Document of The World Bank FOR OFFICIAL USE ONLY PROJECT PAPER ON A PROPOSED ADDITIONAL FINANCING LOAN TO THE WITH THE GUARANTEE OF

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1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Document of The World Bank FOR OFFICIAL USE ONLY PROJECT PAPER ON A PROPOSED ADDITIONAL FINANCING LOAN IN THE AMOUNT OF US$44 MILLION EQUIVALENT Sustainable Development Department Brazil Country Management Unit Latin America and Caribbean Regional Office TO THE STATE OF RIO DE JANEIRO (BRAZIL) WITH THE GUARANTEE OF THE FEDERATIVE REPUBLIC OF BRAZIL FOR A RIO DE JANEIRO MASS TRANSIT PROJECT December 28,2007 Report No BR This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.

2 CURRENCY EQUIVALENTS Currency Unit = Real ($R) R$2.14-R$1.75 = US$l FISCAL YEAR January 1 -December 3 1 ABBREVIATIONS AND ACRONYMS PMIG - Project Management Implementation Group RJM - Rio de Janeiro Municipality RJMR - Rio de Janeiro Metropolitan Region RTCC - Regional Transport Coordination Commission SECPLAN - Planning Secretariat of the State of Rio de Janeiro SECTRAN - (Secretaria de Planos do Estado do Rio de Janeiro) Transport Secretariat of the State of Rio de Janeiro (Secretaria de Transportes do Estado do Rio de Janeiro) SRJ - State of Rio de Janeiro Vice President: Country ManagerDirector: Sector Director Sector ManagedSector Leader: Task Team Leader/Task Manager: Pamela Cox John Briscoe Laura Tuck Jose Luis IrigoyedJennifer Sara Jorge Rebelo i

3 FOR OFFICIAL USE ONLY BRAZIL RIO DE JANEIRO MASS TRANSIT PROJECT ADDITIONAL FINANCING LOAN CONTENTS I. I1. I11. IV. V. VI. VI1. VI11 INTRODUCTION... 1 BACKGROUND AND RATIONALE FOR ADDITIONAL FINANCING... 1 PROJECT OBJECTIVE... 1 PROJECT MANAGEMENT... 2 RATIONALE AND REASONS FOR REQUESTING THE ADDITIONAL FINANCING... 2 PROPOSED CHANGES... 3 CONSISTENCY WITH CAS... 4 ECONOMIC ANALYSIS OF COST FINANCING GAP... 5 EXPECTED OUTCOMES... 5 BENEFITS AND RISKS... 5 FINANCIAL TERMS AND CONDITIONS FOR THE ADDITIONAL FINANCING... 5 ANNEX 1: DEVALUATION OF THE US$ VS THE BRAZILIAN REAL... 6 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization... 11

4 BRAZIL RIO DE JANEIRO MASS TRANSIT PROJECT ADDITIONAL FINANCING LOAN PROJECT PAPER DATA SHEET Additional Financing Loan Environmental Category: B Borrower: State of Rio de Janeiro, Brazil Responsible agency: Secretaria de Transportes do Estado do Rio de Janeiro Bank policies? oyes XNo N.A. Does the scaled-up or restructured project trigger any new safeguard policies? If so, click here to indicate which one(s) NA. For Additional Financing Loan [ 3 Credit [ ] Grant [XI For Loans/Credits/Grants: Total Bank financing (US$m.): 44 equivalent to R$94m Proposed terms: FSL in reais P

5 I. INTRODUCTION BRAZIL FUO DE JANEIRO MASS TRANSIT PROJECT ADDITIONAL FINANCING LOAN 1. This Project Paper seeks the approval of the Executive Directors to provide an additional loan in an amount of R$94 million (equivalent to US$44 million) to the State of Rio de Janeiro, Brazil for the Rio de Janeiro Mass Transit project (ID P043421, Ln.4291-Br). The proposed additional loan would help finance the costs associated with the devaluation of the US$ and Korean Won (currency of one of the biggest contracts financed by the loan) in relation to the Brazilian Real and shortages in counterpart funds, which caused a financing gap. 11. BACKGROUND AND RATIONALE FOR ADDITIONAL FINANCING 2. The Board approved the ongoing original loan for the Rio de Janeiro Mass Transit project for US$186 million on March 5, The Loan became effective on August 03, The current loan is scheduled to close on June 30, 2008 and if this additional financing is approved it is expected to be fully disbursed by June 30, The main objectives of the project are: (a) to improve the quality of urban transport services in the Rio de Janeiro Metropolitan Region by enhancing the development of a fully integrated urban transport system; and (b) to substantially improve the level of service provided by the suburban railway while reducing the operating subsidies from the State through the substantial participation of the private sector in its operations and management. There were no changes in the Project Development Objectives which will remain the same in the proposed additional financing requested by the Borrower. 4. The main achievement of this project was the concession of the railway system without operating subsidies to the private sector in This saved approximately US$l 80ndyear in operating subsidies to the State. The loan allowed the State to fulfill its capital investment obligations included in the concession contract. These capital investments included mainly rehabilitatiodmodernization of existing rolling stock fleet, acquisition of new rolling stock and station rehabilitation. As the rail capacity increases, integration between bus and rail and rail and subway is also increasing and is starting to pay off, particularly for the low-income population. The Rio Master Transport Plan (PDTU), the first in Rio in 28 years, was also a major contribution of the project because it mapped out and prioritized the medium and long-term options for the Rio de Janeiro Metropolitan Region (RJMR) urban transport system, by integrating land use, urban transport and air quality. Fifty two trains have been rehabilitated and 20 new trains have been delivered. Integration with municipal buses has been increased now to 12 bus routes. The project development objectives will be substantially met. 5. The Project Development Objectives and Implementation Performance: The Project Development Objectives (DOs) and Implementation Performance (IPS) ratings of the project 1

