PROJECT : ITEZHI TEZHI HYDRO POWER & TRANSMISSION LINE PROJECT COUNTRY : ZAMBIA

Transcription

1 Language: English Original: English NIGERIA TRUST FUND PROJECT : ITEZHI TEZHI HYDRO POWER & TRANSMISSION LINE PROJECT COUNTRY : ZAMBIA PROJECT APPRAISAL REPORT Date : 13 June 2012 Appraisal Team Team Leaders Team Members Sector Manager Sector Director Regional Director E. MUGUTI Principal Power Engineer ONEC O. OKOYE Senior Investment Officer ONEC N. KULEMEKA Chief Socio-Economist ONEC K. NTOAMPE Principal Environmentalist ONEC M. MUSUMALI YPP ORQR M. AYIEMBA Chief Regional Procurement Specialist SARC 6935 B.AKINYI ALUOCH Principal Legal Counsel GECL D. GOYAL Chief Regional Financial Management Specialist SARC 6941 G. KHOZAPI Consultant OPSM E. NEGASH ONEC H. CHEIKHROUHOU ONEC 2140 C. OJUKWU ORSB 2042 Peer Reviewers Mr A. MUKUNGU, Pr. Budget & Resource Coordination ECON 1517 Ms. S. ALISSOUTIN, Financial Analyst ONEC Mr. Y. ARFAOUI, Chief Renewable Energy Specialist ONEC Mr. T. BHEBHE, Principal Operations Officer OPSC 1529 Mr U. DURU, Senior Environmentalist ONEC Mr. W. VWALA-ZIKHOLE, Principal Disbursement Officer FFCO Mr. E. ALEMSEGED, Senior Water & Sanitation Engineer OWAS

2 i Currency Equivalents As of September 2011 Currency Unit Zambia = Kwacha 1 UA = Kwacha (ZMK) 1 UA = USD 1 UA = EUR Fiscal Year 1January-31 December Weights and Measures t (t) Tonne = 1,000kg kw Kilowatts = 1,000 watts GW Gigawatt = 1,000,000kW or 1,000MW kwh Kilowatt hour = 1,000Wh GWh Gigawatt hour = 1,000 MWh MVA Megavolt ampere = 1,000kVA or 1,000,000v KOE Kilogram oil equivalent MW Megawatt = 1,000,000W or 1,000kW kv Kilovolt = 1,000 volts MWh Megawatt hour = 1,000kWh kva Kilovolt ampere = 1,000VA Acronyms and Abbreviations AFD AfDB BoD BOOT BSA CAPEX CEC COD COS CSP CTA DBSA DFIs DSCR EIB EPC ERB ESAP ESIA ESMP FIRR FMO FNPV GDP GRZ GSA GWh Agence Française de Développement African Development Bank Board of Directors Build, Own, Operate, and Transfer Bulk Supply Agreement Capital Expenditure Copperbelt Energy Corporation Commercial Operations Date Cost of Service Study Country Strategy Paper Common Terms Agreement Development Bank of Southern Africa Development Finance Institutions Debt Service Coverage Ratio European Investment Bank Engineering, Procurement and Construction Energy Regulation Board Environmental and Social Assessment Procedures Environmental and Social Impact Assessment Environmental and Social Management Plan Financial Internal Rate of Return The Netherlands Development Finance Corporation Financial Net Present Value Gross Domestic Product Government of the Republic of Zambia Government Support Agreement Gigawatt Hour

3 ii IA ICB IDC IPP IPPA ITPC ITT JASZ km KYC LHP MEWD MW MWh MYPD NPV O&M OPSM PAT PIU PPA PPP Proparco PSC PSDP PSMP PSO RAP RBCSP SAPP Scheduled COD SNDP SNEL SPV STEM TATA TCE T-line TSO UA USD ZDA Act ZEMA ZESA ZESCO Implementation Agreement International Competitive Bidding Interest During Construction Independent Power Producer Investment Promotion and Protection Agreement Itezhi-Tezhi Power Company Itezhi-Tezhi Hydropower Project Joint Assistance Strategy for Zambia Kilometer Know-Your-Customer Lunsemfwa Hydro Power Company Ministry of Lands, Energy and Water Development Megawatts Megawatt Hours Multi-Year Price Determination Net Present Value Operation and Maintenance AfDB Private Sector Department Project Appraisal Team Project Implementation Unit Power Purchase Agreement Public Private Partnership French Development Agency Project Steering Committee Power Systems Development Plan Power Systems Master Plan Private Sector Operations Resettlement Action Plan Results Based Country Strategy Paper Southern Africa Power Pool Scheduled Commercial Operations Date Sixth National Development Plan Democratic Republic of Congo power utility Special Purpose Vehicle Short-term Electricity Market TATA Africa Holdings (SA) (Pty) Limited TATA Consulting Engineers Limited Transmission Line Transmission System Operator Unit of Account United States Dollars Zambian Development Act Zambia Environmental Management Authority Zimbabwe Electricity Supply Agency ZESCO Limited

4 iii TABLE OF CONTENTS I STRATEGIC THRUST & RATIONALE Project linkages with country strategy and objectives Rationale for Bank s involvement Donors coordination... 2 II PROJECT DESCRIPTION Project components Technical solution retained and other alternatives explored Project cost and financing arrangements Project s target area and population Participatory process for project identification, design and implementation Bank Group experience, lessons reflected in project design Key performance indicators... 8 III PROJECT FEASIBILITY Economic and financial performance Sustainability Tarrif Analysis Environmental and Social impacts IV IMPLEMENTATION Implementation arrangements Monitoring Governance Risk management Knowledge building V LEGAL INSTRUMENTS AND AUTHORITY Legal instrument Conditions associated with Bank s intervention VI RECOMMENDATION Appendix I. Country s comparative socio-economic indicators... 1 Appendix II. Table of ADB s portfolio in the country... 1 Appendix III. Key related projects financed by the Bank and other development partners in the country... 1 Appendix IV. Map of the Project Area... 1

5 iv Loan Information Client s information BORROWER : Republic of Zambia EXECUTING AGENCY : ZESCO Limited Financing plan Source ITPC Power Plant ADF EIB ZESCO Senior Lenders ADB FMO Proparco DBSA India Exim Bank Amount (UA million) 11,40 11,40 0, Instrument Loan Loan Equity Support to ZESCO Shareholding in ITPC Senior Debt Senior Debt Senior Debt Senior Debt Subordinated Debt Transmission Line ADF 16,60 Loan NTF 6,40 Loan EIB 21,77 Loan AFD Loan GRZ 4,76 GRZ Contribution Technical Assistance (Cost of Service Study) ADF 2,00 Loan Key financing information ADF NTF Loan currency Units of account, UA USD Commitment fee 0.5% 0.5% Service charge 0.75% 0.75% Tenor 50 years 27 years Grace period 10 years 7 years Financial and ZESCO Net Equity Transmission Line Economic Results Return from ITPC FIRR, FNPV (real) 16.20%, USD 15.6 mn 19.89%, USD mn EIRR, ENPV (real) NA 22.50%, USD mn Timeframe - Main Milestones (expected) Concept note approval April 2011 Project approval May 2012 Effectiveness December 2012 Last disbursement July 2016 Completion June 2015 Last repayment NTF March 2031 Last repayment ADF March 2061

6 v PROJECT SUMMARY 1. Project Overview The ITT project combines a PPP clean-energy generation and a public transmission line to evacuate power in Zambia, which the Bank group would support through ADF, NTF and potentially ADB instruments. The Itezhi-Tezhi power plant and transmission project consists of the construction, operation and maintenance of a 120 MW base load hydro power plant at the Itezhi-Tezhi (ITT) dam on the Kafue River in Zambia and the transmission line to evacuate the power to the proposed Mumbwa and Lusaka West substations. An ADF loan will contribute to financing the government shareholding in the ITPC 1 special purpose vehicle to implement, own, and operate the power plant. The transmission line project, supported by ADF and NTF loans, will evacuate power from the ITPC power plant through a 142 km, 220 kv single-circuit line to a new substation at Mumbwa and a 134 km, 330 kv double-circuit line from Mumbwa to Lusaka West substation. The power station is already under construction, scheduled for completion in 41 months, while the transmission line will be completed in 18 months. The power plant will be built at a cost of $ million, and the transmission line at a cost of $ million. ADB is expected to provide a nonsovereign loan to the power plant SPV as part of the senior debt tranche. 2. Needs Assessment Projects such as ITT are a step on the critical path to addressing SADC countries growing power deficit while pursuing lower carbon growth. Zambia and the overall Southern African region continue to experience a large power deficit due to a combination of high economic growth, expansion of the mining industry, and demand from programs such as the government s Increased Access to Electricity Services project, which is intended to raise the rural power access rate to 5%. As of October 2010, the Southern African Power Pool (SAPP) estimated the regional total power shortfall at 1,166 MW. Zambia, with a deficit of 568 MW, accounts for almost half of this deficit. However, its tremendous hydro power generation potential is economically significant for both the national and regional markets, as one of the critical clean energy solutions for sustainable energy sector development. As a member of SAPP, ZESCO s electricity network already links the generating centres in the SADC countries. A link into the EAPP with the construction of the Zambia-Tanzania-Kenya interconnector is also planned. SAPP considers the development of the ITPC Hydro Electric Project as one of the critical short-term interventions in the region s power crisis. Given the inadequacy of the transmission infrastructure in Itezhi-Tezhi, a new transmission line is required to evacuate power from ITPC to the main ZESCO grid. 3. Bank s Added Value The Bank Group brings multiple relevant experiences to the structuring and implementation of the project. The project fits well with the Bank s overarching focus on infrastructure development, in particular power generation from clean energy sources through the use of PPPs. The Bank s considerable power sector experience, including in hydro generation and transmission, will be pivotal so as to avoid some of the pitfalls that may be encountered at the structuring and implementation stages. The financiers of the transmission line have all agreed to use the Bank s procurement rules and guidelines, which not only set a 1 ADF 12 resources introduces a new financing instrument whereby loans and grants can be advanced for sovereign equity participation in PPPs (See paragraph 5.15 of the Report On The 12 th General Replenishment Of The Resources Of The African Development Fund).

