban infrastructure investments. The sectoral composition of FFDU'srecent lending reflects its priority of assisting local government in improvingbasic infrastructure and public services. Three years ago, FFDU replacedINSFOPAL as the Country's largest financier of sanitation projects in Colombia.It recently provided funding for several larger water supply projects includingone in Cali costing US$10 million and another in Santa Marta amounting to US$6million. FFDU has acquired considerable experience as intermediary for externalloans. At present it is executing a second municipal infrastructure investmentproject with financing from the Inter-American Development Bank (US$60 million,75% of loan funds committed) and another project funded by German KreditanstaltfUr Wiederaufbau (DM6.5 million, 80 of loan funds committed).

5.07 Sources of Funds. In the past, FFDU's primary sources of funding wereexternal borrowings and government loans. As indicated above, FFDU has been thebeneficiary of two Inter-American Development Bank loans totalling US$ 74million and a DM6.5 million loan from the Kreditanstalt fUr Wiederaufbau. In1983, FFDU received a Col$12,500 million (US$80 million equivalent) loan fromthe Colombian Government to finance urban infrastructure projects. FFDU alsoraises funds through the issuance of its own Urban Development Bonds (UDBs).These are tradeable debentures, offered to municipalities, which have a three-year n.aturity and a nominal yield of 22-24Z. Although the yield on such deben-tures is substantially below market rates, the holder is entitled to borrow fromFFDU three times the face value of the bond and to pay a rate of interest lower

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than FFDU's normal lending rate. As of year-end 1986, the volume of UDBs out-standing was US$5.5 million equivalent. In the future, as a means of capturinga portion of the growing sales tax (IVA) transfers being made available to muni-cipalities, FFDU intends to increase substantially the issuance of UDBs.

5.08 Another important source of funds for FFDU are Urban Formation Bonds(UFBs). The issuance of UFBs was authorized in April 1987 by the Government as away of tapping the deposits of Colombian saving and loan institutions (UPACfunds) to finance urban development works. UFBs are tradeable debentures, whichoffer market interest rates (index6d for inflation plus 42) at a seven-yearmaturity. They are issued by BCH to savings and loan institutions in amountsdetermined by each institution's shortfall in meeting minimum compulsory housingportfolio allocation quotas as established under the UPAC system. Resourcescaptured through the issuance of UFBs are to be channelled by BCH to FFDU forinvestment in urban infrastructure including water supply and sanitationprojects. By the end of 1987, the volume of UFBs outstanding was expected toreach the equivalant of US$10 million. FFDU estimates that in the near future,annual sales of UFBs should average about US$25 million equivalent.

5.09 FFDU On-lending Procedures and Conditions. FFDU operates throughfinancial intermediaries (commercial banks and financial corporations) by redis-counting the loans such intermediaries make to municipalities, departments andother eligible borrowers for urban infrastructure investments. The proportionof rediscount varies between 75Z-85Z depending on the size of the city; thelarger the city, the larger the discount. Under this arrangement the partici-pating financial intermediary provides from its own resources the differencebetween the rediscounted amount provided by FFDU and the loan amount made avail-able to the sub-borrower. Financial intermediaries handle directly with thesub-borrower all loan administration tasks including the establishment ofguarantees, which in all cases involves the pledging of a portion of the sub-borrower's revenues, the preparation and signature of the loan contract, thetimely disbursements of loans funds and the collection of debt service payments.All activities associated with the recovery of debt from the subborrowers arethe sole responsibility of the financial intermediary. For assuming these risksand responsibilities, financial intermediaries from of 1.5 to 2.5 percentagepoints on the rediscounted amount provided by FFDU and a yield determined by the3-month Certificate-of-Deposit rate (CDT) plus 4-5? on the balance of loan fundsprovided from their own resources.

5.10 FFDU lends in accordance with regulations issued by the country'sMonetary Board (Junta Monetaria, JM). JM Resolution No. 53 of September 25,1987 establishes the following currently valid lending conditions (Annex 6):variable interest rates ranging from CDT + 5 points for larger municipalities;CDT + 3 for medium-size municipalities; and CDT + 2 for small municipalities;maturity of 12 years; and 3 years of grace. In addition, there is a commitmentfee of 0.5? on the undisbursed balance and an administrative fee of IZ of theloan amount. For borrowers holding Urban Development Funds (UBDs), FFDU offerspreferential rates which are 2 percentage points less than regular rates. Theabove rates apply to the portion of the loan that is rediscounted by FFDU. Asthe financial intermediaries through which FFDU rediscounts its loans earnbetween 1.5-2.5 percentage point, the net rates received by FFDU range from CDTplus 3.5 to minus 0.5? for non-preferential borrowers to CDT plus 1.5 to minus3.5? for preferential borrowers. The non-rediscounted portion is lent byfinancial intermediaries at CDT plus 4.Z to 5?. The final average nominal rates

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to borrowers, thus, range from CDT minus 0.252 to CDT plus 5Z depending on thesize of the municipality and whether or not the Borrower holds UDB. At theSeptember 1987 CDT level of 26? and with interest charged at the end of thequarter, the effective rates charged to borrowers for FFDU loans, exclusive offees and charges, would be as presented in Table 5.1.

Table 5.1

Interest Rates on BCH/FFDU Loans based on CDT Rate of 261

Borrowers BorrowersLoan Recipient not holding UDBs holding UDBs

Large Municipalities 34.82 32.6ZMedium-Size Municipalities 32.6Z 30.6ZSmall Municipalities 31.4Z 28.3Z

5.11 Considering that the "prime" market lending r:ate (generally CDT plus 3%charged quarterly in advance) is. currently 352 (effective) and that the infla-tion rate in Colombia (12 months ending December 1987) is about 26?, FFDU ratescharged to borrowers are positive in real terms and approach "market" rates.

5.12 Organizational and Institutional Capacity. Over the past ten years,FFDU has developed into Colombia's most efficient and important lender for muni-cipal infrastructure projects. Its generally young, but highly educated andmotivated staff enjoys an excellent reputation in the Sector and prides itselfin promoting and executing high quality projects. An institutional assessmentof FFDU confirmed that it indeed is an organization capable of assuming itsexpanded role as primary lender and intermediary for sector investments inColombia. Also noted, however, is the need for FFDU to expand and strengthenits staff resources, to define more clearly its lending policy and to improve,streamline and systematize its organization and operating procedures. BCH's andFFDU's management, conscientious of the need to grow and to improve itsoperational capabilities has embarked on an institutional strengthening effortto address the above concerns (Annex 7).

5.13 BCH Management Order No. 98 of September 15, 1987, gave rise to a majorreorganization of FFDU. The new organization establishes FFDU as a Department(Subgerencia) of BCH with four Divisions reporting to FFDU's administrator. TheCredit Division for municipal development has responsibility for all operationalproject related work. At headquarters, the Director of the Credit Divisionheads two credit departments each of which supervise four regional offices.These eight regional offices, strategically located throughout the country andattached to BCH branch offices, carry out the operational work (project identi-fication, preparation, supervision) in their areas of responsibility under thesupervision and control of headquarters staff. The Division of TechnicalDevelopment at headquarters in BogotA is staffed with technical sectorspecialists (economists, engineers, financial analysts, institutional develop-ment experts, etc.) who do policy related work and support the Credit Divisionin its operational work. FFDU's operations are guided by a Planning Divisionand supervised by an Operational Control Division. FFDU's new organization,already largely in place, is very well suited to the agency's new and expandedresponsibilities. A particularly advantageous facet of the new organization isthe decentralization of routine operational work to regional units allowing easyand continuous contact with FPDU's clients.

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5.14 BCH Management Order No. 98 also authorizes a major increase in staffand sets specific staffing targets for December 1987 and June 1988. Compared toa pre-reorganization total of 50 . FFDU's professional staff was to grow to 82(50 at headquarters and 16 at regional units) by the end of 1987 and isprojected to increase to 89 (57 at headquarters and 16 at regional units) bymid-1988. In addition, FFDU will continue to supplement its in-house staffcapacity with consultants. As an extraordinary measure to speed up the prepara-tion of a project pipeline for the SRP, FFDU is about to contract, with UNDPfinancing, the assistance of 12 sector specialist consultants for an 18-monthperiod. Concurrently, FFDU, led by its Division for Technical Development, hasinitiated a major effort to improve and streamline its operating and administra-tive procedures and to upgrade its human resources (Annex 6). These effortswould be supported under the proposed project. The institational strengtheningeffort currently being undertaken by FFDU is judged sufficient to allow FFDU todischarge its new responsibilities and to carry out the proposed project. TheGovermnent and FFDU are considering obtaining a US$100 million Bank loan insupport of a US$275 million municipal sector project. Appraisal of this projectis tentatively scheduled for FY 1989. The preparation and execution of themunicipal sector project would require a further major expansion of FFDU's staffcapacity.

Financial Analysis of BCH/FFDU

5.15 BCH operates under special regulations which allows it to index bothits mortgage credits and liabilities to the public, through the use of 'constantpurchasing power units (UPAC)" linked to the consumer price index. Interestrates (both lending and borrowing rates) are subject to ceilings, but areexpressed as margins additional to the monetary adjustments of the UPACs.Margins on mortgage loans range from 2 to 5 percentage points higher than thoseon corresponding liabilities, thereby enabling BCH to maintain a positive spreadon its overall lending operations.

5.16 An analysis of BCH's financial structure and condition (includingresults for the FFDU) is provided in Annex 8. BCH has, as of December 31, 1986,US$1,020 million equivalent of total assets. Of this amount, about US$840million equivalent or 82% were in the form of mortgages and urban development(FFDU) credits. The remaining assets on BCH's books at year-end 1986 (18% ofthe total) included mainly financial investments, construction holdings andfixed assets. Delinquencies in BCH's mortgage loan portfolio are relativelyhigh, reflecting payment problems experienced in recent years by many mortgageborrowers, especially those at the lower-income levels. The volume of BCH'smortgage loans past due by more than four months equalled 182 of total mortgagesat year-end 1986. However, BCH's provisions for doubtful loans, at 6Z of totalmortgages, appears adequate as most of the mortgages are fully collaterized.FFDU's loan portfolio has not experienced any arrearage since the financialintermediaries through which the FFDU rediscounts its loans are required to payoff the loans even in cases in which the final borrower has not made payment.BCH's principal sources of funding are UPAC and traditional savings deposits,which together totalled US$750 million equivalent or 73Z of total resources asof December 31, 1986. External borrowings, which have been used only to financeFFDU investments, accounted for just 3Z of total BCH resources as of year-end1986. BCH maintains a line of credit with Banco de la Republica which it hasdrawn upon for relatively modest amounts of funding since 1984 to meetunexpected liquidity demands. BCH's equity position, at 5Z of total assets at

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year-end 1986, is considered adequate. Also BCH's earning performance, in spiteof some deterioration since 1983, remains satisfactory. For 1986, BCH's netincome was US$3.1 million equivalent or 0.32 of average assets.

5.17 At negotiations, BCH presented the Bank with preliminary financialresults for 1987 and financial projections for the period 1988-92. A summary ofthese results and projections is provided in Annex 8. As of December 31, 1987,BCH total assets reached US$955, million equivalent (Pesos 1.451 million).FFDU's portfolio continued to grow in 1987, reaching the equivalent of US$112million at year-end. It represented 13Z of total BCH loans outstanding. BCH'sfinancial projections show that its financial condition and performance would bemaintained at satisfactory levels over the next few years. For 1992, when mostof the proposed loan should be disbursed, BCH would continue to have an adequatecapital ratio (about 4Z of total assets) and profitability. The projectionsalso show that FFDU's lending is expected to play an increasingly important rolein BCH's overall operations. By end-1992, FFDU loans as a proportion of BCH'stotal footings would equal 28Z, reflecting mainly the increased resources to bedirected to FFDU through the Bank-financed project.

Potential Creation of Regional Development Bank

5.18 During the 1987 legislative period, the Government sent to Congress forconsideration a bill proposing the creation of a Regional Development Bank(Fondo de Desarrollo Territorial, FDT). This FDT was to become the major finan-cial intermediary for future municipal and regional infrastructure developmentinvestments, including those for water supply and sanitation. FFDU was to beseparated from BCH and made the nucleus of FDT. The Government's proposal didnot pass before the legislative period expired in mid December 1987, asCongress' time was taken up by other legislative initiatives. During the nextlegislative period beginning in June 1988, Congress can be expected to againconaider the creation of the FDT. Should the FDT be established, intermediaryarrangements for the proposed project would change. The Bank would be preparedto examine the possibility of a transfer of the Project to a future FDT.However, the Bank would be able to decide on such transfer only on the basis ofa full appraisal of the capacity of the FDT after it has actually beenestablished, capitalized and staffed.

VI. THE PROJECT

Origin

6.01 The proposed project grew out of an intensive dialogue between theGovernment and the Bank leading to the formulation of the SRP (Chapter IV) whichthe proposed project seeks to help implement. The Government requestedfinancing for the project per letter dated September 23, 1986.

Project Objectives

6.02 The main objective of the proposed project is to underpin the implemen-tation of the SRP by financing a US$430 million slice of the Government's US$600

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million 1988-1992 SRP sector investment program and help the Government inbringing about sectoral institutional and policy reforms. Its specificobjectives are to assist the Government in:

(a) providing by the end of 1992 water supply services to about 1.9million additional people and sewerage services to about 1.3million additional people, most of whom belong to the poorersegment of the country's population;

(b) introducing a new lending policy designed to: (i) reinforce theadjustments to the sector financing policy; (ii) promote greateroperational efficiency and financial viability of water andsewerage companies; and (iii) stimulate the preparation and execu-tion of more cost-effective investment projects;

(c) strengthening the institutional framework at the national levelthrough the: (i) promotion of a strong financial intermediationcapacity (BCH/FFDU) capable of enforcing the provisions of the newlending policy; (ii) introduction of adequate global sector plan-ning (DNP); and (iii) development of a strong technical supportand monitoring agency (DWSS of MOPT);

(d) promoting, at the departmental, regional and/or municipal level,the development of companies of sufficient size and operationaland financial autonomy to operate efficiently water and seweragesystems;

(e) reviewing and updating technical norms, design parameters andtechnologies for the future preparation of more cost-effective andappropriate investment projects; and

(f) establishing a permanent human resources development capacity forall levels of sector personnel and strengthening the performancecapability of sector personnel by developing and implementing acomprehensive training program.

6.03 Given the magnitude and complexity of the sector reform being under-taken by the Government and considering the continuing need for substantialexternal resources for the foreseeable future, the project would be viewed as afirst in a series of a long-term joint Government-Bank efforts to introduce andmaintain better sector institutions and policies and to bring adequate water andsewerage service coverage to all segments of the country's population.

Rationale for Bank Involvement

6.04 With the assistance of the Bank, the Government has embarked on a majorreform of sector policies and institutions in order to initiate accelerated andmore socially-oriented sector development (Chapter IV). Continued Bank support,both through the provision of financial resources and advice, would be criticalto further develop and strengthen the reforms being undertaken under the SRP.Withiout Bank support, the introduction and enforcement of the SRP sector lendingand financing policies and the development of key institutions (FFDU, DWSS) mostlikely would have less chance for success. The objectives of the projectcoincide with the Government's and the Bank's country and sector strategies.

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Providing lower income groups with increased access to adequate water andsanitation services under the proposed project is a high social and politicalpriority of the Government in its effort to alleviate poverty. The Bank'sinvolvement in the project would further some of the most important objectivesof the Banks's country strategy, particularly rationalizing public expendituresand investment control, stimulating domestic resource mobilization and promotingmore efficient public sector management and pricing policies.

Project Description

6.05 The Project would include the following components:

Component A - Investment Subprojects, including a line of credit to be adminis-tered by FFDU in the execution of an entrusted 6J subprojects involving therehabilitation and expansion of water supply and sewerage systems, pre-investment studies and institutional strengthening of project executing agenciesin some 400 communities; and the upgrading of solid waste collection anddisposal operations in about 10 cities, where municipal companies provide thisservice in addition to water supply and sewerage.

Component B - Strengthening of FFDU's Operating Capacity including the executionof a program of staff training and the preparation and implementation of: (a) acomprehensive Operating Manual Statement reflecting SRP policies; (b) Projectpreparation and evaluation guidelines; and (c) improved and computerized manage-ment systems for lending and supervision;

Component C - Strengthening of DWSS and the Execution of Studies to ImproveSector Efficiency, including the execution of a program of staff training and:(a) the review and update of existing technical norms and parameters for thedesign, construction and maintenance of water and sewerage facilities; (b) thepreparation of guidelines for the application of low-cost appropriatetechnologies; (c) the preparation of a study to update and strengthen NPBRSprocedures for rural water supply; and (d) the preparation of a sectorinventory.

Component D - Training, including: (a) the establishment and strengthening of aNational Training Center (CENAGUAS) through: (i) the construction of trainingfacilities at Bogota's San Diego Water Treatment Plant; (ii) purchase oftraining equipment and materials; (iii) development and organization of manage-ment and technical training programs for sector personnel; and (iv) a program oftraining of trainers; and (b) the execution of a training program for about 8000sector managers and staff.

6.06 About 80 individual subprojects would be carried out under Component Aof the Project. Average subproject cost would be about US$6 million, rangingfrom a minimum of US$0.5 million to a maximum of about US$30 million.Subprojects carried out by regional companies and rural subprojects wouldinclude works in several communities. It is estimated that, in total, some 400communities would benefit from investments under the Project. Financing would beprovided for all inputs needed to carry out a subproject, including theacquisition of equipment and materials, civil works, consulting services forinvestment studies for follow-up projects, supervision of construction andinstitutional development and training. All subprojects meeting the SRP lendingpolicies and criteria (para. 4.14-4.31) would be eligible for financing under

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the Project. All subsectors (large, medium-size and small cities and towns andrural) would be covered. Assurances were obtained from BCH/FFDU at negotiationsthat subprojects submitted by companies which are at present executing projectswith financing provided by external or domestic lenders (BogotA, Cali, Medellin,Barranquilla, Cucuta), however, would be eligible only, if their objectives arecomplementary to and do not interfere with the execution of and theconditionality established for such ongoing projects. Financing for solid wastecollection and disposal services would be made available to an estimated 10municipal companies which provide this service in addition to water supply andsewerage and need investment funds to upgrade this service and make itfinancially self-sufficient.

Project Cost

6.07 The total cost of the Project is estimated to be about US$435.0 inillion(Table 6.1). Of this total, about US$430 million (99Z of total) would bedirected towards financing investment subprojects under Component A. US$5.0million (about 1.OZ of total cost) would fund components B, C and D of theproject. The foreign exchange cost of the project is estimated at US$150million, about 35Z of total project cost. Annual investments by projectcomponent are presented in Annex 9. Project costs include provision for taxes,estimated to amount to about US$20 million.

