ONA IN THE AMOUNT OF US$15.9 MILLION TO THE WEST BANK AND GAZA FOR AN. August 12, 1999

Transcription

1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Document of The World Bank PROJECT APPRAISAL DOCUMENT ONA PROPOSED TRUST FUND CREDIT IN THE AMOUNT OF US$15.9 MILLION TO THE WEST BANK AND GAZA FOR AN Report No GZ ELECTRIC SECTOR INVESTMENT AND MANAGEMENT PROJECT August 12, 1999 Infrastructure Development Group West Bank and Gaza Country Management Unit Middle East and North Africa Region

2 CURRENCY EQUIVALENTS (exchange rate effective January 22, 1999) Currency unit = New Israeli Shekel (NIS) NIS I = US$0.25 US$1 = NIS 4.05 DSCR EIB EMP ERR ESIMP GWh HEPCo ICB IDA IFC IEC IPP IS JDECo kwh LACI LRMC LSDP MEA MIDP MOLG MVA NA NCB NGO NORAD NS O&M PA PCB PEA PIP PLC PLO QCBS RKD SA SCADA SELCo SOE TA TATF TFCA TFGWB WBG FISCAL YEAR January 1 - December 31 ABBREVIATIONS AND ACRONYMS Debt Service Coverage Ratio European Investment Bank Environmental Management Plan Economic Rate of Return Electric Sector Investment and Management Project Gigawatt Hour Hebron Electric Power Company International Competitive Bidding International Development Association (as administrator of the TFGWB) International Finance Corporation Israel Electric Company Independent Power Producer International Shopping Jerusalem District Electric Company Kilowatt Hour Loan Administration Change Initiative Long-run Marginal Costs Letter of Sector Development Policy Ministry of Environmental Affairs Municipal Infrastructure Development Project Ministry of Local Govermment Mega Volt Ampere Not Applicable National Competitive Bidding Non-governmental Organization Norwegian Agency for Development Cooperation National Shopping Operation and Maintenance Palestinian Authority Polychlorinated Biphenyls Palestinian Energy Authority Project Implementation Plan Palestinian Legislative Council Palestine Liberation Organization Quality-and-Cost-based Selection Rust, Kennedy and Donkin Special Account Supervisory Control and Data Acquisition Southern Electric Company Statement of Expenditures Technical Assistance Technical Assistance Trust Fund Trust Fund Credit Agreement for the ESIMP Trust Fund for Gaza and West Bank West Bank and Gaza Vice President: Country Director: Sector Director: Sector Manager: Team Leader: Kemal Dervi* Joseph Saba Jean-Claude Villiard Zoubeida Ladhibi-Belk Rama L. Skelton

3 West Bank and Gaza Electric Sector Investment and Management Project Project Appraisal Document Table of Contents Project Financing Data...1I Page No. A. Project Development Objective Project development objective Key performance indicators... 2 B. Strategic Context Sector-related Country Assistance Strategy Goal supported by the project Main sector issues and strategy for development of the power sector Sector issues to be addressed by the project and strategic choices...4 C. Project Description Summary and Financing Plan Project components and financing plan Key policy and institutional reforms supported by the project Benefits and target population Institutional and implementation arrangements D. Project Rationale Project alternatives considered and reasons for rejection Major related projects financed by IDA and/or other development agencies Lessons learned and reflected in the project design Indications of borrower commitment and ownership Value added of IDA (TFGWB) support in this project.11 E. Summary Project Analyses... I Economic assessment Financial assessment Fiscal impact assessment Technical assessment Institutional assessment Social and stakeholder aspects Environmental assessment Participatory approach F. Sustainability and Risks Sustainability Critical risks Possible controversial aspects G. Main Loan Conditions Effectiveness conditions Other H. Readiness for Implementation I. Compliance with IDA Policies... 25

4 Table Of Contents (continued) Page No. Attachment Letter of Power Sector Development Policy and Action Program Annexes Annex 1. Project Design Summary.33 Annex 2. Detailed Project Description.36 Annex 3. Estimated Project Costs, Financing Plan, and Implementation Schedule. 39 Annex 4. Cost-Benefit Analysis Summary.44 Annex 5. Financial Summary (HEPCo, JDECo, SELCo).53 Annex 6. Procurement and Disbursement Arrangements.68 Table A. Project Costs and Procurement Arrangements.70 Table B. Thresholds for Procurement Methods and Prior Review.71 Table C. Allocation of Credit Proceeds.72 Annex 7. SELCo Management Contract Performance Criteria.73 Annex 8. Project Processing Budget and Schedule.84 Annex 9. Socioeconomic Issues.85 Annex 10. Environmental Management Plan.90 Annex 11. Statement of Loans and Credits and IFC Investments.96 Annex 12. West Bank and Gaza at a Glance.97 Annex 13. Documents in Project File.99 Map No: IBRD 29383

5 West Bank and Gaza Electric Sector Investment and Management Project Project Appraisal Document Middle East and North Africa Region West Bank and Gaza Program Date: August 13, 1999 Task Team Leader: Rama Skelton Country Manager/Director: Joseph Saba Sector Director: Jean-Claude Villiard Project ID: Sector: Power Focal Area: Infrastructure Lending Instrument: Sector Investment Credit Program of Targeted Intervention: [ ] Yes [x] No Project Financing Data [] Loan [] Credit [ Guarantee [x] Other TFGWB credit For Loans/Credits/Others: Amount (US$ million): 15.0 Proposed terms: [] Multicurrency [ x] Single currency, specify: US$ Grace period (years): 10 [] Standard Variable [ ] Fixed [ LIBOR-based Years to maturity: 40 Commitment fee: 0.50% Service charge: 0.75% Financing plan (US$ million): Source Local Foreign Total HEPCo/JDECo/SELCo European Investment Bank (EIB) Government of the Republic of Italy (Italy) Trust Fund for Gaza and West Bank (TFGWB) Total Borrower: West Bank and Gaza Guarantor: N/A Responsible agencies: Palestinian Energy Authority (PEA); Hebron Electric Power Company (HEPCo; to be created); Jerusalem District Electric Company (JDECo); Southern Electric Company (SELCo) Estimated disbursements (IDA FY/US$m)': Annual Cumulative Project implementation period: FY Expected effectiveness date: October 30, 1999 Expected closing date: June 30, 2004 Main implementing agencies: PEA; JDECo Contact Person: Dr. Omar Kittaneh, General Manager, PEA Mr. M. Ali Husseini, Chairman of Board P.O. Box 3591, Albireh, West Bank and Managing Director, JDECo Telephone: P.O. Box B 19225, Jerusalem Fax iall references to IDA in this document mean IDA as administrator for the TFGWB.

