63791 Bringing Water to Where It is Needed Most INNOVATIVE PRIVATE SECTOR PARTICIPATION IN WATER & SANITATION In partnership with Australia, Austria, Brazil, Canada, France, Ireland, Italy, Japan, Kuwait, the Netherlands, Norway, Spain, Sweden, Switzerland, the United Kingdom, the United States, the Public-Private Infrastructure Advisory Facility, the Global Partnership on Output-Based Aid, the Private Infrastructure Development Group, the African Development Bank, the Asian Development Bank, the Brazilian Development Bank, the Caribbean Development Bank, the Central American Bank for Economic Integration, the European Investment Bank, the European Bank for Reconstruction and Development, the Inter-American Development Bank, the Infrastructure Consortium for Africa, and the Islamic Development Bank. Disclaimer SmartLessons is a World Bank Group program which enables development practitioners to share lessons learned in development operations. The findings, interpretations, and conclusions expressed in these papers are those of the authors and do not necessarily reflect the views of IFC or its partner organizations, the Executive Directors of the World Bank or the governments they represent. IFC does not assume any responsibility for the completeness or accuracy of the information contained in this document. This publication is printed using Ecoprint Versa 100 and New Leaf Reincarnation matte papers, and Ecoprint inks and process. Printing 2500 copies saved: 8389 pounds of virgin wood, 3633 pounds of greenhouse gases, 1315 pounds of solid waste, 12336 gallons of liquid waste, 10 pounds of harmful chemicals, 4 cubic yard of landfill space, and 1888 kWh of electricity. International Finance Corporation Copyright © 2011 - All rights reserved Foreword Harnessing water for people to use is one of the world’s greatest development challenges. Whether the water provides clean, sustainable energy, or delivers something safe to drink to a village for the first time, water plays a critical role in people’s lives. Both IFC Advisory Services in Public-Private Partnerships and the Water and Sanitation Program are committed to bringing the finance, skills, and expertise of the private sector to help address the water challenge. Difficult problems need varied and pioneering solutions. In this Smart Lessons brochure we share an innovative and diverse range of initiatives from across the World Bank Group. The variety of lessons and experiences in this publication is inspiring, ranging from the Water Footprints Network that supports businesses improving their water use efficiency to the innovative financing mechanisms enabling the expansion of rural water access in Kenya. We are particularly pleased to see sanitation featuring prominently in the publication. The Millennium Development Goal target for sanitation is probably the toughest to achieve, and we need to deploy the skills and expertise of the private sector if the 2.6 billion people currently without access to sanitation are to be reached. We have the greatest impact when we work in partnership. This publication not only presents partnerships between the public and private sectors, but also represents the growing depth of the partnership between our two organizations. We hope you will find these lessons an interesting and thought-provoking contribution to the debate on water and sanitation. Laurence Carter, Director Jae So, Manager IFC Advisory Services in Water and Sanitation Program Public-Private Partnerships SMARTLESSONS Table of Contents Using Market Finance to Extend Water Supply Services in Peri-Urban and Rural Kenya - Rajesh Advani ...................................................................................................2 Thinking Outside the Pipeline: Venturing into Distributed Off-Grid Water Markets - Vikram Kumar, Will Davies .....................................................................................8 Improving Rural Water Service in Rwanda Christophe Prevost, Bruno Mwanafunzi, Nitin Jain .................................................................14 Before Investors Can Wet Their Feet: The Complex Preparation for Greenfield Hydropower Public-Private Partnership Transactions - Nicola Saporiti .................................. 20 Promoting Sanitation Markets at the Bottom of the Pyramid in Peru: A Win-Win-Win for Government, the Private Sector, and Communities Malva Rosa Baskovich .......................................................................................................... 26 Taking a Stake in Emerging-Markets Water Companies Patrick Mullen, David Tinel, Alice Laidlaw, Muguel Toledo, Francesca McCann ....................... 32 Private Operators and Rural Water Supplies: Can It Work? Elizabeth Kleemeier .............................................................................................................. 36 First-Ever Successful Public-Private Partnership in Egypt! New Cairo Wastewater Treatment Plant - Muneer Ferozie, Aurélien Boyer, Malak Draz ............................ 42 Helping Small Water Utilities Become Bankable Leila Elvas ........................................................................................................................... 48 Redesigning a Program from the Ground Up Frances Gadzekpo ................................................................................................................. 54 Dealing with Informality in Water Supply Services in Indonesia Deviariandy Setiawan .......................................................................................................... 60 Water Footprint: A Tool for Unleashing Corporate Water Stewardship Sabrina Birner, Remke van Zadelhoff, Bastiaan Mohrmann .................................................... 66 SMARTLESSONS Using Market Finance to Extend Water Supply Services in Peri-Urban and Rural Kenya Given the immense pressure on government and donor resources to achieve the Millennium Development Goals, access to finance for infrastructure investment is critical. This SmartLesson explains how donor funds are used to leverage domestic market finance and equity for investment in small piped water infrastructure in the peri-urban and rural areas of Kenya. It also illustrates how leveraging donor funds not only increases the volume of investments financed but also improves the sustainability of these investments by linking debt service to system functionality. BACKGROUND water projects (CWPs) was initiated in the Athi Water Services Board service area of central Kenya in 2006. In Kenya, community-based organizations (CBOs) are important providers of water supply services in Under this program, CBOs can borrow up to 80 peri-urban and rural areas that are not served by percent of the cost of infrastructure rehabilitation publicly owned utilities. CBOs operate some 1,200 and development from K-Rep Bank, a Kenyan small piped water systems throughout the country, commercial bank specializing in microfinance serving 3.7 million people. However, much of the lending. The remaining 20 percent of the project cost infrastructure in these facilities is rundown as a result is financed by equity from the CBOs. The typical value of years of underinvestment in maintenance. Leaking of investments ranges from $75,000 to $170,000. distribution and storage infrastructure and inadequate On completion of project implementation, up to 40 water sources are common problems with these systems. percent of the total project cost is paid to the CBO But the demand for rehabilitation and expansion is as a subsidy. The subsidy is provided by the Global significant, especially considering that the price of Partnership on Output-Based Aid, and the Water alternative sources of water supplied by vendors is and Sanitation Program-Africa (WSP-Af ) provides much higher than that sold through piped systems. advisory services and supervises the program. The subsidy is paid against predetermined output targets Access to finance for infrastructure investment in set at the time of taking the loan. These targets are community-run piped water systems remains a measured as follows: considerable constraint, because government and donor resources are mostly channeled into public t Coverage: Increase in the number of active water utilities and areas inhabited predominantly by the very connections served by the project poor. To address the demand for infrastructure finance, an innovative program that blends commercial debt t Revenue: Increase in average monthly revenue with subsidies to finance investments in community realized by the project 2 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Small community-based water providers in Kenya can access the finance they need to improve water systems and connect poor households to piped water supply through K-Rep Bank. To cover the lender’s exposure during project to the water services provider, giving it a monopoly implementation, K-Rep Bank purchased a partial over the supply of water within its area of operation. credit guarantee from the United States Agency for The SPA defines the operational and performance International Development’s Development Credit characteristics between the two parties and is subject Authority, payable if the subsidy is not awarded to the to regulatory oversight. borrower. If projects do not achieve the entire output target, the subsidy is paid against the percentage to Since the program’s inception in 2007, K-Rep Bank which output targets are met. The creditworthiness has lent $1 million to 12 CBOs, 9 of which have of the CBOs applying for loans is assessed according completed implementation of their projects and have to K-Rep’s internal risk criteria. To borrow, a CBO received subsidies. The investments financed include must be formally registered as a cooperative or society water resource development and augmentation, and must secure the legal right to sell water within water treatment, distribution, and meters. These its demarcated area of operation, which is essential investments are expected to increase the number of for giving the lender the necessary comfort to lend to connections in the projects financed from 5,300 to the CBO. 9,900 and target about 67,000 beneficiaries. The program is now being scaled up to target 50 projects In Kenya, the right to supply water is granted by countrywide, targeting 165,000 beneficiaries; the one of the eight regional Water Services Boards disbursement rate is expected to increase significantly, (WSBs) that provide a CBO with a service provision because the implementing agency has come some way agreement (SPA). The SPA is a management contract down the project management learning curve. that assigns the water services operating mandate SMARTLESSONS 3 LESSONS LEARNED Lesson 1: The lender should have in-house credit appraisal skills typically used in project finance and should be prepared to lend to projects without tangible collateral, because borrowers generally do not have a financial track record or assets that support balance sheet lending. The lender needs to blend the capacity to work with community groups with the sophisticated credit analysis and monitoring skills used in project finance. Adequate Investing in community water projects can be viable capacity is required to appraise a CWP’s ability to for commercial banks. Following a successful pilot, meet its operating and finance costs from future water the program in Kenya is being expanded to target sales. This requires an understanding of water utility 165,000 beneficiaries. operations, cost and tariff structures, water supply capacity and constraints, and the nature of demand for paid water. Because the principal collateral that a Lesson 2: It must be evident that the borrower can offer is its cash flow from water sales that consumers served by the CBO are able will be generated from the investments financed by and willing to pay for water, because their the lender, the credit analysis must establish financial payment drives the cash flows needed to viability from this perspective. The borrower’s exclusive repay the loan. right to supply water to customers within the project Although the program targets communities that are area provides collateral by way of the lender’s being relatively poor, consumers in projects borrowing under able to require a change in management to secure debt the program pay an average monthly water bill of service payments in the event of default. $10 to $25, depending on system operating and debt In this program, the lender built its in-house credit service costs. A CWP must also have sufficient scale appraisal capacity by putting together a project to generate the necessary revenue to meet costs. A appraisal team led by an experienced water engineer typical project financed under the program has 350–600 who works closely with the specialized project individual connections, and tariffs vary from $0.50 to development and implementation consultants $1.00 per cubic meter. Poorer residents who cannot employed under the program. These activities are afford individual connections benefit by being able to aimed at obtaining project-specific technical and purchase water—from point water sources installed financial data to inform the lending decision. Training by these projects—at lower rates than those prevailing and support in developing project appraisal tools and in the area prior to the project. in marketing the loan product have been provided by For example, Kiamumbi Water Project, a typical WSP-Af, which initially identified K-Rep Bank as an project financed under the program, draws water implementing partner that was eager to support this from a dam built by a farmers’ cooperative society in innovative financing concept. A key factor in K-Rep’s the 1970s for irrigation. As farmers switched to more decision to implement the program is that CBOs are intensive dairy farming and subdivided the land for an important part of the bank’s customer base. residential use, there was less demand for irrigation 4 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS water. On the other hand, growing population subsidy of $80,000 that went toward reducing its pressure increased the demand for water for domestic outstanding debt at the end of the construction phase. consumption and introduced the idea of using the dam to supply households with water. At the time, In appraising the financial viability of a project, the residents obtained water for domestic and livestock lender must be able to establish that consumers in the use from vendors and shallow wells. The community project area can afford to pay monthly water bills and borrowed $135,000 from K-Rep Bank to finance that demand for water from the project area is not a system that would supply potable water to 750 eroded by competing sources of water supply. CWPs households. The project was completed in August financed under the program must be able to generate 2009, and the community contracted with a private enough cash from water sales to cover operating costs operator to run its system on a five-year management and complete their debt service payments within the contract. The project generates monthly revenues of maximum loan repayment period of five years. $7,500 from the sale of 9,000 cubic meters of water to 450 individual connections and a water kiosk, at Lesson 3: It is critical to have a pool of capable an average tariff of $0.81 per cubic meter. The CBO companies providing business development makes timely debt service payments of $1,750 to services to support CBOs financed under K-Rep Bank every month, after having received a the program. Projects should be pooled to enhance their attractiveness to a specialized The community-based water service providers develop, own, and manage the water assets. SMARTLESSONS 5 operator, and qualified operators should period. To bring economies of scale and scope to be encouraged to undertake design-build- individual CWPs, each operator needs to manage operate contracts. a number of projects in geographical proximity, while ensuring that there are enough operators in Experience from the pilot project suggests that the program to promote competition. This also communities lack the skills and experience needed provides the necessary motivation for an operator to to implement and manage water projects efficiently. To invest resources into making the construction and build a pipeline of viable projects that could be financed management of small piped water systems a viable by K-Rep, IFC Advisory Services in Public-Private business. A design-build-operate contract inherently Partnerships provided a grant to fund the development contains an incentive for an operator to ensure that of bankable loan applications to be appraised by the the systems built are functional for the term of the lender, while WSP-Af provided technical assistance five-year loan, thereby improving their sustainability. to improve the quality of loan applications. The loan Given that transferring risk from the CBO to the applications are developed by consultants that implement specialized operator will reduce risk to the lender, and manage the projects for the term of the loan to the program may also want to consider financing the pass the risk from the communities to private sector operator rather than the CBO. companies that specialize in the development and management of water supply systems. These companies can provide much-needed expertise during a period Lesson 4: Disbursing subsidy funds on a pari when most projects will experience significant cash passu basis with commercial debt results in significant cost savings; paying the subsidy on stress on account of debt service payments. The program project completion increases overall project has short-listed three companies to provide support costs significantly. to CWPs under the program, and has undertaken various training activities to build the capacity of these Under the current program structure, disbursing subsidy firms. The lender oversees procurement of consulting funds at the end of the construction phase increases and management services and is a counterparty to the total project cost by 12–18 percent because of the contracts signed between companies providing interest costs, and it increases the risk of default if support and the CBOs, because the communities construction cannot be completed within one year. require support in contract management. Although the objective of the output-based subsidy is to ensure that specific project objectives are met before After paying for direct operating expenses and debt subsidies are paid, the lender’s rigorous disbursement service, individual CWPs financed under the pilot do processes bring a level of oversight not typically found not appear to generate sufficient free cash to be able to in government- or donor-funded projects. This oversight contract with a private operator to manage their systems ensures that loan disbursements are directly linked during the loan repayment phase. Under existing to achieving project objectives and could therefore operator contracts, there have also been problems with act as output targets under the output-based subsidy meeting the operator fee, because control of the cash approach to reduce project costs and the risk of default. from water sales rests with the CBO. This would provide additional comfort to the lender To improve the financial viability of CWPs, the and remove the need for the lender to have a credit projects should be clustered, and specialized operators guarantee to cover construction risk, thereby further should be assigned to design, build, and then operate reducing finance costs. Programs considering a similar the systems on concession-type contracts for the approach should therefore consider structuring outputs duration of the construction and loan repayment to mitigate risk to the lender and reduce project costs. 6 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS CONCLUSION The program has shown that subsidies can be leveraged ABOUT THE AUTHOR by two-and-one-half times to secure cofinancing from Rajesh Advani is a Finance Specialist with the Water the private microfinance sector as a way to expand and Sanitation Program. Rajesh is based in Nairobi, water supply infrastructure in peri-urban and rural Kenya, where he manages the program and works areas. The operational life of systems financed under on other projects to improve utility access to market finance in Africa. this approach is likely to be significantly greater than that of systems financed with government or donor Approved by Wambui Gichuri, Regional Team Leader, grants, because in securing its interest the commercial Water and Sanitation Program, Africa. bank provides a level of oversight to management that is not typically found in projects financed with grants and soft loans. Programs targeting similar approaches should scope the market to ensure that there is a sufficient pipeline of financially viable and technically feasible projects to warrant the establishment of a leveraging mechanism, and that the legal framework offers the necessary protection to secure the interest of commercial lenders. Further consideration needs to be given to institutionalizing the support mechanisms needed to develop the project pipeline, especially if the program is to achieve sufficient scale. Critically, funds for advisory assistance, grants, and infrastructure subsidies under this program have been provided by World Bank Group organizations. If government grants are to be leveraged in a similar fashion, it is crucial that an institutional framework that supports the development of a pipeline of financially viable projects be established to facilitate private sector bank lending to water projects. Any such framework must recognize the fact that a commercial bank will conduct an internal credit risk assessment of every project it intends to finance. SMARTLESSONS 7 Thinking Outside the Pipeline: Venturing into Distributed Off-Grid Water Markets Traditionally, IFC’s engagement in the water sector has focused on large municipal infrastructure projects, where individual transactions are of sufficient scale to attract commercial project finance. Such projects, involving capital-intensive network infrastructure, can often be commercially attractive but have generally failed to provide access to poorer consumers living outside of formal urban centers. So what about the “base of the pyramid” populations that those large utility systems fail to reach—rural communities, and sometimes poorer urban customers living within informal settlements and rapidly growing peri-urban areas? New business models are needed, adapted to the reality of water-supply necessities in the developing world, but with the economies of scale required to achieve financial sustainability. This SmartLesson describes some early ventures by IFC to invest in and develop market opportunities in the challenging but potentially far-reaching area of distributed off-grid water supplies. BACKGROUND IFC has been seeking new ways to harness the innovation, technical skills, and financing of the How do you increase access to water for the hundreds private sector to provide affordable and sustainable of millions of consumers living outside of large water supply services to the “bottom billion” at the formal urban centers? This question has long been base of the pyramid who currently lack access to considered a concern of the public sector, to be dealt clean drinking water.2 One such opportunity is in with by governments and subsidized by donor and the area of off-grid, distributed services (or “micro- nongovernmental organization (NGO) programs. utilities”), an approach to delivery of basic services, However, despite huge investment and effort—registered such as power and water, to rural communities aid to Sub-Saharan Africa alone for water and sanitation across the developing world through small-scale, is close to $3 billion per year1—sustaining increased decentralized facilities. The economic driver behind access to clean water remains a challenge. And even this approach is the lowering of capital costs as a result where public investments have succeeded in putting of reduced grid-connection infrastructure (pipes and in place the necessary infrastructure, the technical transmission cables), thus increasing the potential for capacity and cost-recovery mechanisms required financial sustainability, even for utilities serving small for long-term sustainability of operations are often lacking. The prospect of greater water scarcity, due to populations. IFC estimated the size of the global population growth and climate pressures, compounds distributed water market to be about $114 billion as this challenge. of 2005 (including packaged water and purification equipment and related services). 