7 vi first precedent in co-financed projects with the EIB and AFD in the power sector, but has also provided considerable transaction cost savings to the client. The Bank will endeavor to assist the GRZ in its efforts to enhance the sustainability of the electricity subsector and to attract private investors through well-structured solutions. Finally, the Bank s Africa Carbon Support Program is assisting GRZ in preparing for the sale of carbon credits. 4. Knowledge Management The Bank Group s involvement in ITT will yield important lessons about the use of multiple products and windows to support one project. This is the Bank s first effort to use ADF resources to facilitate the implementation of a public-private partnership through supporting the state-owned utility s effort to crowd in private investors in a project finance structure. This is also the first time that three Bank financing instruments are being utilised in one project. The ADF will support the utility s equity participation as well as co-finance the transmission line with NTF, while the ADB will provide senior debt for the generation plant through a non-sovereign loan. Successful implementation of this project will strengthen the One Bank concept and increase the Bank s ability to leverage funds. The Bank s experience in the preparation of the Project in collaboration with the executing agency and other donors will be captured in the various program documents, including progress reports, mid-term review, and completion reports.

8 vii Country and Project Name: Zambia, Itezhi-Tezhi power generation and transmission line project Purpose of the project: a) Develop, construct and operate a 120 MW hydro power station; b) 142km 220kV and 134km 330kV transmission lines IMPACT RESULTS CHAIN Impact 1 Reduce poverty by ensuring reliable energy supply for domestic, commercial and industrial use Indicator (including CSI) Percentage of population below the national Poverty line PERFORMANCE INDICATORS Baseline 64% 2006 Target As determined in Zambia National Plan MEANS OF VERIFICATION Zambia Central Statistics Office RISKS / MITIGATION MEASURES OUTCOMES Impact 2 Improve business enabling environment and boost economic development Outcome 1 Increase the electricity supply Outcome 2 Increase access to electricity GDP growth Power supply capacity in MW National electrification rate 2010 GDP growth 7.6% 1850MW of installed capacity in % in 2010 Projected GDP growth % % Additional 120 MW capacity installed in 2015 Level of electricity access increase by 5% in 2015, due to ITPC Bank reports Country economic reports ITPC testing report ITPC completion report Ministry of Energy report Construction/comple tion risk: refer to section 4.4 Power evacuation risk: refer to section 4.4 Demand reduction risk: Construction/comple tion risk: refer to section 4.4 Power evacuation risk: refer to section 4.4

9 viii Outcome 3 Reduction of GHG emissions Outcome 4 Job creation during construction Net avoided tons carbon emissions equivalent per year Number of jobs created during construction of ITPC, t-line N.A N.A As determined by CDM review 700 jobs created during construction of ITPC and t- line, of which 30% reserved for women Environmental monitoring reports ITPC construction supervision reports N.A Timely implementation of the project Outcome 5 Job creation during operation Number of jobs created during operation of ITPC, substations N.A 120 jobs created during operation of ITPC and substations of which 30% women ITPC and ZESCO reports N.A Outcome 6 Financial sustainability of ITPC and ZESCO Project IRR on the plant and transmission line N.A FIRR: ZESCO Equity 16.20% (real) FIRR: T/Line 19.89% EIRR: T/Line 22.50% Annual financial report Timely and successful implementation of ITPC

10 ix Outcome 7 Generate revenues for the government Annual income tax paid Upfront concession fee Yearly concession fees Annual dividends paid to ZESCO Annual water right fees paid to MEWD N.A Income tax paid: USD 12.3 million p.a. (average) Concession fee: USD 237,000 in 2012 Annual concession: USD 366,000 p.a. (average) Annual dividend paid: USD 10.3 million p.a. (average) Annual water right fees: USD 53,000 p.a. (average) Annual financial report Timely and successful implementation of ITPC 1. Power plant of a120mw installed capacity 2. Construction of 142 km of 220kV single-circuit and 134km of 330kV double-circuit transmission line and substation Capacity available Length of transmission lines erected Number of substations built and extended N.A 120 MW available by km, 220kV and 134km, 330kV transmission lines constructed by substation constructed and one extended by 2014 Completion report Plant testing report Construction/comple tion risk: refer to section 4.4 Compensation/resett lement implemented in a timely manner Timely approval and disbursement of funds by all cofinanciers OUTPUTS 3. Successful implementation of ESMP and RAP Percentage of ESMP and RAP activities implemented satisfactorily N.A 100% by 2015 Environmental and social report A budgetary allocation provided ensure fair and timely compensation of PAPs

11 x COMPONENTS GENERATION 1. Develop and construct 120MW hydro power plant 2. Construct power plant associated facilities 3. Implement ESMP and RAP INPUTS EQUITY ZESCO Shareholding in ITPC ADF loan: USD 17.8m EIB loan: USD 17.8m ZESCO: USD 0.26m TATA Shareholding in ITPC USD 35.86m DEBT Subordinated loan - India Exim/ZESCO :USD 29.04m ADB USD 34.57m DBSA USD 34.57m FMO USD 34.57m PROPARCO USD 34.57m Total funds: USD m COMPONENTS TRANSMISSION Construction of 142 km of 220kV single-circuit and 134km of 330kV double-circuit transmission line, Construction of a new substation at Mumbwa and extension of the substations at Lusaka West, and 33kV outdoor switchgear the Lusaka West substation nt 3. Construct power plant associated facilities 3. Implement ESMP and RAP INPUTS Financial Resources ADF loan: USD25.93m NTF loan: USD10.00m EIB loan: USD34.00m AFD funds: USD34.00m GRZ/ZESCO: USD7.24m Total: USD m

12 xi Project Timeframe ITT Mumbwa- Lusaka West Transmission Project, Lines: Preliminary Bar Chart Period in Months No. Description Procurement of Contractor 2 Invitation of Bids 3 Bid Openning and Evaluation 4 Negotiations and Approval 5 Contract Award 6 Design and Engineering 7 Tower Design 8 Foundation Design 9 Line Materials 10 Manufacture and Shipment 11 Manufacture of Towers and Stubs 12 Manufacture of Conductors 13 Manufacture of OPGW and ACS Earthwire 14 Manufacture of Insulators 15 Manufacture of Hardware and Accessries 16 Shipment of Materials 17 Construction 18 Site Mobilisation 19 Survey 20 Soil Investigation 21 Casting of Foundation 22 Tower Erection 23 Stringing of Conductors and Earthwires 24 Testing and Taking Over

13 REPORT AND RECOMMENDATION OF THE MANAGEMENT OF THE ADB GROUP TO THE BOARD OF DIRECTORS ON A PROPOSED LOAN TO ZAMBIA FOR THE ITEZHI-TEZHI POWER PLANT AND TRANSMISSION LINE Management submits the following Report and Recommendation on a proposed ADF loan for UA30 million and NTF loan of USD 10 million to contribute to the financing of the Itezhi-Tezhi Power Plant and Transmission line project in Zambia. An ADB loan proposal for UA22.14 million is being submitted in parallel to provide senior debt financing for the power plant project. I. STRATEGIC THRUST & RATIONALE 1.1. Project linkages with country strategy and objectives ZESCO was born in 1970, as the main actor in the electricity sector in Zambia. The Zambian electricity sector has been dynamic since Various acts of Parliament have resulted in the sector s present form. In 1970, parliament passed the Zambia Electricity Act, which created the Zambia Electricity Supply Company (ZESCO) Limited in which the government is the main shareholder. ZESCO owns and controls most of the generation, transmission and distribution networks in Zambia. The 1970 act also brought together electricity undertakings previously managed by local authorities The ERB was born in 1995, along with the introduction of private-sector participation to the electricity sector. In 1995, the Government of Zambia (GRZ) enacted a new Electricity Act, which repealed the 1970 Act and allowed private-sector participation in the industry. Through the Energy Regulation Board (ERB) Act of 1995, the ERB was established to license, set operation and safety standards, approve tariffs for regulated utilities, resolve disputes between the utilities and their clients, and provide overall supervision The ITPC PPP project is aligned with Zambia s Energy Policy, OPPPI, and fiveyear access program. In 2007 officials approved a revised Energy Policy, whose main objectives were to increase access to modern energy services for the majority of the Zambian population, improve services delivery, and increase generation and transmission capacity. The Office for Promoting Private Power Investment (OPPPI) under the Ministry of Lands, Energy and Water Development was set up to market the power sector to private investors. The ITPC project is being implemented in the spirit of the objectives of both the Energy Policy and the OPPPI. The project also contributes to the GRZ s five-year access expansion program, which includes: (i) enhanced power supply from new generation capacity; (ii) strengthened transmission through regional power integration; (iii) grid electrification; (iv) off-grid electrification; and (v) standalone renewable energy systems Hydropower development is a priority for the socioeconomic development of Zambia, and is well aligned with its government strategies. Given its estimated vast hydro potential of about 6,000 MW, Zambia has an opportunity to help the sub-region in a potential transition to lower carbon growth path. However, Zambia has only exploited about 1,841MW of its hydro power of which only about 1570MW is currently available. With a peak demand of about 1,600 MW and a 10% required reserve margin, it faces a significant deficit. About 58% of the power supplied by ZESCO is consumed by large industrial customers and mining companies in the Zambian Copperbelt. The country s electrification levels are low, at an average of 26% (urban 46% and rural only 3.1%). ZESCO is currently failing to meet the demand for new connections driven mostly by expansion of its existing customer base, growth in farming, and the rural electrification program. ZESCO is therefore managing this shortage through load shedding. The growing demand is estimated at 100 MW annually, which creates urgency for expanding power generation and transmission capacity in order to effectively support the required economic growth and diversification as well as poverty reduction efforts. Hydropower investments such as