6 Project Appraisal Document Page 2 A: Project Development Objective 1. Project Development Objective: The development objective of the proposed Electric Sector Investment and Management Project is to benefit electricity consumers, predominantly households, through sustainable improvements in the quality of electricity supply. This objective will be achieved through fundamental power sector institutional reforms (the policy components), implemented in parallel with reinforcement of the power system (the physical components). In particular, the project will: (a) (b) (c) Initiate restructuring of the power sector in accordance with the Palestinian Authority's (PA's) Letter of Power Sector Development Policy (Attachment). This will involve the corporatization and commercialization of two new entities: the Hebron Electric Power Company (HEPCo) and the Southern Electric Company (SELCo)-the latter taking over the electric utility operations of five small municipalities in the area; Strengthen the Palestinian Energy Authority's (PEA's) capacity to put in place power sector reforms and sector environmental regulations, and to establish an overall institutional basis-building on international best practices-for the sustainable operation of the power sector and the safeguarding of consumer interests; Reinforce the power system in the central and southern regions of the West Bank (areas A and B only), as the first step in the least-cost power system expansion plan aimed at the efficient and reliable provision of electricity. 2. Key Performance Indicators: The key performance indicators to assess progress in carrying out these components are shown in Annex 1. In addition, the management contract for SELCo will establish a set of performance targets for project implementation. The management contract operator's progress toward these targets is linked, via a sliding scale, to performance incentive compensation paid to the Operator each year. Annex 7 presents an indicative set of performance targets for the management contract. B: Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the Project (see Annex 1): CAS document number: not applicable (NA) Date of latest CAS discussion: NA The project is fully consistent with the World Bank/IDA assistance strategy presented in the paper entitled "A World Bank Group Strategy for the West Bank and Gaza," considered by the Board on May 28, The strategy identifies the infrastructure gap, including in power, as one of the key constraints to economic growth in the West Bank and Gaza (WBG), and calls for the restoration of infrastructure, strengthening of institutions, and facilitation of private sector involvement in the economy. The proposed lproject is formulated in the context of this strategy, and would directly contribute to its fulfillment by: * Rapidly improving the quality of supply and access to electricity in the central and Hebron govemorate regions of WBG; * Providing a framework for the efficient implementation of donor-funded capital investments; * Laying the basis for a sustainable institutional structure in the future; * Attracting private operators in the management of the sector. The project would build on the work of the two emergency rehabilitation projects (ERP I and II) and the Municipal Infrastructure Development Project, and complement ongoing works under the Water and Sanitation Services Project in Gaza, the Southern Area Water and Sanitation Improvement Project and the

7 Project Appraisal Document Page 3 Bethlehem 2000 Project. The project would play a critical and catalytic role in maintaining donor support and cofinancing in the electric sector. 2. Main sector issues and strategy for development of the power sector: Issues * The institutional and regulatory framework is weak. Except for JDECo, municipalities have historically been the major providers of electric utility services in WBG. They are confronting a host of managerial and financial challenges, an uncertain political mandate, and a complicated and conflicting overlay of authorizing legislation. * The neglect of regulation and control has been costly. Inadequate institutional relationships have contributed substantially to unclear objectives, suboptimal performance, and inappropriate PA intervention in the sector. Long neglect has led to pronounced deterioration of existing infrastructure systems and services, and has hindered economic growth and efforts at rehabilitation. There is art urgent need to create new institutions, in order to rationalize and consolidate services and to develop local managerial talent. * Tariff designs are out of date. Tariffs fail to respond to market signals and provide inadequate incentives for efficient energy use. The structure of rates is inadequate; there is no time of day element, no demand charge, and no power factor penalty. There is also no lifeline tariff block for low-consumption (lower-income) consumers. * Demand will be increasing. Credible forecasts completed under the project have served as the basis for drafting the distribution, transmission, and generation plans. Load is expected to increase by about 6 percent a year over the period * There is a need for rehabilitation and expansion of the power system. In WBG, almost 20 percent of system demand (some 55 MW) is not being met due to lack of capacity along with severe voltage drops. It is reasonable to expect that rapid reductions in non-technical loss levels are possible as commercial discipline is reestablished. Rehabilitation and reinforcement of the low voltage and medium voltage systems are urgently required yet remain largely unfunded. In addition, emergency rehabilitation works in the central West Bank and the Hebron govemorate (requiring roughly US$90 million) are thus far unfunded. Approximately US$330 million for distribution development (including the emergency rehabilitation) will be needed to meet projected system growth in the coming five years. The long-term expansion investment program costs for WBG over a I 0-year horizon are in excess of US$600 million. Strategv The project is supporting four elements of the PA strategy, as outlined in the Statement of Sector Development Policy and Action Program (LSDP) issued by the President of the PA and the Chairman of PEA (see Attachment). Their key policy objectives for the power sector include rehabilitation of existing networks and services and extension of services to currently unserved communities; separation of regulatory from commercial functions; encouragement of private participation in sector operations and development; improving the operating efficiency of distribution utilities; and setting pragmatic tariffs that will promote the commercial viability of sector enterprises while providing lifeline rates for needy consumers. In support of this broad sector strategy, IDA assistance will focus on: (a) Rehabilitating existing networks and services, and extending services to unserved communities;

8 Project Appraisal Document Page 4 (b) (c) (d) Encouraging maximum private sector participation in sector operations and development, particularly in generation and distribution, thus minimizing the need for public sector financial support; Establishing autonomous and commercially oriented regional distribution utilities in Gaza, in the northern West Bank, and in the southern West Bank, by consolidating the local electricity departments of the municipalities and villages; Increasing the operating and technical efficiency of the distribution utilities through enduse energy efficiency, energy conservation, and better load management. 3. Sector Issues to be Addressed by the Project and Strategic Choices By limiting its focus to the priority issues set out by the PA and the PEA (and which can be addressed in the five-year implementation period), the proposed operation would lay the foundation for the Palestinian authorities to achieve their long-term goals for the sector. The creation of independent, shareholder-held distribution utilities in the Hebron governorate would help to reduce technical and non-technical losses in the rehabilitated systems; improve consumer metering, billing, and collections; and improve service delivery to consumers. C: Project Description Summary and Financing Plan 1. For a detailed description of each component, project financing plan, and implementation schedule please refer to Annex 2 and Annex 3. There are three main components of the project, as shown below. The table displays major project components, costs thereof, and the portion of IDA financing; see Annex 2 for details: Component Category Cost including Percent IDA Percentage contingencies of total financing of IDA (US$m) (US$m) financing (a) Rehabilitation and upgrading of electric utility Physical distribution facilities in the central West Bank and the Hebron governorate, and implementation of a distribution dispatching center (SCADA) for JDECo. (b) Management contract and technical assistance Institution (TA) to strengthen sector institutions. This component comprises four subcomponents: (i) the three-year cost (fixed fees and performance incentive) of a performancebased management contract for SELCo; (ii) TA to JDECo in areas where its own capacity has potential for improvement; (iii) TA to help the municipality of Hebron corporatize and commercialize its electric utility operations (business plan implementation); and (iv) TA to PEA to implement the actions specified in the LSDP. building (c) Initial startup and operating expenditures. This Institution component, financed by IDA, would help to strengthen building both HEPCo's and SELCo's capacity to operate as financially sound and technically capable power distribution companies. Total Details of the project costs, financing plan, and implementation schedule are at Annex 3. Provision for contingencies (price and physical) total US$12.2 million, or 13.5 percent of the total project cost. Counterpart funding is US$3 million, just over 3 percent of the total project cost. On-lending terms: the Borrower, through the PA, would on-lend the EIB, IDA and Italian loans as follows:

9 Project Appraisal Document Page 5 Electrc Sector Investment and Management Project (ESIMP) * JDECo (US$54.2 million) at six percent interest rate with repayment of principal in 20 years, including three years of grace; * HEPCo (US$14.3 million) and SELCo (US$16.6 million) at two percent interest rate with repayment of principal in 25 years, including ten years of grace; * PEA (US$2 million), IDA credit would be on-lent on a grant basis. 2. Key Policy and Institutional Reforms Supported by the Project: (a) (b) (c) (d) (e) Commercialization of utility management, including cost recovery via consolidation of the six largest municipal electricity departments in the Hebron governorate of the West Bank; Preparatory engineering and legal work to bring non-electrified regions of the Hebron governorate into the SELCo service franchise; Corporatization and phased introduction of private sector operators into electricity distribution; Strengthening of JDECo as a corporate entity and improvement of its management effectiveness; Drafting of enabling legislation (new electricity law); establishment of arms-length regulation of the sector, and of new environmental regulations. 3. Benefits and Target Population: The project would restore the quality and quantity of utility-grade electric service across the central and southern regions of the West Bank, to jump start the economy and create an enabling environment for private participation in development of the sector. The ultimate project beneficiaries would be Palestinian electricity consumers in the region. Principal project benefits (not all of which are quantifiable) would include: (a) (b) (c) (d) (e) (f) (g) An upgrade in availability and quality of service for some 150,000 connected Palestinian customers (households and enterprises)-a population of approximately 1 million. Rehabilitation would provide for increased levels of reliability (fewer outages, with improved response time to return service following interruptions, service voltage within norms), and meet the demand growth anticipated over the implementation period. It would also form the basis for much-needed power system expansion within a least-cost system development program; An increase in distribution efficiency. Technical and non-technical power losses, which currently are as high as 20 percent, would be reduced to the levels found in well-managed systems. Efficiency gains would also be achieved by installing reactive capacity on distribution feeders to correct for low power factors and avoid the power-factor penalty imposed by the bulk power supplier; The creation of sufficient institutional capacity to plan subsequent expansions, including the ability of sector institutions to finance a substantial portion of sector needs from their own internal cash-generating resources; A better base for rural electrification (where grid extensions are economically justifiable), as a result of the strengthened networks and the creation of requisite institutional capacity; A reduced accident risk for the population at large, as well as for utility employees in the rehabilitated system; Minimization of air pollution through the replacement of less efficient, unsightly, and more polluting small-scale diesel generators; Possibly an improved bargaining position for the distribution utilities in negotiations for wholesale bulk power purchases, resulting in lower-cost imports.

10 Project Appraisal Document Page 6 4. Institutional and Implementation Arrangements: (a) Each responsible agency shall be accountable for the proper implementation, monitoring, and reporting of progress for those project components (see detailed project description, Annex 2; financing plan, and project implementation schedule, Annex 3) under its purview. Where implementation capacity is deemed insufficient, this shall be supplemented by technical assistance and/or a performance-based management contract, as follows: (i) (ii) JDECo (electric system distribution rehabilitation, distribution expansion, corporate restructuring, institutional strengthening). A project implementation unit (PIJ) shall be set up within its organizational structure. The PIU will be headed and managed under a technical assistance consultancy for the four-year period of project execution. Full line authority for implementation of the components shall be given to the PIU. The PIU will be responsible for the overall coordination and day-to-day management of the JDECo component of the project, both physical and institutional elements. In addition, the PIU will be responsible for coordinating annual project reviews, preparing and submitting quarterly project progress reports, and preparing disbursement applications; SELCo (electric system distribution rehabilitation, putting in place and initial operation of a new shareholder-held distribution utility organization). Implementation of this component of the project shall be executed under a performance-based management contract, acceptable to the Administrator. Disbursements shall begin only after such contract, acceptable to the donors, is let; (iii) HEPCo (electric utility distribution rehabilitation, putting in place and operating a new shareholder-held distribution utility organization). Implementation will proceed under the guidance of the new board of directors nominated by the city of Hebron, and duly supported by a technical assistance (TA) service contract. A detailed business plan shall be presented by HEPCo, and agreed to by the project donors, prior to disbursements being initiated under the project; (iv) PEA (TA consultancies to modernize and reform the power sector's legal and regulatory and environmental monitoring framework). The PEA shall be responsible for the execution of this component. (b) (c) Project oversight and overall coordination (guidance on the application and implementation of the new sector policies). General project oversight shall be the responsibility of the steering committee, composed of representatives of the Ministry of Finance, PEA, Ministry of Local Government (MoLG), JDECo, SELCo, and HEPCo. Monthly progress reports shall be prepared under the general guidance of the PIU to be established within JDECo, which shall act as the secretariat to the steering committee. Financial management (accounting, financial reporting, and auditing arrangements). Each year the borrower will carry out a financial audit of the above entities by independent auditor(s) acceptable to the administrator of the TFGWB, and furnish such audits to IDA as soon as available but no later than six months after the end of each fiscal year. Project monitoring reports, following Loan Administration Change Initiative (LACI) reporting requirements, shall be submitted to IDA. During the project launch mission-to be conducted before project effectiveness-verification of LACI compatibility will be carried