2 According to the WHO/UNICEF Joint Monitoring Program 1 African Ministers’ Council on Water (AMCOW), September for Water Supply and Sanitation (2010), about 900 million peo- 2010, Country Status Overview on Water and Sanitation. ple lack access to any improved source of drinking water. 8 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS This concept of distributed services is not new; Box 1: The WaterHealth International Model throughout the world, water has long been supplied via decentralized systems, from the level of basic village WHI is a private company that installs, operates, and wells upward. What is new is the recent emergence maintains WaterHealth Centres (WHCs) in villages and growth of such models in market-based form. and peri-urban areas in India and Ghana. WHCs In 2004, a shining example of such innovation came have the capacity to purify large volumes of water, in the shape of WaterHealth International (WHI) in sourced locally, to provide safe water to communities India. (See Box 1.) of several thousand residents. The local community is responsible for providing land, access to a perennial The demonstration effect provided by the investment water source, and in some cases a percentage of the in WHI has provided a further impetus for IFC down payment for the installation cost (which is to think more systematically about the range of generally in turn sourced through donor support). potential market opportunities in the water-supply sector. (See Box 2.) In 2009, the Sustainable Business Under this model, WHI can provide reliable access Advisory business line published a report, Safe Water to treated drinking water at prices as low as $0.20 for All: Harnessing the Private Sector to Reach the for 20 liters. The faith shown by IFC in the company Underserved, which provided an in-depth look at through an early-stage equity investment of $1.2 the barriers to greater private sector delivery of water million in 2004 has paid off, catalyzing over $29 and sanitation products and services to consumers million in external equity financing, a $15 million at the base of the pyramid. This study, in turn, has loan investment in 2009, and a follow-on $5 million triggered the development of a Sanitation and Safe equity investment in 2010 from IFC’s Infrastructure Water for All (SSAWA) program to support market- Department. A water dispensing station in Nagaram, Andhra Pradesh, India. WaterHealth International, an Acumen Fund investee, worked with Naandi Foundation to set up water purification plants in villages across Andhra Pradesh. Branded as Dr. Water, the plants provide rural access to clean, safe, and affordable water in a financially sustainable manner. SMARTLESSONS 9 based approaches with the potential to expand Box 2: The Operational Value of Private Sector access to water and sanitation services for lower- Management in Water income consumers. The program, developed under Sustainable Business Advisory, Africa, began in Doing business in water supply is not easy. Returns Kenya in October 2010. It is exploring the potential in regulated markets—in which most utilities of a range of market-based approaches, including in operate—are low, and in the water sector they can distributed off-grid markets such as vended-water be restrictively low, especially in developing countries, kiosks, private operation of micro-piped community where customers face financial constraints. In such systems, and private provision of sanitation services.3 an environment, efficiency is critical, and success The program supports the development of scalable depends on economies of scale, both in volume business models in these markets with the potential and in operations. to achieve significant scale. It is therefore not surprising that a major constraint facing small-scale water-supply systems in the LESSONS LEARNED developing world is the capacity of the operators to sustain service quality. In Kenya, for example, The lessons below are based on experience gained an estimated 40 percent of rural water systems are from the WHI investment and on the early knowledge nonfunctional, consistent with figures elsewhere generated from the establishment of the SSAWA in Africa. Such systems can fail for financial or program in Kenya. technical reasons, the latter often due to a shortage Lesson 1: Some form of aggregation is key to of technical skills or simply a lack of spare parts commercial viability and scalability. needed to sustain operations. The World Bank estimates lost investment due to nonfunctional In the case of large municipal water-delivery networks, systems in Sub-Saharan Africa at about $1.25 high fixed costs mean that profit margins are closely tied to billion over the past 20 years. volumes of water billed. For small, decentralized systems, opportunities for increasing volumes are limited, while Private sector participation has proved to be one fixed operating costs (primarily labor) will be high. So potential means to overcome such constraints. the challenge is that individual operating or management For example, in the case of WHI, supply chain contracts are often too small to attract private interest. management and technical skills are “internalized” Only via some form of aggregation can the model be within the company, providing built-in operational financially sustainable, and therefore scalable. capacity for any WHC for the length of the contract period (usually at least 10 years). Quality assurance is Aggregation can be achieved in different ways. WHI, also motivated by the need to maintain brand quality for instance, aggregates operating costs across systems, and avoid reputational risks, while the profit incentive thereby reducing marginal costs of new installations. drives an emphasis on “counting the pennies” by Technicians, for example, will be much more cost- pushing volumes and reducing costs at the same time. effective servicing several locations rather than one. “Scaling across” provides the economies of scale and In Kenya, the SSAWA project is designed to support volume needed to make the business model work. businesses looking to develop similar scalable models 3 Experiences from Kenya described here are primarily based with the potential to reach base-of-the-pyramid on market research conducted in the process of designing the consumers. One approach being explored in the vended- SSAWA program. water market is the franchising of purified-water kiosks 10 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Children with Dr. Water cans in Nagaram, Andhra Pradesh, India. WaterHealth International, an Acumen Fund investee, worked with Naandi Foundation to set up water purification plants in villages across Andhra Pradesh. Branded as Dr. Water, the plants provide rural access to clean, safe, and affordable water in a financially sustainable manner. to individual entrepreneurs, managed by a centralized for livestock can make the economics of decentralized operating business with existing expertise in water water systems viable in some locations where demand purification systems. Such approaches have achieved for drinking water alone is insufficient. In these cases, scale in Southeast Asian markets, and early research the viability of the business model will depend on suggests that a similar opportunity may exist in Kenya. whether the additional volumes offset the cost of the micro-piped systems needed to distribute supply. Aggregation does not necessarily entail standardization, and the interests of the private sector are well suited Lesson 2: Commercial finance can increase to adapting business models to local demands. For the reach of scarce public funds, while public example, in Kenya, as in many water-scarce countries, funds can be a catalyst to scale up commercial water for drinking is often just one of many sources of approaches. demand that can be tapped to reach the volumes needed Investments in the water-supply sector often need a to recover costs. Companies testing the market have certain level of capital subsidy built into the funding found that demand for water for micro-irrigation and structure. This frequently translates into overdependence SMARTLESSONS 11 on subsidies, which undermines the potential scalability Lesson 3: Maintaining focus on comparative of a business model and restricts a key benefit of private advantage and building strategic partnerships sector participation: the ability to raise commercial can be the difference between success and finance and equity. failure. Private sector participation in distributed services can Where subsidies are necessary, the difference between offer flexibility in the blending of public and market success and failure frequently rests on the ability to finance, thereby maximizing the reach of scarce be creative in developing partnerships. WHI achieved public resources. Different mechanisms are available its current scale, for instance, in large part due to an to achieve this. For example, WHI is exploring an extensive range of partnerships with development approach whereby the subsidy is tiered according agencies, foundations, NGOs, and wealthy to village size, with larger villages requiring lower philanthropists. The key is to identify and leverage the subsidy levels than small ones. In another approach, added value of each partner—and potential win-wins the government uses a competitive bidding process that often go beyond financial support. For example, to determine levels of subsidy needed for a cluster of in partnerships with health-promotion NGOs, WHI water-supply systems. Conversely, if an installation in a benefits from increased demand generated by the particular higher-income or densely populated area can NGO’s safe-water education campaigns, and the be fully commercially financed, then the private sector NGO benefits from linking its education work to can proceed on a purely market-financed basis, allowing new and reliable clean-water supplies. public funds to go where they are needed most. While developing partnerships, the importance of Take for example one promising market opportunity specialization cannot be overstated. Under the WHI identified in the sanitation sector in Kenya. A local model, donors provide invaluable financial support, company, Ecotact, has pioneered a distributed service visibility, and oversight; NGOs provide crucial model for pay-per-use urban sanitation facilities education and awareness raising (a critical ingredient marketed under the IkoToilet brand. Ecotact started for early adoption of services such as safe water); out in selected high-traffic parts of Nairobi, where and the private company sets up and operates the individual facilities were profitable—thanks to high system. Moving activities and responsibilities from customer volumes and innovative revenue streams one partner to another can arguably compromise the such as external advertising and cross-sales of other health of the overall operation. For example, an NGO products. With the visibility of the brand built that is effective at raising donor funding may be and economies of scale established, the company is tempted to set up and operate water supply systems becoming creative in developing partnerships with within the communities it interacts with. It may be the government and donors to expand facilities into able to do so at competitive costs initially, but it is less schools and urban slums through blended public- likely than a private operator to have the incentives private funding, thereby growing the business and in place to sustainably run such operations for long increasing access to much-needed services. periods. In contrast, a private organization will build operation and maintenance costs into the price of the service. And any impact on up-front costs is likely to be offset by the benefits of sustainable long-term, high-quality services. Other examples point to the value of partnering with local financial intermediaries to achieve scale. In Kenya, 12 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS for instance, the World Bank Water and Sanitation Program has helped establish a partnership between the ABOUT THE AUTHORS local K-Rep Bank, the Global Partnership on Output- Based Aid, and local communities, to blend 40 percent Vikram Kumar, part of the IFC Infrastructure Team in market financing into small piped-water systems. In Nairobi since February 2009, joined IFC in December such cases, the local bank has the potential to act as a 2006 as an Investment Officer based in New Delhi and covering India, Nepal, Bhutan, Sri Lanka, and the powerful “scale multiplier,” given its strong comparative Maldives. Prior to that, Vikram held positions as a advantages in identifying and appraising commercially corporate investment banker for ICICI Bank and YES viable business plans, and the incentives to reduce Bank in India, and credit officer with Bank of America in India and the United Kingdom. marginal costs by expanding project pipelines. Will Davies joined IFC in Nairobi in January 2010 to set up the SSAWA program. For four years prior to that, CONCLUSION he worked on the economics of water in East Africa, including as an economic advisor to the Ethiopia Scaling up off-grid, distributed water supply models Ministry of Water Resources and as a consultant for via market financing and private sector operation the Water and Sanitation Program of the World Bank. will not come easily. This high-volume, low-margin Approved by Usha Rao-Monari, Global Head, Water; business needs significant investment in operational Khetsiwe Dlamini, Business Line Leader, Africa infrastructure, plus management structures geared to Sustainable Business Advisory. meet the needs of rural retail environments. It is also a fragmented market, where the key to success lies in the ability to achieve scale through aggregation of some form. However, the prize is significant, because scalable distributed service models, operated and managed by the private sector, may ultimately prove to offer one of the most capital-efficient means for developing countries to accelerate increased access to safe water. Through investments in companies such as WHI and advisory services projects such as SSAWA, IFC is playing both a practical and a thought leadership role in the development of new market opportunities in the water and sanitation sector. Indeed, a key objective of the SSAWA program in Kenya will be to encourage market development in this space and to identify and support the demonstration of more WHI-like business models. It is hoped that this will bring together investment and advisory services in catalyzing market solutions to the challenge of providing access to water and sanitation services for consumers at the base of the pyramid. We hope this SmartLesson is just a first installment in IFC’s emerging ventures into distributed off-grid water markets. SMARTLESSONS 13 Improving Rural Water Service in Rwanda with Public-Private Partnerships In 2004, a field review commissioned by the World Bank found that half of the piped rural water supply systems in Rwanda were nonfunctional due to poor management and poor cost recovery. In response, the government shifted to a public-private partnership (PPP) management model. As of 2010, 235 rural water supply systems—28 percent of the 847 systems in the country—are managed under PPPs, serving 1 million people. This SmartLesson shares what the World Bank- administered Water and Sanitation Program (WSP) learned in support of Rwanda’s remarkable progress, including using best practices to make the case for reform; fostering ownership, simplicity, and flexibility of design; using peer-to-peer learning; and evaluating factors for success. BACKGROUND operation and maintenance costs of their facilities; 2) decentralizing planning and management of services In the 1990s, the rural water supply and sanitation at the district level; 3) supporting the private sector as (RWSS) sector in Rwanda faced many challenges the provider of all works, goods, and services; and 4) stemming from top-down programming of redeploying the public sector as facilitator, with the investments, high per capita investment costs for Ministry of Water providing assistance and support system construction, poor cost recovery, and low to the district authorities and water users associations. sustainability. Furthermore, the sector’s infrastructure suffered from considerable destruction during the The World Bank has supported the government of period of civil war and the 1994 genocide. Demands Rwanda’s rural water supply sector strategy through a of postwar reconstruction placed immediate combination of loans with a sector investment RWSS emergency relief ahead of longer-term sustainability project1 and a series of development policy lending considerations. operations with a poverty reduction support credit/ grant from 2004 onward, comprising specific policy In 1998, the government of Rwanda embarked on a measures to support rural water and sanitation sector decentralized, participatory approach to development reforms. (See the box.) The WSP has provided technical to ensure participation of the local population in the assistance to support donor coordination and capacity decision-making process to foster reconstruction, building for private operators from 2006 onward. reconciliation, and community reintegration. At the same time, the rural water supply sector developed a new strategy based on four key elements: 1) formulating a demand-responsive approach through which communities could choose a preferred service level based on their willingness to pay, contribute to a portion of investment costs, and pay in full the 1 RWSS Project, $20 million (2001–2007). 14 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Fixing Targets Stimulated Actions and Results A series of poverty reduction strategy grants (PRSGs) supported the government of Rwanda’s PPP policy in the rural water sector, through policy dialogue and policy measures, including prior actions. The prior action of the second PRSG supported the Ministry of Water in developing guidelines to assist districts in contracting with private operators and to have at least one contract signed in each of the four pilot provinces by September 2005. The prior action of the third PRSG was to have 10 percent of rural water systems managed by local private operators by September 2006. The fourth PRSG included a target of 20 percent of rural water systems managed by local private operators by November 2007. All three policy measures were achieved. Since then, the rural water sector has made The introduction of PPPs to improve the operations outstanding progress and successfully scaled up of piped rural water supply systems has been an investment and reforms. Rwanda is on track to achieve unprecedented success. As of June 2010, 65 PPP the Millennium Development Goal of providing 85 contracts had been signed for 235 public systems percent of the population with access to potable water serving about 1 million people. The systems under and 66 percent with access to hygienic sanitation by PPP contract serve an average of 5,000 people, and 2015. It has increased access to potable water from 40 a few systems serve more than 100,000 people. The percent of the population in 2002 to 74 percent in network length varies from 6.5 kilometers to 491.0 2009. The number of functioning rural water supply kilometers. About 80 percent of these systems are systems has also increased from 50 percent in 2004 gravity-fed systems, and 20 percent are pumping to 85 percent in 2009. These results were achieved by systems. Ninety-five percent of the people are served effectively moving the sector from a projects approach by public stand posts, and 5 percent have a household to a sectorwide approach, led by the government, connection. Moreover, 64 systems are owned and with the elaboration of a medium-term expenditure managed by private institutions, including parishes, framework,2 enhanced donor coordination, sector monasteries, hospitals, and factories, which serve expenditure reviews, and an annual sector review about 100,000 people. with the participation of all stakeholders. Rwanda also implemented a successful decentralized approach LESSONS LEARNED to service delivery, with the districts fully in charge. Sector service delivery capacity has improved, with Lesson 1: Use best practices and analytical an additional 600,000 people getting improved work to make the case. water service each year since 2005, against fewer than 60,000 in 2002. Sector expenditures have increased Tailoring the PPP approach to rural water supply tenfold to $32 million from 2006 onward, with a systems was not initially part of the government’s continual increase in both domestic funding and or the World Bank’s strategy. The initial approach fiscal transfer to the districts. was clearly to have community-based organizations manage their systems. The idea grew from a field visit in 2003, when the project team had the opportunity 2 A medium-term expenditure framework is annual, rolling three to visit three districts3 in the province of Byumba year-expenditure planning, which sets out the medium-term ex- (now part of the North Province). The districts in penditure priorities and hard budget constraints against which sector plans can be developed and refined. It also contains outputs and outcome criteria for the purpose of performance monitoring. 