14 2 ITT are in line with the Government SNDP ( ) and the Energy Policy and Vision 2030, which prioritize the Increased Access to Electricity Services program, as well as increasing generation, transmission, and distribution capacity Rationale for Bank s involvement As a clean energy PPP project, there is a strong fit with the Bank s strategies and priorities. The new Zambia CSP highlights power generation and improving transmission networks to meet both domestic and regional demand, with emphasis on clean energy technologies. These will help address low energy access rates and unpredictability of power supply. The project fits well with the Bank s medium term strategy priority in infrastructure development such as clean energy sources and through the use of PPPs. It is also consistent with the priorities of ADF-12, namely poverty reduction through growth driven by investment in infrastructure, governance and regional integration. Finally, the Bank s active role in several SAPP countries could create synergies. Indeed, the project can contribute to strengthening regional interconnectivity, given the ZESCO system s links to SAPP. Historically, the Bank had funded the interconnection project between Victoria Falls in Zambia and Katima Mulilo in Namibia, which was completed in The Bank Group is supplying this project with four different instruments of assistance. The ADF Deputies report enabled the use of ADF resources to support PPPs through the government s equity contribution. The NTF is contributing to the transmission line financing. The private sector is proposing a non-sovereign senior loan to ITPC. The Bank is also assisting the project with its CDM certification 2. This is the One Bank concept in action, with various instruments, windows, and departments collaborating closely Donors coordination An active Zambia donor coordination mechanism is in place, and the Bank is represented by its Field Office. The JASZ provides the current aid coordination framework amongst cooperating partners and with the government. The Bank collaborates with other development partners in Zambia through the Cooperating Partners Group (CPG), as well as about 20 other diverse macro and thematic sector advisory groups. Management of the development assistance is facilitated through joint programming, joint analytical work and dialogue, and joint reviews of program implementation. The Bank liaises with the World Bank, and European Commission and bilateral donors including China, KfW, JICA, AFD Norway, and Sweden on water, transport, energy, agriculture and social issues. The Zambia Field Office actively participates in the CPG and has built strong relationships with line Ministries and project executing agencies The ITT project benefits from the presence of a reputable co-financiers group both on the sovereign and non-sovereign sides. The Bank energy team has been closely coordinating with EIB and AFD on the sovereign side, and the private-sector team has been working with Proparco, DBSA, and FMO. This coordination has worked well for several years in which the project has been under preparation and development. 2 See Technical Annex B8 for details of ACSP technical assistance.

15 3 II. PROJECT DESCRIPTION 2.1. Project Components The project has three components to be supported by the proposed ADF and NTF financing, namely (i) ZESCO s shareholding in the PPP generation company ITPC; (ii) the transmission line and substations owned by ZESCO that will evacuate the ITPC-generated power; and (iii) technical assistance to ZESCO for an updated cost of service study (COS) and support to negotiating current and future bulk power supply agreements with large consumers. Component 1 - ZESCO Shareholding in ITPC: Part of the ADF funds will contribute to financing ZESCO s shareholding in the ITPC PPP generation project. The generation project involves the development, construction, operation, and maintenance of a 120 MW base-load hydro power plant at the ITT dam on the Kafue River in Zambia. The project is being developed under a 25-year concession by ITPC, a special purpose joint venture formed in 2007 to construct, own and manage the project. ITPC is owned 50% by ZESCO and 50% by Tata Africa Holdings Ltd. (TAHL), which signed a memorandum of understanding in 2006 to develop the project. At the end of the concession period, the power station will revert to the GRZ All ITPC power will be sold to ZESCO under a long term take-or-pay Power Purchase Agreement (PPA). The GRZ is expected to provide a government guarantee to secure ZESCO s payment. ZESCO will buy power from ITPC at the bus bar of the facility and transmit it through the new transmission line to the national grid The first shareholder of ITPC, ZESCO has longstanding experience in managing hydropower generation and transmission assets. ZESCO is a wholly owned parastatal of the GRZ, and its supervision is mandated to the Ministry of Energy and Water Development (MEWD). The company s performance has improved over the years, mainly as a result of the depreciation of the kwacha, increased tariff rates, and growth in its customer base. Company revenue as of March 2011 was ZMK 2.1 trillion The second shareholder of ITPC, Tata Africa Holdings Ltd. and its mother company have significant track record in the independent power sector. Tata Group accounts for almost 5% of India s gross domestic product and has built a global business spanning steel, cars, energy, and beverages. Tata Power is India s largest integrated private power company, which pioneered the generation of electricity in India with the commissioning of India s first stage hydroelectric project in Tata Power s generation capacity is about 4,772 MW from various sources of energy; it is developing power stations at Mundra (4000 MW), Maithon (1050 MW) and Coastal Marashtra (1600 MW). Tata s African subsidiary TAHL has a presence in more than 10 African countries with investments in Africa exceeding USD 250 million. It was established in Johannesburg, South Africa, in 1994 to act as the hub for the Tata Group s sub- Saharan investment strategy. TAHL employs more than 750 people and operates in information systems, engineering, services, materials, consumer products, and chemicals ZESCO conducted a full Environmental and Social Impact Assessment (ESIA) for the generation plant, including extensive public consultations. The envisaged environmental impact is limited, as the plant is being built at an existing dam. The most significant direct potential effects will be in the construction phase: tunnelling through a hill and blasting rock (about 140,000 m 3 ) and excavations to erect the T-line towers.

16 Component 2 Transmission Lines and Substations: ADF and NTF funds will contribute to financing the construction of ZESCO s transmission line and associated substations. The project consists of the construction of a) a 142 km, 220kV single-circuit line taking power from the power station to Mumbwa substation, b) a new 2x 125 MVA, 330/220/33kV substation at Mumbwa, c) a 134 km, 330kV double-circuit line taking power from Mumbwa substation to Lusaka West substation, and d) extension of the Lusaka West Substation to accommodate a new 330kV line bay and two transformer bays (1 No. 330/132kV and 1 No.132/33kV) ZESCO s PIT will engage a project supervision engineer to review the design and supervise the implementation of the transmission line and substations. This is discussed in detail in Section IV. The consultant will be financed by EIB The environmental and social management system for the transmission line is being put in place. ZESCO commissioned an ESIA and subsequently an ESMP to implement the findings of the ESIA and the relevant mitigation measures. A total of 101 households were on the transmission line s ROW. A full RAP was prepared, implementation is complete, and projectaffected persons (PAPs) have vacated the way leave. Component 3 Technical support to ZESCO for updated Cost of Service Study: This technical assistance aims to estimate ZESCO s true Cost of Service (COS) to all customer groups over the next five years. It aims to support efforts to renegotiate the currently underpriced Bulk Supply Agreements (BSA) with mining consumers and also the development of a methodology that ensures that future BSAs are equitably and properly priced. Proper projection of ZESCO s future COS is imperative for planning the long-term and sustainable performance of ZESCO, equitable tariff structures, and the provision of a reliable service that underpins the economic growth of the nation. 1 COMPONENT NAME GRZ shareholding in ITPC Table 2.1: ADF and NTF contribution to project components UA (m) COMPONENT DESCRIPTION ADF % of the project costs for the ITPC generation project is to be financed equally by ZESCO and Tata through their equity contribution in ITPC. The Bank will support half of ZESCO s share of equity. 2a) Construction of 220 kv, 142 km of single-circuit line from ITPC to Mumbwa substation 2 Transmission line and substations ADF NTF b) Construction of 134 km, 330kV double/ ingle-circuit line from Mumbwa to Lusaka West substation on twin bison 2c) Construction of a 2x 125MVA, 330/220/33kV substation at Mumbwa and extension of the 330kV at Lusaka West substation to accommodate a new 330kV line bay and two transformer bays 2d) Project management: Supervision engineer for design review and to supervise implementation 3 Technical support to ZESCO for updated cost of service study ADF 2.00 TOTAL ADF + NTF e) Environmental management: Mitigation measures, compensation, and land acquisition Updated cost of service study & tariff structure study and BSA negotiation support for ZESCO with large customers