Table 6.1

Project Cost Estimate(US$ million)

Z ofComponent Local Foreign Total Total

(A) Investment Subprojects 281.5 148.5 430.0 98.9Water Supply 137.5 112.5 250.0 57.5Sewerage 97.5 32.5 130.0 29.9Solid W6aste 2.0 3.0 5.0 1.1Institutional Development 11.7 0.3 12.0 2.8Supervision of Construction 16.0 - 16.0 3.7Pre-Investment Studies 14.0 - 14.0 3.2Training 2.8 0.2 3.0 0.7

(B) Strengthening FFDU 1.5 0.5 2.0 0.5

(C) Studies by DWSS 1.0 0.5 1.5 0.3

(D) Training Center 1.0 0.5 1.5 0.3

Total 285.0 150.0 435.0 100.0

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Table 6.2

Financing Plan

Project Component TOTALA B C DUS$ US$ US$ US$ US$ 2 OF

Sources of Funds Million Million Million Million Million TOTAL

Cash Contributions 111.2 1.0 112.2 25.8Operating Companies 55.8 - - - 55.8 12.8Local Government 55.4 - - - 55.4 12.7FFDU - 1.0 - - 1.0 0.2

Loan Funds 318.8 1.0 1.5 1.5 322.8 74.2National Government 50.0 - - - 50.0 11.5BCH Domestic Resources 67.5 - - - 67.5 15.5Financial Intermediaries 41.3 - - - 41.3 9.5FONADE 14.0 - - - 14.0 3.2Bank Loan 146.0 1.0 1.5 1.5 150.0 34.5

Total 430.0 2.0 1.5 1.5 435.0 100.0

6.08 The Project's financing plan is presented in Table 6.2. The proposedBank Loan of US$150 million would finance the estimated foreign exchange cost ofthe project. Component A of the Project (investment subprojects) would befinanced from:

(a) cash contribution (US$111.2 million, 25.9Z of total cost) byoperating companies (US$55.8 million, 132) and local governments(US$55.4 million, 12.9Z); and

(b) from BCH/FFDU loan funds (US$318.8 million, 74.1X) raised from thefollowing sources: the Bank (US$146 million, 34Z); grant from theNational Government (US$50 million, 11.6Z); FONADE (US$14 million,3.22); BCH resources through the sale of bonds and other revenues(US$67.5 million, 15.7X); and contribution from BCH's financialintermediaries (US$41.3 million, 9.6Z).

6.09 BCH/FFDU and the Bank would finance Component B (US$2.0 million) with acontribution of US$1.0 million each. During negotiations, the Government hasindics:ed its willingness to finance components C and D frovi its budget. Inview of the urgent necessity to carry out these project components in an orderlyand timely fashion,however, the Bank would allocate amounts to assure thefinancing of these components in case the Government's budget contributionswould not be forthcoming in a timely fashion. Upon completion of components Cand D, any undisbursed amounts of the Loan originally allocated to thesecomponents would be transferred to Component A of the Project.

6.10 To ensure the viability of the Project's financing plan, assuranceswere obtained at negotiations from the Government, that it would budget anddisburse in a timely manner the contributions required for the execution ofcomponents A, C and D in accordance with annually updated projections offinancing needs. Regarding the financing of preinvestment studies by FONADEunder Componet A of the Project, it was agreed during negotiations that the

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conclusion of an agreement between FONADE and FFDU satisfactory to the Bank

would be a condition of effectiveness of the Bank Loan.

Foreign Exchange Risk and BCH/FFDU Relending Arrangements and Terms

6.11 BCH/FFDU would make credit available to eligible subborrowers under the

terms, conditions and criteria defined in the SRP lending policy (paras.4.23-4.25). BCH/FFDU would continue to discount loan funds through financialintermediaries so as to guarantee the repayment of loans (para. 5.09). Currentinterest rates, variable and pegged to the weekly adjusted market-basedCertificate of Deposit rate (para. 5.10) and fees are projected to be sufficientto allow BCH/FFDU to cover its cost of domestic and external borrowings and

administrative expenses, on the condition that no extraordinary devaluations of

the Col$ vs. other currencies occur in the future. At negotiations, agreementwas reached with the Government and BCH that BCH's interest rate and fee

structure would be reviewed semi-annually and, if necessary, adjusted to ensure

that it is sufficient to cover all of BCH/FFDU's and financial intermediaries'

costs associated with the raising of external and domestic resources for

onlending and administrative expenses. The Government's contributions to the

Project would be used to soften the interest rates for BCH/FFDU's second and

third window (para. 5.10) destined to support subprojects benefitting the

poorest segment of the country's population. Agreement was reached at

negotiations that such softer interest rates would be positive in real terms,

i.e. at least equal to domestic inflation. The Government has agreed to

compensate BCH/FFDU against the foreign exchange risk associated with future

extraordinary devaluations exceeding the rate of domestic inflation. BCH and

the Government are still defining the specific conditions to be contained in the

agreement, but have assured the Bank that this agreement would be finalized and

signed promptly. The presentation of the agreement between BCH and the

Government on covering the foreign exchange risk would be a condition for the

signature of the Loan.

Legal Instruments for Relending

6.12 Legal instruments to be used in the provision of loans by BCHIFFDU for

Component A of the Project would include: (a) participation agreements between

BCH/FFDU and financial intermediaries; (b) subloan agreements between financial

intermediaries and subproject executing agencies and cofinanciers (municipal or

departmental governments); (c) sponsor agreements between cofinanciers and

subproject executing agencies; and (d) subproject agreements between BCH/FFDU

and subproject executing agencies. The subproject agreements would requiresubproject executing agencies to carry out subprojects in accordance with the

conditions and criteria negotiated with BCH/FFDU. Specific conditions whichwould be included in subproject agreements are listed in Annex 10. The

presentation of draft standard agreements satisfactory to the Bank would be a

condition of effectiveness for the Bank Loan. Assurances were obtained from

BCH/FFDU during negotiations, that it would employ legal agreements satisfactoryto the Bank for all subprojects financed under Component A of the Project. No

disbursements of the Bank loan would be made, unless onlending agreements

satisfactory to the Bank have been concluded.

6.13 Loan funds for components C and D of the Project would be made

available from BCH/FFDU to MOPT and CENAGUAS under agreements satisfactory to

the Bank. These agreements would establish: (a) the obligation by MOPT andDWSS to carry out components C and D, respectively satisfactory to the Bank; and

(b) the arrangements for the financing of these components. The conclusion of

these agreements would be a condition of effectiveness of the Loan. The

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Government, would commit itself to repay to BCH/FFDU any disbursements from theBank Loan made by BCH/FFDU for components C and D of the Project.

Implementation Specifics

6.14 In support of the implementation of the SRP and to ensure the efficientexecution of the Project, the following specific conditions would beestablished.

6.15 Investment Program Review: The 1988-1992 sector investment program(Annex 4) provides the base line against which the Bank would monitor short- andmedium-term sector development and financing. DNP, in coordination with FFDUand MOPT, would annually update the entire Sector Investment Program andFinancing Plan in terms satisfactory to the Bank. In this regard, not laterthan August 31 each year, DNP would present to the Bank a report on the statusof execution of and proposed revisions to the sector investment program.Assurances tu; this effect were obtained from the Government during negotiations.

6.16 Subproject Lending Policy and BCH/FFDU Operational Manual Statements:BCHIFFDU woula be the primary intermediary for investment funds channeled to thesector from the Government budget and external loans from international multi-and bilateral financing agencies. The conditions and criteria for subprojectlending and eligibility establi.shed in the Government's policy letter (Annex 1)would apply for all sector investments, regardless of the source of financing.As a condition of effectiveness of the Bank Loan, BCH/FFDU would adopt anOperating Manual Statement for its water supply and sewerage operations approvedby the Government and satisfactory to the Bank, which would set the specificconditions, criteria and policies w'hich BCH/FFDU would employ in evaluating theacceptability of subborrowers and subprojects (para. 4.14). During negotiationsassurances were obtained from BCH/FFDU that no substantial changes would beintroduced in FFDU's Operating Manual Statement which, in the Bank's opinionwould adversely affect the execution of the Project.

6.17 Strengthening of BCH/FFDU's Operating Capacity: The upgrading ofFFDU's staff resources and operating procedures and systems, supported underComponent B of the Project (para. 6.05), is essential to the success of theProject. Assurances were obtained from BCH/FFDU at negotiations that it wouldcarry out the institutional strengthening plan in accordance with a Plan ofAction and time table agreed to between FFDU and the Bank during negotiations(Annex 7). At negotiations, assurances were obtained from BCH/FFDU that itwould maintain and, if necessary, add staff sufficient in number and withappropriate skills and experience to carry out the Project in an expeditiousmanner.

6.18 Establishment of DWSS and Execution of Component C. The Directoratefor Water Supply and Basic Sanitation has not yet been established, but MOPThas, following the directives given in Decree 1723 of September 4, 1987,submitted to the Government's Civil Service Administration (CSA) an organizationchart and a staffing schedule, both satisfactory to the Bank. CSA is expectedto decide on MOPT's proposal by October 31, 1988. Thereafter MOPT would be ableto initiate the establishment of DWSS and the appointment of staff. Atnegotiations, agreement was reached with the Government that DWSS would becomefunctional and be fully staffed by -io later than June 30, 1989, in accordancewith a plan of action agreed to negotiations (Annex 11). It was further agreedduring negotiations that DWSS would present to the Bank by no later than March31, 1989 a detailed plan of action and a time table for the execution ofComponent C of the Project.

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6.19 Establishment of CENAGUAS and Execution of Training Program: On June19, 1987, several sponsor agencies, among them the Colombian Association ofSanitary and Environmental Engineers, several water companies and suppliers andcontractors interested in sector development, decided to establish the NationalSector Training Center (CENAGUAS). At that time by-laws were agreed and a Boardof Executive Directors was appointed. Physical facilities have been provided toCENAGUAS by the Bogott Water Company without cost. At present, CENAGUAS' Boardis advancing th, legal and administrative process required to obtain CENAGUAS'status as a non-profit organization. During Negotiations it was agreed thatCENAGUAS would become functional with key positions staffed by not later thanMarch 31, 1989 in accordance with a plan of action agreed to during negotiations(Annex 12). It was further agreed that the agreement between BCH/FFDU andCENAGUAS (para. 6.13) would establish CENAGUAS' obligation to present to theBank by not later than March 31, 1989, a plan of action and time tablesatisfactory to the Bank for the execution of Component D of the Project.

6.20 Tariff Policy: Assurances were obtained from the Government that itsNational Tariff Board (JNT) would review prior to the approval of sub-loans byBCH/FFDU, proposed investment projects and, if necessary, authorize promptly anytariff adjustments necessary to ensure the financial feasibility of the projectand the financial viability of the Project Executing Agency in accordance withthe criteria established in BCH/FFDU's Operating Manual Statement (para. 6.16).With respect to the establishment of limits for the first consumption bracketestablished in Decree No. 394 of February 26, 1987 (para. 2.11), it was agreedduring negotiations that JNT would, by no later July 1, 1989, present to theBank a study recommending appropriate limits taking into account factors such ashousehold size, consumption habits and regional and climatic conditions. Theconclusions of the study would be employed for all tariff resolutions approvedby JNT after January 1, 1990.

6.21 Institutional Reform: Decrees 77 of Januiary 15, 1987, and 1723 ofSeptember 4, 1987, regulates the reform of sector institutions and presents atime table for the actions required to implement Lhe new sector organization.Assurances were obtained from the Government at negotiations that it wouldproceed with the institutional reforms as outlined in these decrees.

6.22 Monitoring of Sector Company Performance: In the absence of acomprchensive monitoring of the performance of sector utilities (para. 2.11),DNP would develop and implement a monitoring system which would describe thestatus of performance of all entities providing water supply and sewerageservices. Indicators to be monitored would relate to service coverage andquality, operational and financial performance, tariff levels and turn-over inmanagement positions. Assurances were obtained from the Government atnegotiations that DNP would carry out a systematic and comprehensive monitoringof company performance and by the end of each year, beginning in 1989, publish areport on the status of performance of sector entities operating water supplyand sewerage services. It was further agreed that DNP would present to theBa;ik, by not later than December 31, 1988, a format of the report and themonitoring indicators to be employed as well as the methodology to be followedin collecting the data required for the preparation of the report.

6.23 Preparation and Maintenance of Subproject Pipeline: Over the pastyear, a team of engineers, financial analysts and institutional specialistsfinanced by a grant from UNDP have been working with DNP and FFDU in thepromotion and preparation of a pipeline of subprojects. A survey of existingEPMs and most departments indicated significant potential demand for sector

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investments in all parts of the country, but also identified an acute shortageof well prepared subprojects. So far, FFDU has identified a tentative list ofsubprojects with a total cost of about US$350 million. At negotiations BCH/FFDUpresented executive project summaries for five subprojects with a totalestimated cost of about US$40 million which are in an advanced state ofpreparation and are expected to be approved by October 30, 1988. A majoreffort, however, is needed to transform identified project ideas and needs intoa pipeline of fully prepared and feasible subprojects, ready for appraisal byFFDU. To boost its immediate project preparation capacity, FFDU has obtainedUNDP financing for about 200 man-months of consultants (12 sector specialistsfor 18 months) who would assist FFDU staff in helping potential subborrowers toprepare subprojects. FONADE funds are available to interested water utilitiesfor the financing of consultant services for subproject preparation. After aninitial pipeline has been established with the help of the afore-mentioned UNDPfinanced consultants, FFDU's regular staff would be capable of maintaining asubproject pipeline to meet the investment targets established under the SRP.

6.24 Monitoring FFDU's Performance: Annex 13 presents annual performanceand operating indicators FFDU would be expected to meet during the execution ofthe project. These indicators fall into the following categories: (a) loanamounts to be approved, committed and disbursed; and (b) anmounts of localresources to be mobilized by BCH and financial intermediaries and Bank loanproceeds to be disbursed. Monitoring indicators would be reviewed and updatedannually.

6.25 Reporting: FFDU for Components A and B, MOPT for Component C andCENAGUAS for Component D, would prepare semi-annual progress reports to besubmitted by September 30 for the semester ending June 30 and by March 31 forthe entire previous year. Progress reports would not only describe pastachievements and compare them to appraisal projections, but also would provide acritical assessment of problems and issues arising during project execution.They would propose adjustments and remedial actions in case of unsatisfactoryprogress. The format of progress reports would be developed jointly by the Bankand individual project executing agencies after loan signature. Each of theproject executing agencies would submit completion reports to the Bank no laterthan six months after the closing date of the loan. Assurances were obtained atnegotiations that progress reports and completion reports satisfactory to theBank would be submitted.

6.26 Annual Program Assessment: Based on the September Progress reports,the Bank, the Government and selected project executing agencies would conductin October/November of each year a formal joint assessment of progress made inreaching the objectives of the SRP program and in the implementation of theProject. The annual review would provide a forum to critically assess programand project issues such as: sector investment programming and financing;institutional reform; performance of FFDU and other project executing agencies;interest rates; overall performance of subproject beneficiaries and theircompliance with subloan covenants; tariff and cost-recovery policy; and thequality of subprojects prepared. The discussion and analysis of problemsidentified in the past would lead to the formulation of adjustments and, ifnecessary, plans for remedial actions satisfactory to the Bank. The Governmentand BCH/FFDU provided assurances at negotiations that they would execute theaction plans agreed to during the Annual Program assessment to the satisfactionof the Bank.

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6.27 Auditing. BCH would continue to have its financial statements auditedannually by external auditors satisfactory to the Bank (para. 5.04). The termsof reference of the external auditors would be reviewed by the Bank to ensurethat they include the auditing of the Special Account and statement of expendi-ture records. The audit of FFDU and BCH financial statements would be presentedto the Bank by no later than April 30 of each year. Subproject executingentities would be required to submit audit reports to BCH/FFDU prepared in amanner satisfactory to the Bank. By no later than June 30 of each year,beginning in 1990, FFDU would present to the Bank a report satisfactory to theBank on the audits of subproject executing entities. About 20Z of subprojectaudit reports would be reviewed by the Bank on a selective basis. Assurancesfrom BCH/FFDU were obtained at negotiations that it would comply with the auditrequirements described above.

6.28 Subproject Approval and Monitoring by the Bank. During the initialperiod of project implementation, the Bank would carry out a thorough review ofall subprojects being proposed by FFDU to reach a clear understanding ofsubproject issues between the Bank and FFDU. To this end, the Bank would reviewprior to the approval by BCH/FFDU's loan committee and regardless of projectcost: (a) the first two subprojects of each of the four basic Project types(para. 4.20); and (b) all subprojects exceeding a cost of US$6 millionequivalent. All other subprojects would be reviewed ex-post on a selectivebasis; i.e. after the subloan documents have been signed. For Bank review, FFDUwould prepare for each subproject a Projezt Executive Summary (Annex 14)summarizing the key information required to judge whether or not a project meetsth;. technical, financial, institutional and economic feasibility conditions andsubproject selection criteria specified in BCH/FFDU's Operating Manual Statement(para. 6.16). The Bank would reserve the right to deny financing forsubprojects which, in its opinion, do not comply with the above criteria.Assurances were obtained from FFDU at negotiations that it would comply with theabove described subproject review arrangements.

6.29 The Bank would closely monitor subproject implementation to ensure thatprojects are executed as appraised and that project executing agencies arecomplying with the provisions of the project agreement with FFDU. This reviewwould be selective and primarily directed towards problem projects identified inFFDU's semi-annual progress reports. Assurances would be obtained from BCH/FFDUat negotiations that it would suspend disbursements and, in extreme cases,cancel loans to beneficiaries who are in prolonged incompliance with importantprovisions of the on-lending documents. The Bank would reserve the right tosuspend disbursements for subprojects which, in its opinion, are not complyingwith important provisions of subproject agreements.

Procurement

6.30 Procurement would be carried out by subproject executing agenciesunder the control of FFDU. Although these agencies would group contractstogether to the extent practical, the relatively small size of subprojects andthe distribution of subprojects all over the country would result in mostlysmall civil works contracts. Therefore, with the exception of a few largecontracts for treatment plant construction or large transmission mains, foreigncontractors are not expected to be attracted to participate in the bidding forcivil works. Contracts for most equipment (pumps, vehicles, water meters, plantequipment, instruments, electrical equipment) are expected to be won by foreignmanufacturers, while those for pipes and accessories are likely to be awarded to

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local firms. Qualifying domestic suppliers of goods would be given a preferenceof 15Z of the c.i.f. bid price under International Competitive Bidding (ICB)procedures.