3 The districts of Rebero, Mulindi, and Bungwe. SMARTLESSONS 15 Byumba had decided to tap into the financial and Lesson 2: Promote ownership, simplicity, and technical capacity of the private sector by contracting flexibility in the design. out the operation and maintenance of their water Despite recognizing some weaknesses and risks in supply schemes to local private operators. The field the approaches developed by the three districts of visit marked a turning point in the way piped water Byumba Province, the Ministry of Water decided supply systems would be managed in Rwanda. Private to use them as the basic model. These privately run sector participation seemed a remote possibility, but systems were better managed than the community-based these districts had already done it. systems. People now had access to reliable services 4 In 2004, the World Bank RWSS project conducted at an affordable price,5 and districts were receiving field reviews of community management in the country a substantial fee from the operators to add to their and of the experience with private operators in the budget. The decision to use the experience of these three districts of Byumba Province. The findings were districts to move to scale was critical in the development discussed at the medium-term review of the World of PPPs in supplying rural water in Rwanda, because Bank project in May 2004. The review found that, for people accepted it as a locally developed approach the community-managed systems, about 50 percent that could be implemented locally. of the piped systems were nonfunctional due to the Each district developed contracts with very simple absence of performance incentives (volunteer status), terms for potential operators, with a minimum set of the users’ unwillingness to pay, mismanagement of qualifications based on the contracts used by Byumba funds, and technical weaknesses. Conversely, local Province. Given the limited experience of operators private operators, which were placed in challenging and the districts, the contracts were a cross between situations (some of them were managing costly management contracts, where the operators are pumping systems) had overcome these issues and responsible only for the water supply operation, and were even able to self-finance system rehabilitation. lease contracts, where the operators have to assume The World Bank agreed on an action plan aimed at some investment and commercial risks for the systems testing and supporting a wider PPP approach for the they manage. The length of contracts was quite operation of water facilities. short in comparison to conventional international A few weeks later, Minister of Water Munyanganizi standards, but this was a necessary compromise, given Bikoro visited the three districts of Byumba to learn the lack of data and the uncertainty of demand and about the private sector approach and to determine willingness to pay in the market. whether to make this a national program. At that The selection criteria for the operator generally took time, about 50 percent of the sector investment into account the price of water, the fee paid by the budget was dedicated to rehabilitation works. The operator to the district, and the quality and reliability systems in Byumba highlighted the potential of using private sector participation to help make 4 The impact study and the operators’ reports showed that water public expenditures more efficient (by reducing the users are consuming 8.5 liters per capita per day at the spring catch- burden of maintenance and rehabilitation costs) and ments and 13.0 at the stand posts of the gravity-fed piped systems. to expand services to more people. As is typical in Users with private connections consume 20 liters per capita per day. Rwanda, once a decision was made, implementation 5 The water rates range from FRW 2.5 (gravity-fed systems) to FRW 15 (pumping systems) per container of 20 liters (equivalent followed. to $0.25 to $1.40 per cubic meter). Users with private connec- tions pay FRW 185 to FRW 600 per cubic meter. The districts keep a list of vulnerable households (widows, poor single-parent households), who get free access to water points. 16 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS service providers. The project helped bridge these gaps by adopting a peer-to-peer learning approach to disseminate the concept of PPPs. We also took a learning-by-doing approach to improving contracting process and management practices. The project made possible 10 exposure visits to Byumba for about 75 district representatives during 2004 and 2005. It also organized one national workshop in 2004 and several regional training workshops in 2005 and 2006 to exchange early PPP experiences. Participants included districts, private operators, nongovernmental organizations, and regulatory agency and donor representatives. The Woman fetching potable water at a stand post. rule was that only people who had been active in implementing the PPPs in Rwanda would become the of the technical proposal. The Rwanda Utilities trainers. No external consultants have been involved. Regulatory Agency endorsed this approach because This approach helped the government gain buy-in of the diverse local contexts and the uncertainty of from all the sector stakeholders. demand for services. Lesson 4: An enabling environment Although most of the operators did not have specific determines the feasibility and likelihood of experience in managing water supply services, success for PPPs. they all had an entrepreneurial spirit supported by basic business acumen. Their diverse backgrounds In Rwanda, the enabling environment was definitely included former civil servants, local businessmen, favorable for improving rural water operations. The small cooperatives, and informal associations of local government was committed to reform and willing to residents. One-third of the operators were women. lead the processes of change. The legal environment was favorable toward private sector participation in The selection criteria had to be flexible in such a the delivery of water services; the Water Law allowed nascent market, and it was not a process that could various options for managing a rural water supply service, occur overnight. As the PPPs have gained momentum either through municipal management or delegation in Rwanda and more market information has become to a water users association or a private operator. The available, more robust private operators have entered rural residents were already accustomed to paying for the business, and the contracting and oversight operation and maintenance costs for improved water processes have evolved and are more sophisticated. sources. The decentralization policy, which allocated full responsibility in infrastructure planning and Lesson 3: Use peer-to-peer learning to service delivery and financial and human resources 6 disseminate knowledge and lessons. to the district, established an adequate framework Although decentralization brought new opportunities, 6 Thirty percent of budget expenditures are decentralized from it also came with significant challenges due to lack national level to district level, and the civil service reform allowed of technical capacity of local governments and local redeployment of central-government staff to the districts. SMARTLESSONS 17 Water treatement plant. 18 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS and the legitimacy of the district authorities to shift but of how the service and the assets are managed the management of water facilities to PPPs. and how long the service provider is technically and financially supported. CONCLUSION Although the operational record of the PPPs is relatively short, because most of the contracts were signed in ABOUT THE AUTHORS 2006–2007, the experience of the first contracts has Christophe Prevost is a Senior Water and Sanitation been positive. Operators and the districts have been Specialist with the Water and Sanitation Program able to overcome unforeseen problems and to adjust the and is based in Delhi. Christophe has managed rural contract terms as needed, with some external support. water supply projects in Rwanda and Madagascar and has participated in 15 development policy Recent assessment of the rural water PPPs7 that have lending operations to lead the policy dialogue on been implemented revealed that the majority of the rural water supply and sanitation reforms. customers interviewed said they were satisfied with the Bruno Mwanafunzi is the Water and Sanitation service provided and the quality of water distributed. Program Country Coordinator for Rwanda. Prior to However, a number of issues still need to be addressed, working at the Bank, Bruno was the director of the such as the regulatory oversight of PPP arrangements, Directorate of Water and Sanitation in the Ministry including selection criteria, contract management, of Land, Environment, Forestry, Water, and Mines in Kigali, Rwanda. compliance monitoring, accounting practices, and tariffs. Nitin Jain joined the WSP’s Strategy and Operations A key issue for the success of the PPPs is to ensure team in Washington in 2007 and currently supports financial viability by setting appropriate tariffs and the monitoring component of WSP’s Domestic Private Sector Participation program in Rwanda. Prior to regulating the amount and usage of the fees collected working at the Bank, Nitin was a consultant with by the districts. Viable water tariffs in rural areas tend KPMG’s Energy and Utilities Advisory Services. to be relatively high, particularly in pumped systems, Approved by Jae So, Manager, Water and Sanitation which poses a challenge for rural households and Program. encourages the use of alternative, unsafe sources of water supply. Options to achieve cost recovery while keeping tariffs affordable include professionalizing service management, selecting appropriate technologies, grouping individual schemes, and targeting subsidies. Furthermore, the government needs to focus on ensuring the sustainability, reliability, and affordability of these services and on the wider issues of managing and protecting scarce water resources. Evidence from developed and developing countries shows that it is not so much a question of who manages the services, 7 “Rwanda-Analysis of the delegated management of rural water supply system.” 2009. Hydroconseil & GeoTop- Final Report 2009. SMARTLESSONS 19 Before Investors Can Wet Their Feet: Complex Preparation for Greenfield Hydropower Public-Private Partnership Transactions Use of water resources for hydropower generation is, once again, a potentially attractive tool for economic development. Until a few years ago—with some notable exceptions—the low prices of fossil fuels, the efficiency of gas-powered plants, and strong environmental opposition had sidelined the hydropower sector from the wave of private sector investment in independent power generation. But now, increasing concerns about carbon emissions from fossil-fueled power plants, climate change, and rising oil prices make hydropower more appealing. The challenges that need to be carefully considered before entering into any advisory or financing arrangements are: how to facilitate private sector investment in this sector, and how to implement hydropower public-private partnership (PPP) transactions. This SmartLesson presents and analyzes some of the key lessons that have emerged during several hydropower PPP projects. BACKGROUND irrigation). Yet the development of a new HPP often faces major local opposition, because opponents associate Thermal power plants (TPPs) burn fossil fuels (a it with the following negative impacts: nonrenewable energy source), yet they usually face limited local opposition on environmental grounds: t Loss of access to water (a common good) for local a country that increases its greenhouse gas emissions communities, because water flow is altered and water through the development of a new TPP expects to is piped and released only after it flows through derive disproportionate economic benefits while bearing the turbines a relatively small share of the negative environmental t Loss of land that is prized for its biodiversity, par- impact caused by its emissions. On the other hand, ticularly wetlands, due to flooding of the reservoir the development of new hydroelectric power plants t Economic and physical displacement of people (HPPs), a renewable resource, usually faces major local opposition, because a country that develops a new HPP t Transformation of the landscape, with all its emotional can expect to bear all of the negative environmental connotations (see Figures 1 and 2) impacts while deriving only a fraction of the benefits Regardless of whether the greenfield HPP is developed associated with greenhouse gas emission reductions through a PPP or directly as a public investment, these (typically through the sale of carbon credits). issues make the process of developing hydropower plants complex, time-consuming, and inherently risky. Reservoirs are often designed to provide important local benefits to society (for example, through decreased risk of flooding or improved availability of water for 20 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Figure 1: Visual impact of one variant of the Andrijevo dam design on the River Moraèa, Montenegro. Figure 2: Visual impact of upstream of the dam for the variant presented in Figure 1. SMARTLESSONS 21 IFC ADVISORY SERVICES EXPERIENCE Because of the negative local effects of hydropower projects, the public generally deems the profit During the last five years, IFC Advisory Services (or economic development) motive insufficient in Public-Private Partnerships has been engaged as justification for the transformation of a waterfall the government’s lead transaction advisor in five into a power plant. The best practice, reflected by hydropower PPP projects, and is engaged in the the Hydropower Sustainability Assessment Protocol,2 implementation of a rural electrification project that requires the demonstration of the specific need for the will develop a series of microhydropower plants. development of the hydropower resource through a Least Cost Electricity Generation Expansion Analysis With hydropower PPPs, the likelihood of closing a that considers all alternative generation candidates. transaction in a timely and successful fashion is heavily Governments (and IFC) should therefore engage in influenced by the quality and completeness of the a hydropower transaction only if the analysis clearly technical, environmental, planning, and legal preparation demonstrates the need for the project. done in advance of the launch of the transaction. Therefore, IFC’s work usually starts with technical, Lesson 2: Conduct in-depth technical economic, and legal feasibility studies, followed by feasibility studies up front. the marketing of the investment opportunity among suitably qualified investors, and implementation of a Governments (and, as is often the case, IFC as their transparent tender process (the transaction) for the transaction advisor) normally prepare for any new power selection of the private investor. generation transaction by studying the project’s technical, environmental, and financial feasibility risks prior to approaching potential sponsors. The technological risk LESSONS LEARNED of HPPs is fairly limited, because the technology has Lesson 1: Demonstrate a need for the project. not evolved radically during recent decades. The highest risks are in the escalation of construction costs due to For a number of years, international environmental unforeseen ground conditions. Because of this, technical nongovernmental organizations (NGOs) harshly feasibility studies need to investigate in great detail the opposed one of the HPP projects (an IFC investment). geotechnical characteristics of the often inaccessible The country’s government and IFC responded to this and mountainous site where the dam, tunnels, and criticism by sharing with the public a world-class powerhouse will be located. The implementation of Least Cost Electricity Generation Expansion Analysis1 a comprehensive plan of geotechnical investigations, that demonstrated that the HPP was the cheapest sufficiently detailed to allow potential investors to new source of energy available to meet the growing assess risk and price their bids, requires a relatively demand. Conversely, in an HPP advisory project in a long period (six to twelve months, depending, among different country, the government chose not to perform other things, on the ease of access to the site) and can a least-cost analysis, citing commercial confidentiality be done only at considerable expense. No bidder is issues, and was later ill-equipped to respond to the likely to be willing to perform these investigations opponents of the project. in the context of a competitive tender in which it has only limited odds of recovering its investment. 1 The output of a Least Cost Electricity Generation Expansion Analysis is a list of new generation plants (chosen among a pool of candidates) and the optimal sequence for their development, 2 Developed and endorsed by, among others, the World Bank calculated to minimize the present cost of power generation over Group and the World Wildlife Fund (a leading environmental a certain period of time. NGO). 22 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS The site of the Ashta plant, on the River Drin in Albania. SMARTLESSONS 23 To save time, to attract the largest possible number So, it is best practice (and a legal requirement in the of interested bidders, and to lower the overall risk European Union) to perform a systematic assessment premium factored into the offers, governments should of the environmental and social impacts of the produce a comprehensive geotechnical assessment of project and to incorporate any environmental and the project before approaching potential investors. social considerations resulting from such assessment before any plan for the development of a new hydro Unfortunately, many countries are unable to afford resource is approved. This means that a Social and the expensive up-front investment required by these Environmental Assessment (SEA) is required for studies. In response to this challenge in one particular the official government endorsement of any new case, IFC was able to mobilize almost $3 million from hydropower project and for the amendment or donors to fund the technical, legal, and environmental approval of the associated land planning instruments.4 feasibility studies, which included a small budget for (See the box.) geotechnical investigations. However, some sector specialists believed that, given the limited budget, the scope of geotechnical investigations that could Elements of a Social and be afforded was insufficient to mitigate the geological Environmental Assessment risk of the project. It took more than a year to implement the feasibility studies and reach the stage where the investment opportunity could be marketed A best-practice SEA needs to contain, among other things, the following components: to international investors.3 Lesson 3: Before involving the private sector, t Definition of the boundaries of assessment complete the strategic environmental and and alternatives to be analyzed social asessmement process. t Description of the current state of the environment (including a biodiversity baseline In the development of new TPPs, the risk of not study, which may cover the four seasons) meeting national or international pollution-control t A cumulative assessment of the potential and environmental standards can be mitigated almost environmental and social impacts of entirely by requiring developers to invest in modern the project, including the upstream and emission-control technology. downstream reaches of the river and an assessment of the impact on other users of the On the other hand, the very local nature of the water resource impacts of HPPs is such that environmental and t Analysis of the potential economic and social impacts can rarely be meaningfully mitigated physical resettlement and a social impact through improved design or technology. In addition, assessment (including informing and consulting with the public) depending on the environmental impacts of the projects, the costs for environmental and social t Description of the potential transboundary issues mitigation are substantial and can make the project financially infeasible. 3 Shortly after the completion of the feasibility studies, the gov- ernment received an offer from an investor backed by a strong 4 Once the project concept is approved and the investor/devel- financial institution. Faced with choosing between a time-con- oper has been identified, the approval of the final design and the suming tender process (with an uncertain outcome) and the authorization to start construction are normally subject to the possibility of starting construction preparation activities imme- preparation and approval of a more detailed environmental im- diately, the government opted for the latter. pact assessment. 24 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS For one HPP project, the preparation of the SEA and these activities, but these funds are limited and can the implementation of the related public debates took easily be tied up by one or two projects. more than one year, which caused significant delays to the launch of the tender for the selection of the In any case, when the conditions listed in this sponsor. In addition, the SEA process was started SmartLesson are not met, the implementation of in parallel with the prequalification process, causing hydropower PPP transactions is likely to be riskier a few potential investors to walk away from the and require a commensurate investment of time and project, because they feared that the tension typically resources. experienced during the public debate could harm their corporate image. To maximize the chances of success of the transaction, ABOUT THE AUTHOR governments should not launch an HPP transaction Nicola R. Saporiti is an Investment Officer for IFC’s until after the laborious SEA process is finalized in all Advisory Services in Public-Private Partnerships. He of its parts. has 12 years of international experience in infrastruc- ture finance, focusing on hydropower, energy distri- bution, water, and solid waste transactions in Europe, CONCLUSION Africa, and Latin America. Implementation of a greenfield hydropower project Approved by Georgi Petrov, Regional Business Line with a PPP model requires the mitigation of certain Leader, Advisory Services in Public-Private Partner- risks that private investors are reluctant to assume. ships, Europe and Central Asia. For example: t Mitigation of construction risk requires a considerable up-front investment in geotechnical investigations. t Mitigation of environmental and social impacts and risks requires the completion of the SEA process, the public disclosure of numerous economic and environmental studies, the execution of public debates, and response to public concerns. These tasks are considerably expensive and time- consuming and are best implemented by the host government before any transaction can be initiated for the involvement of private sector investors. IFC’s core competences are transaction structuring and implementation, and, for the most part, it possesses (or can access with relative ease within the World Bank Group) the technical know-how required to support governments in the implementation of risk-mitigation activities. IFC also (occasionally) can mobilize grants and donor funds to cover the costs of SMARTLESSONS 25 Promoting Sanitation Markets at the Bottom of the Pyramid in Peru: A Win-Win-Win for Government, the Private Sector, and Communities Perceptions of sanitation vary widely among those living in poor rural and peri-urban areas of Peru. In 2007, the Creating Sanitation Markets (CSM) initiative—a multistakeholder effort led by the World Bank-administered Water and Sanitation Program—set out to understand those divergent perceptions and to explore new alternatives for increasing access to quality household sanitation in Peru. Using a market-based system for sanitation at the bottom of the pyramid, the initiative introduced a new paradigm for local sustainable development with the participation of private enterprise. This SmartLesson shares what we have learned from four pilot projects that have contributed to innovation in the sanitation sector in peri-urban and rural areas by adding new players and resources and opening new opportunities for improving access to sanitation while moving the agenda beyond coverage and poverty. BACKGROUND supply, promoting sanitation as a business opportunity to benefit local development as well. The model relies on The CSM model seeks to build an equitable and key alliances and interactions among public and private harmonious relationship between supply and demand— actors. These alliances operate at local, national, and through development of products and services that regional levels and are meant to provide platforms for meet the expectations and needs of populations, sustainability and scalability of sanitation markets. encouragement of the state to assume a promotional role for the development of local entrepreneurship Since the end of 2007, the CSM initiative has been and the education of citizens, and development of tested in four pilot areas that represent Peruvian financial options that allow the matching of supply and geographic and cultural diversity, characterized by demand. The CSM’s objective—through increasing high levels of poverty, integrated by 47,813 households the poor population’s access to safe, sustainable, and with an estimated population of 180,000 people. As a low-priced sanitation services—is to improve their result of 24 months of promotion in these pilot areas, health and at the same time decrease the environmental the households without access to sanitation decreased impact of inadequate sanitation practices. from 32 percent in 2007 to 21 percent in 2010. The initiative’s working strategy has four components: Approximately 9,000 households invested in new demand stimulation, product development, sanitation facilities or in improvements to current strengthening of the supply, and demand access to ones. The households’ investment has reached $1.2 microcredit options. The CSM pays special attention to million, and the private sector has contributed about the active involvement of the private sector in sanitation $570,000 for training, promotion, and lending. 