17 2.2. Technical solution retained and other alternatives explored The ITPC power plant ranks second in the least-cost generation options in Zambia. In June 2011 GRZ approved a Power System Development Master Plan (PSDMP), in which ITPC ranked second after Kariba North Bank Extension as the least-cost generation alternative in potential new power resources for Zambia. This is because the power station will be built on the existing Itezhi-Tezhi dam, built by the GRZ in the 1970s as a storage facility for the current 900MW Kafue Gorge Power Station (230 km downstream) The ITT transmission infrastructure was retained among three possible options. The identification of alternatives for connecting the ITPC power to the grid took into account the increasing load in Lusaka city, which is currently in excess of 450 MW and growing at an annual average of 6%. ZESCO s development plan for the 330 kv grid includes a transmission line into North-Western Province from Lusaka through Mumbwa. This is motivated by agricultural and mining loads that are increasing in the northwestern part of the country. The three options considered were: Option I: a 132 kv double-circuit line from ITPC to Mumbwa with the Mumbwa substation having 330/132kV transformers for connecting to the Lusaka West- Mumbwa 330 kv line Option II: a 220 kv single-circuit line from ITPC to Mumbwa, with Mumbwa substation having a 330/220 kv auto transformers for connection to the Lusaka West-Mumbwa 330 kv line and a 220/33kV transformer to service the local load at Mumbwa. Option III: a 330 kv single-circuit line: involving construction of 330 kv transmission line from ITPC to Mumbwa joining into the Lusaka West-Mumbwa 330 kv line Technically, all three were found capable of transferring the 120MW ITPC power. However, Option II offered the lowest life cycle cost for all plant factors considered. It was selected Project Cost and Financing Arrangements ZESCO shareholding in ITPC is funded by the ADF and EIB. Equity represents 30% of the total generation project cost, estimated at USD 71.7 million. It will be contributed by ZESCO and TAHL at USD million each. The ADF and EIB will contribute financing towards ZESCO s shareholding in ITPC, each providing USD 17.8 million ZESCO s transmission infrastructure is co-financed by ADF, NTF, EIB and AFD. Both EIB and AFD have already secured their Board approvals. The project cost excluding interest during construction is estimated at UA million (USD million), comprising foreign exchange costs (68%) of UA million (USD million) and local costs (32%) of UA million (USD million). The summary of the cost estimates by component, sources of financing, and category of expenditure are shown in tables 2.3, 2.4, 2.5 and 2.6 below ADF will provide targeted technical assistance to ZESCO. The proposed technical assistance for the cost of service study will be financed by ADF UA 2.0 million.

18 Table 2.3: Sources of financing ITPC generation project (millions) Instrument Source USD UA Share (%) ADF % Equity GRZ/ ZESCO EIB % ZESCO Funds % TATA % Total Equity % Subordinated debt % ADB % Senior Debt PROPARCO % FMO % DBSA % Total Senior Debt % Total Sources of funds % 6 Table 2.4: Sources of financing for the Transmission Line Project (millions) Lender Kwacha USD UA % of Local Foreign Total Local Foreign Total Local Foreign Total Total ADF 41,929 90, , % NTF 16,170 35,042 51, % EIB 54, , , % AFD 54, , , % ZESCO 1,034 2,240 3, % TOTAL 169, , , % Table 2.5: Sources of financing for the Technical Assistance Cost of Service Study (millions) Lender Kwacha USD UA % of Local Foreign Total Local Foreign Total Local Foreign Total Total ADF - 15, , % Table 2.6: Project cost by category of expenditure [amounts in millions] No Component In Million USD In Million UA FC LC Total FC LC Total A. Transmission lines 1 Transmission line base cost % B. Substations Substation base cost % Total EPC Contract (A+B) C. Project management supervision D. Environmental management E. TA for cost of service study Project Cost (A+B+C+D+E) The subordinated loan is in relation to a $29.04 million loan from the Indian Government (line of credit from Exim Bank, India) to Zambia. The loan is being on-lent to ITPC on a subordinated basis through ZESCO. The terms of the $29.04 million loan from the Indian Government requires that 85% of the equipment purchased through the loan must be sourced from India. Further details are provided in Section IV: Procurement.

19 Project s target area and population The project will bring both local and national benefits through increased access to electricity, jobs, and social services. The project area comprises the hydropower station in Itezhi-Tezhi district and three other districts crossed by the transmission line Mumbwa, Chibombo and Kafue on its way to Lusaka West Substation. The total population of the four districts is estimated at 819,440 (2010 population census). The project will supply electricity to the national grid as well as electrify Itezhi-Tezhi and Mumbwa towns, with populations of 64,593 and 218,328, respectively. The main project-related outcomes include improved availability of reliable and sustainable electricity, which will translate into higher economic growth and act as a catalyst for new investment. In addition, embedded fibre optics will enhance both project implementation and the national communications network in Zambia Participatory process for project identification, design and implementation The ITT project preparation benefited from inputs from and interactions with a wide range of DFIs, government institutions and non-governmental stakeholders. The program was jointly identified and prepared with the EIB, AFD, with the non-sovereign team of the Bank collaborating with FMO, Proparco, and DBSA. The project preparation involved ZESCO and GRZ officials from the Ministry of Finance and Ministry of Lands, Energy and Water Development. During the preparation of the Environmental and Social Impact Assessment (ESIA) and Resettlement Action Plan (RAP), informal and formal meetings were organized and discussions held with residents of affected communities, local leaders, business people and community-based organizations, etc. Discussions and interviews were conducted with stakeholders including the Zambia Wildlife Authority, Zambia Environmental Management Agency, and NGOs such as the World Wildlife Fund, focusing on the program objectives, the expected impact and benefits Bank Group experience, lessons reflected in project design The ITT design benefited from several Bank lessons about avoiding delays and cost overruns during project implementation. Experience in past operations has indicated the need for increased coordination of donor activities, ensuring the capacity of the project implementation team (PIT) and recruiting consultants for project engineering, management and auditors who are familiar with the AfDB procurement process. Therefore, an independent lender s engineer will be engaged. Furthermore, ESIAs and an RAP have been done, and all PAPs have been compensated to avoid delays in project commencement. A reconnaissance survey has been done of the entire line route, and tenders for a more detailed survey have been floated and this activity has been concluded with a report ready. Further, a preliminary soil investigation has also been carried out by an independent company and report was submitted. The data from such a survey will form part of the employer s site investigation data in the information to bidders. The EPC contractor for the transmission line will carry out a more detailed survey, including line profiles and tower sporting as well as soil investigations, in order to avoid cost overruns due to unknown soil conditions and flooding as in the Katima-Mulilo case and avert surprises in tower foundation types. The National Heritage Conservation Commission Register was used to conduct a heritage assessment survey to safeguard areas of cultural significance; most of the line route runs along an existing road, hence avoiding desecration of graves or shrines and sites of importance. 4 A detailed description of the consultation outcomes with stakeholders is presented in Technical Annex B8.

20 Project scheduling has been done in a manner that ensures transmission will be ready before generation is completed, to crowd in private financiers. The transmission project will require 18 months, while generation will require 41 months. Financial closure for transmission is also scheduled earlier than that for generation Key performance indicators The key performance indicators will measure the following outcomes: (a) increased power supply, (b) increased access to electricity, (c) reduced poverty rates, (d) net avoided tons carbon emissions equivalent per year, and (e) job creation. The data for the indicators will be collected through the Project Management Information System (MIS), the Central Statistical office and the Rural Electrification Authority The main outputs of the project are a 120 MW power plant, a 142 km, 220 kv singlecircuit line from Itezhi-Tezhi power plant to Mumbwa substation, and a 134 km, 330kV double/single-circuit line to Lusaka West substation and related substations. III. PROJECT FEASIBILITY 3.1. Economic and financial performance Methodology The analysis of financial performance of the ITPC power plant is focused on assessing ZESCO s net financial gain from its equity investment in ITPC, while that for the transmission line is based on the incremental cash flow impact on ZESCO from the implementation of both the ITPC power plant and the transmission line The economic and stakeholder analysis also considers both the ITPC power plant and transmission line in order to assess their combined impact on Zambia s economy. This holistic approach is necessary because the two projects are interdependent, and the transmission line is the fundamental pillar of the PPP framework that enables the ITPC to evacuate power to the national grid. Financial Analysis of the ITPC Power Plant FIRR, FNPV (real, base case) Table 3.1: ZESCO net equity returns from ITPC 16.20%, USD 15.6 million ZESCO s return on equity from ITPC power plant indicates the viability of the Bank s support for ZESCO s shareholding in ITPC. The Equity IRR of 16.2% (18% nominal) indicates there is a healthy incentive for both ZESCO and private partner Tata. The project IRR of 12.4%, without considering the financing package, shows that the average electricity tariff of USD 8.51 cents/kwh (in 2015 prices) is set at a level that justifies full capex and opex recovery, and because the project IRR (real) of 12.4% is above the weighted average cost of capital (real) of 6.3%, the project financial returns are considered sufficient. The levelised cost of generated energy is estimated at USD 6.41 cents/kwh, which reflects the competitive cost of production for ITPC s energy generation The sensitivity analysis has been conducted on the baseline financial model to stress test the robustness of ITPC s financial returns under adverse conditions. An assessment of the sensitivity tests shows that the project cash flows are more sensitive to changes in capital costs and plant availability. In a worst-case scenario, where there is a 10% increase in capex, and a 10% reduction in plant availability all occurring simultaneously, the Equity IRR drops to 11.10% from the base case estimates of 16.20%. ITPC s fixed-price turnkey EPC contract with Sinohydro and the existance of a long term PPA that articulates the tariff setting are examples of mitigation measures against costs escalation and uneconomic tariffs..