6.31 Civil works contracts larger than US$2.0 million equivalent and goodscontracts, including those let under institutional development programs largerthan US$300,000 equivalent would be procured through ICB. Local procedures,reviewed and accepted by the Bank, would be used to award contracts withestimated costs below these livits. For the procurement of goods, Local Compe-titive Bidding (LCB) acceptable to the Bank would be employed for contractsbetween US$20,000 and US$300,000 and local shopping based on price quotationsfrom at least three local bidders for contracts for less than IrS$20,000. Forcivil works, contracts between US$200,000 and US$2.0 million would be awardedthrough LCB and contracts below US$200,000 would be awarded on bids requestedfrom at least three qualified local contractors. Under the above describedprocurement arrangements, contracts for about 44Z of total project cost would beawarded through ICB. Consultant services would be contracted in accordance withBank guidelines. Table 6.3 presents a summary of project cost by procurementmethod.

Table 6.3

Project Cost by Procurement Method(US$ million)

Project Element <--------Procurement ilethod------->

ICB LCB Other Total

------------US$ million------------Equipment, Materials 140.0 72.0 2 0.0a/ 232.0

(49.0) (25.2) (7.0) (81.2)

Civil Works 46.0 88.0 20.0a/ 154.0(16.2) (30.8) (7.0) (54.0)

Consulting Services - 45 .0bI/c 45.0_ - (12.8) (12.8)

Training - - 4.0 4.0- - (2.0) (2.0)

Total 186.0 160.0 89.0 435.0(65.2) (56.0) (28.8) (150.0)

NOTE: Figures in parenthesis are the respective amounts financed by the Bank.

a/ Local shopping.b/ Proposals from short-list of consultants.c/ Includes amounts for items financed by FONADE (about US$14 million) and

procured under its own procedures.

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6.32 Subborrowers would use standard bidding documents based on the modeldocuments published by the Bank. The limits for prior review of procurementdocumentation (bidding documents, proposed award, contract) by the Bank(US$300,000 equivalent for equipment/materials contracts and US$2.0 millionequivalent for civil works contracts) would result in a coverage of about 60? ofthe total estimated value of goods contracts and about 30? of civil workscontracts. Procurement documentation for contracts below the above limits wouldbe subject to selective ex-post review, except for the first three LCB contractsfor the acquisition of goods and civil works for which all procurementdocumentation would be subject to prior review. Documentation for thesecontracts would not be submitted to the Bank, but would be retained by BCH/FFDUfor periodic inspection by Bank staff. Limits on type of procurement and reviewthresholds and the distribution of project cost by Procurement methods arepresented in Annex 15. BCH/FFDU agreed at negotiations that it would adhere tothe Procurement arrangements described above and that it would use exclusivelythe standard bidding documents satisfactory to the Bank.

Disbursements

6.33 The Government and FFDU intend to make a determined effort to completethe Project by the end of 1992, as indicated in the Project investment schedule(Annex 9). Meeting this deadline appears feasible barring the occurrence ofunforeseen events. Previous experience with sector projects in Colombia,however, points to the likelihood of delays in project execution. Therefore thedisbursement schedule of the Bank loan (Annex 15) has been set at 6.5 yearsreflecting IBRD standard disbursement profiles for past sector projects. Theclosing date of the project would be December 31, 1994.

6.34 For the financing of subprojects covered under Component A of theProject, BCH/FFDU would continue its practice of rediscounting its loans throughpublic or fiaancial institutions as intermediaries (para. 5.09). These interme-diaries would disburse funds to subproject executing agencies and cofinancingagencies: (a) for eligible subprojects, i.e. subprojects accepted by the Bankin accordance with established review procedures (para. 6.28); and (b) againste_igible expenditures, i.e. contracts for goods and services procured in accor-dance with procurement arrangements agreed to with the Bank (paras. 6.30-6.32).On a Project wide basis, total loan funds disbursed by financial intermediarieswould amount to about 75Z of total cost for Component A (para. 6.09). Onaverage, about 15? of the disbursed funds (about 11% of total component cost)would be provided from an intermediary's own resources and the remaining 85Z(64? of total component cost) would be funds provided by BCH/FFDU forrediscount. The Bank would disburse to BCH/FFDU 552 of the rediscounted amountsso as to finance 352 of the total cost of Component A (para. 6.09'. ForComponents B of the Project (para. 6.05), the Bank loan would finance 50Z ofexpenditures for consulting services, training and the acquisition of equipmentand 100? of expenditures for Components C and D.

6.35 To facilitate the disbursement of the Bank loan, BCH/FFDU would begiven access to a US$ denominated Special Account opened in Colombia's CentralBank. The Special Account would be limited to a ceiling of US$15 million, themaximum quarterly Bank disbursement. expected. The Bank would replenish theSpecial Account against disbursements made by BCH/FFDU to financialintermediaries for expenditures related to specific eligible contracts. Forcontracts with a total cost of less than US$200,000 equivalent for goods and

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less than US$500,000 equivalent for civil works disbursements would be made onthe basis of Statement of Expenditurec. All procurement and disbursementdocumentation for these contracts would be retained by BCH/FFDU for selectivereview by Bank staff during Project supervision. These records would be auditedduring FFDU's annual audit. Assurances were obtained from BCH/FFDU atnegotiations that it would adhere to the above described disbursementarrangements and record keeping obligations.

Environmental Aspects

6.36 While the provision of sewerage services will improve environmentalconditions in project areas, the extension of water supply and sewerage servicesmight increase the pollution load on receiving waters downstream of projectbeneficiary communities. The effect on water quality will vary widely dependingon local conditions such as the additional flow of sewage resulting from theproject and the pre-project state of degradation and assimilative capacity ofreceiving water bodies. For most projects, the effects of the incrementalsewage flow on existing water quality conditions is expected to be small; forothers, they may lead to a significant deterioration. The preparatory work foreach project under the SRP credit policy would require an analysis of theeffects of the project on water quality in the receiving water and specificrecommendations on how to deal with them (para. 4.31). This analysis and therecommendations would be reviewed jointly by the subproject beneficiary and FFDUto determine the most appropriate course of action to alleviate receiving waterdegradation. In cases where serious pollution impacts are expected, the Bankwould be consulted on the measures proposed. As a matter of policy, projectbeneficiaries would be encouraged to construct sewage treatment facilitieswherever feasible and desirable. The financing of such facilities would beeligible under the Project. Considering the incipient stage of sewage treatmentin Colombia and the financial weakness of most of the project beneficiaries,however, the treatment of sewage would be made mandatory only in those caseswhere the additional pollution load resulting from the project would lead to aclearly unacceptable deterioration in receiving water quality, ir.terfere withthe beneficial use of water downstream, or affect international waters. Withthese safeguards, adverse environmental effects arising from the project areexpected to be negligible.

Project Benefits and Justification

6.37 The proposed project would directly benefit some 3.2 million people whowould receive water and/or sewerage connections. The great majority of thesebeneficiaries would belong to the poor segment of the country's population. Inaddition, the rehabilitation and operational improvement to existing facilitieswould provide better and safer services to an unknown, but appreciable number ofpeople. The project investments would also contribute significantly to improvedpublic health and the standard of living among the population receiving servicesunder the Project. The implementation of the SRP supported under the proposedloan would bring significant benefits to the country's economy through sector-internal savings brought by: rationalization of sector investments; executionof more cost-efficient projects with lower per capita investment costs;improvements in the operational and administrative efficiency of eeratingcompanies; application of more adequate cost recovery policies; and humanresources development. Economic benefits derived from individual water supplyand subprojects are difficult to quantify rea,istically. However, the

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requirement that sewerage subprojects shouild yield a minimum Internal Rate ofReturn (IRR) of 102 should ensure that their Economic Rate of Return would beclose to the opportunity cost of capital in Colombia. The Economic Rate ofReturn would be significantly higher, since the IRR does not capture additionalsocial benefits and consumer surplus associated with the provision of a reliableand safe water supply and sewerage service.

Risks

6.38 The reform of sectoral institutions and policies being undertaken bythe Government is an ambitious and complex task and its successful implementa-tion will require a sustained effort by the Government in the years ahead.Although one of the most crucial reforms under the SRP, institutional reorgani-zation, is already being implemented under Decree 77, the following main risksremain: (a) inadequate levels of counterpart funds caused by Government delaysin disbursing contributions to BCH/FFDIJ or inability of FFDU/BCH to raisesufficient funds from domestic sources; (b) delays in subproject preparation,evaluation and execution because of insufficient operating capacity of FFDU; (c)FFDU being forced to relax subproject conditionality, particularly in the tariffarea, because of political pressure from central and local governments; (d)provision of concessionary and unconditional financing for sector investments bythe Government through channels other than BCH/FFDU; and (e) reluctance of muni-cipalities to join autonomous departmental and regional companies and cofinancesector projects.

6.39 Although the conditionality contains remedies and plans of actions toaddress these risks (annual review of investment program and of overall programperformance, plan of action for FFDU strengthening, agreed to subprojectfinancing and lending policies), the Government's and FFDU's determination tomake the SRP work is the most important safeguard against these risks.Intensive Bank supervision of the project and decisive action in case ofunsatisfactory performance by the Government, BCHiFFDU and subborrowers areessential to safeguard against the above-mentioned risks. In this regard, theannual program assessment (para. 6.26) would play a key role in detectingshortcomings and in putting the Program back on track. Likewise, the review bythe Bank of individual subprojects (para. 6.28) would provide the opportunity toreject subprojects which do not meet the SRP eligibility criteria. Considering,however, the magnitude of the policy changes introduced under the SRP, thecomplexity of the tasks being assumed by FFDU and likely political resistanceagainst some of the conditionality promoting the efficiency uf operatingcompanies (tariff aujustments, reduction of employment, for example) it islikely that not all of the objectives of the SRP will be fully met. Also somesubborrowers most likely will fail to reach acceptable institutional andfinancial improvement targets and some projects will be poorly executed. Evenso the Project would contribute significantly to the development of a moreefficient sectoral institutional and policy framework and a better performanceof operating companies. As the proposed project is breaking new ground, it isessential that the Government and the Bank monitor carefully its implementationand, if necessary, not hesitate to make adjustments to the reform process.Further, since the project is viewed as a first in a series of operationsdesigned to promote sector efficiency, follow-up operations would provide theopportunity to take into account lessons learned from the first operation.

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6.40 Another risk is related to the potential creation of the Territorioal

Development Bank (TDB) proposed by the Government (para. 5.18). The creation ofthis TDB would alter the intermediary arrangements for the Project. Thetransfer of the Loan from BCH/FFDU to TDB would require a reappraisal of thecurrent intermediary arrangements once TDB has been legally established,capitalized and staffed. Even under the best of circumstances, i.e. the Bankencounters the TDB as an acceptable intermediary for the Project and woulddecide positively on the transfer of the loan, delays in Project executionwcould be inevitable. Faced with the option of either going ahead with theProject with BCH/FFDU as Borrower and intermediary, or waiting for the possiblecreation of TDB, the Bank decided to choose the first option, given theconsiderable uncertainty still surrounding the creation of TDB.

VII. AGREEMENTS TO BE REACHED AND RECOMMENDATIONS

7.01 During negotiations, assurances were obtained from the Government thatit would:

(a) budget and disburse in a timely fashion the contributions requiredfor the execution of the Project (para. 6.10);

(b) cause BCH/FFDU, through appropriate actions of its Monetary Board,to maintain aggregate interest rates sufficient to cover the costof domestic and external resources and FFDU's administrativeexpenses and maintain interest rates for the softer loan windowportion in real terms (para. 6.11);

(c) cause DNP to update annually the Sector Investment Program andFinancing Plan in terms satisfactory to the Bank (para. 6.15);

(d) cause future sector investments to be made in accordance with theobjectives and policies established in the Government's policyletter (para. 6.16);

(e) cause MOPT to develop DWSS into a functional unit by June 30,1989, and carry out Component C of the Project in accordance witha plan of action to be submitted to the Bank by March 31, 1989(para. 6.18); and

(f) cause JNT to: (i) carry out a prior review of subproject proposalsand to authorize tariff adjustments required to ensure thefinancial viability of the subproject and the executing entity;and (ii) present to the Bank by no later than July 1, 1989, astudy on appropriate consumption limits for the minimumconsumption bracket (para. 6.20);

(g) carry out the reform of sector institutions as presented inDecrees 77 of January 15, 1987, and 1723 of September 4, 1987(para. 6.21);

(h) cause DNP to establish a sector monitoring system and publishannually, beginning at the end of 1989, a report on theperformance of water and sewerage utilities (para. 6.22); and

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(i) carry out jointly with the Bank an annual review of the Projectand SRP Program and execute to the satisfaction of the Bank theplans of action agreed to during the Annual Program Review (para.6.26)

7.02 During negotiations, assurances were obtained from BCH/FFDU that it would:

(a) not finance subprojects interfering with ongoing projects partlyfinanced by loans from the Bank or other external financialinstitutions (para. 6.06);

(b) maintain interest rates sufficient to cover BCH's cost forobtaining domestic and external resources and administrativeexpenses (para. 6.11);

(c) employ on-lending legal agreements satisfactory to the Bank (para6.12);

(d) reflect the conditions and criteria of the Sector Lending Policyin an Operating Manual Statement and apply them in the evaluationof all water supply and sewerage projects (para. 6.16);

(e) carry out the institutional strengthening plan (Component B of theProject) in accordance with the plan of action and time tablesatisfactory to the Bank (para. 6.17);

(f) maintain and, if necessary, add staff sufficient in number andwith appropriate skills and experience to carry out Component A ofthe Project in a timely and expeditious manner (para. 6.17);

(g) cause CENAGUAS to become fully functional by March 31, 1989 and tocarry out Component D of the Project in accordance with a plan ofaction to be submitted to the Bank by March 31, 1989 (para. 6.19);

(h) present to the Bank semi-annual progress reports (para. 6.25);

(i) execute, to the satisfaction of the Bank, the plans of actionagreed to during the Annual Program Assessment (para. 6.26);

(j) maintain separate accounts for FFDU and present audit reports ofBCH/FFDU's financial statements to the Bank (para. 6.27);

(k) cause subproject executing entities to carry out audits offinancial statements and subproject accounts in a mannersatisfactory to the Bank and present to the Bank, by no later thanJune 30 of each year, a report on the results of such audits(para. 6.27);

(1) adhere to agreed arrangements for the Bank review of subprojects(para. 6.28);

(m) suspend disbursements for subborrowers not complying withimportant provisions of a subproject agreement (para. 6.29); and

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(n) use standard bidding documents satisfactory to the Bank for'.nternational and local bidding for the acquisition of goods andcontracting civil works (para. 6.32).

7.03 The presentation of an agreement between BCH and the Governmentregarding the foreign exchange risk would be a condition for the signing of thelegal documents (para. 6.11).

7.04 The following would be specific conditions of effectiveness for theBank loan:

(a) conclusion of an agreement between FONADE and BCH/FFDU on thefinancing of preinvestment studies (para. 6.10);

(b) presentation of standard on-lending legal agreements (para. 6.12);

(c) presentation and implementation by FFDU of an Operating Manualstatement satisfactory to the Bank (para 6.16);

(d) conclusion of an agreement between BCHIFFDU and MOPT regarding theexecution and financing of Component C of the Project (para.6.13); and

(e) conclusion of an agreement between BCH/FFDU and CENAGUAS regardingthe execution and financing of Component D of the Project (para.6.13).

7.05 Retroactive financing totalling US$6 million for purchases, works andservices procured in accordance with Bank guidelines for eligible projects afterNovember 1, 1987 would be allowed.

7.06 With the above assurances, agreements and conditions, the proposedproject would be suitable for a Bank loan of US$150 million to be repaid over aperiod of 17 years, including five years of grace.

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Annex 1Page 1 of 7

COLOMBIA

Water Supply and Sewerage Sector Project

Sector Policy Letterl

Republic of Colombia

National Planning Department

Executive Office

Bogot&, D. E., May 5, 1988

Mr. Barber ConablePresidentWorld BankWashington, D.C., USA

Dear Mr. Conable,

The Government of Colombia would like to apply for a loan from the WorldBank for assistance in the execution of an Adjustment Program for the WaterSupply and Basic Sanitation Sector (SRP) in support of the Government'ssocio-economic development plan and its efforts to eradicate absolutepoverty.

The SRP Program seeks to increase the coverage of water supply and sewerageservices in medium-size and small cities and rural communities of thecountry, thereby contributing to a reduction in the incidents of morbidityand mortality caused by diseases related to contaminated water.

The Government, through Decree-Law (Decreto-Ley) 077 of 1987 and regulatorydecrees (Decretos Reglametarios) 1024 and 1723 of 1987 and 4503 of 1988concerning the political, fiscal, administrative and technicaldecentralization, defines and establishes duties and responsibilities forthe various entities affected by the decentralization process.

1/ Translated from the original Spanish version.

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Annex 1Page 2 of 7

Decree-Law 077 of 1987, transfers the responsibility for providing watersupply and sewerage services to the municipalities, orders the abolishmentof INSFOPAL and forces INSFOPAL to transfer to municipalities the ownershipit may have in the Public Sanitary Works Companies (EMPOS), in Water Supplyand Sewerage Associations (ACUAS) and in any other public servicecompanies. Decree-Law 077 also abolishes the Division for Basic RuralSanitation of the National Institute of Health and its branch offices.

Likewise, Decree-Law 077 of 1987 proposes the creation of a Directorate ofWater Supply and Basic Rural Sanitation within the Ministry of Publ'c Worksand Transport (MOPT) which will have among others, the following functions:

(i) To prepare and propose plans and general programs regarding watersupply and basic sanitation;

(ii) To issue technical guidelines regarding the design, construccion,operation and maintenance of water supply and sanitation sy'tems;

(iii) To promote the implementation of the National Program for BasicSanitation for rural and small urban communities throughmechanisms of community participation and direct serviceadministration; and

(iv) To prepare a nation-wide physical inventory and diagnosis of thewater supply and sanitation conditions in the country.

With the financial resources being made available under the SRP and thetechnical assistance to be provided, the Government expects to strengthenthe financial technical and administrative capacity of the entities incharge of providing water supply and sewerage services.

1. SPR Objectives

The objectives of the Adjustment Program for the Water Supply and BasicSanitation Sector are the following:

(a) To increase coverage of water supply and sewerage services throughthe execution of an investment program of US$600 million dividedin two phases: One of US$450 million, part of which is to befinanced by the US$150 million loan requested from the World Bank;and the other for US$150 million for the execution of a futureprogram. Annex 1 presents the projected investment program for1988-1992.2

2/ Presented as Attachments 1-10 in Annex 4.

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Annex 1Page 3 of 7

(b) To reorganize the institutional structure of the Water Supply andBasic Sanitation Sector in accordance with the afore-mentionedadministrative decentralization process in order to achieve thestrengthening and development of the project executing agencies.

(c) To develop means and programs to ensure the execution oftechnically viable and more cost-efficient investment projects.

(d) To implement a sector financial policy by: (i) promoting astronger internal resource generation by service operatingentities; (ii) regulating subsidies to the sector from national,regional and local sources; and (iii) financing sector projectsthrough a financial intermediary mechanism based on the rediscountof domestic credits.

(e) To develop planning and monitoring mechanisms and training ofhuman resources in the Sector.