26 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Their first step was to understand consumers’ expectations, needs, and desires, which led to the development of behavioral studies—going beyond socioeconomic research—focused on finding the drivers of change. The studies found that health is not a top family motivator for investing in sanitation. In fact, they found a weak link between health conditions and sanitation in people’s perceptions. The studies demonstrated that the main motivator for investing in sanitation is improving the house as a symbol of progress, and thereby enhancing social status. Water and sanitation systems are considered part of the urban culture and modernity. So, in the minds of many poor Peruvians, latrines are perceived as a factor of social “differentiation.” The pilot phase showed that families who invest in sanitation help improve the use, maintenance, and Peri-urban and rural households that invested in new sustainability of sanitation facilities. Following are sanitation facilities or in the improvement of their some of the specific findings: current one. t 39 percent of families in the four pilot areas are LESSONS LEARNED definitely willing to invest in a new sanitation facility. t 31 percent are willing to invest in the improvement Lesson 1: Change the market’s perception of of an existing facility. the end user from beneficiary to consumer. t 62 percent think this investment will allow them One of the most important lessons for starting the to feel that they are progressing. market process is the promotion of new thinking t 55 percent think their house will look more modern. among market actors, transforming their vision of t 50 percent think this investment will make them target groups from beneficiaries to consumers. The idea feel proud of themselves. is for market actors to take responsibility for finding solutions, rather than standing aside and waiting for These findings have prompted the CSM initiative to outside solutions. open the discussion to core questions: Are we ready to respond to demand expectations? What is the The nongovernmental organizations (NGOs) leading border between the “right” solution for people and the pilot programs invested significant efforts in this the “desired” solution? Who decides? paradigm change. The challenge was to convince local actors, as well as their own NGO staff, that this new Lesson 2: To achieve better segmentation of sanitation approach was not to provide subsidized the population, identify the diverse segments sanitation solutions to the poor. And they succeeded of those at the bottom of the pyramid. in doing so. Expectations of sanitation facilities differ among poor households. Pilot intervention revealed a dual SMARTLESSONS 27 perception of sanitation: a private perception, that of t The most-purchased products were toilets (43 percent) families, and a public perception, relating more to a and sinks (21 percent). vision of development of the community. The latter includes such issues as the final disposition of sludge Lesson 3: To create affordable household and solid waste, the sanitation base infrastructure sanitation solutions, look beyond simply development (networks, systems, treatment plants), finding the cheapest technology. and operations and maintenance. Providing an affordable sanitation option does not mean Evaluation studies conducted by the CSM found that that the quality of products and facilities must be of discretionary criteria for segmentation are related to lower quality. By using a mix of cost-saving measures, at least five categories: the household’s income and addressing the financing needs, and spreading costs ability to save, housing ownership, access to credit, out over time, the CSM experience has shown that the urban experience of family members, and family almost any household can have a high-quality sanitation preferences regarding the concept of a bathroom and facility in the home. An affordability strategy should the methods of installation and purchase. provide the consumer with options regarding financing, product, construction, installation, and timing of all Taking into account the sanitation dual perception of these components, to ensure that all consumers, as well as the discretionary criteria, it is possible to regardless of economic status, can install the toilet or define six preliminary segments: Four are household bathroom they desire and not be obligated to accept segments based on a mix of income and saving capacity a product they do not want. with bathroom preferences. One segment focuses on sanitation as a community investment, and the other The CSM initiative developed an attractive and accessible segment involves entrepreneurs looking at sanitation “sanitation package” that includes a technology as a mechanism to increase business profits. catalogue, installation and maintenance services, financing services, and information and orientation The payment capacity of poor segments is diverse for customers. It also created an accessible point of and responds to a wide range of economic activities, sale for communities, building a good-quality local income levels, expectations, and demands for social sanitation supply, using local materials and resources, inclusion and progress in life. Specific finding include and supporting local providers through validation of the following: diverse certification programs. These programs were t 87 percent of CSM clients1 are below the Peruvian run in alliance with educational institutions, private poverty line. suppliers’ enterprises, and local governments. t 86 percent of these families have purchased sanita- The promotion of market mechanisms at the local level tion facilities, using their own resources exclusively. helped enhance the social and economic dynamic. t 8 percent have made the purchase through credit. Local employment in pilot areas was increased. Forty- one percent of the baths/latrines installed were made t 6 percent used a mixture of both. using local service providers who were trained by the t The median household investment was $57, and the CSM initiative. At the same time, local hardware median credit amount was $536 (with an average stores have been increasing their sales, with 48 of 12 monthly payments). percent of families preferring to acquire toilets, sinks, showers, and baths locally. 1 Households that invested in new sanitation facilities or in the improvement of their current one in the last 24 months. 28 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Despite these results, questions remain. The community promoters and points of sale, and sustainability of the actors’ interaction continues to guaranty and maintenance mechanisms. be an unreached goal, along with how to develop for service providers a sustainable accreditation Lesson 4: Target financial solutions according mechanism that can assure quality standards in an to income level. informal country such as Peru. Another question involves how to link people’s desires (a bathroom with Reaching all income levels of the population requires shower, sink, and toilet), their willingness to pay, and innovative financing alternatives, such as group lending, the country’s water-saving challenges. retail direct credit, or market-based subsidies. The CSM results identified three distinct segments: the upper poor, One promising effort—headed by six private who can be easily reached by the traditional financial enterprises (four suppliers, one international sector (banks and multilateral financial institutions, bank, and one private foundation)—is to scale or MFIs); the middle poor, a key target segment of up a sanitation package under an umbrella brand the population that does not usually have access to tentatively called “Mi Baño” (My Bath). The package formal financial supply; and the bottom poor, people includes goods, construction and installation services, in extreme poverty who receive government subsidies. financing options, information, orientation through Peri-urban and rural households that invested in new sanitation facilities or in the improvement of their current one. SMARTLESSONS 29 Peri-urban and rural households that invested in new sanitation facilities or in the improvement of their current one. The first segment has sustainable income and/or that segment with a viable cost-effective financial limited saving capacity ($215 to $358 monthly product. These include the village banking model, household income). Progressive home-improvement through NGOs, and credits directly from hardware financial products are a great opportunity for this stores and from community water committees. group. The CSM initiative has not had enough Although the first CSM monitoring reports show success in involving banks and MFIs for launching clients’ satisfaction, very low delinquency rates, and ad hoc sanitation loans. But, promising signs include increasing access, there remain critical barriers to dissemination activities to increase sanitation replicating these community financing approaches in awareness and the benefits of prioritizing them in a sustainable manner. These obstacles are related to home upgrading; implementation of a system to pay inadequate population profile evaluation tools and to commissions to promoters or retailers that provide limited credit terms. The low education level of this loan clients; and establishment of alliances for sharing segment requires significant investments in training sanitation-promotion investments. to operate those financial mechanisms. The NGOs’ successful management of village banks indicates that For those in the middle poor ($90 to $215 monthly an intermediary is required to promote the formation household income), the challenges are bigger. of the group and to provide continual training and The CSM initiative has validated diverse financial monitoring, which requires resources and expertise. alternatives in an effort to determine how to reach 30 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS The still unanswered question is whether subsidies environment, which in turn can lead to enhanced are the only alternative for the extremely poor (less productivity and well-being. than $90 monthly household income). The initiative has tried to prove the viability of market-based CONCLUSION subsidies by offering households an opportunity to choose the toilet or bathroom they would like to The CSM initiative’s approach to sanitation implies have. In the Cajamarca pilot zone, the initiative has a change of paradigm and renewed roles for different formed a self-help savings and lending group with actors, especially the customers (households and women members of the direct-transfer cash program, communities), who prioritize sanitation investments, Juntos, a government antipoverty social program that demand information, and use and maintain sanitation provides a bimonthly subsidy of $70 per household. services. This approach also needs an articulated local The lending model has a cross-guarantee system supply that offers customers an integrated solution, that allows households to improve sanitation access including goods, services, financing, and information. through buying materials or paying for labor. Private sector enterprises should develop sanitation businesses at the bottom of the pyramid or include sanitation as part of their business model, and Lesson 5: Do not underestimate the private governments should promote sanitation markets as sector’s role. a matter of policy. Sanitation market development The CSM initiative results show an enormous potential requires identifying potential public and private partners for the private sector to contribute to improving at the national and local levels; providing technical sanitation services for the poor. Peruvian economic assistance to build partnership platforms that address growth rates suggest opportunities to identify new actors different institutional incentives for promoting the interested in improving people’s living conditions. Today, sanitation markets; supporting the implementation more than in the past, the private sector enterprises partners; and advising government in identifying understand that they need consumers’ satisfaction to entry points for mainstreaming and scaling up this survive. When people feel comfortable with their own concept in national-level programs. Probably the most well-being (feelings, access to basic services, education, important lesson is that there is not just one way to and so on), they have more expectations and greater reach the goal. awareness of their needs. The private sector has proved that it is able to deliver household loans for sanitation; enhance ABOUT THE AUTHOR the knowledge of retailers, thereby improving the Malva Rosa Baskovich is Coordinator of the Creating supply chain and the service quality at the point of Sanitation Markets initiative, Water and Sanitation sale; support research and innovation to discover Program, Latin America and Caribbean. Malva is new materials and processes in accordance with a social marketing specialist with experience in entrepreneurship, health and sanitation programs, environmental policies, resulting in products of better and advocacy and policy initiatives. quality, price, and environmental impact; create quality information systems for consumers and invest Approved by Glenn Pearce Oroz, Regional Director of the Water and Sanitation Program-LAC. in educational campaigns; and improve the quality of health and sanitation conditions of its workers, thus creating a better physical and emotional business SMARTLESSONS 31 Taking a Stake in Emerging-Markets Water Companies In building its water sector business, IFC has found that equity or quasi-equity investments in private companies (often holding companies) with assets in emerging markets increase reach, impact, and financial returns, when compared to debt financing provided to a project company. This SmartLesson provides guidance on investing in water companies by sharing some key lessons on selecting the right partners, structuring the deal to avoid conflicts of interest, and balancing revenue streams. BACKGROUND Solid track record: IFC has been investing in the water sector since the t operational improvements—efficiencies and economies 1990s, and these investments have produced mixed of scale results in development impact indicators. More recently, in the early 2000s, IFC diversified its water portfolio t demonstrated ability to replicate and scale a business to include water companies operating in developing model through know-how transfer countries, and as a result, seven new water company t ability to navigate similar tariff and contractual transactions were signed in 2010. considerations LESSONS LEARNED t reputation for good customer service t a platform of existing operations in other regions Lesson 1: Select a strong technical partner with a healthy capital base. Financial strength: Over the last few years, IFC has been looking for ways to t well-capitalized and, hence, well-placed to move support increased private sector investment in a number quickly after new opportunities of regions where water and wastewater networks urgently require rehabilitation and upgrading. Opportunities t able to use capital base and other resources to for IFC grew out of the huge scope for operational execute on multiple projects at one time improvements in these regions (due to the limited t able to take advantage of attractive opportunities expertise of the existing domestic water companies) arising from market downturns, such as discounted as well as the large growth potential as governments asset valuations and cash-strapped local sponsors gradually show willingness to implement reforms that or municipalities willing to engage partners in will open up the sector to private sector participants. discussions When supporting new entrants into a region, it is important that they have the following three characteristics: 32 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Changes in how water is transported can transform people’s lives. Willingness and ability to cultivate productive and procure, and construct (EPC) and operations and stable relations with local partners and government maintenance (O&M) business. The special project counterparts: vehicles (SPVs) set up by such global companies often contract out the EPC and O&M to subsidiary t capability of cultivating local partners that can be or affiliated companies, which can create a conflict very important for a sponsor’s understanding of the of interest. In such structures, the parent company’s political and social context and can also work with interest is often to protect profits at the EPC and the sponsor to develop a solid pipeline of projects O&M level rather than at the SPV level. for future investment If IFC invests in a holding company that includes the t partner integrity screening capabilities to ensure SPV assets but not the EPC and O&M business, it is that the local partners are people with whom IFC exposed to this risk. Mitigants to this risk include the would be comfortable doing business following: Lesson 2: Structure water deals to capture all t Projects secured by transparent international tender value and avoid conflicts of interest. where projected shareholder returns remain high Many global water companies are part of construction t Independent shareholders who are not party to groups or operating companies and pursue emerging EPC or O&M contracts and whose interests are markets water investments (Build, Own, Operate, aligned with the financial outcome at the SPV level Transfer or BOOT) as a means of building their engineer, SMARTLESSONS 33 t Internationally reputed, independent technical portfolio of operating subsidiaries will support advisor evaluation of EPC and O&M costs to investments in new projects in the future, hence ensure conformity with market benchmarks creating more development impact. t Contractor structure (with parent company Lesson 3: Balance a diversity of revenue support) to ensure that unpaid claims and cost streams in the valuation of water companies. overruns are passed through to EPC and O&M Valuation of water companies is no different from contractors and not held at the SPV level valuation of other types of companies. Traditional Perhaps the best mitigant is to invest at a higher methodologies, such as multiple comparables or company level, which captures the value of all discounted cash flows, apply equally and are commonly contracts (BOOT, EPC, and O&M) and thus avoids used to value water companies. However, the following conflicts of interest. However, it remains important key factors need to be considered: for IFC to ensure that most of the profits are not t It is important to break up the valuation into extracted through the EPC contracts, since IFC smaller pieces that have similar risk profiles and is only interested in investing in sustainable water are easier to compare with others. For example, if businesses where cash flows generated by a profitable the company has an EPC business and investments Access to safe drinkable tap water is key. 34 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS into assets (for example, BOOTs), valuation of each must be done separately, because discount rates and ABOUT THE AUTHORS multiple comparables can be significantly different Patrick Mullen is a Water and Sanitation Specialist in each segment. Similarly, if there are assets with for the Global Water Unit in the Infrastructure and different risk profiles (subject or not to market Natural Resources Investment Department. He has more than 20 years’ experience in the international risk due to existence of take-or-pay obligations), a water business. different discount rate might apply to each segment David Tinel is a Principal Investment Officer for the to value such risk. Also, consider breaking down Global Water Department. He has worked mostly on valuation by geography (discount rates might be investments in water and sanitation projects since different for different countries). joining IFC as a Senior Investment Officer in 2005. t It is important to use multiple comparison Alice Laidlaw is a Senior Investment Officer for the Global Water Department. She joined IFC in 2004 (EBITDA, P/E)1 to make sure valuation is in line and has worked on new business and portfolio with the market, but it’s also important to make projects in the power, transport, and water sectors sure comparisons are made with companies with since 2005. similar risk profiles and projected growth rates. Miguel Toledo is a Principal Investment Officer for Tariff escalation plays an important role, because the Latin America and Africa Natural Resources typical BOOTs carry indexation formulas based Department. He joined IFC in 2005 and has worked in infrastructure business for 12 years. on cost increases or other parameters that, in turn, are based on factors such as inflation. Assumptions Francesca McCann is a Consultant with the made on such underlying drivers can cause Sustainable Business, Energy and Water unit of Business Advisory Services. significant distortions in the valuation. The key to avoiding such distortions is to have consistency Approved by Usha Rao-Monari, Global Head for between underlying assumptions in the projections the Water Unit in the Infrastructure and Natural Resources Investment Department. of the cash flows and in the discounted rates used (for instance, the same inflation rates are used for calculating the discount rate). CONCLUSION IFC investments in private water companies in emerging markets have the advantages of increasing the diversity and impact of our investments and generating on average an impressive return on investment. As a result, they should be considered a serious option when looking at opportunities to support the development of the water sector in any client country. At the same time, it is critical to take into consideration the lessons just described when undertaking investment in water companies. 