21 9 Financial Analysis of the Transmission Line The cash savings 5 that ZESCO will achieve over the life of the transmission project are significant. This is because ITPC is the least-cost generation and transmission option for the system, as compared to all other realistic hydro and thermal alternatives presented in the Power Systems Master Plan in Zambia. 6 Given that ZESCO is a vertically integrated utility, the transmission line does not generate direct revenues for it. The cash savings accruing to ZESCO form the basis of cash inflows or revenues for the transmission line project, upon which the financial IRR and NPV of the project are computed. Table 3.2: Financial Returns to the Transmission Line project FIRR, FNPV (real, base case) 19.89%, USD million The baseline transmission line financial model shows that the project is financially robust. With a financial IRR estimated at 19.89% real, and a FNPV of USD million discounted at 12% real. The cash-flow impact on ZESCO is highly positive and will allow ZESCO to comfortably repay the loans mobilized for the transmission line. The levelized energy cost of transmission is estimated at USD 2.77 cents/kwh to evacuate the power from ITPC power station into the national grid The sensitivity analysis shows that the project remains robust with a combined downside scenario, where both capital and operating costs increase by 20%. Such an increase would reduce the FIRR to 17.41% (from 19.89%), while FNPV is reduced to USD million (from USD million). This is still above the 12% cost of capital used in the analysis. This downside risk, however, will be greatly reduced through contingencies which have been provided in the project s cost. Technical Annex B6 provides a detailed sensitivity tests. Economic Analysis of the ITPC Power Plant and Transmission Line Projects Table 3.3: Economic Returns for the Combined ITPC Power Plant and Transmission Line EIRR, ENPV (real, base case) 22.50%, USD million The value of economic benefits is estimated from the difference between the total capital and operating costs of ITPC generation, and the capital and operating costs of the other realistic generation alternatives for base-load and peaking power. During the peak period, ITT will provide about 35% additional peaking capacity to the system, and will substitute for energy that otherwise would have been generated by more expensive gas turbines, diesel plants, and other purely peaking units. According to the actual system data, the O&M and fuel costs of the peaking units range between USD 8.11 cents/kwh and USD cents/kwh, which is significantly higher than the comparable running costs of the ITPC. In addition to the savings of O&M and fuel expenses, the capital costs of avoided capacity, provided by the ITPC at the peak, is estimated at USD cents/kwh based on the actual cost of the most recent peaking unit Sustainability Low tariffs, network losses, and lack of investment have affected ZESCO s financial performance. ZESCO s weak performance over the last several years is due to a combination of high levels of network losses, low electricity tariffs, and lack of investment. ZESCO s lack of financial reserves has left it unable to invest adequately in the maintenance and replacement of the aging and overloaded segments of its distribution networks. 5 6 The cash savings accruing to ZESCO is calculated from the difference between the cost of implementing the combined ITPC generation and transmission project as compared to all the other realistic hydro and thermal alternatives presented in the approved Power Systems Master Plan in Zambia. ITPC power plant will be built on an existing dam with minimal relocation costs, as compared to all other realistic hydro and thermal plants in the approved Power Systems Master Plan in Zambia.

22 In order to address the above challenges, organisational reforms have been implemented to improve ZESCO s performance. A ZESCO commercialisation strategy commenced in April 2003, aimed at ensuring long-term sustainability through, among other things, a progressive return to full-cost recovery tariffs, increased revenue collection, and a significant reduction in network losses. This has yielded results increasing ZESCO s gross revenue steadily from USD 188 million in 2008, to USD 260 million in 2009, to USD 329 million in 2010 and finally to USD 420 million in This positive trend is also a result of proceeds from an expanded customer base, loss reduction through network rehabilitation, and reinforcement and installation of 64,000 prepaid meters. GRZ has also shown commitment to continue to fast-track the utility reform measures. A new managing director and finance director have been appointed, and the Board of Directors is expected to be reconstituted by May GRZ has also pursued the implementation of the Multi Year Tariff Framework (MYTF) and encouraged private participation in the sector. 3.3 Tariff Analysis Background to the Mining Tariffs ZESCO s low general tariffs, and in particular those for mining, is a legacy inherited from past efforts to avoid a collapse of the copper mining industry. After the privatization of the Zambia Consolidated Copper Mines Ltd (ZCCM) and sale of various ZCCM mining and power divisions to regional and international mining companies and investors, Copperbelt Energy Corporation (CEC), who won the privatization bid, signed a 20-year Bulk Supply Agreement (BSA) with ZESCO that allows it to buy up to 700 of power and distribute it to its mining customers. This deal was meant to alleviate the effects of low copper prices and encourage reinvestment, so ZESCO was obliged to agree to a very low BSA tariff that could only be adjusted based on the United States Producer Price Index, which has averaged 1% over the years. This resulted in very low tariffs for the mines, which consume about 50% of total electricity, and has hurt ZESCO s financial viability. Tariff Reform Reform was implemented to try and address the low tariffs. As part of the commercialization program for ZESCO, the GRZ initiated a cost of service study in 2005, to determine the utility s full costs of providing electricity for various customer categories. It found that ZESCO was supplying power below cost to all its customer categories The electricity regulator has instituted a multi-year tariff framework which led to significant increases in tariff starting from In 2007, the ERB granted ZESCO a three-year tariff increment of 27% in 2008, 16% in 2009, and 11% in In 2010, ZESCO applied for a 59% increment which was partially satisfied through a 35% increase, well above the initially planned 11%. The rationale for the award of a lower percentage than ZESCO s request was to avoid a rate shock to consumers, given Zambia s already challenged competitiveness environment. In 2011, ZESCO was awarded an increase of 23% With regard to mining tariffs, a positive outcome from ongoing negotiations between ZESCO, CEC, and mining consumers culminated in an agreement to renegotiate the tariffs upwards, even though still below target. In January 2011, ZESCO increased mining tariffs by 30%, although the tariff agreed was still slightly below the utility s proposal. The Bank hopes that with its technical assistance for an updated cost of service study and legal assistance, GRZ and ZESCO will have the appropriate tools and strong justification for negotiating the existing and future BSAs at cost-reflective levels. 7 See Technical Annex A for current tariff projections by customer category and ERB s decision analysis on the ZESCO tariff application

23 The tariffs per category of customer are currently favoring the larger clients which require less infrastructure investments per unit of energy supplied. Currently, tariffs for each of ZESCO s customer groups are determined based on the amount of strain they put on the utility s resources. Supplying to bulk customers costs less per KWh than supplying residential customers and the farther away the consumer is from the generation point the more expensive to supply them, which is why ZESCO s projections show higher tariffs for domestic consumers than for mining companies. Tariff Analysis and the Itezhi-Tezhi Project The impact of adding ITPC on the weighted average cost of generation of ZESCO will be limited. Although ZESCO s current stocks of generation assets have not been recently revalued, it is estimated that its average costs of operating its hydro power plants is USD 2.7 cents/kwh. This is from an asset base generating about 1570 MW of electricity. The Implementation of the ITPC power plant adds another 120MW to the generating system by With a tariff of about USD 8.51 cents/kwh, the impact on ZESCO increases the weighted average generation cost to about USD 3.1 cents/kwh. This is consistent with the standard average cost of energy production from hydro. Therefore, although the ITPC power tariff is high, it will have limited impact on ZESCO s average tariff The current electricity sale tariffs are below the all-in costs of ZESCO, hence the plan for a multi-year tariff increase up to 2014 for full cost recovery. According to ERB, ZESCO s average electricity sale tariff currently stands at about USD 6.60 cents/kwh (this is the remuneration it receives from operating its entire system, including generation, transmission, and distribution assets). This is below the cost-reflective tariff, which is estimated at USD 8 cents/kwh. GRZ s objective is to move towards cost-reflective tariffs by and to this end ERB adopted a three-year multi-tariff framework 8.. Table 3.4: ZESCO s Average Sale Tariff Projections ( ) Avg. price, USD 2010/ / / / / /16 cents/kwh % change 23% 17% 14% 11% 7% 4% 3.4. Environmental and Social impacts Environment In order to assess the cumulative effects of both the transmission and generation projects, there was one ESIA and RAP for both projects. Cumulatively they are Category 1 according to the Bank s ESAP. ZESCO conducted a full Environmental and Social Impact Assessment (ESIA), of which public consultation was an integral part. The ESIA and RAP summaries were posted on the AFDB website on 16 May ITPC generation project: The most significant direct impacts anticipated are associated with the construction phase due to tunnelling through a hill and the blasting of rock (about m 3 ) to facilitate the construction of the power plant. Since the site is 1 km away from the Kafue River, there may be sedimentation effects. Post construction, there may be water quality issues in terms of oxygen levels due to the erection of a permanent structure. These impacts will be mitigated as addressed in the ESMP. 8 Technical Annex B6 shows ZESCO s full tariff projections by customer category, aimed at enabling the utility to achieve cost-reflective tariff levels