11 Project Appraisal Document Page 7 out. JDECo is currently considered to have appropriate financial management system in place (adequate internal controls, auditing, accounting policies and practices, staffing, project accounting capability, external auditing by international firm, clean audit reports). A management letter prepared by the external auditors of JDECo shall be submitted to IDA to buttress this judgment prior to initiation of LACI disbursements. LACI disbursement. activities shall not commence until the full adequacy of the financial management systems can be certified by IDA. Detailed terms of reference (TORs) for this assessment are included in the project file. This work shall be completed by no later than February Neither HEPCo (which has yet to be created) nor SELCo (which has been created but is not yet operational) are LACI compatible. For both of these entities, new financial management systems, staffing, and training are to be provided either under the business plan (HEPCo) or by the system operator to be retained under the management contract (SELCo). PEA (created in 1995), on the other hand, has already developed an initial internal set of project controls and does have a limited project accounting, auditing, monitoring, and reporting capability, since it has been implementing various donor-funded packages (EU, NORAD, UNDP, Czech Republic, Belgium). This limited capability is deemed adequate to monitor the three to four consultancy service contracts that the PEA will implement under the project. Nonetheless, a management letter issued by PEA's external auditors relative to LACI compatibility shall be submitted to IDA, as stated above for JDECo. The financial management system assessment shall be completed in accordance with the timing and the TORs noted above for JDECo. (d) (e) Monitoring and evaluation arrangements: (i) (ii) (iii) (iv) Supervision and annual reviews. Supervision by IDA would focus on the performance indicators shown in Annex 1, which were agreed upon at negotiations. In addition to two supervision missions per year by IDA headquarters staff, staff from the local Resident Mission would monitor the progress of the project on a regular basis during the implementation period. Midterm review. A midterm review would be conducted at the end of the second year of project implementation. The borrower would submit a complete midterm progress report to the administrator at least four months prior to the review, explaining activities and progress on each component. The borrower has agreed that if progress has not been achieved according to the performance indicators, changes in approach, staffing, and technical assistance will be undertaken at the midterm review and that components may be removed from the project. Evaluation of SELCo's management contract. The performance of the management contractor would be assessed annually by an independent auditor to determine the magnitude of incentive payments, if any. An Implementation Completion Report (ICR) will be prepared and submitted to IDA within six months of the closing date of the TFGWG Credit. Network Rehabilitation Implementation. Implementation of the distribution network rehabilitation shall proceed as follows: (i) JDECo shall retain a consulting firm with proven project management experience in similar activities; (ii) SELCO activities related to implementation of the distribution rehabilitation component shall be included as a discrete management delivery item within the scope of the performance-based management contract; (iii) HEPCo shall retain the services two electric utility distribution utility engineers, following the practices used under the NORAD-funded rehabilitation work done in Gaza and

12 Project Appraisal Document Page 8 Electnc Sector Investment and Management Project (ESIMP) D: Project Rationale in the Nablus region. HEPCo's business plan (to be agreed upon) shall provide detailed TORs for this assignment. Given the decentralized nature of the distribution works, use will be made, where practical, of geographically distributed supply-and-erect turnkey contract packages. i'. Project Alternatives Considered and Reasons for Rejection: While there are no viable alternatives to the urgent rehabilitation work, several alternatives were considered with respect to the institutional component (creation of SELCo with management assistance, and the corporatization of the Hebron Municipal Electrical Department into HEPCo). These alternatives were: (a) (b) (c) (d) Implementation of the physical component without the requirement of establishing shareholder-held distribution companies. While efficiency gains would result from the reduction of technical and non-technical losses, the lack of an appropriate long-term corporate structure for the sector would mean that the sustainability of operations could not be ensured. Increased cash flows generated by the physical improvements would be quickly subsumed into the general coffers of the municipalities. Thus they would probably not be available to ensure debt repayment or, more importantly, the financial sustainability of the electric sector. The original implementation arrangements for the establishment of SELCo envisaged the use of the local utility management capacity existing within the West Bank (i.e., the use of JDECo as the management contractor, with JDECo strengthened through targeted technical assistance). This solution was believed to make good economic use of existing local utility management capacity. However, the newly named board of directors of SELCo (mayors of the constituent shareholder towns) rejected the approach of a sole-sourced contract with this firm. Instead, the plan now is to recruit a management contractor using commercial procedures (Bank's Guidelines). A combined program for the northern and southern West Bank, with a management contract to serve both regions, could have been a cost-effective option. However, there was clear resistance to this solution by the PEA, and coordination with the Norwegian Agency for Development Corporation (NORAD) rehabilitation program in the North would consequently have been more difficult. Merger of the entire Hebron governorate distribution system with another utility: the power market in the West Bank is relatively small, and a structure with one additional distribution utility (Northern Electric Utility, in addition to the existing JDECo, with the entire Hebron governorate served by either of them) may be an efficient structure. However, the project follows the Palestinian preference for an independent southern utility. Involving JDECo in the management of SELCo remains an option, as is the further consolidation of distribution service territories in the West Bank. Initially, the merger between SELCo and the soon-tobe-created HEPCo is anticipated to take place during the period of project implementation, provided that this is warranted by the performance of these two new utilities. The chosen solution minimizes the political risks that an immediate merger with the Jerusalem-based JDECo would have imposed. A solution involving the northern municipalities would have led to delays, given the slower pace of institutional reform there.

13 Project Appraisal Document Page 9 (e) (f) Further rebundling to create a fully vertically and horizontally integrated electricity company: a fully integrated system would be incompatible with IDA policy guidelines for lending in the power sector. International experience clearly shows the advantage of vertical and horizontal separation. Downsizing the operation with focus solely on the central West Bank (JDECo) distribution system. This option was rejected, since mobilization of donor funding for the project would have been severely reduced, and expansion of power to the already lagging Hebron govemorate would have been deferred by several years. If this project is implemented as planned, a follow-on project could support: (i) continuation of the sector reform program begun under the current project; (ii) possibly an independent power producer (IPP) operation in the Gaza area, following establishment of an acceptable regulatory framework; and (iii) investment in the expansion of the distribution facilities of the new distribution companies. Progress in implementation of the current project, and particularly of the reform program, would be a prerequisite for the processing of a future TFGWB power project. 2. Major Related Projects Financed by IDA and/or Other Development Agencies (completed, ongoing and planned): Sector issue Project Latest Project Status Report (Bank Group fina ced projects only) IDA projects Implementation Development Water (ongoing) TFGWB, Southern Area Water and Progress (IP) S Objective (DO) S Water (ongoing) Sanitation Improvement Project TFGWB, Water and Sanitation S S Services Project in Gaza Urban (ongoing) TFGWB, Municipal Infrastructure S S Development Project Power (planned) IFC, Gaza Independent Power Under preparation Under preparation Project Other development agencies Power (completed) NORAD, Electric Sector NA* NA Rehabilitation in Gaza Power (ongoing) NORAD, Electric Sector Rehab. In NA* NA Northern West Bank Power (ongoing) Belgium, Czech Republic and other NA* NA donors, rural electrification projects IP/DO Ratings: HS (Highly Satisfactory), S (Satisfactory), U (Unsatisfactory), HU (Highly Unsatisfactory) * Project implementation progress has been satisfactory; see Section E(4) below. 3. Lessons Learned and Reflected in the Project Design: (a) (b) Need to combine rehabilitation work with institutional reform to ensure sustainability: the proposed operation has a strong institutional component, which in turn is embedded in an overall sector development strategy (outlined in the LSDP); Risk of delays to fundamental sector reform: the LSDP was promulgated at the presidential level, and SELCo has been registered with the Ministry of Trade and the Economy as a utility distribution company. However, registration of HEPCo as a shareholder-owned company under the Companies Law remains incomplete. It is important to maintain a