2. The Project

The execution of the SRP program begins in 1988 with a first phaseinvestment project of US$450 million, including the IBRD loan for US$150million.

The Project's objective is to increase the coverage of watersupply services from 57.32 to 62.0% and of sewerage services from 44% to49Z in the 1988-1992 period.

Financial resources for the Project will be transferred throughcredits at interest rates established by the Monetary Board.

3. Executing Agency

Financial resources for the development of the water supply andsewerage sector will be channeled through the Department for Regional andUrban Development of the Central Mortgage Bank (Financial Fund for UrbanDevelopment, FFDU). The specific criteria and conditions for grantingcredits will be defined within a policy framework established by theGovernment in this document.

To strengthen the financing mechanism to support thedecentralization process, the Government presented at the end of last yearto Congress a proposed law for the creation of a Territorial DevelopmentBank (TDB) linked to the Ministry of Finance and Public Credit which wouldbe an autonomous entity in order to guarantee its financial andadministrative independence.

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The new entity would have the authority to capture savings,contract external credit and to channel resources from the National Budgetto finance the development of public service infrastructure and otherproductive activ;ties undertaken by departments and municipalities theirdecentralized entities and community action committees. It will also offertechnical assistance to institutions responsible for the provision ofpublic services.

If this initiative is approved by Congress, BCH will transfer tothis entity all the assets and liabilities of FFDU and the credit resourcescontracted by BCH/FFDU.

4. Institutional Framework

(a) Urban Areas

As a general principle, the Government has adopted theautonomous public utility scheme as the most appropriateinstrument to promote water supply and sewerage services inurban areas. Therefore, one of the most important objectivesof the SRP is the establishment of operationally efficientand financially viable water supply and sewerage entities onthe municipal, departmental, intendencial, commissariat andregional levels.

To be eligible for a SRP ciedit, an executing agency must:(i) have administrative and financial autonomy; and (ii) betechnically and financially able to ensure the efficientoperation of the services under its responsibility.

(b) Rural Areas (communities with less than 12,000 inhabitants)

The execution of projects and the operation of water supplyservices in communities with less than 12,000 inhabitantswill be implemented in accordance with the procedures andcriteria established by the National Program of Basic RuralSanitation. The Government will promote the creation ofsectoral entities for the administration and execution ofthis Program.

5. Institutional Strengthening

To ensure the efficient execution of the SRP, project executingentities must commit themselves to the execution of programs to strengthentheir operational, technical, administrative, accounting and financialsystems.

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Annex 1Page 5 of 7

6. Financing and Tariff Policy

As a general principle, the Government will encourage thatoperating and investment costs are recovered from the internal generationof resources by the entities in charge of providing public services.However, given the financial, operational and administrative weakness ofthe sector companies, especially those serving communities with low socio-economic indicators, the Government considers it essential, as a means toboost and overcome their backward condition, to supplement the internallygenerated resources with limited transfers mostly from the resources thatthe decentralization laws have made available to municipalities and regionsto facilitate their development. The expected results of the SRP Programwill, in the future permit the elimination of the need for transfers tofinance the sector expansion.

The Government wishes to highlight the recent progress achieved inthe tariff area, which includes:

(a) the adoption of a single tariff structure for water supplyand sewerage services which discourages excessive consumptionof water and relates the cost of providirg services to theusers' capacity to pay (Decree 394 of 1987).

(b) Monthly indexation of tariffs to protect their value againsw.inflationary effects. In addition to these monthlyadjustments there will also be discrete tariff adjustments inorder to allow companies to gradually reach the tariff andfinancial targets required to assure the viability of theproject.

(c) Issue of tariff resolutions for most of the sector companies,to maintain an adequate tariff level in accordance with theccst of providing service.

To ensure the stability of the tariff system and financialviability of investment projects, the Government has adopted the policythat the National Tariff Board will work in close coordination with theexecuting agency of the SRP. Therefore, the approval of credits will besubject to a favorable recommendation from JNT on required tariffadjustments and their timely implementation by the executing agencies.

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7. Cross Subsidies

In order to avoid the practice by which revenues generated fromwater supply and sewerage services subsidize other services provided by thesame entity, such operating entities should seek that these services beself-financing, that is, revenues should be sufficient to cover at leastoperating costs. Likewise, there should be separate accounts for eachservice.

8. Payment to Other Public Entities

By means of the SRP, the financial strengthening of water supplyand sewerage companies will be sought in order to allow the timely paymentof other public entities, especially to the electricity sector.

9. Administrative Stability

To ensure continuity in project execution, the SRP will promoteand support the administrative and managerial stability of sector entities,through the development of adequate procedures and training of humanresources.

10. Technical Improvement

Being conscious of the need to review and update existing normsand guidelines for formulation of investment projects, the Government hasdecided to create for such purpose the Directorate of Water Supply andBasic Sanitation within the Ministry of Public Works and Transport.

11. Training

Given the great need for training of Sector personnel, thej Covernment will support ACODAL's initiatives to improve, expand and develop

training programs for promoting a more efficient operation of sectorentities in technical administrative, managerial and finaacial areas.

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12. Project Eligibility

A project will be eligible for SPR financing only if it istechnically viable, the least cost solution, institutionally acceptable,financially viable and economically justified.

Yours truly,

Maria Merceds de MartinezChief, National Planning Department

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COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Sector Organization

Introduction

1. The following contrasts the sector's institutional set up before andafter the reorganization defined by Decree 77 of 1987. The main institutionsare introduced and their functions described.

Pre-Reorganization Institutional Set-up

2. Global Planning - is the domain of the country's Concelo Nacional dePolitica Econ6mica y Social (CONPES), which is comprised of the President of theRepublic, the ministers of the economic and social sectors and the Director ofthe National Planning Department (DNP). CONPES decides on the country'sNational Development Plan which is prepared by DNP.

3. Sector Planning - The National Health Plan, part of the NationalDevelopment Plan, includes the Water Supply and Sanitation Development Planwhich is prepared by the Ministry of Health (MOH) through its Directorate ofEnvironmental Sanitation (DISA). Coordination between sector and globalplanning is done between DISA of MOH and the Division of Sanitary Engineering(DSE) in the Infrastructure Unit (UNIF) of DNP.

4. National Level Sector Management is the responsibility of twoinstitutions:

(a) the National Institute for Urban Development (INSFOPAL) for urbanareas (communities with more than 2500 population); and

(b) the National Institute of Health (INS) for rural areas(communities below 2500 population) through its Division of BasicRural Sanitation (DBRS).

5. INSFOPAL, an autonomous institution linked to MOH, has the functions ofdetailed sector planning, financing of investment projects, providing technicalassistance to operating companies, setting and controlling technical norms,carrying out research and coordinating sector training and development programs.It acts as financial intermediary for Government funds channelled to the sectorand has executed several projects financed by external lenders. Among them werethree Bank loans (860-CO, 1072-CO and 1726-CO) for a total of US$67.1 millionwhich supported 36 subprojects in 30 different cities and towns.

6. DBRS of INS, another autonomous institution linked to MOH, isresponsible for the promotion and execution of water supply projects in ruralcommunities with less than 2500 population. Rural water supply projects arecarried out under the National Program of Basic Rural Sanitation (NPBRS)Methodology (Annex 3) which, with its reliance on community ownership andparticipation has been an effective vehicle for promoting rural water supply.

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Annex 2Page 2 of 4

The NPBRS is centrally administered by DBRS at INS headquarters in Bogota whichcounts on several regional offices strategically distributed throughout thecountry. In three departments (Antioquia, Valle, Cauca), the responsibility foradministering the NPBRS has been delegated to departmental health services. TheNPBRS is financed primarily from Government contributions, external loan fundsand contributions from beneficiary communities. The Bank has financed severalsmall rural water supply components (about US$20 million of total loan funds) invarious Integrated Rural Development and Health and Nutrition Projects.

7. Service Operating Institutions. There are five different types ofinstitutional set ups for the management and operation of water and sewerageservices. They are:

(a) Municipal Public Works Companies (Empresas P6blicas Municipales,EPMs), which manage services in the country's 35 largestmunicipalities and cover about 412 of the country's totalpopulation. EPMS are autonomous municipal enterprises governed bya Board usually headed by the Mayor and civic, political andprofessional community representatives. In addition to watersupply and sewerage, EPMs offer often other municipalinfrastructure services such as solid waste collection anddisposal, telephones, electricity, public markets andslaughterhouses. To finance investment projects, EPMs depend ontheir own internal generation of funds, contributions by the localand national government, and credit from INSFOPAL and lately fromFFDU/BCH. Some of them (Bogota, Cali, Barranquilla, Cdcuta) haveborrowed directly from the Bank.

(b) Sanitation Works Companies (Empresas de Obras Sanitarias, EMPOS)manage service in some 460 mostly smaller municipalities coveringabout 162 of the country's population. There are 23 departmentalEMPOS which provide service in a number of different communitiesand 11 municipal EMPOS which operate services in one municipalityonly. The EMPOS were created in 1975 as successors of INSFOPAL'sregional offices. INSFOPAL still owns more that 902 of the EMPOS'capital and holds considerable power over their management.

(c) Water Supply and Sewerage Corporations (Sociedades de Acueducto yAlcantarillado, ACUAS) operate in the departments of Valle(ACUAVALLE) and Antioquia (ACUANTIOQUIA), and in fourmunicipalities. They manage services in about 90 communitiesrepresenting 42 of the country's total population. ACUAS areautonomous corporations owned by departmental and municipalgovernments. INSFOPAL holds about 302 of the ACUAS' shares andhas little influence over their administration;

(d) Municipal administrations run water supply and sewerage servicesin some 460 most small municipalities representing about 52 of thecountry's total population. These systems are managed by themunicipality without any formal ties to other local or nationalsector authorities;

(e) Under the NPBRS methodology applied to communities below 2,500populations, Community Water Committees (Juntas Administradoras)

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have the responsibility of maintaining and operating water supplyservices. Currently, such committees exist in about 1800 ruralcommunities representing about 8Z of the total population.

Other Institutions

8. The Urban Development Fund (FFDU) of the Central Mortgage Bank (BCH)finances urban infrastructure projects. Over the recent past, FFDU hasdeveloped into the most important and efficient lender for water supply andsewerage projects in the country and has replaced INSFOPAL not only as majorfinancier of the sector, but also as its intellectual leader. The focus of itslending is multisectorial and concentrated on assistlag municipalities inimproving their infrastructure. It derives its funds from Government loans,external credit and the mobilization of domestic resources from local capitalmarkets.

9. The Government's National Tariff Board (Junta Nacional de Tarifas,JNT), administratively linked to DNP, has control over rates charged for publicservices, including water supply and sewerage. Any tariff adjustments byoperating companies require the approval of JNT.

10. The National Fund for Development Projects (Fondo Nacional de Proyectosde Desarrollo, FONADE) is the country's main source of financing forpreinvestment studies. Sector companies rely mostly on this source forobtaining financing for the preparation of projects.

Post Reorganization Institutional Set-up

11. Decree 77 of 1987 has introduced sweeping changes to the Sector'sinstitutional set up. They are described below:

12. Global Planning continues to be the responsibility of CONPES and DNP.

13. Sector Planning and Management. The overall management of the sectorhas been reassigned from the Ministry of Health to the Ministry of Public Worksand Transport (MOPT). The two sector lead institutions, INSFOPAL and DBRS ofINS, are to be abolished by the end of January 1989. They are replaced by:

(e.) a Directorate of Water Supply and Basic Sanitation (Direcci6n deAgua Potable y Saneamiento Basico, DWSS) to be established inMOPT. DWSS takes over INSFOPAL's technical functions and assumesthe administration of the National Program for Basic RuralSanitation previously managed by DBRS of INS. In contrast toINSFOPAL, DWSS does not have any financial intermediationauthority. The NPBRS Program (Annex 3) becomes applicable tocommunities with a population of up to 12000, compared to a 2500population limit prior to the reorganization; and

(b) FFDU of BCH being designated as the principal intermediary for thefinancing of sector investments. Under a lending policy approvedby the Government, FFDU has responsibility for all project cycletasks including the identification, assistance in the preparation,evaluation and supervision of sector projects. FFDU obtains fundsfor financing sector projects from Government loans, externalloan, and the mobilization of domestic resources through the saleof bonds by BCH. Interest rates charoed hy BCH/FFDT1 nrp Sat hV

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Annex 2Page 4 of 4

the Country's Monetary Board (Junta Monetaria) such that theycover FFDU's c)st of funds and administrative costs.

14. Service Operating Institutions. Decree 77 of 1987 abolishes INSFOPALand DBRS of INS and their local dependencies, EMPOS and DBRS' regional offices,and delegates the responsibility for the operation of water supply and sewerageservices to individual municipalities. This decision is consistent with theGovernment's administrative and political decentralization policy under whichmunicipalities are to assume more responsibility for the management of theiraffairs, including the expansion and operation of water supply and seweragesystems. The provisions of Decree 77 will alter substantially the institutionalframework for the management and operation of water supply and sewerage systems.While EPMs, ACUAS anc local water committees in rural communities will continueto exist unchanged, new organizational structures must emerge to replaceINSFOPAL's EMPOS system and the regional offices of DBRS in charge of promotingand executing rural water supply projects. Decree 77 of 1987 prescribes thefollowing organizational structures among which municipalities can chose toorganize the management of their water and sewerage system:

(a) service delivery directly by the municipality;

(b) municipal or departmental companies;

(c) regional entities formed through the association ofmunicipalities;

(d) service delivery under contract with national, regional or localentities; and

(e) local water committees in communities with a population of up to12,000.

15. The redifinition of the institutional framework which departments andmunicipalities must complete by the end of January 1989 presents a uniqueopportunity to create more viable and efficient local sector institutions, butalso carries the danger of the creation of an unmanageable large number ofindependent operating entities too small to efficiently run water supply andsewerage operations. From an efficiency point of view, it is important thatsmall municipalities join together to form regional water companies ofsufficient size to be financially and operationally viable. Allowing smallmunicipalities to manage water supply and sewerage services individually wouldlead to a highly undesireable proliferation of excessively small operatingunits, thereby loosing the advantages of economies of scale inherent in themanagement and operation of water supply and sewerage services. To avoid theover-decentralization of sector operations, the SRP Credit Policy providesconditions and incentives aimed at encouraging departmental and municipalgovernments to establish operationally efficient and financially viableautonomous departmental or regional water and sewerage utilities.

16. Regarding the continued execution of the NPBRS for promoting ruralwater supply, it is imperative that departmental governments create and maintainviable administrative units capable of executing NPBRS efficiently with theassistance and under the control of DWSS of MOPT. The most advantageous way ofpreserving and strengthening the NPBRS would be to establish such units eitherin the Departmental Health Services (as already done in Valle, Cauca andAfnt 4 nnii il .

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COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

National Program for Basic Rural Sanitation

Introduction

1. In the mid-1960s the National Institute of Health (INS) developed theNational Program for Basic Rural Sanitation (NPBRS) as an effective strategy forthe promotion and execution of water supply projects in rural communities (lessthan 2500 population). INS's administrative arm for the execution is itsDivision of Basic Rural Sanitation (DBRS) which prior to the sector'sreorganization employed a total of about 650 staff. About 1O of them worked atDBRS headquarters in Bogota, including some of the most experienced rural watersupply experts in the Region, and the remaining 90Z of the staff were stationedin six regional offices distributed strategically throughout the country.

2. In spite of chronic budget problems and permanent struggles forrecognition, DBRS of INS did a remarkable job in fostering the development ofrural water supply in Colombia. Since 1968 DBRS has been instrumental in theconstruction or expansion of some 2000 water systems and has brought or upgradedwater supply services to some 1.6 million people. Reportedly, more than 90Z ofthese systems are still in operation. DBRS's success in using the NPBRSstrategy to promote rural water supply has been recognized by experts outsideColombia.

NPBRS Strategy

3. The NPBRS strategy follows five steps in the promotion and execution ofrural water supply systems:

Step I - Study of the Community. Once a community has expressed the desire toobtain a water system, a team of DBRS visits the community. A communityorganizer prepares a socio- economic-cultural profile of the community andassesses its attitude towards water supply and sanitation and its willingnessand financial capacity for committing itself to the construction of a watersystem. A water supply engineer carries out at the same time a basic survey ofthe water resources available to the community and develops a first idea andpreliminary cost estimate of a system appropriate to the needs of the community.Step I ends with informing the community of the general feasibility of theproject and with an exposition of the need for community participation in theconstruction of the water system.

Step II - Preparation of the Project. In case of a favorable reaction in thecommunity to the conclusions of Step I, DBRS engineers or consultants preparestudies and designs and establish a reliable cost estimate of the project. Inpreparing the designs, engineers follow a clearly defined methodology andformat, apply standard design parameters and designs for most system components.

Step III - Motivation and Organization. With the studies and designs available,DBWS promoters obtain full community support for the project. Audio-visual

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presentations stress the advantages of having a good and safe water supply andexplain sanitary practices for water use. Community leaders are being asked tolend their support to the project. There are meetings open to all communitymembers in which the pros and cons of the project and the need for self help arediscussed. At the end of Step III the community, usually represented by thepresident of the local Community Development Committee (Junta de AccifnComunal), is asked to sign an agreement with DBRS which defines:

(a) the portion of total project cost which the community willcontribute in form of cash, labor, land and/or materials;

(b) the portion of the externally supplied funds supplied through DBRSwhich must be repaid and conditions for repayment;

(c) the responsibility of the commitnity to take over the maintenanceand operation of the system once completed;

(d) the obligation to elect from community members a water systemcommittee (junta administradora) which would represent thecommunity during the construction of the system and later becomeresponsible for its operation and maintenance;

(e) the estimated monthly payment which each household (cuotafamiliar) would be expected to make to meet loan repayment andmaintenance and operating cost.

Step IV - Construction. After the signature of the final agreement between thecommunity and DBRS, the project is constructed. The community will participatein the works by supplying materials, providing transportation, making availableland and rights of way, and through labor (pipe laying) under tht guidance of alocal foreman. The construction of more involved facilities (storage tanks,treatment plants) is usually carried out by a local contractor hired by DBRS orthrough force account. In some cases, the commun}ity will also provide casheither collected among themselves or made avail&i',le by local politicalauthorities. DBRS keeps careful records of all community contributions.

Step V - Maintenance and Operation. Once inagurated, the system becomes theproperty of the community. The Water Committee has the responsibility toadminister, operate, and maintain it. The committee consists of three communitymembers--a President, Vice-President, and a Treasurer and a fourth memberusually a representative of DBRS (normally the community organizer) who assiststhe committee in administrative matters and makes sure that it followsestablished procedures. The Committee is responsible for keeping books,collecting the 'cuota familiar', and if necessary, employing personnel formaintaining the system. It also decides on future system extensions and newconnections.