24 Transmission Line: The construction phase will have temporary and site-specific impacts such as vegetation clearing, localized blasting, and drilling during construction of the foundations, which may cause rock movement and breakage. The transmission line will also be a protrusion on the natural landscape. The most significant indirect impact relates to the creation of increased access to otherwise isolated areas, particularly protected areas (national park) and sensitive ecosystems (wetlands). The ESMP includes the mitigation of all identified impacts. An ESMP implementation budget of USD 206,080 has been allocated in the project costs for the transmission line. Climate Change The ITT project is producing and evacuating clean energy. Since Zambia exports power into the SAPP system, the project to some extent will reduce the relatively high carbon footprint of the system emanating from coal-based systems in Botswana and South Africa. The project will also reduce CO 2 emissions that would normally come from use of wood and charcoal in the Itezhi-Tezhi and Mumbwa areas as an alternative since the areas are supplied by a very unstable 33kV line ITPC power generation appears to be relatively well insulated from climate change impacts on variations in hydrology. Climate-related extreme events such as droughts could seriously affect power production, but data collected over the past 30 years of dam operation show that water levels have not been affected by droughts so far. It is also important to note that the line is connected to the main grid at Lusaka West, so even if the ITPC was affected by drought, the line would still be able to supply power to North-Western province from the Kariba North Bank power station The Bank, through the African Carbon Support Programme (ACSP), is assisting the owner to develop the CDM component of this project through providing technical advice and preparation of initial documents. A CDM prior consideration note has been submitted to ITPC, the Zambia Designated National Authority (DNA) and the United Nations Framework Convention on Climate Change (UNFCCC), and the project has been posted on the UNFCCC website. An initial estimate of emission reductions (CERs) to be achieved by this project is 360,000 tco 2 /year but the potential CDM revenue stream has not been considered in the project economic analysis given its uncertainty. Gender As a clean energy generation and transmission project, ITT will have positive externalities for households in general and women in particular. The project outcomes include improved reliability and increase in electricity supply to places such as Itezhi Tezhi, Mumbwa and surrounding areas, improving the quality of life of women in particular, since electricity can help access appliances that alleviate the burden of household chores. Moreover, it increases the possibilities for women education and health, by freeing up some time, and providing electricity to health applications. The GRZ has formulated a National Gender Policy (NGP) in 2000, which provides guiding principles for gender mainstreaming and equality in major sectors.. Both women and men will benefit in various ways from this project. During both construction and operation of the lines, deliberate effort will be made to ensure that a quota of at least 30% of unskilled and semi-skilled jobs is reserved for women There are some potential indirect impacts that may affect communities, including women in the project area, for which mitigation measures are planned. These include the spread of communicable diseases such as HIV/AIDS and other STIs. The project calls for the implementation of an HIV/AIDS prevention and awareness program aimed at ensuring that construction workers who will be coming from distant places without their families are aware of

25 13 the dangers of the disease. These programs are intended to protect both the workers and the communities. They will be implemented as part of the ESMP mitigation measures and are budgeted for. Social The project has potential for increasing local incomes and creating wealth. The project will bring in various types of benefits, most notably in local job opportunities, where it is estimated that at least 700 jobs will be created in skilled and non-skilled areas during implementation at both the power station and transmission line, and 120 jobs during operation of the power station and the two substations at Mumbwa and Lusaka West. In addition, there will be an increased number of people maintaining the way leave. A reliable supply of electricity to the area and the country will create a diverse source of wealth for the communities in the project area and also the population at large. The T-line project will enable ZESCO to evacuate power from ITPC and supply it to households in Mumbwa and Itezhi-Tezhi towns as well as industrial, mining, and commercial electricity consumers, and most importantly will allow for the expansion of the Rural Electrification Program. The local community will benefit from improved water supply and sewerage facilities and rehabilitated power supply of the district hospital through ZESCO s corporate social responsibility program Among the negative outcomes of the project would be the influx of people from outside the project area seeking employment on the project. This may lead to sporadic and uncoordinated developments such as the opening of informal markets, growth in squatter areas, conflict over resources such as water and land, and spread of communicable diseases such as HIV/AIDS, other STIs, and dysentery. These impacts have been assessed during the ESIA exercise, and RAP preparation and mitigation measures have been put in place which include liaisons between the developer and local councils on regulating squatters and opening up of informal markets, as well as the HIV/AIDS awareness and prevention programs described above. Involuntary resettlement The project will affect approximately 404 people (101 households) and a RAP has provided for their compensation. These project-affected persons will lose dwellings, ancillary buildings such as bathing shelters, fences, grain stalls, standing trees and crops, livestock sheds, latrines, public and community buildings such as prayer houses. In accordance with the Bank s Policy on Involuntary Resettlement, a full RAP has been prepared and implemented in accordance with the Bank s policy on involuntary resettlement including supporting the vulnerable to relocate. A budgetary allocation of the equivalent of USD 244,000 (including implementation and contingency) was provided by ZESCO to ensure fair and timely compensation of PAPs. IV. IMPLEMENTATION 4.1. Implementation Arrangements The generation project will be implemented by ITPC as the SPV created for the generation project, while a PIT will be created from ZESCO staff comprising a project coordinator, three site managers (electrical transmission engineer, substation engineer and civil engineer), an environmentalist, a social expert, a procurement expert and an accountant with experience and qualifications acceptable to the Fund to implement the transmission project.

26 14 Financial Management and Disbursement The Itezhi-Tezhi transmission line project s financial management transactions will be managed by ZESCO. The transmission project will be implemented within ZESCO s existing setup through its Generation and Transmission Directorates under the oversight of the Board of Directors ITPC generation project financial management transactions will be managed by ITPC through a project steering committee and a project implementation unit. A Joint Project Implementation Agreement (JPIA) and a Shareholders Agreement (SA) have been signed between ZESCO and Tata, setting out, inter alia, the establishment of a Project Steering Committee (PSC) and a Board of Directors to oversee the development of the project, the parties responsibilities in respect of the project, and its management and decision making policies for ITPC. The JPIA also provides for the establishment of the Project Implementation Unit, or PIU (currently headed by a project director appointed by ZESCO, with the deputy project director appointed by Tata) including accounting staff with sufficient experience to manage, co-ordinate and generally deal with all operational matters in relation to ITPC for the successful execution of the project up to commercial operation. The Bank s support to ZESCO s equity participation in ITPC will be provided as a loan to the GRZ, which will then be on lent to ZESCO on the same terms The governance, accountability and oversight arrangements in place at ZESCO together with effective management are adequate to ensure proper financial management of the Transmission Line. A steering committee from the ZESCO Board, composed of representatives from the Ministries of Finance, Energy, Water and Lands, will provide policy guidance and project broad oversight. A Project Implementation Team (PIT) composed of ZESCO staff with appropriate qualifications and experience will be responsible for transmission line project daily activities, while project independent supervision will be done by a lender s engineer. Corporate governance will be strengthened through internal and external audit requirements. An assessment of ZESCO s financial management arrangements for project implementation shows that adequate staff and systems are in place to enable proper planning, budgeting, accounting and reporting for the use of Bank funds in the implementation of the projects. Hence, funds made available for the financing of the project will be used economically, efficiently and appropriately to the satisfaction of the Bank s requirement ITPC and ZESCO will ensure proper audits are done and submitted to the Bank. For ITPC, in accordance with the requirements of the Companies Act, annual audited financial statements will be prepared for the company, a copy of which will also be sent to the Bank within six (6) months of the end of the respective fiscal year. For ZESCO, in compliance with the requirements of the Companies Act of Zambia, it publishes annual financial statements audited by a firm of private independent auditors (currently Grant Thornton) who issued a clean opinion in the 2010 audit report. In accordance with the Bank s requirements, quarterly progress reports linking financial information with physical progress and highlighting issues that require attention and a separate annual audit report will be prepared for the transmission line project and submitted to the Bank within six (6) months of the end of the respective fiscal year. The lenders aim at harmonising the reporting and audit requirements to enable ZESCO to satisfy the lenders through the submission of common reports. The audit will be carried out by the existing or other independent auditors in accordance with a harmonised Terms of Reference (TOR) that has been approved by the Bank to ensure adequate coverage of the project and the audit fees will be borne by ZESCO. In addition to the audit report, the auditors will also submit a management letter indicating any weakness in internal control together with the responses from management.