1 EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization); P/E (price-to-earnings ratio). SMARTLESSONS 35 Private Operators and Rural Water Supplies: Can It Work? Numerous cases demonstrate that private operators can improve water services in rural small towns. But what about very small rural settlements or scattered rural homesteads? A recent World Bank study1 reviewed 25 initiatives that aim to do precisely that—to use private operators to manage water infrastructure that serves, on a significant scale, dispersed rural households or rural settlements with populations under 5,000. This SmartLesson documents some of the findings from that study and shares lessons about how to improve rural private operator initiatives. BACKGROUND improving the technical and financial performance of the systems in general. One IFC-assisted development Private operators will engage only if the systems are or bank in Kenya now requires that private operators can become profitable. Cities and small towns tend to manage community water systems for the duration of have lower delivery costs, greater demand, and more the loans that the bank provides. potential for profitability than rural communities. Rural areas have low population densities and incomes, Elsewhere, governments and their partners poor communication, and a weak cash economy—all are looking to private operators to provide the factors that hurt the bottom line. Therefore, rural water expertise, managerial know-how, and sometimes supplies typically are operated through community even the financing needed to construct and operate management, where consumers keep down costs by increasingly complex rural water infrastructure. A establishing a village committee or nonprofit association Bank-assisted project in Senegal will investigate using to manage the supplies. private operators to manage large rural schemes that The community management model for rural water serve numerous small settlements. In Vietnam, the supplies has produced many success stories—but Bank supports a project that will vest the assets of also many failures. Due to the latter, governments rural piped schemes in provincial utility companies, and their development partners in Benin, Burkina in the expectation that scheme management in each Faso, Mali, Malawi, Mauritania, Niger, and Rwanda province will eventually be contracted to a private are testing or implementing rural private operator operator. In Paraguay, Bangladesh, and Cambodia, models as a means of reducing the high numbers of the Bank has used build-and-operate contracts to nonfunctioning water supplies in their rural areas and leverage financing from the eventual private operators and thus create added incentives for the operators to 1 Kleemeier, Elizabeth. November 2010. “Private Operators and run efficient operations to recoup their investments. Rural Water Supplies: A Desk Review of Experience.” Water Anchor, World Bank, Washington, D.C. Available at: http://wwwwds.worldbank.org/external/default/WDSContent- Server/WDSP/IB/2010/11/11/000334955_20101111025741/ Rendered/PDF/578310WP01PUBLIC10BOX353779B0r postudy.pdf. 36 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Countries where rural private operator initiatives are located. Objectives for rural private operator initiatives are LESSONS LEARNED diverse: Lesson 1: Invest the time and resources necessary t Improve technical and financial performance; to build broad support for the concept. t Provide the expertise to manage more complex For the concept of using rural private operators to technologies; and gain the traction and support necessary to go to t Leverage private financing and investment. scale, governments and development partners have to buy into it. Achieving this objective requires good The 25 initiatives reviewed by the World Bank study communication, alliance building, and the strategic (see the map) have pursued these objectives in varying use of various lending instruments, sometimes in combinations and to different degrees. Their activities combination. range from grassroots actions by rural entrepreneurs, to investment programs by the World Bank Group In Benin, the Bank used budget support operations to or other donors, to national policies establishing a forge agreement among donors and the government new approach to rural water supply. The initiatives to expand the use of rural private operators in come from around the world. Some have been under settlements with populations between 2,000 and development and implementation for five years or 25,000. The Bank and other donors contributed to more and have shown good results. Some are recent a basket fund to support the initiative. In addition, efforts that show promising results, while others have the Bank’s third, fourth, and fifth Poverty Reduction had disappointing starts. Strategy Credits (PRSCs) included triggers that set targets for the numbers of schemes to be managed by private operators. SMARTLESSONS 37 Rwanda has a similar story. The Bank began a rural The common element in these two cases is that the water supply project there in 2000 that adopted a Bank worked with the government and other major community management approach. As part of the partners in the sector to develop and implement the mid-term review, the project commissioned a study new approach. In other countries, Agence Française comparing the performance of community-managed de Développement and other donors have taken the rural schemes to that of a private operator approach lead in bringing together the major players around a initiated by district authorities in one province. The common approach based, at least in part, on using findings in favor of the latter were widely discussed and rural private operator initiatives. disseminated. As a result, the Bank-assisted project changed to this approach, and a prior action for the Lesson 2: Design a rural private operator second PRSC was that similar management contracts initiative to fit the organizational would have been signed in at least one district from circumstances in the country. each of four pilot provinces. The Poverty Reduction Strategy paper set a target for 10 percent of rural Rural private operator initiatives are often associated with water supplies to be managed privately by 2007. The decentralization, as a way for local governments to handle target was overfilled, with about half of the contracts the responsibility for providing water services. Benin, going to the private sector and the remaining ones to Burkina Faso, Mali, and Rwanda have all introduced third-party operators such as cooperatives. a design for rural private operator initiatives in which Private operator observes the fishpond connection to the piped scheme in Bogra District, Bangladesh. 38 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Types of Lead Organizations in Rural Private Operator Initiatives* DECENTRALIZED CENTRALIZED Rural Local NGO/ Utility Ministry Agency Utility Entrepreneurs Government Private Vietnam Benin Malawi Niger Mauritania Côte d’Ivoire India Cambodia Burkina Faso Vietnam Senegal Paraguay Gabon Mali Bangladesh Morocco Rwanda * With examples of countries using them. local governments sign contracts with private operators changes happening in the sector. to run rural schemes. In Senegal, Niger, and Bangladesh, central ministries However, rural private operator initiatives can have taken the lead in rural private operator initiatives, be designed to work in situations where local because the government has not decentralized water government has not been delegated water-provision provision. There may be scope to improve these more responsibilities. Six other types of organizations or centralized designs by carving out a larger role for local groups have taken the lead in rural private operator government in the supervision of the private operator initiatives. (See the table.) These organizational contractors, as a recent evaluation of Bank-financed designs have been used in countries where the central schemes in Niger recommended. Overall, however, government has not decentralized rural water- the initiatives will remain distinctly different from provision responsibility to local government, where ones where real decentralization has taken place. decentralization has been weakly implemented, or where utility companies offer an alternative to local Lesson 3: Think through regulation and governments for overseeing the private operators. professional support services. It is not a question of choosing the best organizational Some initiatives have focused too narrowly on the design—for the moment, we lack sufficient experience bidding and contracting process. The resulting to say one design has unequivocally produced better management models lack sufficient accountability and do results than others—but rather of selecting a design not provide the various actors—local governments, water that fits the context. user associations, local tiers of the water departments, For instance, private operators have been put in charge and the operators themselves—with the support they of managing rural water schemes in Côte d’Ivoire and need to take on new roles successfully. Gabon as a by-product of introducing public-private Advocates for trying rural private operator models partnerships largely to serve urban areas. ONEP, the initially argued that they would not require as much national utility in Morocco, is experimenting with institutional support as community management local private operators in the wake of a government to work well. Governments too often had neither mandate for it to supply rural areas. In these cases, the capacity nor the financial ability to deliver this rural private operators were introduced through support. (Some researchers rather cynically argued that national utilities as a result of other organizational community management appealed to governments SMARTLESSONS 39 precisely because the model allowed them to wash their hands of responsibility for rural water supplies after construction.)2 The first discussions of rural private operator models in the literature suggested that this approach would require less support from government than community management. The review of 25 initiatives shows such optimism to be misplaced, at least in the foreseeable future. Rural private operator models do not so much abolish the need for local institutional capacity, as they better define what capacity is needed where. That redefinition is based on applying to rural water services the same SEEG, the national private operator in Gabon, man- conceptual categories that have long been used for the ages small rural schemes. urban sector: asset ownership, oversight, operations, regulation, and professional support and training. Lesson 4: Use build-and-operate contracts and Mali has developed an approach that combines output-based aid designs to create incentives regulation and support services. The national water for the operators to manage construction and department contracts two private firms to run a operation effectively and efficiently. national unit that carries out a twice-yearly financial One private operator in Burkina Faso cited four audit of rural and small-town piped schemes, and advantages to build-and-operate contracts: 1) a firm offers advice by radio on technical problems, repairs, will do quality construction of a system that the firm and spare parts. The structure was supposed to pay for must subsequently operate; 2) there can be no subsequent itself through a fee paid by the service provider based disputes between the operator and the other parties on the volume of water produced, but the amount about the state of the infrastructure; 3) the operator collected has not covered costs. Niger has a somewhat will be completely familiar with the system; and 4) similar system, in that some projects have established time is saved in the contracting process. a regional bureau managed by private firms to provide technical and financial support, auditing, and The Bank has used output-based aid designs and a monitoring to rural piped schemes. requirement of private financing to add to these advantages. Projects in Paraguay and Bangladesh Neither system is ideal, because regulation and illustrate how this works: support services should be separate to avoid a conflict of interest. However, some kind of system is preferable t In Paraguay, government subsidies to rural water to no support or regulation. supplies had become larger than intended, because rural communities were not making their up-front cash contributions or repaying their government loans. The Bank’s fourth rural water supply project offered build-and-operate contracts in which the bidders competed on the size of the subsidy that they 2 Harvey, Peter A., and Robert A. Reed. 2007. “Com- munity-managed water supplies in Africa: sustainable or would require from governments. The terms of the dispensable?” Community Development Journal 42 (3): contracts required the winning bidder to provide all 367. 40 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS the initial financing. The company would recover and revenues across several schemes was indispensable to up to 80 percent of the construction costs from the firm’s entry into the market. In Paraguay, one bidder the government (its subsidy to rural schemes) after won the first four scheme contracts, tendered separately, achieving the output targets, and the rest mainly commenting that winning all four was necessary to from connection charges. Thus, to recover their achieve economies of scale. In Benin, the profitability investment, the contractor-operators had to do a good of scheme management for operators has been limited job of managing construction and bill collection. by so many of them having only one scheme. t In Bangladesh, the Bank project initially set much more stringent conditions: The operator would invest CONCLUSION 50 percent of the rural piped scheme’s cost, collect Governments and development partners will implement an additional 10 percent of the cost from the com- more rural private operator initiatives over the coming munity as its contribution, and provide all of the years, because this model has shown results in situations initial financing. The project would reimburse 40 where other management models performed poorly. percent of scheme costs as construction targets were The planners and implementers behind these initiatives achieved. However, these terms were too onerous to will do a better job if more information is exchanged attract the private sector, and the nongovernmental among practitioners as to what works and what does not. organizations that were interested could not afford that level of investment. The project was restructured, and the operators’ required investment was lowered to 20 percent. The project has completed 21 schemes, ABOUT THE AUTHOR whose operators will now have to manage them at a profit to recoup their investment. Introducing even a Elizabeth Kleemeier is a Senior Water Supply and few schemes that are operated on a financially sustain- Sanitation Specialist in the World Bank’s Water able basis represents an achievement in Bangladesh, Anchor Sustainable Development Network Vice Presidency. where rural people are generally unwilling to pay for water when they can get it free from hand pumps. Approved by Julia Bucknall, Manager of the Bank’s Water Sector Anchor unit. Lesson 5: Grouping schemes can increase their economic viability, and hence their appeal to operators. Numerous factors weigh against the profitability of rural water supplies. Fixes for unprofitable schemes include metering and subsidized private connections to increase households’ consumption and willingness to pay. Another tactic is to tender schemes in lots, based on proximity. In Burkina Faso, the program to implement a rural private operator model tendered two packages—of seven and eight schemes, respectively—as build-and- operate contracts. Vergnet Hydro, the French firm that won one package, found that the ability to spread costs SMARTLESSONS 41 First-Ever Successful Public-Private Partnership in Egypt! New Cairo Wastewater Treatment Plant Besides being the first-ever public-private partnership (PPP) under Egypt’s PPP program, the New Cairo Wastewater Treatment project is IFC’s first infrastructure advisory project in the wastewater sector. IFC advised the government of Egypt on the structuring and execution of the 20-year PPP to design, finance, construct, operate, and maintain a new 250,000-cubic-meter-per-day wastewater treatment plant in New Cairo. The project was awarded to a consortium in May 2009, following an international competitive tender process, and reached successful financial close in February 2010. This SmartLesson describes key aspects of this pioneering PPP project and shares some lessons we have learned from it. BACKGROUND Finance and implemented under the leadership of a New Cairo City, a new satellite town on the outskirts newly established PPP Central Unit.1 of Greater Cairo, is promoted as one of the centers Key objectives of the Egyptian government included: to help alleviate the problems of urban overcrowding in Greater Cairo (population estimated at about 20 t provision of adequate water sanitation to the popula- million). New Cairo City itself, with primarily residential tion of New Cairo to meet current and projected and institutional demographics, is growing rapidly. growth; Its current population of approximately 550,000 is t implementation of a model PPP transaction in the expected to increase to about 3 million over the next urban services area, which can then be replicated 20 years. in other parts of the water sector; Not surprisingly, the Egyptian government has t mobilization of private sector finance and know-how. identified water sanitation and supply as priority sectors. The existing infrastructure is insufficient DIFFICULT CONTEXT and of poor quality, rapid population growth places When the project was launched in 2007, a difficult increasing pressure on these services, and investment context existed for private investment in Egyptian requirements are significant. To support the growth infrastructure due to the country’s recent frustrating and provide improved services, the Egyptian experience with private participation in the electricity government embarked on a major program to expand sector. Three independent power projects were awarded and improve public infrastructure through PPPs. The New Cairo Wastewater Treatment Project is part 1 The PPP Central Unit is a department of the Ministry of Fi- of this PPP program promoted by the Ministry of nance. For more information, visit: http://www.pppcentralunit. mof.gov.eg. 42 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS between 1996 and 2003, but a major devaluation of attract both local and international investors the Egyptian pound between 2003 and 2005 doubled and meet local lenders’ requirements. the local cost of power purchases under the dollar- According to an article, “Waiting on New Cairo,” denominated contracts. Additional costs associated with in the November 19, 2009, issue of Project Finance the devaluation, plus lack of equity commitment (with Magazine, the challenge for Egyptian banks was that all original international sponsors exiting the projects), “there are few precedents for long-term project lending, affected public perception of private participation in and a lack of pricing benchmarks. Historically, large infrastructure projects. Furthermore, the Egyptian projects have been financed in dollars, and a deal such government made the difficult decision not to offer as the New Cairo PPP, where tenors could be pushed any protection against foreign exchange risk on any future contracts with foreign investors, despite IFC’s out to 15 years, is the first of its type.” recommendation to offer such protection. So, to design an appropriate structure and make With no hedging instruments available in the market, the project bankable, it was essential to engage in and payments to investors denominated in Egyptian early discussions with banks and investors. Key pounds, a key success factor was to structure a project requirements included the following: that could be locally financed, still be attractive to t The payment structure should match the cost structure international investors, and create value for money of the project and, at a minimum, guarantee payment for the Egyptian government.2 of debt service and equity return. The project was one of a series of five PPPs t The project should take into account the history of simultaneously launched by the Egyptian high inflation in Egypt, which spiked at a 19-year government in 2006, and for which IFC Advisory high of 19.7 percent in May 2008, though it has Services in Public-Private Partnerships acted as Lead since come down. Transaction Advisor under a common memorandum t Given the impossibility of fixing a long-term interest of understanding. The other four projects covered by rate in the local market, the contract should offer the memorandum were a nationwide schools project, appropriate protection against changes in interest a potable water project in New Cairo, a highway rates. project between Cairo and Alexandria, and a hospitals t The Ministry of Finance should provide credit project in Alexandria. enhancement for the payments to be made by the New Urban Communities Authority (NUCA), to LESSONS LEARNED backstop the limited creditworthiness of the off-taker. The following lessons explain why the New Cairo Thus the Service Treatment Charge (STC), paid Wastewater Project was the first in the Egyptian PPP quarterly and denominated in Egyptian pounds, program to close successfully. comprised: 1) a fixed capital charge to cover the fixed costs of the investor, including debt servicing Lesson 1: The project needed to include an and return on equity; 2) a fixed operating charge to adequate payment structure that would cover all the fixed operating costs; and 3) a variable operating charge based on the actual volume of treated sewage, and designed to cover the variable 2 The benchmark Egyptian Central Bank overnight rate was as costs. Electricity costs were a pass-through item paid high as 11.5 percent during 2008. Local currency debt costs are thus considerably higher than U.S. dollar project loans. by NUCA in addition to the STC, up to a predefined SMARTLESSONS 43 cap introduced to foster energy conservation and from potential investors on conditions to enter sustainable operation of the project by the investors. the new Egyptian PPP market. Thus, for example, the New Cairo Wastewater contract used standard Two types of periodic adjustments would apply clauses previously developed for the Schools Project, throughout the contract duration: including those relating to inflation and interest rate t an annual adjustment for inflation, commencing adjustments. Communication between the teams on the first year following the start of operations, was essential, including through formal monthly applicable to the fixed operating charge and the updates circulated to the teams involved in Egyptian variable operating charge of the STC; and projects. t an adjustment for interest rate changes, the first t Some institutional infrastructure investors praised adjustment taking place at financial close (to cover this approach, because they found some synergies changes in interest rates after the bids submission between the projects and could leverage resources to date) and subsequent adjustments every three years, work in Egypt. The approach gave clarity to the market based on interest rates applicable for three-year 3 regarding the Egyptian government’s commitment certificates of deposits issued by reference4 Egyptian to the PPP model by defining a clear and credible banks. (It is important to note that the contract also PPP agenda, and it helped IFC rapidly develop includes a provision to incentivize refinancing, should a deep relationship with the client by leveraging the Egyptian debt market become more mature and multiple projects simultaneously and providing offer possibilities to extend fixed tenors.) more presence in the field. t The programmatic approach enabled the government Finally, NUCA’s credit was underpinned by the and IFC to rapidly test the market in several sectors, Ministry of Finance through a direct agreement which ultimately helped define realistic priorities signed with the lenders, providing sufficient comfort for the Egyptian PPP program, in line with market to investors and lenders. appetite. Thus, following the success of the New Cairo Wastewater pilot project, two other wastewater Lesson 2: The “programmatic approach’’ has projects were quickly launched as soon as October certain advantages. 