6 have been satisfactory and have succeeded in improving the rail transit subsector of the RJMR, decreasing its burden on the State Treasury by eliminating operating subsidies. Modal integration under a regional transport Coordination Commission (AMTU-RJ) is moving forward. This happened despite a much longer implementation period than originally planned due to initial delays in effectiveness and severe fiscal restrictions that affected the country after the Argentine macroeconomic crisis. All legal covenants have also been complied with. 6. Project Management: The activities proposed are fully consistent with the PDOs, and compliant with Bank policy for additional financing. Most of the additional project financing will be used for the completion of the works and goods contracts which were affected by the devaluation and lack of counterpart funds. The rest will be used to support the financial gap in supervision services for ongoing works, the Project Management Implementation consultant and other ongoing consulting studies and to pay the front end fee. The proposed additional financing operation can be accommodated in the context of the ongoing project, relying on the Project Management and Implementation Group (PMIG) which has managed the project within the Central organization. PMIG has proven its ability to handle such contracts with good results. The proposed additional activities are expected to be completed within a maximum of 18 months of the current closing date of the loan, which is consistent with the Bank s policy on additional financing. Therefore, given that all contracts are ongoing it is expected that all disbursements will take place by June 30, Procurement: There will be no new procurement since all contracts have been awarded and are underway. Procurement has consistently been rated satisfactory. 8. Financial Management: Financial management has been rated satisfactory and there are no outstanding financial audits. 9. Safeguards: The additional financing loan does not trigger any new safeguard policies and the Borrower has complied with all of its obligations under the original loan. Rationale and reasons for requesting the additional financing 10. According to OP/BP 13.20, the Bank may provide additional financing through additional loans in the context of ongoing, well-performing projects. The additional financing requested by the State is being requested solely to cover a portion of the financing gap due to the devaluation of the US$ in relation to the Brazilian and Korean currencies. This devaluation and usual effect of inflation affected the works and goods contract costs and the annual price readjustment contained in those contracts. Annex 1 gives an estimate of the financial gap. 11. The Borrower, State of Rio de Janeiro (SRJ), has requested from the Bank additional financing in the amount of R$94 million (equivalent to US$44 million) to cover 69% of the financial gap estimated at US$64 million (see Annexl). As mentioned above, the financing gap was due to the sharp devaluation of the U S dollar in relation to the Brazilian Real which is the currency in which all works and consulting services contracts have been signed. The steady deterioration of the dollar since the contracts were signed also had a significant effect in the price readjustment formulas included in all works contracts. The goods contract for acquisition of new trains (which accounted for 55% of the original loan and was signed in Korean Won), also had 2

7 an impact on the financing gap since the Won appreciated in relation to the US$. Finally, the State was unable to provide about 50% of its counterpart funds because of strong fiscal restrictions since Since January 2007, the State has been providing counterpart funds to the project and will continue to do so to cover the difference between the estimated financing gap (US$64 million) and the amount authorized by the Guarantor for the additional financing (US$44 million). With this additional financing loan and the counterpart funds, all contracts will be completed as planned. The State has assured the Bank that it will continue to provide the US$20M in counterpart fund requirements, so that by the end of the project the Bank will finance 67% of the project cost instead of the original 50% PROPOSED CHANGES 12. There are no changes to the original project design. As mentioned above, the additional financing would cover the devaluation of the US$ loan of the Bank in relation to the original project costs that were calculated in Reais. The Brazilian currency appreciated considerably in relation to the US$ since the actual works started. In addition to the works and goods contracts, the additional financing will also cover the cost of the extension of the supervision services and project management consultant. 13. As shown in Table 1, 95% of the US$44M in additional financing will be used to cover the financing gap in Part A - Infrastructure and Equipment contract and 4.75% will be used to complement the financing gap in the Part B - Institutional and Policy Development component. Table 1: Additional Financing Project Costs Component Category Indicative % of Bankcosts Total Financing (US$M) (US$M) Part A. Infrastructure and Equipment Investment Physical and Component: to finance trains rehabilitation, train acquisition and civil works others Part B. Institutional and Policy Development Institution Component: : to finance the Project Management and Implementation consultant, ongoing institutional contracts and project supervision consultants Building Front End Fee (0.25% of loan) Basic add. project with Contingencies Total % of Bad financing Total estimated additional project loan: approx. US$44 million equivalent to R$94M 3