27 15 Disbursement Disbursements will be made on a pro-rata basis with EIB for the equity contribution and with EIB and AFD on the Transmission Line: All disbursements under the loan for the generation project will be made on a pro-rata basis with EIB. These funds together with tariff technical assistance funds will be disbursed into a special account created by ZESCO/GRZ. For the transmission line project, payments will also be made on a pro-rata basis with co-financiers using the direct payment method, in which the Bank will pay the contractors/suppliers directly based on satisfactory performance in accordance with the terms of the contract. Disbursements will be made on submission of the proper documents by ZESCO in accordance with the Bank s rules and procedures as laid out in the Disbursement Handbook, which can be accessed on the Bank s website. Procurement ITPC Power Plant The power plant will be implemented by the ITPC SPV, and the EPC contractor is already on board. An MoU was signed between the governments of Zambia and India in 2006 to develop the project. Thereafter ZESCO and Tata formed a joint venture in 2007 to construct, own and manage it. Following an international competitive process initiated in 2008, Sinohydro was awarded the turnkey EPC contract The procurement process for the EPC contractor, which ORPF has reviewed and found satisfactory, was based on World Bank guidelines. The GRZ has been carrying public procurement reforms financed both by the AfDB and the World Bank. Through these reforms, the Procurement Act was enacted and the regulation was approved recently. However, the enabling tools such as the bidding documents have not been developed to date. In this regard, the government has been using the World Bank s Standard Bidding documents for International Competitive Bidding procedures (ICB), for the procurement of the EPC contract as required by national law The turnkey EPC contract was won by Sinohydro following a fair and competitive procurement process. Following the advertisement of the tender, 18 firms purchased the bidding documents. Out of these, only four firms, Sinohydro Corporation (SC), China Gezhouba Group Company (CGGC), China National Electric Equipment Corporation (CNEEC), and Patel-BHEL JV, submitted bids at the submission deadline In spite of the Exim Bank funds being tied funds, the procurement process for Alstom India was found fair and competitive. The terms of the $50 million loan from the Indian government (line of credit from Exim Bank, India) requires that 85% of the equipment purchased through the USD 50 million loan must be sourced from India. In meeting this requirement, Sinohydro bid out the supply of the electro-mechanical package, which was won by Alstom Power India Limited (APIL). Other participants included Bharat Heavy Electricals Ltd (BHEL) and Toshiba Although the World Bank has debarred two Alstom subsidiaries, Alstom India s bid for the supply of the electromechanical equipment is not affected. The World Bank has recently debarred two subsidiaries of Alstom SA, Alstom Hydro France and Alstom Network Schweiz AG, for three years starting from February 2012 due to payment misconduct on a hydropower project in Zambia. This is linked to the investigations already undertaken and addressed by the lender group. This has no impact on the project, as Alstom India is a separate entity and their contract was signed prior to the debarment.

28 16 Transmission Line Procurement for the transmission line will, for the first time in the energy sector, be done by all co-financiers using the Bank procurement guidelines. For the first time ever, and as good precedence for future mutual reliance and cooperation between the Bank, EIB and AFD, it has been agreed by the public lenders that all co-financed procurement activities on the transmission line will be carried out using the Bank s rules and procedures. This is consistent with the spirit of the G20 Cannes declaration promoting enhanced procurement cooperation among development financiers for ease of infrastructure projects implementation Except for the lender s engineer paid for by EIB, all other transmission components will follow the Bank procurement rules. Specifically, all procurement of works, goods and acquisition of consulting services financed by the ADF and NTF Loan resources will be in accordance with the Bank s Rules and Procedures for Procurement of Goods and Works or, as appropriate, Rules and Procedure for the Use of Consultants, using the relevant Bank Standard Bidding Documents AfDB and NTF jointly with EIB and AFD will co-finance the procurement of four civil works contracts. These contracts are respectively for: the construction of 142 km of 220 kv of single-circuit line from ITPC to Mumbwa Substation; the construction of 134 km of 330 kv double-circuit line from Mumbwa to Lusaka West Substation; the construction of a 2x125 MVA, 330/220/33 kv line to Mumbwa Substation; the extension of Lusaka West 330 kv Substation to accommodate a new 330 kv line bay and two transformer bays and convert 33 kv indoor switch to outdoor; and The procurement of transmission lines will be carried out through prequalification under the International Competitive Bidding (ICB) procedures. The procurement of construction works for Mumbwa, ITPC and Lusaka West Substations will be carried out through International Competitive Bidding procedures The lenders will engage an engineer to supervise the transmission lines and substations construction: EIB will finance the procurement of technical assistance, an engineering consultancy firm that will be responsible for project design review and supervision of the implementation of works. The procurement of the consultancy services will fully be financed by EIB and therefore follow EIB procurement guidelines. Technical Assistance for electricity tariffs structure The procurement of the TA for the tariffs will be carried out in accordance with the Bank s rules and procedures for the use of consultants, following a quality- and cost-based selection method. There will be a cost-of service study, and a legal assistance for negotiations with large buyers. 9 Activities under Advance Contracting involve the recruitment for consultancy services (project management consultant) to assist ZESCO with the preparation of the bidding documents for the T-line. Given that the Bank is not financing consultancy services, and that it is being financed by EIB and AFD, no action is required from the Bank for this activity. The request in respect of the construction of the transmission line and sub-stations is undergoing internal Bank approval processes.

29 Monitoring Monitoring and impact evaluation of the overall project will be the responsibility of ZESCO and ITPC. The ZESCO PIT (for the transmission line) and ITPC (for the power plant) will be responsible for overall project progress coordination and monitoring as well as submission of progress reports. Environmental and social safeguards on the project level will be monitored by ZESCO and nationally it will be managed by ZEMA. The key indicators for project progress and outcomes are described in paragraph and in the project log frame. The Bank and ZESCO will jointly carry out a mid-term review and a Project Completion Report (PCR) at the project close, in addition to the planned bi-annual joint supervisions. Table 4.2 Power Plant Implementation Schedule No Activity Time Responsible 1 Board approval 16 May 2012 Board 2 Final negotiations of financing documents 31 August 2012 OPSM/GRZ 3 Loan signature 3 September 2012 OPSM/GRZ 4 CP satisfaction 31 October 2012 GRZ 5 First sisbursement and financial close 1 November 2012 OPSM/FFCO Commissioning June 2015 EPC Contractor Table 4.3: Transmission Line Implementation Schedule No Timeframe Milestone Monitoring process / feedback loop 1 Loan Approval ADF/NTF June General Procurement Notice ADF/ZESCO August Loan Signed ADF/ZESCO June Effectiveness ZESCO December Contract signature for construction of the line and mobilization ZESCO September Commissioning Contractors June Governance ZESCO and ITPC have adequate governance structures and EIB will finance governance enhancement in Zesco. ZESCO has a Board of Directors that performs its duties according to the law, the Articles of Association, and the rules of procedure, and works with the company s other governance bodies. ZESCO is structured into various departments, including the Generation and Transmission Directorate, Distribution and Customer Service, Engineering Development, and its management operates under the overall oversight of the Board of Directors. The Board Committees in place are the Finance and Audit Committee, Administration, Customer Service, Legal Committee and Technical Committee. Due to previous compliance issues with EIB loans to ZESCO, EIB has agreed to provide technical assistance to strengthen good governance at ZESCO.

30 Risk management Table 4.4 shows the major risks and mitigating measures during project implementation: Table 4.4 Expected risks and proposed mitigation measures: Risk Potential Cause Risk Mitigation Measures Slow pace of public sector and other structural reforms/ Failure of ZESCO to honor PPA agreement Lack of proper donor coordination Construction/completion risk Power Generation Risk Political influence which limits ZESCO s ability to properly charge for its services at cost-reflective levels to all customer categories Power perceived to be too expensive relative to other supply options Given the potential large size of the lenders group on the project, coordination issues may negatively impact on pre- and postproject execution The EPC contractor, Sinohydro, has won a number of significantly large contracts on other Zambian hydropower projects. This could lead potentially to overstretching the available resources resulting in delays, accumulation of liquidated damages on the PPA, cost escalation and at worst debt default The transmission project requires financial closure on the generation project. Failure to close the financing on time could lead to a failure to build in time the power evacuation systems required by load centers identified in Mumbwa and Lusaka West Government of Zambia is committed to achieving cost reflective tariff levels The bank s TA on tariff reform and continuous policy dialogue with GRZ Comfort from government ownership of 50% in the power plant PPA is a take-or-pay basis GRZ guarantee for ZESCO obligations Lenders conducted joint preparation of the project and coordination has been good Joint supervision mission is proposed OPSM acting as lead arranger and coordinate financing on the private debt portion Construction bond executed by Sinohydro and the fixed time, fixed price (turnkey) nature of the contract Sinohydro is the global leader in hydropower development and has significant experience managing multiple projects across diverse continents OPSM and ONEC are jointly processing the project in parallel and information on the fundraising efforts of both aspects is being exchanged Take-or-pay contract, liquidated damages claimable by ITPC will mitigate this risk from ITPC perspective. The T-line build-up time is shorter than that of the power plant 4.5. Knowledge building The novelty of the financial structuring of this project and the application of the One Bank concept will result in useful knowledge building for the Bank. The Bank has extensive experience in the energy sector in Zambia, Southern Africa and elsewhere on the continent and has used this experience to develop the project. By supporting the project, the Bank demonstrates its commitment to engage with the government in addressing power supply challenges in the country, in the region, and on the continent. Furthermore this is the Bank s first effort to promote PPPs through the use of the ADF to support government equity participation. This experience will be captured and used in other initiatives by both the Bank and ZESCO. The Bank s experience in the preparation of the project in collaboration with NTF and the utility and other donors including the private financiers, and its implementation experience will be captured in the various program documents, including progress reports, midterm review, and completion reports.