2009,5 using the same contractual documents de- veloped by IFC. IFC played a significant role in As mentioned above, the project was one of a series of leading a pioneering transaction and thus opened five simultaneously launched PPPs in Egypt in 2006. the market. As a result, new international advisors This programmatic approach had clear benefits for and investors were now sufficiently comfortable both the client and IFC: working with the government of Egypt on other t Each project team leveraged lessons learned from wastewater PPP projects. other transactions, including essential feedback t It provided more visibility to the Egyptian PPP program, both in local media and in the international press that specialized in project finance, hence helping 3 Three years represented the longer tenor available in the Egyp- tian market to fix interest rates at the time the project was struc- build the credibility of the Egyptian government tured and tendered. Although tenor of senior facilities could be to deliver attractive PPPs. extended to 15 years, interest rates would change every 3 years. 4 Reference banks were defined in the contract as “four (4) 5 The two projects are the wastewater treatment plant for 6th banks that are certified by the Central Bank of Egypt, of which October City and the Abu Rawash wastewater treatment plant two (2) are public sector banks.” in the Giza Governorate. 44 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Wastewater treatment plant. Lesson 3: However, it is important to weigh t If the client intends to develop “standard contracts” the negative aspects of the programmatic for a PPP program, it is risky to launch several large approach before replicating it in countries projects in parallel: any significant change in the with no prior PPP experience. contract of one project will need to be reflected in contracts of all other projects, hence delaying all Following are some points to be alert to: transactions. t A programmatic approach can significantly delay Lesson 4: When entering a new market, such implementation of projects, with the risk of losing as Egypt, it is advisable to start with the “low- momentum and investors’ interest. The New Cairo hanging fruit”—a transaction of manageable Wastewater Project experienced such a delay due to size in a more traditional sector, a sector in the Egyptian government’s decision to give priority which IFC has a good understanding and in to the Schools Project, which was more politically which lenders are comfortable to lend. sensitive though more challenging. It is too risky to start a new PPP program with a very t Projects can suffer from a “negative replication effect”: large or innovative project. For example, it was a bit difficulties or deterioration of the client relationship ambitious to start the PPP program in Egypt with on one particular project can immediately affect the Schools Project—a large and complex transaction other projects. involving more than 300 schools scattered all over the SMARTLESSONS 45 country. Unfortunately, the multisite nature of the project and the limited number of institutional investors ABOUT THE AUTHOR in this sector, combined with fierce competition from other real estate projects that were more attractive to Muneer Ferozie is a Principal in IFC Advisory Services in Public-Private Partnerships, with experience in engineering, procurement, and construction contractors investment banking and infrastructure advisory. in 2006–2008, resulted in limited investor appetite, Muneer focuses on origination and execution of and ultimately in the cancellation of the project. privatizations and PPP projects in the infrastructure sector for the Middle East and North Africa region. On the other hand, the New Cairo Wastewater Project Aurélien Boyer is an Associate Investment Officer with was an ideal candidate for a first PPP in Egypt. It IFC Advisory Services in Public-Private Partnerships had a more manageable size and was in a sector with and is based in Dubai. Aurélien has international well-established local, regional, and international experience in financial services, including corporate finance, leveraged finance, project finance, and investors. Based on IFC due diligence and market PPP structuring, in Europe, North America, and the feedback, the capacity of the plant was reduced from Middle East. 500,000 to 250,000 cubic meters per day, making Malak Draz is an Investment Analyst with IFC it simpler to raise the required financing. The clear Advisory Services in Public-Private Partnerships and is output-based nature of the contract also made it more based in Cairo. Before joining IFC, Malak worked in straightforward for local banks to structure the debt the financial, construction, and insurance sectors in Egypt, Spain, and Mexico. package. A transaction of this size and nature helps build the credentials of the government, increase Approved by Moazzam Mekan, Manager, IFC investor confidence, and educate local banks before Advisory Services in Public-Private Partnerships. engaging in more complicated PPPs. CONCLUSION Despite a difficult environment for infrastructure projects in Egypt in 2007, the IFC team successfully closed the New Cairo Wastewater Project in May 2009. Financial close was reached in February 2010, and operations of the new plant are expected to start in February 2012. This groundbreaking project showed that it was possible to design a PPP project that would foster energy conservation and sustainable operation without negatively impacting value for money for the government. It also paved the path for other PPPs: two other wastewater projects have already been launched by the Egyptian government under the same model, thus immediately demonstrating the New Cairo Wastewater Project’s strong replicability potential. 46 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS SMARTLESSONS 47 Helping Small Water Utilities Become Bankable Small water utilities with fewer than 5,000 connections compose over 90 percent of the known network systems in urban areas in the Philippines. By developing their capacity to improve performance, these small operations increase the likelihood of being considered creditworthy and bankable so they can finance investments for expansion and service improvements. The Small Water Utilities Improvement and Financing (SWIF) Project of the World Bank’s Water and Sanitation Program1 (WSP) in the Philippines worked with 11 small water utilities to help them with strategic planning and performance improvement plans, preparation of cost recovery tariffs and project proposals that can be submitted to a bank, and reorganization of their investment plans to suit available financing. This SmartLesson shares the project team’s experience in helping these small water utilities become bankable. BACKGROUND they have collateral that can be used to guarantee their loans. They also find the available bank loan terms in As of 2008, 91 percent of Filipinos had access to the market—with a short repayment period and high improved drinking water, making the Millennium interest rate—to be a challenge to their cash flow. Development Goals target of 92 percent seem almost attainable. But, with a high urban growth rate of nearly The small utility’s management and staff need 2 percent, it will not happen easily. Small utilities internal tools to conceptualize, finance, and manage face the challenge of starting from a low number of investments and changes continually. The SWIF connections, and to catch up with rapid urbanization Project of the WSP in the Philippines had to devise an they need to implement successive investment plans improvement planning system driven by the utility, that are suited to their financing and management rather than externally through a project or through capacity. consultants. A 2004 World Bank WSP project of benchmarking The SWIF Project worked with 11 small water utilities water utilities revealed that small water utilities fund to help them identify and develop potential projects, their capital expenditures mostly by internal cash linked to their performance improvement action generation and grants that can fund only minor plan,2 that will require financing and to provide an investments. These utilities have difficulty borrowing opportunity for hands-on training of utility staff in from banks, because they are afraid to borrow or project finance, planning, and decision making. The because they have no experience in borrowing. They do not know how to prepare a project proposal, nor do 2 A performance improvement action plan concerns an area of op- erations (for example, reducing leakages, improving water qual- ity, or increasing service coverage) that needs to be managed to 1 The Water and Sanitation Program (www.wsp.org) is a multi- improve its efficiency and effectiveness, including how this im- donor partnership administered by the World Bank to support provement will be accomplished, who will be responsible for it, poor people in obtaining affordable, safe, and sustainable access and expenditures and investments that may be needed to effect to water and sanitation services. these changes. 48 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS SWIF Project, implemented from July 2006 to March All of the utilities received assistance with formulating 2008, helped the utilities improve their performance project loan proposals out of their investment plans. to enhance their creditworthiness and improve their Of the 11 utilities, 4 planned to borrow, 1 has already capacity to prepare project proposals that can be obtained a loan for source development, and 1 is in submitted to a bank. the process of completing the bank’s requirements. The project helped refine and update the Table 1 shows the overall results of the utilities’ recommended tariff model of the government’s performance from 2007, just before the project was National Water Resources Board for water utilities completed, to 2009, the latest data. New connections that it regulates. The utilities used this model as a enabled piped water to reach 10,250 persons. tool to consolidate their business plans for a five-year However, profitability weakened because some of period and to see the financial results of their targets. the water utilities could not implement their cost The project also developed a guide to ring-fencing3 recovery tariff. This is indicated by the operating ratio water operations for local government-run water (the ratio between operating expenses and operating utilities and prepared a performance improvement revenues). The collection period improved the most toolkit for small water utilities by documenting because of improvements in the utilities’ billing and compiling the process of coaching them. For and collection systems, including disconnection of example, the toolkit describes the coaching of the delinquent accounts. Nonrevenue water (the portion water utility board of directors and staff in strategic of water production that is not billed or sold) went planning through the SWOT (strengths, weaknesses, up slightly as a result of better measurement of actual opportunities, and threats) analysis, along with steps production. for preparing performance improvement plans. Familiarization with the financial projections model LESSONS LEARNED and explanations on tariff setting are also documented. Lesson 1: Involve everybody in the utility in During strategic planning, the participating utilities the training, and the small water utility will be recognized the need to expand their services while more resilient. improving their performance, so they could reach more people and give them access to piped water. The 11 participating water utilities average only The top investments they planned were for the 14 staff each and have very simple organizational expansion, upgrading, and rehabilitation of their structures. The project encouraged everyone in the networks and water-source development. They also water utility—from board directors to clerks to planned commercial systems improvements, such as plumbers—to participate in the training, which used the computerization of their billing and collection a participatory and coaching approach. system, to be funded mostly by internal cash generation after implementing a cost recovery tariff. The training started with a three-day workshop on the water utility’s premises. The first day was devoted to strategic planning using the SWOT analysis, and 3 Ring-fencing of accounts involves the isolation of water opera- board members were invited to attend. Topics on tions from the other activities of the local government so as to the second day covered how to prepare a project generate reliable financial reports showing the true performance proposal, how banks evaluate a proposal, and what of the water utility, generate information that can be used to de- data are needed to prepare one. This was followed termine the appropriate tariff, and build a financially viable and self-sustaining water utility. by discussions on an ideal organizational setup for a SMARTLESSONS 49 Table 1: Selected Performance Indicators, 2007 and 2009 INDICATORS 2007 2009 No. of connections 29,143 31,008 Operating ratio 0.79 0.82 Collection period, days 109 49 Nonrevenue water 27% 32% Source: Water Utilities Participating in the SWIF Project water utility, the delineation of responsibilities within learned how to revise their assumptions until they the organization, internal controls, monitoring and were satisfied with the results. evaluation, and tariff formulation. To give utilities confidence in their plans, a customer Afterward, the participants were segregated into survey was conducted to confirm that the plans match technical and financial groups. The technical group the priorities of customers and to reveal how much discussed water sources, transmission, storage, tariff increase their customers can tolerate. and distribution issues; water quality and water treatment; the demand and supply gap; and the The SWIF team left the utility to improve on its costing of capital and operating expenditures. They investment plans and performance improvement were guided on how to prepare an investment plan plans and to draft its project proposals. These were and performance improvement action plan focusing later submitted to the SWIF team for review and on technical matters such as decreasing nonrevenue comments. water, improving water quality and water pressure, During a subsequent visit, one water utility and increasing the number of hours that water is changed the proposal it submitted at the end of the available to consumers. project, because a big supermarket chain planned Meanwhile, the financial group prepared its to open a branch within its service area and a real performance improvement plans related to financial estate subdivision donated its network to the water matters, such as how to improve their billing and utility. The head of the technical department could collection system so as to shorten their collection confidently explain how the utility would meet the period. The training also offered hands-on exercises on additional demand from this supermarket and the financial projections, gathering the assumptions and additional connections. Even the human resources data needed (including the technical information to head understood the impact of this additional demand be provided by the technical group), where they come on the utility’s operations. The general manager and from, how they are entered into the projections, how chairman of the board knew how much financing to analyze the results, and how to revise the projections they would need for these changes. to achieve the desired goals. Then everybody joined A team included a technical and financial consultant, in the presentation of the financial projections and reinforced by counterparts from national government reviewed the results of their initial plans to assess agencies (the Local Water Utilities Administration, the whether they were doable or overly optimistic. They Department of the Interior and Local Government, 50 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Small water utilities with fewer than 5000 connections compose over 90 perent of network systems in urban areas of the Philippines. the Cooperative Development Authority, and the Lesson 2: Ring-fence the accounts of water National Water Resources Board). operations. As a follow-up, an accreditation project is being In the Philippines, the operations of water utilities developed whereby technical service providers will be managed by the local government are not ring-fenced, accredited by the economic regulator of water utilities, and thus the utilities’ performance cannot be measured the National Water Resources Board. These accredited accurately. To address this issue, the project developed consultants can be engaged by water utilities to help the “Guide to Ring-fencing of Local Government-Run them with their performance improvement and with Water Utilities,” showing the steps needed to identify compliance with regulation requirements. Utilities all revenues related to water operations and how to may obtain a loan from a revolving fund to pay for record them for the water utility. Before ring-fencing, the services of the accredited consultants. it was not easy to know how many water bills were collected and who had not yet paid them. The guide also shows how to identify and record expenses incurred by the other local government departments for water operations and to record SMARTLESSONS 51 them to come up with more Lesson 3: Address the special financing needs accurate financial statements of small water utilities by dealing with the gap for the water utility. This between what utilities want and what banks involved developing the want. staffing system for the water It does not always follow that when a water utility operations and agreeing is creditworthy and bankable it can easily obtain on rules on attribution of a loan from private banks. In the early stage of the shared resources. Before project, banks expressed interest in lending to water ring-fencing, for example, utilities. But when the project proposals were ready, the salary of the municipal banks found that the risk-return profile of small engineer, who also heads water utilities does not make them a prime market the water utility, was charged in full to the Municipal for commercial banks. Engineering Department and none of it was charged to water operations. With ring-fencing, his salary is Another factor is the availability of grant funding now prorated between the Engineering Department through the congressmen’s countryside development and water operations. By ring-fencing the accounts funds. Utilities would rather seek these funds than of water operations, the municipality is now able to to go to banks. One solution may be to use these know how much subsidy it is giving the water utility, grants and development funds to leverage commercial and it has a more accurate basis on which to calculate funding. the proper tariff to charge consumers. Four of the project’s eleven participating utilities One mayor did not realize until the water operations initially planned to obtain a loan. So far, only one were ring-fenced that the utility was giving a lot of has actually borrowed, to fund the drilling of a subsidies for providing water to just a limited portion new well to augment its water source. It is a local of its constituents. Now that the mayor is getting a government-managed water utility whose collateral more accurate figure of the actual costs, he is working is the internal revenue allotment of the municipality toward implementing a cost recovery tariff. from the central government. A rural water supply association is also working on complying with the The United States Agency for International bank requirements for a loan to fund a new well. It Development has collaborated with WSP-Philippines took some time for the association to decide to borrow and the Department of the Interior and Local from a bank, which offers a short repayment period Government, as well as the Cooperative Development and high interest rates. A water cooperative that Authority, to help more utilities ring-fence their water wanted to expand its coverage was fortunate to obtain operations. So far, five local government-managed grant financing from the local government and the utilities and three water cooperatives have shifted to countryside development fund of the congressman in ring-fencing the accounts of their water operations. its town, so it does not have to borrow for now. The Another five local government water utilities are fourth utility, also a cooperative, is still working to get currently working on their ring-fencing. approval of its much-needed tariff increase before it can also borrow for service expansion. A 2008 study, “Small Utility Access to Market Credit: Lessons and Options,” done under the SWIF Project, cites the differences between what utilities and banks 52 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Table 2: What Water Utilities and Banks Want Utilities Want Banks Wants t-POHFSUFOPSTNBUDIFEUPBTTFUMJGF t Tenors matched to liabilities (sources of t'JYFEJOUFSFTUSBUFTUPNBOBHF funds) fluctuations in tariffs t Floating interest rates matched to market t4NBMMFSMPBOBNPVOUTNVMUJQMF price, variable discount rates and GAP reserve requirements drawdowns t/PSFBMFTUBUFNPSUHBHFDPMMBUFSBMT t Adequate spreads and economic size t"TTJTUBODFGPSJOWFTUNFOUQMBOOJOH t Low credit risk and project development t Investment proposals that breed confidence Source: Small Utility Access to Market Credit: Lessons and Options, Water and Sanitation Program want, as summarized in Table 2. The gap between the organization that will rely on internal capacities for these wants has to be addressed so utilities can access the coming years. And supporting increased internal funds from the market to improve and expand their capacities requires a focus on internal performance operations. evaluation and improvement planning, support for financial systems and ring-fencing, support WSP-Philippines is conducting a study that for improvement plan development and project will develop options and strategies on lending development, and linking these with financing. transactions between rural/thrift banks and small water service providers, using the wholesale facility of the Development Bank of the Philippines that will be established under the World Bank-supported ABOUT THE AUTHOR Regional