Service Standards

4. The NPBRS almost exclusively provides water through house- connectionsor yard taps. DBRS explains that the high degree of community participation itwas able to obtain in the past was only possible by offering to the people thelevel of service they want and are willing to pay for. And in Colombia, DBRSasserts, people opt for piped networks with house - or yard- connections in thevast majority of cases. According to DBRS, lower service standards, for examplestand pipes or hand pumps, do not generate the consumer enthusiasm needed tomake the NPBRS methodology work.

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Design Practices

5. Among the design parameters used by DBRS engineers to design ruralwater systems, several appear to be excessively high, making the per capita ofconstructed systems higher than necessary. Design periods of 20 years forsystem components which could be constructed in stages (storage tanks, treatmentplants) are too long. Reducing excessive per capita consumption parameters, nowin the 80-150 l/c/d range, would be another way of decreasing system costs.With regards to the use of low-cost technologies, especially for water treatmentand disinfection, DBRS has not kept up with technology developments. Lessexpensive and more easy to operate systems should be introduced.

Cost Recovery and Financing

6. DBRS requires communities to share in the cost of constructing watersystems as follows: (a) on average, communities are required to contributeabout 15Z of total project cost; and (b) of the 85Z provided by the national orlocal governments about 40Z, on average, is repaid by the community in 15 yearsat 6? interest. Loan repayments enter into departmental rural water supplyrevolving funds which make available financing for other rural projects aildloans for maintenance and operation.

Maintenance and Operation of Systems

7. The community is fully responsible for the maintenance and operation ofthe system. DBRS promoters assist and supervise the community's Water SystemCommittee in this task. Often, maintenance is not carried out to the extentrequired, mainly because of the unavailability of DBRS promoters and thescarcity of spare parts and materials (disinfectants).

Sanitation

8. DBRS activities are almost exclusively restricted to water supply. Theresponsibility for promoting and carrying out sanitation programs rests withdepartmental health services, which in general do not have the resources andexperience to mount meaningful sanitation campaigns. For this reason, theintroduction of low-cost sanitation in Colombia's rural communities has not beensuccessful.

improvements Needed

9. The NPBRS methodology has been a very effective vehicle for promotingrural water supply in Colombia. There is agreement in the Government and in therural water supply community that the NPBRS should be maintained as the vehiclefor promoting rural water supply in Colombia. There is no doubt, however, thatthe Program needs to be strengthened to become an even more effective means ofexecuting rural water supply projects. In particular, the technologicalfoundation of NPBRS conceived in the 1960's needs to be updated. The followingstudies and actions should be undertaken:

(a) revision of design parameters and practices and standard designsto reduce the per capita cost of water systems;

(b) to meet the rural water supply investment targets of the SRP, thepresence of NPBRS should be strengthen throughout the country;

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(c) maintenance and operation aspects of the program should be re-examined with a view of providing communities more assistance andeasier access to materials and spare parts; and

(d) A more responsive institutional infrastructure for the promotionof low-cost sanitation in rural areas should be created.

NPBRS after the Reorganization

10. Decree 77 of January 1987 mandates the abolishment of DBRS of INS byJanuary 1989. It transfers overall responsibility for the NPBRS to theDirectorate of Water Supply and Basic Sanitation (DWSS) in the Ministry ofPublic Works and Transport (MOPT) and gives the operational responsibility forcarrying out the NPBRS to individual municipalities. This institutional re-orientation provides the opportunity for modernizing and increasing theefficiency of the NPBRS system. The following specific actions are recommended:

(a) as required by Decree 77, a NPBRS unit should be established inDWSS of MOPT and staffed with experienced NPBRS personnel. Themain tasks of this unit should be: (i) to review and update thetechnological and institutional foundation of the NPBRS asoutlined in para. 9; and (ii) provide assistance to and controlthe operation of NPBRS operating units on the departmental level;

(b) strong units capable of efficiently administering the NPBRS shouldbe established in each department. The most advantag2ous home forthese units would be the Departmental Health Service, which wouldallow a better integration of water supply, sanitation and publichealth related functions.

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COLOMBIA

WATER SUPPLY AND SEWERAGE SZCTOR PROJECT

1988 - 1992 Sector Investment Program

Introduction

1. DNP has prepared a five-year sector investment program and financingplan covering 1988-1992 which presents targets for annual investments,beneficiaries and service levels by subsector (water, sewerage). A distinctionis made between five categories of municipalities in accordance with their sizes

Category Population

I Large Cities 1/ >1,000,000

II Hedium-size Cities 100,000 - 1,000,000

III Small Cities 30,00U - 100,000

IV Towns 12,000 - 30,000

V Rural Conunities <12,000

1/ Bogota, Cali, Medellin

The target investment levels shown in the Sector Investment Program presented inthe following are an expression of intent as to the level of resources to bemade available to different population segments. They would govern the processof assigning financial resources and selection of projects. The SectorInvestment Program is the blueprint against which the Bank and the Governmentvould measure progress in meeting medium-term sector development objectives.Population (Attachment 1)

2. Based on the results of the 1985 census, Attachment 1 presentspopulation projections through 1992 distinguishing between the above-mentionedfive population groups. The Country's population is projected to grow at about2.12 per year; from a current 30.6 million to almost 34 million by year-end1992.

Total Sector Investments 1988 -1992 (Attachment 2)

3. Total sector investments are expected to reach US$1,420 million duringthe 1988-1992 period. They are divided into two components: the ExistingInvestment Program and the Sector Reform Program (SRP) Investment Program.

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Annex 4Page 2 of 5

4. The Existing Investment Program (EIP) of about US$820 million includesall projects which are already under execution or are already fully prepared andhave financing assured. A detailed description and listing of these projectsare included in the Project File. The most important of them ares

Projected 1988-1992Project Financing Source Investmnts

(US$ million)

BogotA IV IBRD/Local 260Medellin, Rio Grande IDB/Local 190Cali-Agitablanca Japan's EXIM Bank/IDB/Local 300Barranquilla IBRD/Local 25C(cuta IBRD/Local 20FFDU-Sector IDB/FFDU/Local 40

The EIP has been reviewed and found acceptable by the Bank during the PublicExpenditure Review of 1987. Almost 902 of the EIP financed investments are inColombia's largest three cities (Bogota, Cali, Medellin).

5. The SRP Investment Program includes additional investments of US$600million during 1988 - 1992. In contrast to the EIP which favors the largecities, the SRP Investment Program targets the remaining sector segments inabout equal proportions.

The Sector and Public Sector Investment Program.

6. Table 1 presents sector investment levels within the context of thecountry's overall public investment program. The indicators shown in Table 1express clearly the Government's desire to accelerate the development of thewater and sewerage sector. The sector's share of the total public sectorinvestment program more than doubles, from 6? in 1987 to 12.7Z in 1990.Likewise the sector's share of GDP is expected to grow from 0.452 in 1987 to0.85? in 1990 and reaches investments levels comparable to those in othermiddle-income countries where serious attempts are made to provide adequatewater supply and sewerage services to all segments of the population. Withrespect to total social infrastructure investments, sector investments becomedominant even more than in the past rising from 40.2? in 1987 to 65.8? in 1990.

Table 1 - Sector and Public Sector Investment Program

1986 1987 1988 1989 i99i

Total Public SectorInvestment Program(US$ million) a/ 2,322 2,533 2,652 2,738 2,761

Social InfrastructureInvestments(US$ million) a/ 322 378 444 537 535

Sector Investments(US$ million) 150 152 195 250 352

Z Sector/Total Public Inv. 6.50 6.70 7.30 9.100 12.702 Sector/Social Infrastr. 36.70 40.20 43.90 46.60 65.802 Sector/GDP 0.37 0.45 0.54 0.65 0.85

al From Bank projections in Public Sector Expenditure Review Report datedSeptember 1, 1987.

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Water Supply

7. Investments (Attachment 3). About US$850 million, about 60Z of totalsector investments, support the water supply subsector. The composition ofwater supply investments mirror those for total sector investments. Theexisting water supply investment program (about US$492 million) favors the largecities, while the SRP investments illustrate the Government's increased emphasistoward medium-size and small cities and towns and rural areas.

8. Beneficiaries (Attachment 4). Based on FFDU's experience with previousprojects, the following per capita cost estimates were applied to convertinvestments levels to the number of people which will receive services:

-------------------US$/CAPITA-----------------

Type of Service 1988 1989 1990 1991 1992

Urban 130 134.6 139.3 144.2 149.2Rural 80 82.8 85.7 88.7 91.8

The projection of per capita costs assumes as 3.52 annual increase, about halfof the projected international inflation rate. Real reductions in per capitacosts due to more cost-effective project designs are assumed to offset half ofthe increases because of inflation. The per capita costs include allexpenditures required to the construction of water supply systems; i.e.equipment, materials, civil works, taxes, and consulting services forsupervision of construction and preinvestment studies. The per capita cost-beneficiary relationship was found to be not applicable to investments in thelarge cities. Most of the projects ongoing in the large cities include majorinfrastructure components (tunnels, large transmission mains, reservoirs) whichwill serve a large number of people to be connected beyond 1992. Therefore,beneficiaries for large city investments were calculated based on the assumptionthat a 96Z service level would be maintained.

9. The total number of additional people to receive water supply, all byhouse connection, from the total investment program is estimated at about 3.8million: 1.3 million from the existing investment program and 2.5 million fromthe SRP Tnvestment Program. SRP investments yield substai 1 L'a"ly n'utbeneficiaries than the existing investments. This apparent discrepancy isexplained by the fact that the per capita cost for rural investments is lessthan for urban systems and that, as mentioned above, the investments in thelarge cities provide benefits to people way beyond 1992.

10. Service Levels (Attachment 5) Total water supply investments areexpected to boost country-wide water supply coverage from a current 57Z to about63Z. The balancing effect of the SRP investments become apparent by comparingprojected service levels with and without SRP investments. With the ExistingInvestment Program alone, overall service levels are projected to decrease from57.3Z in 1987 to 54.8 in 1992. The SRP investments would considerably increaseservice levels in all sector segments outside of the large cities. Servicelevels would increase from 72? to 83Z in medium-size cities; from 63? to 77Z insmall cities; from 52Z to 64? in small towns; and from 27? to 30Z in ruralareas.

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Sewerage

11. Investments (Attachment 6). About US$570 million would be invested insewerage during 1988-1992. Again the composition of the sewerage investmentsmirrors that of the total 'nvestment program. Of the US$328 million ofinvestments in the existing investment program, almost 902 are destined for thecountry's large cities. The US$240 million sewerage SRP investment programprovides funds primarily to medium-size and small cities and towns.

12. Beneficiaries (Attachment ;)

The following US$ per capita costs were used to convert investments tobeneficiaries:

1988 1989 1990 1991 1992120 124.2 128.5 130.0 137.6

As for water supply, per capita costs are assumed to escalate at 3.52 per year.The total of beneficiaries of sewerage investments are projected to be 4.4million; 2.6 million from the existing and 1.8 million from the SRP investmentprogram.

13. Service Levels (Attachment 8). Under the existing investment program,the main beneficiaries would be people living in the large cities; there,service levels are projected to increase from a current 761 to 91Z. Servicecoverage in other population segments actually would decline. The SRPinvestments, in contrast, would result in significant coverage increases in theintermediate size cities (from 53.9Z in 1987 to 61.8Z in 1992), in the smallcities (from 482 in 1987 to 58.0Z in 1992) and in the small towns (from 35.42 in1987 to 44.62 in 1992). Coverage in rural areas is not increasing appreciably,as the construction of conventional sewerage systems in rural areas in mostcases would not be appropriate.

Financing Plan

14. The 1988-1992 SRP investments would be financed as follows (Attachment9):

(a) 25.g9 from cash contributions provided by project executingentities (132) and local governments (12.9Z); and

(b) 74.12 from BCH/FFDU loan financing coming from external sources(352), BCH domestic borrowings (16.5Z), BCH financialintermediaries (11.OZ) and FONADE (3.3Z) and the NationalGovernment (8.32).

15. Given the poor financial position of most water supply and seweragecompanies, the SRP encourages local government to provide equity contributionsto weak companies up to the limits established under the SRP Lending Policy.Equity contributions come from local government in form of cash contributionsfrom revenues and borrowings from BCH/FFDU. Based on projections of financingplans by community category, the distribution of financing between operating

- 62 -

Annex 4Page 5 of 5

companies and local governments is as follows (Attachment 10):

(a) 59.32 from operating entities (132 cash and 46.3Z BCH/FFDU loans);and

(b) 40.72 from local governments (12.92 cash and 27.9Z BCH/FFDU loans)in form of equity contributions to operating entities.

- 63 -

Annex 4Attachment 1

COLOMBIA

WATER SUPPLY AND SEVERAGE SZCTOR PROJECT

Population Projections

Population ('000)

GrowthPopulationa/ Rate 1 1987 1988 1989 1990 1991 1992

CAT. I 2.5 8,316 8,524 8,737 8,900 9,180 9,409

CAT. II 2.5 5,155 5,284 5,416 5,551 5,690 5,832

CAT. III 2.5 2,048 2,099 2,152 2,206 2,261 2,317

CAT. IV 3.0 2,085 2,148 2,212 2,279 2,347 2,418

CAT. V 1.5 12,991 13,186 13,384 13,584 13,788 13,995

TOTAL 2.1 30,597 31,243 31,903 32,578 33,268 33,973

SOURCE: Departamento Nacional de Planeaci6n, based on 1985 census results.

a/ Category I - Large cities: Bogota, Cali, Medellin.Category II - Medium-size cities 100,000 - 1,000,000Category III - Cities 30,000 - 100,000Category IV - Towns 12,000 - 30,000Category V - Rural Communities (<12,000 population).

- 64 -

Annex 4

Attachment 2

COLOMBIA

WATER SUPPLY AND SEIERlGE SECTOR PROJECT

Total Sector Investments 1988-1992(Current US$ million)

(A) Existing Investment Program

2 OFCATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 146 158 220 150 56 729 88.9II 17 14 6 6 6 49 6.0III 6 6 2 0 0 14 1.7IV 6 6 2 0 0 14 1.7V 6 6 2 0 0 14 1.7

TOTAL 181 190 232 156 62 820 100.0

(E.) SRP Investment Program

Z OFCAlEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 2 7 13 17 40 79 13.2II 5 23 44 60 90 222 37.0III 3 12 20 28 40 103 17.2IV 3 10 20 25 40 98 16.3V 2 8 23 30 35 98 16.3

TOTAL 15 60 120 160 245 600 100.0

(C) Total Investment Program

z OFCATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 148 165 233 167 96 808 56.9II 22 37 50 66 96 271 19.1

III 9 18 22 28 40 117 8.2IV 9 16 22 25 40 112 7.9V 8 14 25 30 35 112 7.9

TOTAL 195 250 352 316 307 1,420 100.0

- 65 -

Annex 4Attachment 3

COLOMBIA

WATER SUPPLY AND SEWRAGE SECTOR PROJECT

Water Supply Investments 1988-1992(Current US$ million)

(A) Existing Investment PrograZ OF

CATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 87.0 94.8 132.0 90.0 33.6 437.4 88.9II 10.2 8.4 3.6 3.6 3.6 29.4 6.0III 3.6 3.6 1.2 0 0 8.4 1.7IV 3.6 3.6 1.2 0 0 8.4 1.7V 3.6 3.6 1.2 0 0 8.4 1.7

TOTAL 108.0 114.0 139.2 93.6 37.2 492.0 100.0

(B) Proposed SRP Investment ProgramX OF

CATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 1.2 4.2 7.8 10.2 24.0 47.4 13.1II 3.0 13.8 26.4 36.0 54.0 133.2 37.3III 1.8 7.2 12.0 16.8 24.0 61.8 17.2IV 1.8 6.0 12.0 15.0 24.0 58.8 16.3V 1.2 6.8 13.8 18.0 21.0 60.8 16.3

TOTAL 9.0 38.0 72.0 96.0 147.0 362.0 100.2

(C) Total Investment ProgramZ OF

CATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 88.2 99.0 139.8 100.2 57.6 484.8 56.9II 13.2 22.2 30.0 39.8 57.6 162.8 19.1I III 5.4 10.8 13.2 16.8 24.0 70.2 8.2IV 5.4 9.6 13.2 15.0 24.0 67.2 7.9V 4.8 8.4 15.0 18.0 21.0 67.2 7.9

TOTAL 117.0 150.0 211.2 189.8 184.2 852.2 100.0

- 66 -

Annex 4Attachment 4

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Beneficiary Population - Water

('000)

(A) Existing Investment Progrun

CATEGORY 1988 1989 1990 1991 1992 TOTAL

I 161 158 206 153 140 818

II 78 62 26 25 24 215

III 28 27 9 0 0 64

IV 28 27 9 0 0 64

V 45 43 14 0 0 102

TOTAL 340 317 264 178 164 1,263

(B) SRP Investment Prograr

CATEGORY 1988 1989 1990 1991 1992 TOTAL

I 2 7 12 17 100 138

II 23 103 190 250 362 928

III 14 54 86 117 161 432

IV 14 45 86 104 161 410

V 15 58 161 203 228 665

TOTAL 68 267 535 691 1,012 2,573

(C) Total Investment Program

CATEGORY 1988 1989 1990 1991 1992 TOTAL

I 163 165 218 170 240 956

II 101 165 215 275 386 1,142

III 42 81 95 117 161 496

IV 42 72 95 104 161 474

V 60 101 175 203 228 767

TOTAL 408 584 798 869 1,176 3,835

- 67 -

Annex 4Attachment 5

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Service Levels - Water(2 of population served by house connection)

(A) Existing Investment Progruu

CATEGORY 1987 1988 1989 1990 1991 1992

I 96.0 96.0 96.0 96.0 96.0 96.0II 71.9 71.6 69.9 68.6 67.4 65.8III 62.7 62.5 62.2 61.1 59.6 58.2IV 52.1 51.8 51.6 50.5 49.0 47.6v 26.8 26.7 26.7 26.4 26.0 25.6

TOTAL 57.3 57.2 57.0 56.6 56.0 54.8

(B) Total Investment Program

CATEGORY 1987 1988 1989 1990 1991 1992

I 96.0 96.0 96.0 96.0 96.0 96.0II 71.9 72.1 73.4 75.4 78.4 83.1III 62.7 63.2 65.3 68.0 71.6 76.8IV 52.1 52.5 54.2 56.8 59.6 64.4V 26.8 26.9 27.2 28.1 29.2 30.4

TOTAL 57.3 57.4 58.1 59.3 60.7 62.9

- 68 -

Annex 4Attachment 6

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PRGJECT

Sewerage Investments 1988-1992(Current US$ million)

(A) Existing Investment Progr

Z OFCATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 58.0 63.2 88.0 60.0 22.4 291.6 88.9II 6.8 5. 2.4 2.4 2.4 19.6 6.0