31 19 V LEGAL INSTRUMENTS AND AUTHORITY 5.1 Legal instrument The Bank instrument to finance this operation is an ADF loan and an NTF loan to the Government of Zambia. The ADF loan which will be used to support ZESCO s shareholding in ITPC, the technical assistance to ZESCO on electricity tariffs and support towards the implementation of the transmission line is UA million, UA 2.00 million, and UA million, respectively. The NTF loan for the transmission line is USD 10 million (UA 6.4 million). 5.2 Conditions Associated with Bank s Intervention Conditions Precedent to the Entry into Force of the ADF and NTF Loan Agreements The entry into force of the Loan Agreements shall be subject to the fulfilment by the Borrower of the provisions of Section of the General Conditions Applicable to Loan Agreements and Guarantee Agreements of the Fund Conditions Precedent to Disbursement of the ADF Loan First Disbursements in Respect of Consultancy Services. (i) The first disbursements of the ADF Loan (the First Disbursements ) shall be made by the Fund, and the Borrower shall apply such First Disbursements, solely for the purpose of the payment of consultancy services in connection with the Cost of Service Study (the Consultancy Services ); and in an aggregate amount not to exceed Two Million Units of Account (UA 2,000,000) Conditions Precedent to First Disbursements. The obligation of the Fund to make any of the First Disbursements of the ADF Loan shall be conditional upon entry into force of the Agreement in accordance with Section above, and the Borrower providing evidence, in form and substance satisfactory to the Fund, of fulfillment of the following conditions: (i) having opened one (1) foreign currency special account in a bank acceptable to the Fund for the deposit of the proceeds of the Loan; (ii) commitment from each of the co-financiers for the transmission line, for the equity and for the senior debt tranche of the power plant to finance the project or the Borrower has made appropriate arrangements to cover any financing gap resulting from the failure to obtain the commitment of any co-financier; (iii) a certified copy(ies) of documentation in form and substance acceptable to the Fund, evidencing ZESCO s shareholding in the Itezhi-Tezhi Power Company; (iv) the establishment of a Project Implementation Team (PIT); and (v) a subsidiary financing agreement, with terms and conditions acceptable to the Fund, has been executed between the Borrower and ZESCO for the purpose of on-lending the proceeds of the Loan Conditions Precedent to Further Disbursement. Provision of evidence, in form and substance satisfactory to the Fund that, prior to commencement of civil works, all Project Affected People (PAPs) have been compensated and/or resettled in accordance with the RAP and the Works and Compensation Schedule

32 5.2.3 Conditions Precedent to Disbursement of the NTF Loan 20 The First Disbursement of the NTF Loan shall be conditional upon entry into force of the Agreement in accordance with Section above, and the provision by the Borrower of evidence, in form and substance satisfactory to the Fund, of the fulfillment of the conditions in and above Other Condition for the ADF and the NTF Loans Submission of a project implementation plan acceptable to the co-financiers, for the Transmission Line, that sets out common implementation arrangements for the execution of the Transmission Line Undertakings for the ADF and the NTF Loans: The Borrower hereby undertakes the following: (i) To implement the Project in compliance and in accordance with: (a) national legislation; (b) the provisions and conditions of any environmental licenses issued by the National Environment Management Authority; (c) the ESMP recommendations, requirements and procedures and submit quarterly progress reports on the implementation of the Project, the ESMP and the RAP in a form acceptable to the Fund. (iii) To maintain proper records of account pursuant to Section 9.09 of the General Conditions. (iv) Based on tariff review recommendations, to maintain electricity tariffs at levels that enable ZESCO to achieve a positive net revenue.. VI RECOMMENDATIONS Management recommends that the Board of Directors approve : 1. The proposed ADF loan of UA 30 million to the Government of Zambia for the purposes and subject to the conditions stipulated in this report. 2. The proposed NTF loan of USD 10 million to the Government of Zambia for the purposes and subject to the conditions stipulated in this report. 3. The waiver of the rule of origin with respect to procurement using NTF resources to align it with the universal procurement of the ADF.

33 Country s comparative socio-economic indicators Annex I Year Zambia Africa Develo- ping Develo- Countrie Countrie Basic Indicators Area ( '000 Km²) Total Population (millions) , ,659 1,117 Urban Population (% of Total) Population Density (per Km²) GNI per Capita (US $) Labor Force Participation - Total (%) Labor Force Participation - Female (%) Gender -Related Development Index Value Human Develop. Index (Rank among 169 countries n.a n.a n.a Popul. Living Below $ 1 a Day (% of Population) Demographic Indicators Population Grow th Rate - Total (%) Population Grow th Rate - Urban (%) Population < 15 y ears (%) Population >= 65 y ears (%) Dependency Ratio (%) Sex Ratio (per 100 female) Female Population years (% of total populatio Life Expectancy at Birth - Total (years) Life Expectancy at Birth - Female (years) Crude Birth Rate (per 1,000) Crude Death Rate (per 1,000) Infant Mortality Rate (per 1,000) Child Mortality Rate (per 1,000) Total Fertility Rate (per woman) Maternal Mortality Rate (per 100,000) Women Using Contraception (%) ped GNI per capita US $ Zambia Africa Population Growth Rate (%) Zambia Africa Health & Nutrition Indicators Phy sicians (per 100,000 people) Nurses (per 100,000 people)* Births attended by Trained Health Personnel (%) Access to Safe Water (% of Population) Access to Health Services (% of Population) Access to Sanitation (% of Population) Percent. of Adults (aged 15-49) Living with HIV/AID Incidence of Tuberculosis (per 100,000) Child Immunization Against Tuberculosis (%) Child Immunization Against Measles (%) Underw eight Children (% of children under 5 y ears Daily Calorie Supply per Capita Public Expenditure on Health (as % of GDP) Life Expectancy at Birth (years) Zambia Africa Education Indicators Gross Enrolment Ratio (%) Primary School - Total Primary School - Female Secondary School - Total Secondary School - Female Primary School Female Teaching Staff (% of Total) Adult literacy Rate - Total (%) Adult literacy Rate - Male (%) Adult literacy Rate - Female (%) Percentage of GDP Spent on Education Infant Mortality Rate ( Per 1000 ) Environmental Indicators Land Use (Arable Land as % of Total Land Area) Annual Rate of Deforestation (%) Annual Rate of Reforestation (%) Per Capita CO2 Emissions (metric tons) Zambia 2007 Africa

34 Table of ADB s portfolio in the country Annex II Project Name/Country Emergency Assistance To 2009 Flood Mitigation Community Water Management Improvement Central Province Eight Centres Water Supply Central Province Eight Centres Water Supply Grant Rural Water Supply & Sanitation Program Nkana Water Supply And Sanitation Programme Lake Tanganyika Integrated Regional Management Prg. Sadc North - South Corridor - Kazungula Bridge Study Enhancing Procurement Reforms and Capacity Project Nacala Corridor Project Phase II (Zambia) Zanaco Zambia** FAPA TA Grant SMEs Technical Assistance to PFSL-Zambia Total On-going Operations Main Sector Financin g Source Approval Date Amount Approved Disbursement (UA Mil) Amount % Disburse ment Deadline Agric ADF Agric ADF % Water ADF % Water ADF % Water ADF % Water ADF % MultiNation al Agric MultiNation al Transport Multi- Sector MultiNation al Transport Private Sector Private Sector Private Sector ADF % ADF % ADF % ADF % ADB % ADB % ADB % %

35 Annex III Key related projects financed by the Bank and other development partners in the country 1. Zambia On-going Projects Project Name Source of Funding Region Type of Works Contract Sum (EUR Million) Zimba-Livingstone, Road Lot 2, Contract A Zimba-Livingstone, Road Lot 2, Contract B North Western and Central Province Feeder Roads European Union Southern Full reconstruction 19 European Union Southern Full reconstruction 35 European Union Central Re-gravelling and rehabilitation Choma Agricultural Feeder Roads World Bank Southern Province Chongwe Agricultural Roads European Union Eastern Province Spot improvement and rehabilitation Spot improvement and rehabilitation Nacala Corridor Road Project AfDB/EU Eastern Province Rehabiliation Zambia -Planned Projects Project Name Source of Funding Region Type of Works Contract Sum (EUR Million) Lusaka-Chirundu Road World Bank Lusaka Rehabilitation 40.5 Luangwa-Mwami Road (Nacala Road Corridor Project, Phase II) EU, AfDB, EIB and other financier TBD Eastern Rehabilitation 220 Kalabo-Sikongo Road BADEA, KFEAD, SFD, OFID Western Upgrading to bituminous standard Copperbelt Feeder Roads BADEA, OFID Copperbelt Rehabilitation

36 Map of the Project Area Annex IV A) Project map and picture of the transmission line route B) Project map and picture of the existing ITPC dam