Infrastructure for Growth Project. Leila Elvas is a Senior Water and Sanitation CONCLUSION Specialist for the Water and Sanitation Program in the Philippines. Prior to joining the WSP, she was Small water utilities are important. They represent a Financial Analyst with the World Bank Office over 90 percent of all piped water operators in the in Jakarta, working on water supply projects in Indonesia. Philippines. They provide water to areas that the big operators are not serving. But they have specific Approved by Almud Weitz, Regional Team Leader, challenges. They need to manage continual growth Water and Sanitation Program, East Asia and the Pacific; Jae So, Manager, Water and Sanitation despite the disadvantage of having a small customer Program, Washington, D.C. and financing base. The support to them needs to be very tailored and focused on transferring capacity to SMARTLESSONS 53 Designing and Financing a Program from the Ground Up: Lessons from the Uganda Small-Scale Infrastructure Provider Water Program In 2005, IFC began working with the government of Uganda to improve public-private partnership (PPP) arrangements for piped water supply systems in small towns. The country had been transacting PPPs in peri-urban and rural areas since 2001 and had management contracts with private operators (POs) in 70 small towns, but the contractual arrangements were generally weak and plagued with capacity challenges. Local government authorities were not often familiar with the contract details, which led to an inability to effectively implement details of contracts at both the national and subnational levels. To help the government improve on these flawed PPP models and address issues of weak capacity in the water sector, IFC launched the Small-Scale Infrastructure Provider (SSIP) Water Program. The program succeeded in facilitating access to finance for a PO to develop a piped water supply project in the one town that qualified. This was the first time in the 10-year history of small-town water PPP arrangements that a PO in Uganda received a loan from a local bank using the small-town water operations model. IFC also succeeded in convincing the government to extend the duration of management contracts from two or three years to a minimum of five years—a key factor in making these types of transactions more attractive for private operators. It is expected that within the next few years the Ministry of Water and Environment (MWE) will change all management contracts to the newly introduced five-year term. This SmartLesson examines the issue of proper program design, implementation, and financing, and shares lessons learned from the experience of the SSIP Water Program. BACKGROUND A New and Improved Design The idea was to leverage IFC’s experience as an advisor IFC worked with the client government, development for a variety of PPP transactions, particularly water PPPs, partners, and private sector participants to create a and to use the resources within its Financial Markets new program design that was acceptable to all the and Small and Medium Enterprise (SME) departments stakeholders involved. (See Box 2.) to address the financing and capacity challenges that existed with private sector participation in Uganda’s By removing a component that offered interventions water sector. IFC originally proposed a program heavily for private operators, IFC had an opportunity to based on capacity-building interventions. (See Box 1.) collaborate with GTZ, which provided interventions to complement IFC program activities. Successful The SME Entrepreneurship Development Initiatives discussions between IFC and GTZ interested other (EDI) program and the Financial Markets Department development partners active in the country’s water did not sign off on the program’s design, mostly sector and garnered support for the overall program. because they did not have a clear understanding of IFC was also able to begin to focus on exploring the program and their specific roles within it. 54 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Box 1: Original Program Design The original design comprised the following components, in order of priority: 1. Public sector capacity building of local authorities and the Ministry of Water and Environment (MWE) to monitor the operation and management of the water system 2. Private sector capacity building of POs for operational efficiencies and access to finance 3. Transaction structuring and implementation of PPP deals, using international best practices 4. Access-to-finance interventions to encourage local banks to lend to POs, plus development of a product to share the risk of lending to POs between local banks and IFC Weaknesses: t Public sector capacity-building activities were not linked to specific transactions or a specific area of capacity. t Private sector capacity building was not necessary, because the German Technical Corporation (GTZ) was already providing similar interventions. t Not enough pre-implementation studies were done on current financing options available to POs and on the willingness and capacity of local banks to lend to them. And, the merits and feasibility of a risk-sharing product were not clear. Box 2: Revised Program Design The revised program includes some of the original components: 1. Transaction structuring and implementation of PPP arrangements 2. Public sector capacity building linked to transactions and to key deliverables 3. Access-to-finance interventions focused on specific transactions and on improving the willingness and capacity of banks to lend to POs Benefits: The first component—the program’s core—covers 10 small towns and includes due diligence followed by a recommendation that the government adopt one or more options for water PPP arrangements. The outcome of this component will be model PPP contracts that will be adopted by the entire water sector. The component for planned public sector capacity building will involve interventions on contract administration for local authorities and the MWE, using the model contracts as case studies. The interventions will cover key aspects of the contract. SMARTLESSONS 55 Women fetching water at a public water pipe (PWP). The PWP is installed over a borehole and households pay nominal fees to fetch water from this source. avenues to provide financing for one or more of the variety of development activities in the water sector. estimated 15 private operators in the water sector. For the past few years, for example, GTZ has helped the Association of Private Water Operators strengthen LESSONS LEARNED its members’ capacity to improve their operational and business efficiencies. Lesson 1: Take on no more than necessary. Lesson 2: Offer strategically aligned When designing programs, we need to understand complementary advisory services. our delivery capacity—and recognize our limitations. In Uganda, POs are primarily small and medium The original proposal centered on a fairly broad enterprises beset by such problems as weak accounting public sector capacity-building component that and reporting systems, lack of training for employees, lacked focus. After four to six months of conducting and no thorough strategic thinking for operations a needs-assessment survey to ascertain the areas of or expansion. But many partners fund and assist a capacity that needed attention, we found that the 56 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS MWE and other development partners were already the source and amount of available subsidies for the attempting to improve many areas of capacity. But planned transactions. the stakeholders still could not properly administer and manage PPP contracts. Lesson 5: Help with capacity building of the various players. Capacity-building interventions will now focus solely on the administration of the model PPP contracts IFC assisted the government with building the capacity proposed by IFC for the planned transactions. of local water authorities—as well as POs and MWE staff—to administer the PPP contracts. The objective Lesson 3: Engage and communicate! was to increase the participants’ understanding of the PPP contracts, thereby improving the local authorities’ IFC did not sufficiently engage with development management of PPPs and the POs’ delivery of service. partners, the government, and stakeholders during the program’s design phase. For example, the original An initial needs assessment revealed a low level of design’s private sector capacity-building component understanding of PPP contracts. Although several significantly delayed proposal approval. In the end, water boards in the country have been involved in IFC removed that component and agreed to have performance contracts and management contracts for GTZ take ownership of capacity interventions for up to a decade, most board members lack an adequate the private sector. understanding of the rationale for these arrangements and the mechanisms for managing and monitoring With the MWE’s assistance, IFC could have identified them. Also, many small-town water systems have had development partners to take on other aspects of the conflicts between the board and the PO. It has been program, such as access to finance and public sector a challenge to manage these ongoing tensions and capacity building, while IFC focused on its core conflicts effectively. competency. We held two successful training workshops for two Lesson 4: Determine whether subsidies are groups of participants, with participants in each required; if so, be sure they are available prior workshop representing the three main stakeholder to structuring the transactions. groups: 1) local Water Supply and Sanitation Boards, 2) POs, and 3) the MWE. Respondents found the MWE had impressed upon IFC that the “need for role-playing and hands-on problem-solving aspects zero subsidy” was one of its criteria for selecting the potentially useful to their day-to-day management of towns. However, after the site visits and due diligence, PPP contracts. it was clear that subsidies were required for all 10 towns. Unfortunately, Global Partnership on Output- Lesson 6: Work with local banks to bring Based Aid (GPOBA) subsidy funds were sufficient about or improve access to finance for POs. to cover only one of them. To maintain continuity within program activities and to ensure demonstrable An assessment of the POs’ ability to expand service effects, the project went ahead and implemented a delivery included an examination of the constraints bid for that town. they faced. IFC found that one of the key constraints is access to finance. During this assessment, interviews Prior to signing up to provide advice for PPP with bank personnel yielded many excellent suggestions transactions in any of the project towns, IFC should for how banks can support the POs in the country’s have requested written confirmation from MWE on water sector. SMARTLESSONS 57 IFC’s comparative advantage in understanding and having a business relationship with financial institutions in the country was a key factor in the ABOUT THE AUTHORS project’s success. The winning bidder for the PPP Frances “Sese” Gadzekpo is an Operations Officer was the first private operator to receive financing with the Sustainable Business Advisory Department. for working capital from a local bank. Our hope is She is responsible for the Infrastructure Product that this milestone will result in many more such Line, focusing on water. Prior to joining IFC, Sese was a business development consultant for Millicom loans being disbursed by local banks toward the International Cellular, Marubeni Corporation, and development of small-town water projects. Enron. David Bot Ba Njock is an Investment Officer with IFC CONCLUSION Advisory Services in Public-Private Partnerships. The client and the donor are keenly interested in Carla Faustino Coelho is an Investment Officer with applying the lessons from the program’s design and IFC Advisory Services in Public-Private Partnerships. implementation elsewhere. It is now clear that the Approving Manager: Emmanuel Nyirinkindi, Manager, essential elements of such a program should reflect IFC Advisory Services in Public-Private Partnerships, the core competencies of IFC’s Advisory Services in Africa. Public-Private Partnerships department and IFC’s value addition to such a project. Due to budget constraints, the MWE in Uganda was unable to obtain subsidies for water projects in all 10 towns, so we were able to assist the MWE with a transaction in only a single town. Despite implementing only one transaction in the host country, we believe our work there will significantly assist the MWE with future transactions, and that enhancements to the procurement process and contract terms will make these transactions more attractive to POs and lenders. Through our capacity-building work, key government officials are better equipped to manage contracts with POs, ensuring that these transactions are sustainable. And our access-to-finance work helped introduce commercial lenders into this sector—a significant outcome, which we hope will result in the expansion of the country’s small-town water program with the assistance of local banks. 58 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS SMARTLESSONS 59 Dealing with Informality in Water Supply Services in Indonesia Communities demand that community-based organizations (CBOs) be more professional in their delivery of water and provide the level of service they expect. This demand may present a challenge, due not only to the limited internal capacity of the CBO but also to the uncertainty as to the legal status of the organization that performs the service function. If policymakers and local authorities want CBOs to perform better, particularly in rural areas, they need to strengthen corporate practice and work toward improving formalization, accountability, and partnership definition. This SmartLesson describes the Multi-Village Pooling Project’s experience with the challenges and potential of CBOs formed under previous projects, and it identifies ways to help them improve, expand, and manage on a continuing basis. BACKGROUND Indonesia’s more than 70,000 villages are spread across Rural Water Supply Access 491 districts and municipalities in 33 provinces. Fifty- six percent of the country is rural, and 52 percent of the population depends on shallow wells for their 100% water. According to WHO-UNICEF1 Joint Monitoring 90% Program data (2008), overall access to water is 80 80% percent, but with a disparity between urban (90 70% percent access) and rural (70 percent access) areas. (See the chart.) 60% 50% To improve services, over the past two decades, the government has built no fewer than 10,000 water 40% supply facilities in villages with World Bank funds 30% alone. These facilities are managed by CBOs. The 20% number is even larger if facilities built using national 10% budget funds, other donor funds, and social funds from corporations are taken into account. 0 2006 2007 2008 2009 This increased investment in CBO-managed facilities is due not only to the internal benefits of a Unimproved community-based approach—such as strong sense of Other Improved Piped ownership, community contribution to the project, Source: Bandan Pusat Statistik, SUSENAS 1 WHO (World Health Organization of the United Nations); UNICEF (United Nations Children’s Fund). 60 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS involvement of the community in the operation and more than the tariffs currently charged by the CBOs.3 maintenance of facilities, and so on—but also to the This high willingness to pay is very likely driven by poor performance of local water utilities. customers’ desire for better service. More than 60 percent of respondents noted problems with their Learning from previous projects, the project improved current service, such as insufficient water pressure or the design of the implementation of community- reliability, while the hypothetical willingness-to-pay based investment projects to ensure the sustainability scenario offered good pressure and reliability. of the facilities. Preparation focused not only on achieving good-quality construction, but also on These two findings indicate that there is opportunity social preparations in anticipation of changes in roles to expand the role of CBOs in delivery of water and functions in the existing community structure supply services. Although several experienced CBOs as the result of having a new institution manage the have expanded their services and operations since facilities. The project adopted a demand-responsive the initial investment was made, leveraging their role approach to ensure that the project targeted those in community water supply presents even further who actually wanted water supply services, and it challenges related to their internal institutional capacity required cash and in-kind contributions from the and to external, structural issues such as clarity regarding community during the construction of the facility, as their mandate and relationship with the government. an indicator of demand for the project. As a result of this approach and of communities’ LESSONS LEARNED continued need for water supply services, the role of Lesson 1: Build CBOs’ capacity for corporate community groups in service provision is growing. A practices. 2008–2009 study by the World Bank-administered Water and Sanitation Program (in five districts in two CBOs were originally designed as organizations “from the provinces in Indonesia)2 found that existing CBOs community, by the community, and for the community,” cater to an average of 1,200 users (260 connections), financed by a project. When projects ended, some which means that the CBOs in these five districts performed poorly and folded; others managed to maintain are delivering water to an estimated 800,000 people improvements in both performance and services. For (about 7 percent of the total population). Data from those CBOs that were able to survive and expand their Blitar and Lamongan, two of the districts, show that services, there has been a shift in their community-based CBOs provide between three and five times more nature and structure. For example, their customer base household connections than do the local water utilities. may now expand beyond those involved in setting up Approximately 67 percent of the CBOs surveyed have the CBO to include people who did not contribute in operating ratios of less than 1, which means that each cash or in kind when the project was under way, and has a borrowing capacity of between IDR 12 million in some cases do not even live in the administrative ($1,100) and IDR 400 million ($44,000). CBOs also territory of the village for which the service was originally manage assets worth, on average, $50,000. intended. The implication of these developments is that not all users have the same rights and responsibilities. Focusing on users’ and potential users’ willingness to For example, the greater the number of users, the greater pay, the study found that those willing to pay more for services would be prepared to pay 30–300 percent 3 This study used a contingent valuation, with respondents being 2 Malang, Lamongan, and Blitar districts in East Java province, asked how much they would be willing to pay, contingent on and Bandung and Cianjur districts in West Java province. specific hypothetical scenarios. SMARTLESSONS 61 the delegation of functions from the community to In adopting this approach, CBOs tend to sidestep the CBO. Although not officially documented, there to some degree the functions and mechanisms of is evidence that community participation in strategic agencies of the bureaucracy, such as village and district decision making has been delegated to the CBO. Users government offices. Instead, they receive technical are more concerned with getting decent service at an assistance, provided by teams of consultants and affordable price. Over and above that, decisions lie facilitators, for the operational functions of project with the CBO. implementation. Although this approach is good at quickly and effectively reaching the community with Unfortunately, the majority of CBOs do not adopt facilities, organizations formed when the project was corporate practices. They do not have systems in under way become fragile when the project ends. place to plan and budget on an annual basis, are not externally controlled for performance, have no For project-formed organizations, which offer limited incentives for staff, and have no systems for financial support when the project is ongoing, it takes time and reporting and asset recording. Public meetings to adjustment to local challenges to evolve into established report on performance to the community are now organizations. All too often, the fate of the organization rare. This leaves the door open for discord between depends on a handful of individuals who enjoy very high users and the management board and results in a social and economic standing in the village. This makes lack of protection instruments for all sides, including the foundation of the organization very fragile. For CBO control and accountability mechanisms. example, local political power can be so strong that CBO managers may be replaced (supplanted) for not doing Capacity-building programs need to be conducted to as the local political power would like or, alternatively, improve the CBOs’ current organizational charters can hold their positions ”forever,” regardless of their on people, process, and practices. On people, one performance in managing the facilities. area to be improved by CBOs relates to how the committee is structured. CBOs should provide In addition, guidance from the local authority is people with clarity as to their rights and obligations, weak. In such cases, it is not clear who controls the agree on eligibility criteria to become a committee managers’ performance or to whom they report. In member, and agree on who makes what decisions. the long run, it is the users—those who have made On process, the CBOs should define clear objectives contributions and who want better services—who for the organization, including its scope, values, and will lose out. And in an even worse scenario, the principles, and their governance over committee and system will fold, resulting in a loss on an investment community members, including financial policy on that was financed by public and private funds. what is done with the profit. On practices, CBOs need to develop policies for customer relations tariff- Many CBOs are aware of the fragility of their setting mechanisms, and evaluation from external position as organizations with no legal status. They parties, including conflict resolution. expressed interest in becoming registered, legal entities. To do this, they had to revise their articles of association and bylaws and discuss with the Lesson 2: Work toward formalization. community concerned what kind of legal entity they In addition to empowering communities, the should become. Becoming legal entities separates the community-driven development approach also breaks individual responsibilities of the managers from the through the bureaucracy that in the past has delayed responsibilities of the organization in formal dealings and blocked the flow of assistance to communities. with other institutions. It is not uncommon for 62 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS managers to borrow funds against personal collateral As the authority responsible for the implementation to keep operations going—for example, to replace a of water supply services, local governments need to burned-out pump or to pay the electricity bill if there assume a greater