III 2.4 2.4 0.8 0 0 5.6 1.7IV 2.4 2.4 0.8 0 0 5.6 1.7v 2.4 2.4 0.8 0 0 5.6 1.7

TOTAL 72.0 76.0 92.8 62.4 24.8 328.0 100.0

(5B) SRP Investment Program

Z OFCATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 0.8 2.8 5.2 6.8 16.0 31.6 13.2II 2.0 9.2 17.6 24.0 36.0 88.8 37.0

III 1.2 4.8 8.0 11.2 16.0 41.2 17.2IV 1.2 4.0 8.0 10.0 16.0 39.2 16.3V 0.8 3.2 9.2 12.0 14.0 39.2 16.3

TOTAL 6.0 24.0 48.0 64.0 98.0 240.0 100.0

(C) Total Investment Progrum

Z OFCATEGORY 1988 1989 1990 1991 1992 TOTAL TOTAL

I 58.8 66.0 93.2 66.8 38.4 323.2 56.9II 8.8 14.8 20.0 26.4 38.4 108.4 19.1

III 3.6 7.2 8.8 11.2 16.0 46.8 8.2IV 3.6 6.4 8.8 10.0 16.0 44.8 7.9

V 3.2 5.6 10.0 12.0 14.0 44.8 7.9

TOTAL 78.0 100.0 140.8 126.4 122.8 568.0 100.0

- 69 -

Annnex 4Attachment i7

COLOMBIA

WATER SUPPLY AND SEVERAGE SECTOR PROJECT

Beneficiary Population - Sewerage('000)

(A) Existing Investmunt Progrsm

CATEGORY 1988 1989 1990 1991 1992 TOTAL

I 483 508 684 461 163 2,299II 57 45 19 18 17 156III 20 19 6 0 0 45IV 20 10 6 0 0 45V 20 19 6 0 v- 45

TOTAL 600 601 721 479 180 2,590

(B) SRP Investment Progrsm

CATEGORY 1988 1989 1990 1991 1992 TOTAL

I 7 22 40 52 116 237II 17 74 137 184 261 673III 10 39 62 86 116 313IV 10 32 62 77 116 297V 7 26 72 92 102 299

TOTAL 51 193 373 491 711 1,819

(C) Total Investment Progra

CATEGORY 1988 1989 1990 1991 1992 TOTAL

I 490 530 724 513 279 2,536II 73 119 156 203 279 830III 30 60 68 86 116 360IV 30 51 68 77 116 342V 27 45 78 92 102 344

TOTAL 650 805 1,094 971 892 4,412

- 70 -

Annnex 4Attachment 8

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Service Levels - Sewerage

(A) Existing Investment Progrm

CATEGORY 1987 1988 1989 1990 1991 1992

I 76.3 80.1 83.4 89.6 91.2 91.3II 53.9 53.7 53.2 52.2 51.3 50.3III 48.0 47.7 47.5 46.5 45.5 44.4IV 35.4 35.3 35.1 34.4 33.4 32.4V 13.4 13.3 13.3 13.1 12.9 12.7

TOTAL 41.1 42.2 43.2 44.5 45.1 44.7

(B) Total Investment Program

CATEGORY 1987 1988 1989 1990 1991 1992

I 76.3 80.1 84.3 90.1 93.7 94.4II 53.9 54.0 54.8 56.3 58.5 61.8III 48.0 48.3 49.9 51.7 54.2 38.0IV 35.4 35.8 37.0 38.9 41.1 44.6V 13.4 13.4 13.5 13.9 14.4 14.9

TOTAL 41.1 42.3 44.0 46.4 48.4 50.0

- 71-

Annex 4Attachment 9

COLOSIA

WATUR SUPPLY AND SZWERAGE SECTOR PEDJECT

SRP Financing Plan

Amount Z ofSources of Funds US$ Million Total

Cash Contributions 155.2 25.9

Operating Entities 77.9 13.0Local Government 77.3 12.9

Loan Funds 444.8 74.1

External Sources 210.0 35.0National Government 50.0 8.3FONADE 20.0 3.3Financial Intemediaries 66.0 11.0BCH Domestic Borrowings 98.8 16.5

Total Sources of Funds 600.0 100.0

- 72 -

Annex 4Attachment 10

COLOMBIA

WATER AND SEWRAUGE SECTOR PROJECT

Financing of SRP Investments - Operating Entities vs. Local Government

Category Cash Loan TotalVSS x US$ z US$ z

Operating Entity

I 19.8 25.0 55.2 70.0 75.0 95.0II 33.3 15.0 122.1 55.0 155.4 70.0III 5.2 5.0 51.5 50.0 56.7 55.0IV 4.9 5.0 34.3 35.0 39.2 40.0V 14.7 15.0 14.7 15.0 29.4 30.0

Subtotal 77.9 13.0 277.8 46.3 355.7 59.3

Local Government

I 4.0 5.0 0 0 4.0 5.0II 33.3 15.0 33.3 15.0 66.6 30.0III 15.5 15.0 30.9 30.0 46.4 45.0IV 14.7 15.0 44.1 45.0 58.8 60.0V 9.8 10.0 58.8 60.0 68.6 70.0

Subtotal 77.1 12.9 167.2 27.9 244.3 40.7

Total 155.0 25.9 445.0 74.1 600.0 100.0

_ 73 -

Annex 5

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Target Performance Indicators

Operational Performance:

Unaccounted for- water <0.35Production metering: lOOZMeter coverage >60Z or more depending on local conditionsBacteriological and physico-chemical water quality meeting quality standards setby the Ministry of Health.

Routine leak detection and repair program in place.Preventive maintenance program in effect.

Administrative Performance

Number of employees for 1000 connections: <5 for gravity systems and <6 forpumped systems.

Ratio of employees in administration to total number: <.4Management information system producing relevant information on time.Cost accounting system.Adequate personnel management and training systems.

Commercial performance

Ratio collection to billings >.9.Monthly sales in accounts receivable <2.5 months.Responsive customer service.

Financial Performance

Operating ratio <.60Financial return on revalued fixed assets >4%Balanced cash flow (operating revenues sufficient to meet operating costs,working capital needs, debt service obligations and contributions toinvestments).

Debt service coefficient <0.5Liquidity index >1.0.Services other than water supply and sewerage utility operating costs formunicipal multi-service companies.

sa

YmTFt SUFPLY AMDSEmAW SCTGR ln

Teurs sod Cenditi oe e FFDU Lowe ,

Loan AmountRediscounted to Non-Preforentisl Preferentlal Spread to Interet Rate on

Types Financial Interest Rate Interest Rat3 Financial Non-redisce"stedBorrourb Intormadijarit- to Borrosr m ro Barroow IntromadioceD Funds of tar dtry

Largest Cities 7618 CDT * C p.p.f CDT + S p.p. 1.5X CDT . 5 p.p.

Medium-Size Ctles 86.61 CDT + J p.p. CDT + 1 p. p. 2. X CDT 4 p. p.

Sm ler Cities 85.8X CDT + 2 p.p. CDT - 1 p. p. 2.5S CDT * 4 p. p.

For AIll Loam-

Inspection andSupervision Fee:g 1.8%

Comitasnt Fee:h 0.

Amortization Period lt years

Grsa Period 8 Yrear

Interest s charged at end of each quarter.

k/ In accordance with Monetary Board Resolution 5J of September 26, 1987.

i Largest eitioe (pop. greater than 1,600,in) include BogotA, Medellrn, Call, Burranquillu and their respectivo * tropolitanarea. Medium-sizO Citi.. (pop. between 160,060 and 1,M,666) Include Cartagena, COcuta, Bucaramng, Mananlrl, Ibege6,Pereira, Bello, Pasto, Santa Marta, Armenia, NMivev Palmira VillavicencTo, Monte rf, Buenaventura, Soleded, Popeydn,Valleduper, Barrancabermeja, Floridablance, ItaquT, Sincelojo and their respective metropolitan areas. Smaller CitieInclude all the rest.

Sm Nominal interest rate charged to borrowers ant holding Urban Development Bonds.

d/ Nominal Interest rate charsed to borrowers holding Urban Development Bonds.

I/ Spread on rediscounted portion ot loan provided by FFDU to financial intermediaries. °Q

LI Average _-month Certificate of Deposit rate (CDT) plus 6 percentage points.

g/ Based On FFDU loan amount.

h/ Based on the undisbursed FFDU loan balance.

water Sua Iv and S _ Ms eoter Lam

I uetrate. of It nt_ _ ot. eAFFMU Lamm

To Borrower To FFDU

Nmoinal Raeib EffectIy Rate Nb-in-l gnt d Fffedbie leI Non-Preferential Rates

ta 'Holding UrbanDBvelomamnt Bonds

Largest Cities 31.1 34.U8X 29.°% 32.6%

Medium-Size Cities 29.2X 32.6c 27.9 29.6%

Small Cities 28. 3x 1.4% 2656X 2C.1X

II. Preferontial Rate.Holding UrbanDeve lopment Bonds

Largest Cities 29.2X 32.6X 27.5% C9X.

Medium_-Size Citioe 27.6% 30.6% 25. X -27.4X

Small Cities 25.CX 28.ax 22.51 24.5X

In accordance with Monetary Board Resolution 63 of September 25, 1967; ass*mes an averag CDT rat of 26 (taof September 1967).

hi Represets the noinal weighted-average final interest rate to borroer, taking Into account the cost of fumd.from both FFDU and the financial intermediry. An example of this calculatiot. for a medium-sie city whichdoes a"t hold FFDU's Bonds isas follows:

Cost of FFDU Funds * 8 X x (CDT + 8S) a CDT 2.4%Cost of Financial Intermwdinry Funds * 233 X (CDT + 4X) a CDTI-I-

Weighted average cost of funds to borrowr * CDT N 3.21 a 29.2X (assuming CDT x261)

meS Calculated on basis that interest is charged at the end of each quartar. :X

Represents the nominal interest rate earned by FFDU on the rediscounted porton of the loan provided to the 0borrower. Calculated as the difftrence betnoen the FFDU nominal rate charged to the borrmor lo the spreddearned by the financial Intermediary.

) Calculated on base that interet is charged at the nd of each quarter.

- 76 -

Annex 7Page 1 of 2

COLOMBIA

Water Supply and Sewerage Sector Project

Plan of Action for the Institutional Strengthening Program ofSubgerencia Desarrollo Regional y Urbano (FFDU) of

Banco Central Hipotecario

16. FFDU will carry out a program of institutional strengthening inaccordance with the objectives, actions and timetable presented below:

FFDU Organizational Structure and Human Resources.

17. FFDU will review and, if necessary adjust, its presentorganizational structure to the needs created by the expected growth of itsoperations. To this end, BCH/FFDU is carrying out a detailed assessment ofits organizational structure and staff. The conclusions and recommendationsof this study will be presented to the Bank for comment by March 31, 1989.

18. To ensure that the number and professional qualifications of itsstaff are sufficient to execute FFDU's work program in a timely andtechnically sound manner, FFDU will, as part of the annual program reviewpresent an analysis of the adequacy of its staff resources and, if foundinsufficient, present a plan of action to improve detected deficiencies.

Staff Training

19. In recognition of the need to provide its staff with training inthe technical, institutional, financial, economic and management aspects ofproject preparation evaluation and administration, FFDU will present to theBank by October 31, 1988, a plan of action for the training of its staff,including a comprehensive description of objectives and methods to beemployed, the type of training to be given, the number of staff to betrained and a cost estimate for the training program covering the 1989-1992period. As part of the semi-annual report to be submitted by September 30of each year, FFDU will present an update to the training program.

Preparation of Guidelines for Project Preparation and Execution

20. No later than December 31, 1988, FFDU would issue guidelines forproject preparation which inform sub-borrowers of:

(a) the criteria used by FFDU in the evaluation of Sub-projects;

(b) the information to be submitted by potential sub-borrowers todemonstrate the technical, financial, institutional, social,

- 77 -

Annex 7Page 2 of 2

environmental and economic feasibility and justification of aproposed sub-project;

(c) model terms of reference to be followed by potential sub-borrowers and their consultants in the formulation ofinvestment and institutional strengthening programs, andfinancial, economic and social analysis; and

(d) detailed guidelines for sub-borrowers regarding projectexecution, reporting to FFDU, disbursements, procurement andauditing requirements.

Preparation and Implementation of Internal ManagementInformation Systems (MIS)

21. In order to better plan and control its operations, FFDU willprepare and implement a MIS which will allow more effectively plan andcontrol the lending process and better manage the supervision andadministration of sub-projects. Consultants to BCH/FFDU are preparing theconceptual basis for such MIS. Based on the work of these consultants,BCH/FFDU will present to the Bank, no la.er than December 31, 1988, adescription of the MIS to be developed and a plan of action for itsimplementation, including a time table for executing important intermediatesteps, the need for consulting services and the acquisition of equipmentand a cost estimate. Full implementation of the MIS is scheduled for mid-1990.

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Annex 8Page 1 of 4

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

BCH/FFDU Finances

BCH - Past Performance

1. The BCH operates under special regulations, implemented in 1972 tostimulate housinF and home construction, which allows it (as well as allColombian savings and loan institutions) to index both its mortgage creditsand liabilities to the public through the use of 'constant purchasing powerunit" (UPAC) linked to the consumer price index. Interest rates (bothlei,ding and borrowing rates) are subject to ceilings, but are expressed asmargins additional to the monetary adjustments of the UPACs. Under theUPAC system, BCH also is required to allocate specified percentages of thefunds it gathers to various lines of mortgage credit which are related tothe value of the homes financed. The interest rates that are charged onthe UPAC loans vary according to the value of the home and range from 5? to10? above the indexing. For the UPAC funds, a 3? rate is paid for savingsaccounts on top of the indexing and between 5? and 8.52 is paid forcertificates of deposit, also on top of the indexing. The current interestrate ceiling on both UPAC deposits and mortgages is 21Z plus the margins.

2. BCH's comparative balance sheets and income and expense statementsfor the past four years (1983-86) are presented in Attachment 1. Thestatements are for BCH as a whole and include the accounts of FFDU (butexclude funds of the Social Security Institute which BCH only administers).Further on, a separate analysis is provided of the accounts of FFDU whichrepresent approximately 10 of the total assets and liabilities of the BCH.

3. As of December 31, 1986, BCH's total assets amounted to aboutPesos 209,149 million (US$1,020 million equivalent), having increased at anaverage annual rate of 4.2Z (in real terms) since 1983. The loanportfolio, which grew in 1983-86 at 0.6? p.a. (in real terms), reached atotal of Pesos 173,192 million (US$840 million equivalent) at year-end1986. BCH's loans are concentrated in two categories--mortgages and urbandevelL,.-'ent (FFDU) credits--which combined represented 82? of BCH's totalassets at year-end 1985. The remaining assets on BCH's books at year-end1986 >.-counted for 18X of total assets and including mainly financialinvest.ments, construction holdings and fixed assets.

4 BCH carries out its primary function, mortgage lending, throughtwo lines of credit--the UPAC line, which is described in para. 1. above,and the traditional line. As for year-end 1986, UPAC mortgages comprisedabout 52Z of BCH's total loans. Traditional mortgages, which are made atfixed rates and are financed with savings certificates and mortgage bonds,represented 27Z of total loans as of December 31, 1986.

5. Delinquencies in BCH's mortgage loan portfolio are high,reflecting payment problems experienced in recent years by many Colombian

- 79 -

Annex 8Page 2 of 4

borrowers especially those at the lower-income levels. The volume of BCH'smortgage loans past due by more than four months equalled Pesos 28,380million (US$138 million equivalent), or 182 of total mortgages at end 1986.BCH's provision for doubtful loans, which in accordance with Colombianbanking regulations is based on the volume of arrears past due by 12 monthsor more, stood at Pesos 10, 823 million (US$53 million equivalent), or 62of total mortgage loans, as of December 31, 1986. This provision appearsadequate as most of the mortgage loans are fully collaterized. Theportfolio of the FFDU has not expetienced any arreage. The financialintermediaries through which the FFDU discounts its loans to the ultimateborrowing agencies are required to pay off their obligations when due, evenin cases in which a borrowing agency has not made payment.

6. Since 1983, BCH's total liabilities have increased at an averageannual rate of 3.8Z (in real terms), reaching Pesos 299,952 million(US$1,456 million equivalent) at year-end 1986. UPAC deposits, BCH'sprincipal source of funds, totalled Pesos 93,321 million (US$450 millionequivalent), or 442 of total liabilities and equity at December 31, 1986.Other notable elements of BCL's liability structure at year-end 1986included traditional savings certificates (Pesos 61,114 million, 31t ofliabilities and equity), rediscounts from the Banco de la Repdblica (Pesos13,714 million: 72 of liabilities and equity), external borrowings (Pesos5,683 million: 3Z of liabilities and equity) and other liabilities (Pesos15,830: 82 of liabilities and equity). BCH also has a back-up line ofcredit with the Banco de la Reptiblica which it has drawn upon since 1984 tomeet unexpected liquidity demands. During 1986, when UPAC savings flowsslowed due to strong competition from other saving instruments, BCH'sborrowings from the Banco de la RepCblica's line of credit increased by572, reaching about Pesos 9,800 million (US$47 million equivalent), 52 ofliabilities and equity by the end of the year.

7. As mentioned previously, BCH is responsible for administeringinvestments which are funded with proceeds, called Constant Value Bonds(BVCs), from the Social Security Institute. At year-end 1986, the amountof BVC funds under administration was Pesos 46,220 million (US$224 millionequivalent). BCH receives a commission of 3.0Z for administering thesefunds.

8. BCH's equity position was boosted in 1984 by the liquidation ofconstruction holdings which produced a surplus of Pesos 1,080 million andin 1985 when the FFDU's equity (Pesos 2,440 million) was legallytransferred to BCH. At year-end 1986, BCH's total equity, at Pesos 9,713million (US$47 million equivalent), was a thin but acceptable 52 of totalassets and 6t of total loans.

9. As an official institution established by the Government toimplement housing and urban development policies, BCH's primary goal is notprofit making. Nevertheless, BCH's net income after allocation of reservesremained positive throughout the 1983-86 period, totalling Pesos 640million (US$3.1 million equivalent) for 1986 (Attachment 2). Measured as apercentage of average total assets, the difference between BCH's interestincome and interest expenses (net interest margin) declined from 5.3Z in1983 to 3.52 in 1986. This drop in profitability can be traced mainly toBCH policies which during the 1983-86 period increasingly emphasized forsocial reasons loans to the lower ranges of the housing market, resulting

_ 80 -

Annex 8Page 3 of 4

in a reduction in loan portfolio yields (measured against average totalassets, gross interest income declined from 23.7Z in 1983 to 23.22 in1986). During 1983-86, administrative costs grew an average of 2.3% p.a.(in real terms) due primarily to the expansion and decentralization ofBCH's operations. To address the decline in profitability, BCH'smanagement has instituted a series of actions which includes, inter alia,intensified efforts to collect delinquent loans, tighter control ofadministrative and operating costs, and shift toward higher margin lending.