14 Project Appraisal Document Page 10 (c) (d) (e) (f) certain flexibility with respect to issues related to sector reforms. The Electric Sector Investment and Management Project is not a blueprint investment project. Project legal documents therefore have included a disbursement conditionality for the Hebron project component. Need to secure support of local municipalities, which up to now remain responsible for electricity supply. Project preparation has included workshops and consultations with the municipalities. Such efforts at building trust among sector institutions need to be continued through the participation by each entity in the project steering committee. Every effort shall be made to achieve early successes during project implementation, as there is a risk of municipalities feeling they have been compelled by the national government to enter into a corporate structure with which they are not fully comfortable. Importance of using existing municipal capacity to the maximum extent possible, and to involve the local private sector. Deep reforms depend on a positive political environment. The Bank Group's experience in the power sectors of other countries, buttressed by OED findings, clearly shows that making regulation armn's length, enforcing cost-reflective pricing, unbundling assets, and divestiture require strong local champions with a political mandate and a sound road map. The mandate and road map come easier when incomes are high and the market is dominated by industrial users concerned about the reliability and competitiveness of the energy supply. The political economy of reform has received too little attention. Its complexity is often overrated by politicians but underrated by their technical advisers. To succeed, reform should be swift and its champions put in strategic places at the outset. The public should be well informed and there should be careful negotiations with the various stakeholders. 4. Indications of Borrower Commitment and Ownership: (a) (b) (c) (d) (e) (f) (g) (h) LSDP signed by the President of the PA and the Chairman of the PEA on July 6, 1997 (see Attachment). Upfront action completed; Memorandum of Understanding among PEA, NORAD, and IDA on cooperation in the development of the power sector signed on June 26, 1997; Creation of SELCo: on December 14, 1998, SELCo was registered as a company under the Companies Law, under registration number Upfront action completed; SELCo concluded a shareholders' agreement December 16, 1998, which, inter alia, names members and chairperson of its board (latter has now been installed). The agreement provides for a provisional allocation of shares among shareholders (municipality that had been providing their own power) pending completion of the valuation of assets currently being prepared under the Arthur Anderson consultancy contract. Upfront action completed; MoLG named as an initial shareholder in SELCo to conserve a place within SELCo for the smaller municipalities in the Hebron govemorate not currently included within the initial group of shareholders. Upfront action completed; Creation and incorporation of HEPCo: a municipal council resolution was passed to proceed with the registration of HEPCo and to develop its first corporate business plan; Rehabilitation of the distribution system, as prepared under the project, has been funded under NORAD, and such works have already been successfully implemented in Gaza and are underway in the Nablus region of the West Bank; JDECo and the PEA have approved the terms proposed for their components under the project; see Agreed Minutes: Technical Discussions, April 22, 1999 (in project file);

15 Project Appraisal Document Page 1I (i) (j) On April 27, 1999 the Minister of Finance, after consultation with the Chairman of the PEA and the PA Council of Ministers, formally approved the negotiated Trust Fund Credit Agreement (TFCA); On June 18, 1999 PEA signed an agreement with the first IPP in the WBG; the consortium plans to build a 136-MW combined cycle power plant south of the city of Gaza, at an expected cost of US$140 million. 5. Value Added of IDA (TFGWB) Support in this Project: The financial contribution of the TFGWB to overall project costs amounts to 16 percent; i.e., the IDA resources have been leveraged by a 6.1 multiple. There is considerable donor interest in funding the rehabilitation work, provided that an acceptable institutional framework is put in place. IDA's contribution to the project is, therefore, critical in two respects: (a) (b) Aid coordination and mobilization: The project cofinanciers have clearly stated their wish to work under an IDA umbrella; hence, IDA has taken the lead in securing and coordinating funding for the rehabilitation work, which is based on an earlier rehabilitation master plan funded by the Technical Assistance Trust Fund (TATF). Institutional component: Continued IDA dialogue with the PA on institutional issues has resulted in an effective, private-sector oriented LSDP with an associated action program. The IDA-financed institutional component of the project is a core element in the fulfillment of the LSDP. Experience has shown that institutional reforn is crucial for the success and sustainability of efficiency gains achieved under such operations, and it is seen by cofinanciers as a precondition of their involvement. E: Summary Project Analyses (Detailed assessments are in the project file, see Annex 13) 1. Economic Assessment (supported by Annex 4) (a) Electric power market Existing. The proposed rehabilitation of the power distribution systems in the central and southern regions of the West Bank covers parts of the electric power markets served by JDECo, and parts of the isolated power distribution grids in the governorate of Hebron. The market served by JDECo accounts for approximately 80 percent of the electricity market in this region. Net electricity consumption (excluding distribution losses) in the JDECo service area increased from about 290 GWh in 1990 to about 581 GWh in 1998, an average growth rate of 9.1 percent. Consumption in the Hebron govemorate grew about the same amount over the period. Electricity imports from Israel Electric Company (IEC) to meet consumption in the JDECo area also grew at about the same rate. In addition to the imports from IEC, the market is also served by a number of small diesel generating units owned by private individuals (auto-generation). Future electricity demand. Growth is projected at 5 to 6 percent per year in the project area, based on population growth, extension of service to new consumers, and increases in household consumption, in line with improvements in living standards. The growth in demand is to be met by reduction in distribution losses and additional imports from the EEC system, as well as from auto-generation, but imports will be lower than they would have been without the project. In addition, improvements in metering, billing, and collection attributable to the project will lead to reduction in non-technical losses and conservation, further reducing the need for imports. Furthermore, the reliability of supply would improve. All of these factors justify the need for the project.

16 Project Appraisal Document Page 12 (b) Least-cost justification. The proposed project was compared with self-generation from small diesel units as the next best alternative to meeting incremental demand in the project area. The analysis compared the costs associated with the project to the economic cost of auto-generation. The costs of the project comprise capital, fixed operation and maintenance, and incremental electricity imports from IEC; and the cost of the alternative comprise capital, fixed operation and maintenance, and fuel costs of the diesel generating plants. The results, summarized in the table below, confirm the project as the least-cost means of meeting the forecast incremental demand. Details are provided in Annex 4. Summary Results of Least-cost Analysis (net present value, US$ percent discount rate discount rate Proposed project Self-generation (c) (d) Economic rate of return. The economic rate of return (ERR) on the project is estimated to be about 23.0 percent, based on comparison of the quantifiable costs and benefits of the project over the expected 20-year life of the physical works. The costs are as discussed above. The quantifiable benefits comprise: savings in technical losses, reduction in power factor penalty payments to IEC, and incremental electricity sales due to increased capacity of the distribution system as a result of the upgrading achieved under the rehabilitation program. The savings in losses and incremental sales were valued at the cost of supply from diesel generation at US150/kWh, as a reflection of consumers' willingness to pay for electricity, as compared to the prevailing average electricity tariff of about US11 to 1 2 /kwh. Sensitivity analysis. A sensitivity analysis was carried out to test the robustness of the project's economics to changes in key parameters that could affect project outcome. The parameters are: (i) low and high load growth scenarios; (ii) supply with and without rehabilitation; (iii) variation in the willingness to pay (US /kWh); (iv) the prevailing average electricity price; and (v) a rebate in the bulk supply price from IEC. For all these cases, the ERR ranges from about 17 to 25 percent, significantly above the 10 percent estimated opportunity cost of capital in the WBG. Details of the analysis are provided in Annex Financial Assessment of Project Entities-JDECo, SELCo, HEPCo (see Annex S for assumptions and proformafinancial statements): (a) JDECo Past performance and present financial position. JDECo, a shareholder-held company established shortly after the First World War, is the major supplier of electricity in the WBG. It serves approximately 105,000 consumers (as of end 1998) in the cities, towns, and many smaller communities of East Jerusalem, Jericho, Bethlehem, Ramalah, and El Bireh. The latest audited figures are for 1998; the outside auditors expressed a clean opinion on JDECo's financial statements. Debt financing has been constrained and represented only 3 percent of long-term capitalization at end In the six years since the interim agreement between the State of Israel and the PLO, revenues from the sale of electricity have consistently increased, as has liquidity. Nonetheless, there is room for improvement in its commercial operations; e.g., technical and non-technical losses, at 19 percent, were more than twice the level expected for a well-