role in managing services, including: is not enough money collected from the customers. Not being a legal entity poses risks to the individual t Issuing mandates and licenses to CBOs to provide rather than to the organization. services in specified areas that include all the service performance criteria that have to be met within a Being a legal entity helps the community appreciate realistic time frame. and consistently apply the agreements—made in the t Reviewing and revising any onerous regulations on organization’s articles of association or bylaws—that community-based water management organizations, and define the tasks, roles, and responsibilities of each developing local regulations that provide legal certainty stakeholder group. for implementation of water supply services by CBOs. t Providing opportunities for public-private service Lesson 3: Develop an accountability partnerships on a realistic scale through competitive framework between local government and tenders to ensure efficient services. CBOs. In some districts, CBOs receive little support from Lesson 4: Define a form of partnership the district government, even though the number of between local government and the CBOs. piped water users catered to by the CBOs exceeds the Generally, assets used for development of water supply number of users served by local water utilities and, in infrastructure are recorded as capital expenditures general, the level of welfare of CBO customers is lower in government accounting systems. Unlike social than that of local water utility customers. Local water expenditures, where assets are transferred (such as utilities get additional investment funding every year, contributions to disaster-struck communities), capital receive advice, and have the backing of public policy expenditures must be recorded as government-owned to run their operations, but there is no framework of assets. This make the organization of assets complicated district government support for CBOs, perhaps due in practice. There are consequences not only for asset to uncertain relations between the two. Regulations recording, but also for when there are returns on say that the water supply function is the right and government-owned assets that are managed by CBOs. responsibility of government. Thus, CBOs exist to Although there is no evidence of this happening, some assist government in executing its function and role people in government believe that revenues arising in water supply provision. from the management of government assets belong Furthermore, in many cases, CBOs take on a greater to the government and belong in the state treasury. load than do local water utilities. For example, CBOs This problem is further complicated for the following pay commercial rates for electricity, because they use reasons: large-capacity distribution pumps. Commercial rates for electricity are higher than industrial and residential t The message given to communities at the time of rates. CBOs also pay higher water land rates than the initial project investment is that the facilities do local water utilities. Also, local governments built will belong to them and that they should be do not offer much help in resolving disputes or maintained and used accordingly. misunderstandings between CBO managers and users or village leaders. t The community contributes to the construction of the facility, both in cash and in kind. So these SMARTLESSONS 63 assets are actually jointly owned, though not in t A management contract where CBOs are responsible equal proportion. only for operation and maintenance of the system; t When facilities are developed, beyond revenues arising t A concession where CBOs also invest in expansion from the management of the faculties, users often in addition to operation and maintenance; and make additional contributions to get better service, such as purchasing pipes to get household connec- t A joint venture where CBOs also invest in equity in tions, purchasing water meters, adding reservoirs, addition to their role in operating and maintaining and purchasing higher-capacity pumps. the system; hence, the CBOs act as a private entity. t CBO personnel are not paid market wages. Most In fact, these partnerships are happening, but managers are volunteers who are paid below the there is a lack of formalization, so it is difficult to regional minimum wage. trace performance accountability for both sides. Formalization will educate both parties about how to Although the assets initially invested through project bargain their role sharing in the partnership and how funds will depreciate and at some point will cease to achieve better planning for both sides, since CBOs to have any value, current assets (which have been will be aware of their obligations regarding incentives, replaced) are the result of the management of the and this will trigger the local government to better CBO. In practice, this will be a concern for the CBO. monitor the service performance. As an example of what happens as a result of this vague and impractical system of asset management, selling CONCLUSION a burned-out, unusable pump (originally purchased Although community-based water supply organizations with government funds) and replacing it with a new are the preferred option, at a certain scale, managing pump breaches audit regulations (because the broken water supply facilities solely on the principles of pump should have been saved). Total compliance community-driven development is difficult, given the with audit principles is not only impractical, but also pragmatic nature of communities and their focus on difficult for communities to understand. service. The current trend is toward communities as paying consumers who demand affordable services, Transferring government assets to CBOs is no easy rather than communities who want to collectively option, either, given the requirement for approval think of ways to improve services. Greater value is from numerous authorities (including regional placed on roles, and more is expected of those given government, the Ministry of Public Works, and the roles within the community structure. Ministry of Finance) and the questionable reliability of the process. ABOUT THE AUTHOR Considering that full privatization, where all right and Deviariandy Setiawan is a Community Development authority of service are in private hands, is not possible Specialist in the World Bank Jakarta office, where he by law, and full public management is not a wanted is Team Leader for the Multi-Village Pooling Project. choice, some possible action to solve this problem Devi has an engineering and social development background and has worked primarily in rural water might be through developing appropriate partnership and sanitation development. forms between CBOs and local governments in water supply service. The following are some possible forms Approved by Jae So, Manager, Water and Sanitation Program. of this delegated or partnership model: 64 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS SMARTLESSONS 65 Water Footprint: A Tool for Unleashing Corporate Water Stewardship By 2030, according to projections, one-third of the world’s population (concentrated in developing countries) will live in areas where water demand is estimated to outstrip supply by 40–50 percent or more. It may be a challenge for businesses to thrive in an era of such water scarcity. One tool that can help is a water footprint assessment—a framework through which a business, an industry sector, or a group of businesses in a watershed can evaluate and address water risks and impacts. This SmartLesson provides an overview of a water footprint assessment, including a description of IFC’s water footprint assessment with Jain Irrigation Systems Limited. BACKGROUND and grey water (an indicator of water pollution); and specifies the water source(s) and the timing Water footprinting is a young practice, supported by the of water consumption (important where there are Water Footprint Network.1 A corporate water footprint seasonal variations in water availability). assessment consists of four phases (see Figure 1): t 1IBTF, sustainability assessment, considers the t 1IBTF  sets goals and defines the scope of the overall sustainability of the watershed, which will assessment. be of interest to other actors in the watershed and t 1IBTF , water footprint accounting, considers can form the basis for a stakeholder dialogue on water consumption in the supply chain as well as water resource management. in operations; distinguishes between green water t 1IBTF, response formulation, draws upon the water (rain water), blue water (surface and ground water), inventory and sustainability assessment to pinpoint opportunities for a business to address water risks 1 The Water Footprint Network (www.waterfootprint.org) and impacts. Response strategies can include working was founded in 2008 with IFC as a founding partner. It has more than 130 partners worldwide from business, academia, with IFC to finance water efficiency measures in nongovernmental organizations, and the public sector. Partners operations and in the supply chain, community include such organizations as the Nature Conservancy, the engagement, participation in public-private dialogues, World Wildlife Fund, the World Business Council for Sustain- watershed restoration, and other measures. able Development, the Coca Cola Company, Unilever, Nestlé, Lafarge, and Jain Irrigation. PHASE 1 PHASE 3 PHASE 4 PHASE 2 Watershed Setting Goals  Water Footprint  Sustainability  Response and Scope Accounting Formulation Assessment Source: Water Footprint Manual, WFN 2009 Figure 1: The four phases of a water footprint 66 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS ADDED VALUE OF A WATER t Understand the characteristics of watersheds of FOOTPRINT ASSESSMENT concern—the underlying hydrology and the drivers, outlook, and social and environmental implications Traditionally, the measurement of corporate water of water scarcity—to enable the company to take consumption has been expressed only in cubic meters effective action for risk mitigation. (no location or seasonal information) and has looked only at operations (not the supply chain). This type of t Devise comprehensive strategies for reducing the information is not rich enough to allow a business to impacts of water consumption and exposure to truly assess the impacts and risks related to its water water risk. consumption and to devise a response strategy. t Play a leadership role in addressing water scarcity at basin level. The impacts of freshwater use and exposure to water risk are intrinsically linked to a location (the watershed) and The assessment also creates a rigorous baseline for to the time of year (dry season, rainy season) when it is corporate water consumption, allowing a company consumed. Unlike greenhouse gasses, which have the same to measure the reduction of its footprint over time; a impact regardless of when and where they are emitted, benchmark to facilitate knowledge sharing and water a cubic meter of water abstracted will have different stewardship within a watershed or industry sector; and a impacts depending on local water availability and on common language for discussing water consumption and the water requirements of local people, businesses, and impacts among all stakeholders, including civil society, ecosystems. Similarly, water risk also depends on location. communities, government, and other industry players. For most businesses, water consumption is much A client is a good candidate for a water footprint larger in the supply chain than in operations, often assessment when it has the following: exceeding 90 percent. Hence, to fully understand the t Local water scarcity concerns or hotspots, in direct impacts of its water consumption and its exposure to operations or among key suppliers. water risk, a business needs to look down the supply chain at the water consumption of product inputs. t Significant water use in operations or supply chain. t A desire to understand its footprint in order to ADVANTAGES OF WATER FOOTPRINT take action on its own or as part of a regional or ASSESSMENTS sectoral initiative. Much of the impact of climate change will be felt in t A sponsor willing to dedicate several months of a the water supply through changes in rainfall patterns, (near) full-time technical staff to coordinate internal increased droughts and floods, saltwater intrusion into and external data collection. groundwater, and increased agriculture and livestock t A sponsor willing to share costs. water needs in a warmer climate. Identifying and t An enlightened sponsor willing to take on a role in addressing water risk can strengthen clients’ climate broader water initiatives beyond its own direct operations. resilience—particularly relevant as IFC seeks to develop new approaches for climate adaptation. A water footprint assessment can help a company: THE JAIN EXPERIENCE t Quantify its own water consumption (operations In December 2009, IFC partnered with its client Jain and supply chains) and understand how it links to Irrigation Systems Limited to conduct the first water local watersheds and what the associated risks are. footprint assessment of a developing-country business. SMARTLESSONS 67 Jain Water Footprint Response Strategy The Jain water footprint response strategy consists of four complementary approaches to alleviating water scarcity and improving the sustainability of water use: t 4QFDJíDHSPVOEXBUFSDPOTVNQUJPO Through supporting increased use of drip irrigation by existing onion farmers, Jain can help these farmers reduce their water consumption and thereby alleviate local groundwater overdraft. t 0WFSBMMHSPVOEXBUFSDPOTVNQUJPO Looking more broadly at agriculture in the Jalgaon growing region, Jain can also support the government’s push for new, less water-intensive cropping strategies, which will reduce overall groundwater consumption. t 8BUFSTVQQMZ Jain can increase the amount of groundwater available by encouraging rainwater harvesting and aquifer recharge projects. t 4VTUBJOBCJMJUZ Jain is considering supporting or establishing a Tapi River Basin Water User’s Dialogue, through which representatives of local water stakeholders can work together toward sustainable water resource management. This holistic set of measures addresses both water demand and water supply, and includes measures Jain can take on its own as well as ones that involve other actors. Jain Irrigation is the world’s largest producer of irrigation Jain can take on its own; others involve cooperation equipment and second-largest producer of dehydrated with local actors. Overall, the strategies aim to make onions. This unusual mix of activities allowed us to Jain’s onion farmers more secure and profitable, address compare the water footprint of dehydrated onions water issues at a basin level, and raise Jain’s profile as produced with flood irrigation and drip irrigation and a leader in addressing water scarcity. led to an extensive set of response strategies. We found that onions cultivated under drip irrigation LESSONS LEARNED have a 42 percent smaller footprint overall, compared Lesson 1: Clarify roles and responsibilities to onions cultivated under flood irrigation, and that between different partners. the gray water footprint for drip is almost 90 percent smaller. In other words, drip irrigation significantly Because water footprinting is an emerging practice, the improved “crop per drop” and decreased water pollution client will not be familiar with roles and responsibilities. associated with surface runoff and groundwater leaching. IFC can help make project management effective by explaining from the start how the process is likely to Although onion crops in Jain’s supply chain account unfold. Typically: for only 1 percent of total water consumption in the local watershed, they are still vulnerable to water t IFC, the client, and the technical consultant decide shortages. Therefore, the response strategies developed on the scope of the water footprint assessment. are a holistic mix of measures to increase water supply t The client is then responsible for collecting all required and reduce water demand. Some are initiatives that data, which typically includes water consumption 68 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Jain’s drip irrigation systems has allowed 25,000 small farmers to increase output while saving enough water to serve more than 10 million households for a year. data from operations and from the supply chain, and key suppliers, and review calculations performed by as well as hydrogeological data available from local the technical consultant. Responsibilities of the technical government offices or universities. consultant and of client staff will need to be clearly t The client or technical consultant uses the data to delineated. The client should ensure (for example, via calculate the blue, green, and gray water footprint. a memo from senior management) that staff will have enough time to complete their water footprint tasks t The client or technical consultant assesses the apart from their ongoing responsibilities. sustainability of the watershed(s) of interest and of the business unit(s) operating in the watershed. Both IFC and the technical consultant should budget t IFC and the client or technical consultant discuss for travel, because face-to-face meetings with the client response strategies to improve the sustainability of are essential to maintaining a good pace and clear the water consumption. communication. This process currently takes three to nine months and Lesson 2: Project fundamentals should be costs $25,000 to $150,000, depending on scope and sound. To keep the project on time and within locally available expertise. The cost and duration will be budget, maintain a narrow scope. significantly reduced as the Water Footprint Network’s WaterFAST software comes on line (first release scheduled The original scope included a second product (mango for 2011). At a minimum, the client will need to allocate puree), but as our deadline drew near, we realized that staff to oversee data gathering, gather data from operations SMARTLESSONS 69 we would not be able to gather the required data in a Later, as the team worked to capture the Jain experience timely manner. Because the mango supply chain was for internal communication, we realized that we needed geographically dispersed, we would need to collect additional communication tools to convey the results a full data set from each mango growing area. In the from the Jain pilot and to manage expectations regarding end, we realized that it would have been more efficient further deployment of water footprint assessments to keep a narrow focus from the start. with clients. It would have been better to create a solid communication strategy for both internal and Lesson 3: Go with the best expertise at hand. external audiences from the outset, or at least in the early stages of the process, with updates throughout The Jain water footprint assessment was successful, and in line with results. because the expert team was strong and the client was committed. The team was selected because they were CONCLUSION conducting similar work for Coca-Cola (orange juice footprint in Florida and Brazil) and thus were familiar Think boldly. Aim high. For the foreseeable future, with the very nascent methodology and challenges. any water footprint assessment will probably be Also, the lead consulting firm (LimnoTech) was groundbreaking in some way. The response strategies in committed to furthering knowledge in the field of a water footprint assessment can set the stage for further water footprinting and agreed to contribute more advisory or investment services. For example, a water than $10,000 in staff time to complete and present footprint assessment can be applied at a basin level as the report when we ran out of budget, thus de facto a prelude to community engagement, enhancing drip becoming a cosponsor. technology in the supply chain, and multistakeholder engagement or public-private dialogue. A water footprint The Jain water footprint assessment is thorough, assessment can also be applied by a group of businesses scientifically sound, well-documented, and easily in a given sector or watershed to benchmark and then accessible. It now serves as an excellent showcase to collectively raise the bar on water performance. illustrate to other (nonmultinational) companies what water footprinting can mean to them. Lesson 4: Create a solid communication ABOUT THE AUTHOR strategy from the outset. Sabrina Birner is a consultant to IFC, working on Initially, we focused only on the external communication water, biodiversity, and energy efficiency. of the project by means of a report to be presented Remke van Zadelhoff is a consultant to IFC, working in September 2010 at the Stockholm World Water on sustainable supply chains and standards. Week, the renowned annual global water event. This Bastiaan Mohrmann is Head of IFC’s Small and event—an opportunity for broad dissemination and Medium Enterprise Solutions Unit, Sustainable Busi- ness Advisory, where he has championed IFC’s water impact of the study—became our deadline. Then we footprint advisory involvement. Bastiaan’s background had another opportunity to communicate what we is in irrigation engineering and hydrology. had learned, during an internal WaterNet event at Approved by Bastiaan Mohrmann, Head, SME Solu- IFC in October 2010, when Jain’s management was tions Unit, Sustainable Business Advisory. in Washington to receive the IFC Client Leadership Award 2010. 70 IFC ADVISORY SERVICES IN PUBLIC-PRIVATE PARTNERSHIPS Credits PHOTOS Cover page © Harini Calamur Page across from index © Yosef Hadar/World Bank Pages 3, 4, 5 © GPOBA Pages 9, 11 © Acumen Fund Pages 17, 18 © Simon Ndutyie Page 21 © Hydroconseil Pages 23 © Angelo Dell’Atti/IFC Pages 27, 29, 30 © Monica Tijero Trelles Page 33 © DFID Pages 34 © IFC Page 38 © Md. Firoz Azad Chowdury Page 40 © Ogandaga Page 45 © Yann Camus/iStockphoto Page 47 © Frédéric Vigouroux/iStockphoto Page 51 © Jean Lapegue/Action Against Hunger Page 56 © Hydroconseil Page 59 © Claudia Dewald/iStockphoto Page 65 © Mo Riza Page 69 © World Bank PRINTING Ecoprint SmartLessons is a World Bank Group program which enables development practitioners to share lessons learned in development operations. This SmartLessons brochure presents first-hand and straightforward project stories with pragmatic useful analysis, written by professionals for professionals. Through the prism of their own experience—positive and negative—these authors aim to capture practical insights and lessons that could help advance development-related operations for private sector-led growth across the globe. The Water and Sanitation Program is a multidonor partnership administered by the World Bank to support poor people in obtain- ing affordable, safe, and sustainable access to water and sanitation services. For more information, visit http://www.wsp.org. IFC’s Advisory Services in Public-Private Partnerships expands access to infrastructure and other basic services such as health and education by helping governments design and implement sustainable public-private partnerships. Our work improves living stan- dards, promotes long-term economic growth, and balances the requirements of investors with public-policy considerations and the needs of the community. Since 1989, IFC has worked on more than 285 private-sector participation transactions worldwide and is the only multilateral institution to offer such advisory services to governments directly. For more information visit: www.ifc.org/ppp. July 2011