FFDU - Past Performance

10. As of December 31, 1986, the FFDU had total loans outstanding ofabout Pesos 21,100 million (US$102 million equivalent). This representedabout 12Z of BCH's total loans. Between 1983 and 1986, the FFDU approvedloans for about 660 projects amounting to Pesos 44,613 million. Of thisamount, Pesos 24,371 million has been disbursed by year-end 1986. FFDU'srecent lending has been concentrated in two sectors: sanitation (watersupply, sewerage and solid waste removal) and highways (Attachment 3). OfFFDU's total 1983-86 disbursements, 44Z were for sanitation operations and31X for highways. The remaining 25Z was for a variety of other urbanworks. The sectorial composition of FFDU's recent lending reflects itspriority of assisting local Governments in improving basic infrastructureand public services. As the single largest financier of sanitationprojects in Colombia, the FFDU has recently provided funding for severallarger water supply projects including one in Cali costing US$10 millionand another in Santa Marta amounting to US$6 million.

11. FFDU's primary sources of funding are external borrowings andgovernment transfers. The FFDU has been the beneficiary of two inter-American Development Bank loans totalling US$74 million and DM6.5 millionloan from the German Government (KFW). In 1983, the FFDU received a Pesos12.5 million loan from the Colombian Government to finance urban worksunder a program to stimulate housing and create employment (REGE). TheFFDU also raises funds through the issuance of its own Urban DevelopmentBonds (UBDs). This instrument, which is offered to local governments andwhich confer to the holder the rights to borrow from the FFDU three timesthe value of such bonds, is expected to be one of FFDUs primary mechanisms(along with Government transfers and UPAC funds) for capturing domesticresources for the Sector Investment Program. As for year-end 1986, thevolume of UDBs outstanding was Pesos 1,019 million (US$5 millionequivalent). The major characteristics of FFDU's primary sources of funds(terms and conditions of each obligation) are provided in Attachment 4.

12. FFDU's annual net income remained positive during the 1983-86period and totalled Pesos 668 million (US$3.2 million equivalent) for 1986(Attachment 5). Measured as a percent of average assets, FFDU's netoperating income dropped from 7.0Z in 1983 to 2.02 in 1985, beforerebounding to a more satisfactory 3.32 in 1986. The overall decline inFFDU's net interest margin between 1983 and 1986 is attributable to ameasurable increase in the costs of funds particularly on externalborrowings. In 1986, for example, when the Colombian Peso depreciatedagainst the dollar and the German mark, the effective rate paid by FFDU onexternal loans from IDB and KFW were 23% and 49%, respectively. Thiscompares with FFDU's 1986 overall average costs of funds of about 22Z.

- 81 - Annex 8

Page 4 of 4

FFDU's administrative costs have remained constant at about 2.0 of averageassets during 1985 and 1986. However, it should be noted that these costsare based on only a partial allocation of the financial and administrativecosts applicable to operating FFDU. In effect, by decision of BCH's Boardof Directors, some personnel and other expenditures that in principle wouldbe chargeable directly to the FFDU are being absorbed by BCH.

13 At negotiations, BCH presented the Bank with preliminary financialresults for 1987 and financial projections for the period 1988-92(Attachments 6 and 7). As of December 31, 1987, BCH total assets reachedUS$955 million equivalent (Pesos 1.451 million). FFDU's portfoliocontinued to grow in 1987, reaching the equivalent of US$112 million atyear-end. It represented 132 of total BCH loans outstanding. BCH'sfinancial projectiolLs show that its financial condition and performancewould be maintained at satisfactory levels over the next few years. For1992, when most of the proposed loan should be disbursed, BCH wouldcontinue to have an adequate capital ratio (about 42 of total assets) andprofitability. The projections also show that FFDU's lending is expectedto play an increasingly important role in BCH's overall operations. Byend-1992, FFDU loans as a proportion of BCH's total footings would equal28Z, reflecting mainly the increased resources to be directed to FFDUthrough the Bank-financed project.

- 82 -

Annex 8Attachment 1

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

BCH Summary Financial Statement 1/ 21(In million Colombian Pesos)

Balance Sheet

Assets 1983 1984 1985 1986

Loan PortfolioMortgages 75,390 106,340 132,901 152,194

Urban Development 8,039 17,655 18,110 20,998Subtotal 83,429 123,995 151,011 173,192

Other Assets 8,312 11,793 18,352 35,957

TOTAL ASSETS 91,741 135,788 169,363 209,149

Liabilities

UPAC Deposits 48,126 60,106 83,077 93,321Traditional Savings Certificates 19,489 32,044 36,952 61,114Rediscounts 6,516 16,169 15,288 13,714External Borrowings 471 1,283 2,427 5,683Transfers 0 4,193 6,198 9,774

Other Liabilities 13,302 16,421 15,953 15,830

TOTAL LIABILITIES 87,904 130,216 160,695 199,436

Equity 3,837 5,572 8,668 9,713

TOTAL LIABILITIES AND EQUITY 91,741 135,788 169,363 209,149

1/ Excludes funds of the Social Security Institute administered by BCH

which, at December 31, 1986, equalled Pesos 46,220 million.

2/ Audited Financial Statements.

- 83 -

Annex 8Attachment 2

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

BCH(In million Colombian Pesos)

Income Statement

1983 1984 1985 1986

Gross Interest Income 18,290 28,081 39,220 43,983Gross Interest Expenses 14,204 22,625 33,837 37,351

Net Interest Income 4,086 5,456 5,383 6,632

Non-Interest Income 815 1,036 1,780 1,980

Administrative Expenses 3,513 4,876 6,181 7,666

Net Operating Income 1,388 1,616 982 946

Provisions - Loans Loss and Taxes 552 892 348 308

Net Income After Provisions 836 724 634 638

Extraordinary Income 0 1,678 2,247 2

Net Income 836 2,402 2,881 640

(as 2 Average Total Assets)

Gross Interest Income 23.7 24.7 25.7 23.2

Gross Interests Expense 18.4 19.9 22.2 19.7Net Interest Income 5.3 4.8 3.5 3.5

Non-Interest Income 1.1 0.9 1.2 1.0

Administrative Expenses 4.6 4.3 4.1 4.0Net Operating Income 1.8 1.4 0.6 0.5

Provisions - Loan Loss and Taxes 0.7 0.8 0.2 0.2Net Income After Provisions 1.1 0.6 0.4 0.3

Extraordinary Income 0.0 1.5 1.5 0.0

NET INCOME 1.1 2.1 1.9 0.3

- 84 -

Annex 8Attachment 3

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

BCH

Summary of FFDU

Disbursements by Sector, 1983-86(In million Colombian Pesos)

Disbursement 1983 1984 1985 1986 TOTAL Z

Water Supply andSewerage 847 2,155 2,565 3,859 9,426 38.7

Solid Waste 233 445 384 278 1,340 5.5

Highways 2,081 3,087 1,007 1,369 7,544 31.0

Other Urban Works 2,181 2,533 562 785 6,061 24.8

TOTAL 5,342 8,220 4,518 6,291 24,371 100.0

Annex 8Attachment 4

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

FFDU - Terms and Conditions of Funding Sources a/

Years ofTotal Balance Interest Term Final

Source Of Funds Currency Amount Outstanding Rate Commission Years Payment('000) ('000) (Z) (Z)

ICT COL$ 191,200 76,480 7.0 - 17 1993

ICT COL$ 159,020 135,167 7.0 - 38 2013

FONADE FO-434 COL$ 1,974 - 22.0 1.5 4 1987

FONADE FO-554 COL$ 50,000 11,947 20.0 1.5 5 1989

Banco de la Repdblica-REGE COL$ 12,500,000 8,792,233 20.0 - 10 1995

Recursos B.V.C. COL$ 700,000 500,000 24.0 - 14 1997

BID I (643-SF/CO) US$ 18,000 18,000 2.0 0.5 25 2011

BID I (397-OC/CO) USS 6,000 6,000 4.0 - 30 2006

K.F.W. DM 6,500 5,685 4.0 0.5 30 2013

B,.#nos de Desarrollo Urbano COL$ 2,200,000 2,134,717 22.0 - 3 --

Banco de la Rep(iblica-BID II USS 50,000 - 20.0 1.25 20 2006

a/ As of September 1987.

- 86 -

Annex 8Attachment 5

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

BCH

FFDU - Income and Expenses 1983-86(In million Colombian Pesos)

1983 1984 1985 1986

Gross Interest Income 1,105 2,635 3,837 4,557Gross Interest Expenses 645 1,853 3,471 3,847

Net Interest Income 460 782 366 729

Administrative Costs 12 75 28 61

Net Income 448 707 338 668

(as 2 of average total assets)

Gross Interest Income 16.8 20.0 20.6 20.7Gross Interest Expenses 9.8 14.1 18.6 17.4

Net Interest Income 7.0 5.9 2.0 3.3

Administrative Costs 0.2 0.6 0.2 0.2

Net Income 6.8 5.3 1.8 3.1

- 87 -

Annex 8Attachment 6

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

BCH Summary Financial Results for 1987 and Financial Projections(In million Colombian Pesos)

Balance Sheet

19871. 1988 1989 1990 1991 1992ASSETS

Loan PortfolioMortgage 186,281 256,462 323,073 401,764 502,026 616,545Urban Development 28,914 47,054 72,085 117,761 176,487 258,715

Subtotal 215,195 303,516 395,158 519,525 678,513 875,260

Other Assets 52, 364 53,179 55,125 52,820 51,181 52,996

Total Assets 267,559 356,695 450,283 572 345 729,694 928,256

LIABILITIES

UPAC Deposits 111,794 140,155 175,113 222,926 281,443 356,976Traditional SavingsCertificates 87,884 115,534 14j,203 172,890 204,830 269,695

Rediscounts 9,644 9,997 9,978 9,979 9,962 9,946Urban Dev. Funds 25, 825 46,053 74,291 116,519 176,756 225,666Other Liabilities 21,239 27,201 27,691 28,829 30,245 33,055

Total Liabilities 256,386 339,030 433,276 551,143 703,236 895,338

Equity 11,173 17,665 17,007 21,202 26,458 32,918

Total Liabilitiesand Equity 267,559 356,695 450,283 572,345 729,694 928,256

1/ Unaudited figures.

- 88 -

Annex 8Attachment 7

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

BCH Summary Financial Results for 1987 and Financial Projections

(In million Colombian Pesos)

Income Statements

19872. 1988 1989 1990 1991 1992

Gross Interest Income 57,732 76,767 101,012 131,297 169,715 216,469

Gross Interest Expense 50,945 63,515 82,358 107,433 139,275 177,853

Net Interest Income 6,787 13,253 18,654 23,864 30,441 38,616

Non Interest Income 1,555 1,313 1,403 1,571 1,760 1,971

Administrtive Expenses 9,752 12,216 15,514 19,442 24,692 31,358

Net Operating Income (885) 2,350 4,543 5,993 7,509 9,229

Provisions-Loan Lossesand Taxes (993) (2,800) (1,363) (1,798) (2,253) (2,861)

Net Icome After Prov. (1878) (450) 3,180 4,195 5,256 6,368

Extraordinary INcome 3,329 6,683 - - - -

Net Income 1,451 6,233 3,180 4,195 5,256 6,368

1/ Unaudited figures.

- 89 -

ANNEX 9

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Project Investment Schedule

-----------Investments----------------------US$ million-----------

Component Total 1988 1989 1990 1991 1992

(A) Investment Projects 430.0 8.6 64.5 116.1 150.5 90.3

(B) Strengthening FFDU 2.0 0.2 1.0 0.8 - -

(C) Studies by DWSS 1.5 0.0 0.5 0.8 0.2 -

(D) Establishment ofTraining Center 1.5 0.0 0.8 0.7 0.0 -

TOTAL 435.0 8.8 66.8 118.4 150.7 90.3

(Z of Total) 100.0 2.0 15.4 27.2 34.6 20.8

- 90 -

Annex 10

COLOHBIA

WATER SUPPLY AND SEVERAGE SECTOR PROJECT

List of Conditions to be Included in FFDU's Subproject Agreements

1. Subproject agreements between FFDU and project executing agenciesshould contain inter alia:

(a) project description, including institutional strengtheningcomponent;

(b) administrative, operational and financial monitoringindicators;

(c) financial viability clause (balanced cash flow andcontribution to investment);

(d) debt limitation clause;

(e) maintain satisfactory project records;

(f) adequate insurance coverage;

(g) procurement arrangements with limit on number of contractsand the use of standard procurement documents;

(h) disbursement arrangements;

(i) audit requirements;

(j) semi-annual reporting under format specified by FFDII

(k) project completion report;

(l) supervision of construction;

(m) satisfactory management clause;

(n) use of qualified consultants;

(0) authorization of access to works, offices and records by FFDUand Bank personnel;

(p) right by FFDU to suspend disbursements and, in the extremecase, cancellation of the loan in case of no-n-compliance bysubborrower; and

(q) any other subproject specific clauses.

- 91 -

Annex 11Page 1 of 2

COLOMBIA

WATER SUPPLY AND SEWERAGE SFCTOR PROJECT

Plan of Action for the Establishment of DWSSand the Execution of Component C of the Project

Plan of Action for the Establishment of DWSS

1. The following presents a tiLue table of key actions required toestablish and staff the Directorate of Water Supply and Basic Sanitation(DWSS) in the Ministry of Public Works and Transport (MOPT) by June 30,1989.

Date Accomplished orAction to be accomplished

(1) Decree 77 containing decisions tocreate DWSS in MOPT January 15, 1987

(2) Submission by MOPT to the CivilService Administration (CSA) and theMinistry of Finance of a proposalregarding the specific functions,organizational structure, staffing and1989 budget requirements of DWSS January 15, 1988

(3) Approval of the proposal referred toin (2) October 31, 1988

(4) Signature of Subsidiary Agreement betweenMOPT and BCH/FFDU regarding the executionof Component C of the Project October 31, 1988

(5) Assignment of physical infrastructure(office space, equipment, etc.) to DWSS February 28, 1989

(6) Appointment of key staff approved by.CSA, i.e. Director and Unit Chiefs February 28, 1989

(7) Presentation of Plan of Action forthe execution of Part C of theProject March 31, 1989

(8) Appointment of all staff approved by CSA June 30, 1989

- 92 -

Annex 11Page 1 of 2

Plan of Action for the Execution of Component C of the Project

2. The plan of action to be submitted by DWSS to the Bank regardingthe execution of Component C of the Project should include a listing of thevarious studies and investigations to be undertaken and, for each of themthe presentation of:

(a) conceptual terms of reference clearlv stating objectives andresults expected;

(b) type of consultancies and consultants to be employed;

(c) a schedule for hiring consultants, including a time table forinterumediate steps (availability of terms of reference andletter of invitation, short list of consultants to beinvited, proposal of contract award, duration ofconsultancy); and

(d) a cost estimate.

3. Regarding training of DWSS personnel, the plan of action shouldidentify training needs and objectives and propose a schedule of specifictraining activities, including a cost estimate.

4. Regarding the acquisition of equipment, DWSS should present a listof equipment required with cost estimates and propose a procurement timetable.

- 93 -Annex 12Page 1 of 4

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Sector Training

Introduction

1. The National Center for Training in the Water Supply andSanitation Sector (CENAGUAS) was created by the Colombian Association ofSanitary Engineers (ACODAL) on June 19, 1987. CENAGUAS is a non-profitorganization embodied with the responsibility of offering a complete rangeof training, advisory and operational services in the sector. CENAGUAS'Legal Act was signed by major water supply companies, private organizationswhich provide service to the sector, and representatives of professionalgroups of sanitary engineers. The establishment of CENAGUAS is also backedby the National Apprenticeship Service (SENA), the Urban Development Fund(FFDU) of the Central Mortgage Bank (BCH), the Ministry of Public Works andTransport (MOPT), the Pan American Health Organization (PAHO), the SureriorSchool of Public Administration (ESAP), and the National PlanningDepartment (DNP). CENAGUAS will be at the center of improving sectortraining under the SRP. CENAGUAS is governed by a three-member Board ofDirectors composed of representatives of ACODAL and other public agencieswith a stake in sector training. It's initi.1 staff would be composed of afull-time Executive Director, two training professionals and two supportstaff.

Objectives

2. The long-term objective of the training component supported underthe Project is to build a permanent and integrated training capability inthe sector. Through the creation of CENAGUAS, specific objectives to besupported under the Project would include:

(a) establishment of a central agency for the planning,coordination and evaluation of training activities in thesector;

(b) development of a more precise and systematic definition ofsector training requirements;

(c) preparation and implementation of appropriately designedtraining programs for managers and technical staff of sectorinstitutions;

(d) providing assistance to sector institutions in theorganization and implementation of staff training programs;and

(e) upgrading and expansion of training facilities and equipment.

- 94 -Annex 12Page 2 of 4

Strategy

3. These objectives will be achieved through:

(a) supporting the establishment of CENAGUAS as a centralplanning and coordinating institution for the planning,development, administration, delivery, and evaluation oftraining; and

(b) organizing and implementing training programs according tothe needs of sector instituti.ons.

4. The need for coordination amcng institutions is critical tofacilitate the exchange of technical and operational experiences andactivities such as the training of instructors, development of programs,preparation of teaching and learning mr%terials. The existence of CENAGUASas a national clearing house and coordination centre for all sectortraining is essential to the introduct3on of effective sector training inColombia.

5. Specifically, CENAGUAS' role would be to: (i) coordinate evaluate,improve and expand existing training programs; (ii) provide, under contractwith operating companies, training courses at all levels either bysubcontracting with existing sources of training or by organizing its owntraining courses; (iii) provide technical support for the organization oftraining programs by government agencies, private institutions, and sectorcompanies; (iv) promote the transfer of experiences in institutionaldevelopment and training and technological developments among water supplycomoanies; (v) establish a national sector information and documentationsystem; and (iv) execute and/or coordinate studies and research on humanresource development topics and technological advances.

Training Component

6. Targets. The training component to be implemented under theproject is designed to: (i) assist CENAGUAS to develop into a centraltraining institution capable of meeting the afore-mentioned objectives(para. 3); and (ii) to upgrade the performance skills of about 8,000 sectorpersonnel representing about 35Z of the total staff employed in the sector.For the 1989-1992 period, the following specific training targets in termsof personnel trained by area, have been established:

Number ofArea Personnel to Be Trained

Planning 340Management 200Accounting 70Operating/Maintenance 3,450Administration 1,530Commercial 1,050Technical 180Financial 180Administration and Operationof Rural Systems 1,000

TOTAL 8,000

- 95 -

Annex 12Page 3 of 4

7. Technical courses would be organized and executed by CENAGUASusing instructors and facilities available at existing institutions as wellas contracting courses with universities, training institutions and privatefirms. In all cases course contents will be defined according to thespecific needs of the target group.