17 Project Appraisal Document Page 13 Electdc Sector Investment and Management Project (ESIMP) run power utility; and the average age of its accounts receivable, 143 days, has substantial margin for improvement. Average tariff levels in 1998 yielded NIS 0.35/kWh (US8.70/kWh), above the estimated LRMC of about US6.7 /kwh. (The LRMC estimate is a provisional figure, and reflects marginal costs including generation, transmission, and distribution. The generation component of the LRMC reflects the peaker method, whereby the cost of a reasonably sized peaking unit, including a 25 percent reserve margin, is used to estimate the capacity costs at the generation level.) Tariff levels have made it possible for JDECo to achieve reasonable financial performance levels and to fully recover the costs of purchased power (purchased from the IEC at a flat rate of US6 /kwh), as well as its operating costs and investments in distribution. The after-tax return in 1998 on year-end shareholder equity was 14 percent. JDECo paid dividends in Financialforecasts Based on the base case financial forecast done under a conservative set of assumptions, outlined in Annex 5, JDECo's financial position is projected to remain stable or improve each year of the forecasted period. Key assumptions include: (i) a conservative growth rate in kwh sales of 4 percent a year, instead of the robust growth experienced in recent years (e.g., an average of 9.1 percent per year over the period ); (ii) JDECo's own electricity price increases (as well as increases in the price of power purchased wholesale from the IEC) limited to 6 percent a year from year 2000 onward; i.e., 2 percent below the CPI; (iii) JDECo's share of the project (US$57.2 million) to be debt financed by a 20-year loan, with three years of grace for the repayment of principle, at an interest rate of 6 percent; (iv) improvements in commercial operations, with technical and non-technical losses reduced to 9 percent by the end of the forecasted period. The company is thus expected to remain in a position to maintain or increase its dividend payout during the forecasted period; and its capital structure at end-2004 is expected to remain relatively robust (48 percent debt/52 percent equity), with debt service coverage 2.6 times. As a result of the rehabilitation program and improvements in management organization, JDECo is thus forecast to be able to finance, from internal cash sources, a reasonable percentage (at least 25 percent) of the future expansion of its power system. Sensitivity analysis. The above financial forecast was tested under various tariff regulatory models and found to be robust. For example, even if rate relief were limited to half the rate of inflation used in the base case ( i.e., consumer price index increases at 8% p.a., however tariff (and purchase power ) price increases are limited to 4%), then even under these circumstances, JDECo would still end the forecast period in year 2004 able to meet its covenant for long-term debt (DSCR at 2.4 times would be well above the 1.5 times covenant), would recover slightly more than its operating costs from revenues (operating ratio at 97%), and it would be able to contribute from internal funds to its construction program. Granted however, that in this instance its financial health would be weakened i.e., after tax return on total assets would drop to 5%, and be below its cost of capital. Financial covenants. Because of the uncertain regulatory framework, the on-lending agreement for the JDECo loan shall provide for three financial covenants: (i) a minimum debt service coverage ratio of at least 1.5 times before JDECo may contract any new debt; (ii) a minimum current ratio of 1.5 times to ensure adequacy of working capital and short-term liquidity; and (iii) a limitation on dividend payout, requiring JDECo to obtain the prior approval of IDA in case payment of the dividend would cause the current ratio to fall below 1.5 times. Given JDECo's past prudent management practices, and the results of the above financial forecasts done under a conservative set of key economic parameters, it is expected that JDECo would not find compliance burdensome. (b) SELCo Pro forma financial forecasts The firm was registered as a shareholder-held company in December 1998 but has not yet started operations. Initial operations would consist of the merger of the municipal electric departments and service areas of five municipalities (the shareholders) in the Hebron govemorate: Beit-Omar, Dura, Halhul, Thahriah, and Yata. The accounts for these municipalities are not

18 Project Appraisal Document Page 14 maintained according to sound accounting principles; i.e., a cash system is used instead of accrual accounting, and the financial statements are not audited. In the past, the municipalities made no connection between revenues received from electric sales and cost of supply. Cost is budgeted and revenues go straight into the communal purse, where they are regarded as fungible. The municipalities thus have had little reason to collect the normal statistical data that a utility would require for mediumterm planning. This factor will continue to cause problems until resolved under the proposed project. Thus figures should be viewed as indicative only. The population served totals about 150,000, with 15,500 electric consumers (households and enterprises). 'Year 2000 sales are estimated at 38.2 GWh, with billings of NIS 19 million. The forecast reflects information collected from the five municipalities under a consultancy contract with Arthur Anderson (funded by IDA under the ongoing Municipal Infrastructure Development Project). rhe base case financial forecast reflects the following key assumptions: (i) an average annual growth of 9 percent in electricity sales. This rate may appear high when compared to JDECo's, but it reflects the proportionately higher gains expected under the project, including additional kwh sales (billings) resulting from improvements in commercial operations; i.e., the reduction in non-technical losses (see item (vi) below) as well as the expansion of the SELCo system into areas not currently served; (ii) SELCo's own electricity prices (and its wholesale power purchases from IEC) limited to an increase of 6 percent a year; i.e., 2 percent below the CPI; (iii) SELCo's share of the project is US$17 million), to be debt financed by a 25-year loan, with 10 years of grace for the repayment of principal and an interest rate of 2 percent on outstanding balances; (iv) SELCo enters into a performance-based management contract to start its operations, with incentive payments to the operator tied to improvements in commercial operations (see Annex 7); (v) the cost of the management contract (fixed fees and incentive payments) is estimated at US$2.2 million and, for prudent management purposes, these costs are not capitalized but are stated as income expense items in the year they are incurred; (vi) SELCo's commercial operations would improve; i.e., technical and non-technical losses would be gradually reduced from an initial 20 percent in year 2000 to 11 percent at the end of the forecast period; and (vii) dividend payout begins once steady state is achieved; i.e., after the third year of operation. I'he tariff level used as a basis for the projections (NIS 0.469/kWh, or US11.6 /kwh) reflects the weighted average rate actually used by SELCo municipalities in The range in tariff levels used by these municipalities in 1999 varied from a low of NIS 0.35/kWh for commercial customers in Yatta, to a high of NIS 0.48/kWh for residential consumers in Dura. Tariffs are near double the estimated LRMC (see JDECo above). The structure of tariffs is inadequate-it reflects a single energy rate, as does IEC's tariff. There is no time of day or demand element, and no power factor penanty-see also discussion under Section B-2 above. The projections reflect a 2 percent per year real reduction in tariffs for SELCo consumers over the forecast period. T'he forecast under the above set of assumptions shows that the company's operating efficiency would improve and it would be financially viable during the entire forecasted period. Its capital structure at the end of the forecast period would be relatively highly levered (debt as a proportion of permanent capitalization at 77 percent) but would be supported by a robust debt service coverage ratio (DSCR) of more than 7 times. Working capital would increase by more than three times, with strong liquidity (current ratio of slightly more than 7 times, with the cash component at more than 6 times), which could support a heavier dividend payout than that envisaged in the forecast. Even though rate levels would have been reduced in real terms, nonetheless all operating costs (including cost of the management contract) would be recovered from revenues, and there would also be strong internal cash generation from operations to support future expansion of the company. The self-financing ratio at the end of the forecast period (at 105 percent) is abnormally high because the investment program used in the forecast reflects only the impacts of the project and does not yet reflect subsequent investments needed to expand the capacity of SELCo's power system.