8 Disbursement 14. The additional financing is expected to be disbursed within one year after the signing of the contract, in the following manner: Table 2: Estimated Disbursements in US$M FY Annual Cumulative Table 3: Disbursement by Category Disbursement Category 1.a -Civil Works 1.b -Civil Works 1.c - Permanent Way Works 1.d - Systems Works 1.e - Rolling Sock Rehab. works 2 - Goods 3 - Consulting Services and Training After Additional Financing for each Financing category (US$) 12,575, ,273, ,627, , ,011, ,721, ,252, ,043, ,827, ,174, ,898, Front-end Fee 110,000 I 110,000 IV. CONSISTENCY WITH CAS 15. As indicated above, there are no changes to the original project design which was described in the appraisal of the existing loan. The additional financing is only to cover the financing gap of the original project which was approved by the Board in March 5, 1998 and is consistent with the present Bank s Country Assistance Strategy Progress Report endorsed by the Bank s Board of Directors on May 6, A new Country partnership Strategy (CPS), under preparation will continue to support the four pillars put forth in the original CAS: (a) equity, (b) sustainability, (c) competitiveness, and (d) sound macro-economic management. More specifically, the project supports: (a) reforms and financial viability of public enterprises, including the concession of state-owned urban transport agencies to the private sector; (b) improved efficiency of infrastructure investments; (c) economic growth by improving efficiency in the metropolitan area and (d) contribution to poverty alleviation by improving accessibility of low-income segments of the population to jobs, educational and health facilities. 4

9 V. ECONOMIC ANALYSIS OF FINANCING GAP 16. Since original investment costs were spread over a longer period of time because of fiscal restrictions and supplier delays, full first year benefits were also delayed by the same amount of time. These delays were mainly due to the late delivery of rehabilitated trains and later than planned arrival of the new trains. On that basis, the Economic Internal Rate of Return (EIRR) of the project is expected to be 34% instead of the original 64%. The detailed cash flow analysis can be found in the project file. VI. EXPECTED OUTCOMES 17. The expected outcomes of the project are the same as the original ones. VII. BENEFITS AND RISKS 18. There are no changes in the project beneficiaries who are the residents of the RJMR, and particularly low-income households (earning up to four minimum salaries) as the major users of public transport in the Baixada Fluminense and Zona Oeste. The Government of the State of Rio de Janeiro will also benefit from the project by increasing the number of trips by rail-based modes thereby decreasing congestion on the roads. The reduction of bus-kilometers and less congestion in the area of influence of the rail system will have positive air quality impacts which are quantified in the economic evaluation. 19. Project Risk factors: The main foreseen risks associated with this project are eventual budget restrictions that might delay the disbursement of the additional financing. The State and the Bank have discussed this risk and the need for the State to ensure that the project receives the highest priority for disbursement. The State Secretary of Finance has assured the Bank project team that the project has the highest priority for the State and therefore it will be provided with the fiscal space required for quick disbursement. VIII. FINANCIAL TERMS AND CONDITIONS FOR THE ADDITIONAL FINANCING 20. The Borrower has chosen a Fixed Spread Loan in US$ with Automatic Rate Fixing. The Bank Financial Complex has worked with the State Secretary of Finance to convert the original loan from US$ to R$. 21. Retroactive Financing of up to US$8.8million equivalent for expenditures made one year before loan signing was requested by the Borrower for the category Goods and i s recommended by the project team. 5

10 ANNEX 1 Rio de Janeiro Mass Transit Project: Additional Financing Loan Impact of the Devaluation of the US$ vs. the Brazilian $R 1. The Korean Won (KRW) was the currency in which the contract for the cquisition of twenty new trains was signed. The KRW devalued from 1US$ = 1,204.4 KRW in December 2003 to 1US$ = KRW in December The overall contract was for KRW 11 1,328,474,93 1. The devaluation cost in US$ due to the devaluation of the US$ is estimated at US$39.6 M. 2. The other contracts which were signed in Reais were estimated at R$ 172 M in December The US$ devalued from R$ in December 2003 to R$ in December The cost of this devaluation was roughly US$24.5M 3. The overall financial gap due to the devaluation of the US$ is therefore estimated at US$64M. The Borrower is asking for US$54M because this is the amount that fits within its external borrowing limits established by the Federal Government as part of the Fiscal Responsibility Law and the negotiated Fiscal Adjustment Program. 6