8. Components. To implement the training program, financing would beprovided for: (i) upgrading and remodeling physical facilities andequipment at CENAGUAS' headquarters; (ii) consultant services to assistCENAGUAS in the organizatior of a training strategy and the preparation andimplementation of specific courses; (iii) fellawships abroad for trainerssector staff; and (iv) specific studies regarding occupational analysis,training evaluation and follow-up.

9. Training Facilities ind Equipment. A suitable site for theheadquarters of CENAGUAS has been found at the San Diego Water TreatmentPlant in Bogota, where EAAB will make available an existing building whichwill be converted into offices and other appropriate training facilitiessuch as classrooms, workshops and accommodations for trainers and trainees.Additional training equipment, furniture, spare parts and training aidswould be provided to facilitate and improve the quality of the trainingprocess. Based on the experience at San Diego, CENAGUAS expects to developin the future, regional training centers in Cali, Medellin andBarranquilla.

10. Organization of Training. Foreign and local consultants wouldassist CENAGUAS in developing a central planning and coordinationcapability and in the preparation and implementation of training programs.Technical assistance would support: (i) the formulation of a coordinatedtraining policy and strategy; (ii) the preparation a of manpower trainingneeds assessment; (iii) the development of occupational analysis programsin specific areas to improve curricula and teaching materials; (iv) theestablishment of effective coordinating mechanisms between central andoperating agencies; (v) the preparation of training agreements withexternal training sources; (vi) the design of monitoring and evaluationsystems; (vii) the preparation and implementat4on of management andtechnical training courses; and (viii) upgrad:ig the skills of thepersonnel in charge of administering and implementing the trainingprograms.

11. Scholarships. Overseas scholarships for CENAGUAS and other sectormanagement and professional staff would be supported. These scholarshipswould provide the opportunity for selected sector high and mid-level staffto be exposed to technological development an.. modern administrationpractices and processes in other countries in areas such as planning,operation of water production, treatment, distribution and seweragefacilities, accounting and financial and commercial svstems.

12. Management Training Program. The management training programwould be implemented in the context of a "Management Participatory System"through which manager would learn to: (i) analyze policies and technical,organizational and financial activities; (ii) identify critical areas thatrequire improvements; (iii) prepare recommendations to solve identifiedproblems; (iv) define and carry through plans of action for implementingproposed solutions; and (v) develop a participative management style and be

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Annex 12Page 4 of 4

capable of setting targets, manage under changing conditions and evaluateperformance by results. In preparing and executing the management trainingprogram financing could be provided to: (i) a diagnosis of the currentstate of sector management to be prepared with the assistance ofconsultants; (ii) the preparation of the management development plan; (iii)the execution of about forty courses, seminarb and round-table sessionswhich would be presented under contract by external sources, mainly localuniversities with extensive experience in management training; and (iv) perdiem ana transportation for full-time courses held outside of theparticipants' duty stations.

13. Technical Training Program. The technical training program willtarget supervisors, technicians, plant operators, maintenance andadministrative personnel. The execution of the program would include: (i)per diem and transportation for about 4,000 participants; (ii) per diem andtransportation for about 73 instructors for about 20 weeks per year; (iii)the provision of training material; (iv) training to upgrade the technicaland pedagogical skills of instructors; and (v) the financing of about 145courses on specific technical subjects to be contracted with nationaltraining organizations. The content of these courses would be definedthrough the analysis of specific requirements of each occupational targetgroup.

14. Studies. The training component would include: (i) a trainingneeds assessment for the entire sector in order to facilitate the planningand organization of the training effort; and (ii! the development andimplementation of a training monitoring and evaluation system with theobjective of incorporating lessons learned into the training process.

15. Cost and Financing. The total cost associated with sectortraining during 1988-1992 is estimated at US$5 million (Attachment 1).US$1.5 million would be needed to establish CENAGUAS as a functional agencyand US$0.5 million to support CENAGUAS' operation (salaries, etc.) through1992. The costs associated with the training of 8,000 sector staff isestimated at US$3 million. The Bank loan would finance the costs relatedto the establishment of CENAGUAS as a functional entity (US$1.5 million).The cost related to CENAGUAS operation would come from contributions by theGovernment, ACODAL, and donations from suppliers, contractors andconsulting firms with interest in accelerated sector development and fromsurpluses obtained through the fees paid by sector companies for trainingcourses attended. As a general principle, the costs related .o thepreparation and implementation of specific training courses would be bornby sector companies under Component A, the proposed project would includestaff training with an estimated total cost of about US$3 million, of whichthe Bank loan would finance about US$1 million.

16. Attachment 2 presents the Plan of Action of the establishment ofCENAGUAS and the content of the plan of action for the execution of theTraining Component to be submitted to the Bank by March 31, 1989.

- 97 -

Annex 12Attachment 1

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Cost and Financing Schedule for Training Component(US$ million)

Source of FinancingTotal Bank Other

Cost Category Cost Loan

(A) Physical installation and Equipment 0.80 0.80 -

(B) Technical Assistance 0.25 0.25 -

(C) Training of CENAGUAS Personnel 0.10 0.10 -

(D) Studies 0.35 0.35 -

(E) CENAGUAS Operating Cost (1989-92) 0.50 - 0.50

(F) Training Coursesl/ 3.0 1.0 2.0

Total 5.0 2.5 2.5

1/ Financed under Component A (investment subprojects) of the Project.

_ 98 -

Annex 12Attachment 2

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Plan of Action for the Establishment of CENAGUASand the Execution of Component D of the Project

Plan of Act?.on for the Establishment of CENAGUAS

1. The following presents a time table of key actions required teestablish Centro Nacional de Aguas (CENAGUAS) as a functional agency byMarch 31, 1989.

Date Accomplished orAction to be accomplished

(1) Formal decision to create CENAGUAS byACODAL and other private and publicinstitutions interested in promotingsector training June 19, 1987

(2) Approval of CENAGUAS' By-Laws June 19, 1987

(3) Establishment of CENAGUAS' Executive Board June 19, 1987

(4) Conclusion of study financed by FFDUto estimate training needs and physicaland financial requirements for theestablishment of CENAGUAS March 31, 1987

(5) Legal creation of CENAGUAS asautonomous non-profit institution June 30, 1988

(6) Appointment of General Manager June 30, 1988

(7) Signature of Agreement with BogotaWater Company on use of physicalinstallation at San DiegoWater Treatment Plant July 30, 1988

(8) Approval by CENAGUAS' Board of organiza-tional structure, staffing schedule,manual of functions and 1989 Budget August 31, 1988

(9) Signature of Subsidiary Agreement withBCH/FFDU regarding the execution of thetraining component (Part D of theProject) October 31, 1988

- 99 _

(10) Presentation by CENAGUAS of a plan ofaction for the execution of thetraining component of the Project toBCHIFFDU February 28, 1989

(11) Presentation by BCH/FFDU of theabove-mentioned plan to the Bank March 31, 1989

(12) Appointment of staff according toapproved staffing schedule (action 8) March 31, 1989

Plan of Action for the Execution of the Training Component

2. CENAGUAS' plan of action for the execution of Component D of theProject to be submitted to the Bank by no later than March 31, 1989 willinclude the following information:

(a) a list of equipment needs and a description of the worksrequired to convert the existing facilities at the San DiegoWater Treatment Plant into a functional training center;

(b) a procurement time table and cost estimates regarding theitems mentioned in (a) above;

(c) a training schedule for CENAGUAS personnel indicatingtraining objectives, methodology and cost;

(d) for each of the consulting services required for theexeuction of the component, the presentation of: conceptualterms of reference, types of consultancies to be selected, atime table for hiring consultants including dates forintermediate steps (availability of terms of reference, shortlist of consultants, proposed contract award, duration ofconsultancy) and a cost estimate.

_ 100 -

Annex 13

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Mciitoring Indicators fo, FFDU a/

1988 1989 1990 1991 1992

Investments (US$ million) 8.6 64.5 116.1 150.5 90.3

Disbursements (US$ million)b/ 6.0 45.1 81.3 105.4 63.2

Loans Amounts Committed by FFDUb/(USS million; 42.0 140.0 154.0 14.' -

Number of SubprojectsApproved 8 26 32 14

a/ For the execution of Component (A) of the Project.

b/ 70Z of investments, including contributions by financial intermediariesand FONADE.

- 101 -

Annex 14Page 1 of 4

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Documentation Required for the Review of Subprojects by the Bank

1. For each subproject FFDU will provide a brief and concise projectevaluation report with the content summarized below. Back-up information,more detailed reports, feasibility studies and designs should be kept byFFDU and tade available Lo the Bank upon request.

2. For a single-commuuity project with an EPM as ex3cuting agency,the evaluation report should contain:

(a) description of project executing agency;

(b) description of pre-project service conditions and problems;

(c) project objectives;

(d) population and demand projections (Annex)

(e) project beneficiaries;

(f) project description, including a discussion of alternativesevaluated and presentation of least-cost solution;

(g) project cost estimate with appropriate contingencies;

(h) project implementation and procurement schedule;

(i) project financing plan;

(j) institutional assessment and plan of action of improvement ofcompany's management, administration and operation;

(k) financial analysis and projections, in form of summaryfinancial statements (Annex);

(1) tariff analysis;

(m) economic and social analysis and justification;

(n) list of administrative, operational and financial monitoringindicators;

(o) procurement arrangements;

(p) arrangements for supervision of construction;

(q) accounting arrangements;

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Annex 14Page 2 of 4

(r) disbursement arrangements; and

Cs) environmental impact statement.

3. In addition, FFDU would provide:

(a) resolution by the National Tariff Board (JNT) and ademonstration that authorized schedule of tariff adjustmentsare sufficient to allow the beneficiary to generate internalfunds as shown in financial projections;

(b) proof that project executing entity has applied tariff levelsauthorized by JNT;

tc) legal agreements, including:

(i) FFDU - financial intermediary;(ii) FFDU - cofinancers (Departments/Municipalities)(iii) FFDU - project executing agency;(iv) project executing agevcy - financial intermediary(v) project executing agency - cofinancers;

'd) in case of cofinancing, evidence that cofinancing required isassured;

(e) for multi-service companies, plan for financial se.'.f-sufficiency for services other than water supply andsewerage; and

(f) solid waste feasibility study, if financing for this serviceis to be provided.

4. For a multi-community project with a departmental or regionalcompany as executing agency the evaluation report should contain:

(a) global information on project executing agency, including:

(i) description of agency, institutional setting andarrangements with member communities (map);

(ii) institutional assessment and plan of action forimprovements;

(iii) pre-project service conditions and problems in membercomunities;

(iv) project objectives;

(v) population and demand projections;

(vi) project beneficiaries;

(vii) project description, including institutional streng-thening program;

- 103 _Annex 14Page 3 of 4

(viii) project implementation and procurement schedule;

(ix) project cost estimate and financing plan;

(x) tariff analysis;

(xi) financial analysis and projections;

(xii) monitoring indicators;

(xiii) procurement arrangements;

(xiv) auditing arrangements;

(xv) disbursement arrangements;

(xvi) arrangements for supervision of construction; and

(b) for each subproject a concise profile, including:

(i) Description of project and service conditions (map);

(ii) population and demand projections;

(iii) project beneficiaries;

(iv) project description;

(v) project cost;

(vi) project implementation schedule;

(vii) project financing plan;

(viii) tariff analysis;

(ix) economic/social analysis and justification;

(x) monitoring indicators

(xi) environmental impact statement.

5. In addition, FFDU would provide:

(a) resolution by the National Tariff Board (JNT) and demonstrationthat authorize' tariff levels are sufficient to allow the companyto generate internal funds as shown in financial projections;

(b) proof that project executing entity has implemented tariff levelsauthorized by JNT;

(c) legal arrangements analogous to those listed in para. 3(b); and

(d) evidence that cofinancing is assured.

- 104 -Annex 14Page 4 of 4

6. For rural projects, FFDU would provide information on the executingunit analogous to para. 4(a), and describe in detail the capacity of theexecuting unit to carry out the Basic Rural Sanitation Program and measures totmprove such capacity.

7. For each rural subproject, a brief project profile would be providedcontaining the following documentation which is customarily prepared as part ofthe project preparation methodology followed under the National Program of BasicRural Sanitation:

(a) technical and socio-economic project evaluation, including-

(i) description of community, service conditions, water resourcecondition (map);

(ii) socio-economic characteristics of community and prospects fordevelopment;

(iii) project objectives;

(iv) population and demand forecast;

(v) project description with design parameters;

(vi) cost estimate;

(vii) financing plan with leve' of cost recovery from community;

(viii) projection of maintenance and operation cost and debtservice;

(ix) calculation of "cuota familiar";

(x) institutional arrangements for continued supervision of anassistance in the maintenance and operation of the system;

(b) signed agreement between community and project executingagency; and

(c) agreements between community and potential cofinancers.

8. In addition, all legal agreements analogous to those listed inpara. 3(b).

9. For multi-community projects, subproject profiles for a minimum of40Z of the total number of subprojects to be financed under the projectsshould be available initially. The documentation for the remaining sub-projects would be prepared and submitted later on during project execution.

- 105 -

Annex 15

COLOMBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Limits on Type of Procurement and Prior Review Thresholds

(US$ '000)

Type of Prior Estimated Type ofProcurement Review Contract Procurement

-Limit Value

Goods >300 >300 ICB \a

(equipment, 20-300 LCB \_pipes, vehicles, <20 Local Shopping \c

materials)

Civil Works >2000 >2000 ICB \a200-2000 LCB \U

<200 Local Shopping \c

a/ International competitive bidding in accordance with Bank Guidelines.

b/ Local competitive bidding with foreign bidders having the opportunity

to participate.

c/ Price quotations from at least three qualified local bidders.

- 106 -

Annex 16

COLOMBIA.- .

- WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Loan Disbursement Schedule

QuarterlyBank Fiscal Year Disbursement Cumulative Disbursementand Quarter Ending (USS million) USS miiion 2 of Total

FY 89Sept. 30, 1988 0 0 0Dec. 31. 1988 1.5 1.5 1.0March 31, 1989 1.5 3.0 2.0June 30, 1989 1.5 4.5 3.0

FY 90Sept. 30, 1989 1.5 6.0 4.0Dec. 30, 1989 3.0 9.0 6.0March 31, 1990 4.5 13.5 9.0June 30, 1990 6.0 19.5 13.0

FY 91Sept. 30, 1990 6.8 26.3 17.5Dec. 30, 1990 7.5 33.8 22.5March 31, 1991 8.2 42.0 28.0June 30. 1991 10.5 52.5 35.0

FY 92Sept. 30, 1991 12.0 64.5 43.0Dec. 30, 1991 15.0 79.5 53.0March 31, 1992 13.5 93.0 62.0June 30, 1992 10.5 103.5 69.0

FY 93Sept. 30, 1992 9.0 112.5 75.0Dec. 30, 1992 7.5 120.0 80.0March 31, 7.5 127.5 85.0June 30, 1993 7.5 135.0 90.0

FY 94Sept. 30, 1993 3.0 138.0 92.0Dec. 31, 1993 3.0 141.0 94.0March 31, 1994 3.0 144.0 96.0June 30, 1994 3.0 147.0 98.0

FY 95Sept. 30, 1984 1.5 148.5 99.0Dec. 30, 1994 1.5 150.0 100.0

- 107 -

Annex 17

COLOMBIA

WATER SUPPLY AND S3W3RG SECTOR PJECT

Allocation of Loan Proceeds

The proposed disbursement categories, the allocation of Loan funds andthe disbursement percentages are as followss

Amount ofLoan Allocation Z Expenditures(Expressed in to be

Category Dollar Equivalent) financed

(1) Goods, civil works, 146,000,000 55 of tIe amounts disbursedservices and training under by the Borrower under Parti-Component A of the Project cipating Loans

(2) Goods, consultants' services 1,000,000 50?and training under ComponentB of the Project

(3) Goods, consultants' services 1,500,000 100oand training under ComponentC of the Project

(4) Goods, civil works, con- 1,500,000 100?sultants' services andtraining under Component Dof the Project

TOTAL150,000,000

- 108 -

Annex 18Page 1 of 2

COLOtBIA

WATER SUPPLY AND SEWERAGE SECTOR PROJECT

Selected Documents and Data Available in Prolect File

1. Evaluacion de la Ejecuci6n Presupuestal 1987 y Presupuesto1988-1992, Banco Central Hipotecario, no date.

2. Ejecui6n Presupuestal 1987, Fondo Financiero de Desarrollo Urbano,Banco Central Hipotecario, January 1988.

3. Proyecciones 1988-1992, Fondo Financiero de Desarrollo Urbano,Banco Central Hipotecario, March 1988.

4. Presupuesto 1988, Banco Central Hipotecario, no date.

5. Resoluci6n Numero 53 de 1987, Junta Monetaria de la Repuiblica deColombia, September 25, 1987.

6. Aspectos Financieros del Programa de Acueducto y SaneamientoAmbiental, Fernandc:!, Motta y Asociados, Bogoti, September 1987.

7. Informes de Auditoria del BCH/FFDU para Aiios 1987 y 1986, ArthurAnderson y Cia., Colombia, May 22, 1987.

8. Orden de Gerencia No. 98, Reorganizaci6n de la Subgerencia deDesarrollo Regional y Urbano, Banco Central Hipotecario, September15, 1987.

9. Estatutos del Centro Nacional de Agual (CENAGUAS) and Acta deConstituci6n de CENAGUA, June 19, 1987.

10. Decree 77 of January 15, 1987 and Decree 1723 of September 4,1987.

11. Draft Agreement Republic of Colombia-BCH Regarding the ProposedBank Loan, April 19, 1988.

12. Decree 394 of February 26, 1987, Establecimiento de una EstructuraNacional de Tarifas para los servicios de Acueducto yAlcantarillado, Departamento Nacional de Planeacion.

13. Estado Actual del Sistema de INSFOPAL, Informe No. 1, NationalPlanning Department, no date.

14. Anilisis Institucional de la Estructura del Sector de Agua Potabley Saneamiento de Colombia, National Planning Department, December1984.

- 1W9 -

15. Transforencias do los Derechos Socialos y Reostructuraci6n de laDeuda de Largo Plaso de las Empressa del Sistema INSFOPAL,Documento 2336-UINF, National Planning Department, July 29, 1987.

16. Resoluciones y Decrotoc Relacionados con *I Servicio do Acueductoy Alcantarillado, Junta Nacional do Tarifas, National PlanningDepartment, no date.

17. Progrem, de Ajusto Soctorial Sector do Agua Potable y SaneamientoAmbiontal, Documonto 2282-UINF, National Planning Department,October 27, 1986.

18. Ley 12 de 1986: Nuevos Recursos par& los Municipios, DocumontoDNP, UDRU, DEU, National Planning Department, February 4, 1986.

19. Plan Financiero del Proyeeto de Ajuste del Sector Agua Potable ySaneamiento Bisico (PAS) y Garantia do la Naci6n para Respaldarlas Operaciones de Cridito Externo con la Banc& Multilateral,Document 2363, National Planning Department, April 12, 1988.

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