19 Project Appraisal Document Page 15 Sensitivity analysis. As done for JDECo (above) the SELCo financial forecast was tested under various tariff regulatory models and found to be robust. For example, even if rate relief were limited to half the rate of inflation used in the base case ( i.e., consumer price index increase maintained at 8% p.a., with tariff increases (and purchase power price) increases limited to 4% p.a.), then even under these circumstances, SELCo would still end the forecast period (year 2004) in relatively good health: would recover more than its operating costs from revenues (operating ratio at 86%), and it would be able to contribute from internal funds to its construction program. Granted however, that in this instance its financial health would be weakened i.e., after tax return on total assets would drop to 3.3%, and be below its cost of capital. Financial covenants. Because of the startup nature of the new company and the uncertain baseline data, other than the standard general conditions applicable under the TFCA, no specific financial covenants are proposed. However, no disbursements to SELCo will take place until and unless a management contract acceptable to IDA has been executed. (c) HEPCo Pro forma fnancial forecasts The company, to be created from the municipal electric department of Hebron, has yet to be formed. It will be larger than SELCo; at end 1998 Hebron had approximately 22,000 customers (6,500 more than SELCo) within a similar size but more urban population base of 150,000. Total sales in year 2000 are estimated at 78.4 GWh (2 times the level of SELCo), with revenues (excluding VAT) of approximately NIS 40 million. As with SELCo, HEPCo's accounts are not maintained on sound accounting principles, and Hebron has also regarded electricity provision as a revenue-raising activity. Thus HEPCo, too, has had little reason to collect the normal statistical data that a utility would require for medium-term planning. Forecast figures should therefore be viewed as indicative only. A base case financial forecast was prepared reflecting the same key assumptions as for SELCo, except for the following: (i) the same growth in customer count was used and relative increase in kwh billings resulting from improvements in commercial operation; however, because of different specific consumption by the urban customer category, a slightly higher overall rate of increase results for electricity sales (10 percent for HEPCo versus 9 percent for SELCo);(ii)HEPCo's share of the project is US$14.9 million; (iii) as establishing BEPCo would be less complex than establishing SELCo, it was agreed to use a technical assistance service contract rather than a management contract to start operations; (iv) the cost of the TA service contract (fixed fees and incentive payments) totals US$0.5 million, and costs would be stated as income statement expense items in the year they are- incurred; (v) HEPCo's commercial operations would improve; i.e., technical, and non-technical losses would be gradually reduced from an initial 20 percent in year 2000 to 9 percent at the end of the forecasted period; (vi) because of HEPCo's relatively stronger initial financial position, dividend payout would start from the first year of operation; and (vii) tariff levels used as a basis for the projections (NIS 0.48/kWh or US11.9 /kwh) reflect the weighted average rate actually used by the Hebron utility in The forecast under the above set of assumptions shows that the company's operating efficiency would improve and that it would be financially viable during the entire forecasted period. Capital structure at the end of the forecasted period would be appropriately leveraged for an operating power utility (debt as a percentage of permanent capitalization at 36 percent in year 2004), and would be supported by a robust DSCR of more than 38 times. Working capital would increase by more than two times, with strong liquidity (current ratio of nearly 6 times, with the cash component of this at near 5 times), which could support a heavier dividend payout than that envisaged in the forecast. Even though rate levels would have been reduced in real terms, nonetheless all operating costs (including cost of the technical assistance consultancy contract) would be recovered from revenues. There would also be strong internal cash generation from operations to support future expansion of the company. As with SELCo, the selffinancing ratio at the end of the forecasted period, at 325 percent, is abnormally high, as the investment

20 Project Appraisal Document Page 16 C ountry: West Bank and Gaza program used in the forecast reflects only the impact of the project and does not reflect subsequent investments needed to expand the capacity of the power system. Sensitivity analysis. As done for SELCo (above) the HEPCo financial forecast was tested under various tariff regulatory models and found to be robust. Under the same change case as above, HEPCo would end the forecast period (year 2004) in good health: would recover more than its operating costs from revenues (operating ratio at 73%), would be able to contribute from internal funds to its construction program, and while its after tax return on total assets would drop, to 9%, it would be near its cost of capital. Financial covenants. Because of the start-up nature of the new company and the uncertain baseline data, other than the standard general conditions applicable under the TCFA, no specific financial covenants are proposed. However, no disbursements would take place until and unless HEPCo has submitted for review by the project donors, and they deem acceptable, a corporate business plan which would, inter alia, detail operating and revenue budgets, investment plans, and an initial audited set of financial statements for the new company. Annual disbursements under the credit would likewise be reviewed and measured against the agreed benchmarks in the business plan. 3. Fiscal Impact Assessment. The sale of electricity is currently a main source of income for most municipalities. Because incomes from electricity are being used for other purposes, the power distribution systems are not being adequately maintained, and have deteriorated inexorably. This situation is unsustainable and could lead to the distribution system's inability to serve utility demand in the future. In addition, it is recognized that municipalities will not be able, on their own and in the near future, to undertake the investments required to maintain and expand the electric distribution system to meet the growing demand for reliable electricity supplies. A main goal of the project is to provide for a technically efficient and financially sustainable sector to meet demand in an economic manner which will also bring additional resources to the municipalities, and to the national government through taxes on utility income. However, it will take time for the new distribution utilities to reach a level of operations which will permit the payment of dividends sufficient to meet the needs of the owning municipalities, without harming the financial viability of the company. Thus, in the short- to medium-term, the municipalities will suffer short-falls in income from their former electric operations. In order to mitigate such financial stress, a number of alternatives were discussed, bearing in mind that the municipalities at present have limited flexibility with respect to raising revenues from other sources. The ongoing Public Expenditure Review examines, in its chapter on Local Government and Utility Reform, a number of alternative instruments which could, over time, compensate for reduced revenues fiom utilities, e.g.: develop the currently underutilized property tax; building licenses (cum development taxes); a utility tax; a centrally-funded equalization fund; a temporary utility surcharge; municipal franchise fees; taxes; rents levied on utilities; temporary support from the national govemnment. Many of these actions, however, cannot be undertaken unilaterally by the municipalities, requiring action by the central government and, in some cases, the legislature. Donors, including IDA, are working closely with the PA to support such changes. As an example, the proposed Financial Sector Development Project will, inter alia, help strengthen land registration and titling, which are prerequisites for significantly increasing revenues from the property tax. In addition, IDA is assisting the municipalities to improve their financial management via its involvement in the Municipal Infrastructure and Development Projects (TF and TF 58683). Thus, since many of these revenue options cannot be implemented in the short term, tangible short-term measures need to be developed. The project design has provided for a number of measures to improve the cash generation capability of the new operating utilities, among which: highly concessionary costs of finance; funding for initial start-up and operating expenditures; and funding for consultancy services needed during startup. While this helps the liquidity position of the new utilities in their start-

21 Project Appraisal Document Page 17 Electrc Sector Investment and Management Project (ESIMP) up phase, it does not deal specifically with the loss of revenues by the municipalities themselves. During project preparation one option examined to relieve financial pressures on the municipalities, would have allowed both SELCo and HEPCo to declare and make dividend payments to their municipal shareholders in anticipation of earnings; this was rejected because it would not be consistent with managing these companies on a sound financial basis. Therefore other means of revenue generation need to be devised for the southern West Bank municipalities. A number of avenues may be open to the municipalities to relieve the cash gap, and it is proposed that these be explored, by the municipalities in consultation with the PA, in the process of developing the respective strategies and business plans for SELCo and HEPCo. Both the HEPCo business plan and the SELCo management contract (which will reflect SELCo's business plan), which are to be submitted to IDA for review and approval prior to disbursements under the credit for these companies, shall reflect the funding option(s) retained by the municipalities in agreement with the PA. 4. Technical Assessment.' The rehabilitation component of the project has been carefully prepared under a consultancy service contract (funded under the TATF) with Rust, Kennedy and Donkin (RKD, United Kingdom), which was completed end-1995 (see Documents in Project File (Annex 13), Generation, Transmission and Distribution Master Plan and Emergency Assistance Project for WBG - Volumes I to VII). Under the contract, a detailed analysis was made of existing WBG system load characteristics, in order to establish the basis for developing projections of demand growth under low, base, and high-case economic conditions. A full diagnosis of the state of repair of the various municipal power systems was conducted and training was provided to counterparts with the full participation of the PEA, including operator/owners of affected electric distribution systems-many of whom seconded experienced local staff to participate with RKD engineers. Local engineers participated in both the field data-gathering phase of the consultancy as well as in subsequent design of the system master plan. The resulting master plan is technically sound, is based on the rationalization of various equipment standards that have historically been in use in WBG, and equally importantly, is broadly supported by stakeholders as being appropriate for the future development of the power system. The master plan deals with: (a) the fact that the individual distribution systems are not yet interconnected, pending agreement with the IEC; (b) selection of uniform technical standards at the medium voltage distribution level; e.g., it provides for the rationalization/phaseout of the various 3:3- kv, 22-kV, and 11 -kv voltage levels used in different localities; (c) least-cost means of improving quality of supply to consumers while reducing technical and non-technical losses. Economic parameters used in the least-cost analysis are detailed in Volume II of the RKD report (discount rate, exchange rate, shadow wage rates, long-run marginal costs, cost of unserved energy, consumer surplus); (d) identification of both new and additions to existing bulk supply transmission delivery points to optimize expansion of the distribution and transmission system; and (e) preliminary assessment of the economics of installation of new power plants in Gaza and/or the West Bank. The master plan has identified investment requirements over the next ten years (exclusive of generation and new transmission facilities) totalling more than US$600 million. The Gaza component of the RKD least-cost master plan has already been implemented. The rehabilitation of the municipal utilities in the northern region of the West Bank (Nablus area) is currently being implemented-work in both Gaza and the Nablus region has been funded by NORAD. A project completion report conducted by NORAD indicated that the Gaza works were satisfactorily executed and proceeded without significant technical difficulties.

22 Project Appraisal Document Page 18 Electnc Sector Investment and Management Project (ESIMP) S. Institutional Assessment: (a) (b) Overall sector institutional framework. The power sector in the WBG is characterized by dozens of small municipal electric systems which, with the notable exception of JDECo, have been providing only limited electric utility service. (JDECo is a Palestinian-ownedprimarily private capital-utility with relatively good managerial and technical capacity. It could form a Palestinian core from which to develop the sectors). The municipalities have been using revenues generated from their electric departments as one of their main funding sources for other social and utility services provided by them. Thus the power sector in the WBG has been inexorably run down. Considerable unmet demand exists, and there is little or no financial capacity to meet the development needs identified for the sector (see para. 4 above). The municipalities have recently been subject to a loose form of oversight by the Ministry of Local Government. Beyond the MOLG, the PEA and an Energy Council were introduced under the organic law passed in early 1995 as key players in the sector. The plethora of sector institutions, and the unclear sector structure and legal framework, have led to chaotic decisionmaking and have acted as severe constraints to effective development of the sector. To jump start the economy, there is a clear and pressing need to proceed with rehabilitation on an emergency basis and to rationalize the institutional framework. Institutional capacity building is generally more complex than technical rehabilitation, and will be particularly so in the WBG context: (i) final status arrangements for the sector have yet to be decided under the peace negotiations, which means that key components of the sector, namely the takeover of bulk power supplies and transmission facilities from the IEC, remain outside the purview of the PA; (ii) while the PEA law has been passed (see above), the concomitant regulatory framework (Electricity Law) has not yet been defined, let alone legislated; (iii) it will be difficult to remove the municipalities' main funding sources without a clear source of new replacement revenue and efforts to consolidate the power sector could be slowed down. The strategic challenge, therefore, is how to rapidly develop and rationalize the sector, taking into consideration the many weak institutions and untrained and inexperienced staff, within the above-described local environment. To address these institutional issues within the project, a comprehensive technical assistance consultancy service contract was let under the TATF. This led to the development and adoption by the PA of a cohesive sector development strategy and associated action program (see Attachment), which are to be supported under the proposed project. Institution building would be implemented hand-in-hand with rehabilitation. Key elements of the strategy include: (i) definition of the role of the PEA; (ii) establishment of a single buyer model for the acquisition, transmission, and resale of new bulk power supplies; (iii) merger of the municipal electric departments into shareholder-owned distribution utility companies-these new companies would replace, not be in addition to, the existing departments; (iv) use of performance-based management contracts to establish, operate, rehabilitate, and train staff for the new utilities; (v) implementation of the strategy using, where possible, existing local Palestinian management capacity; and (vi) building competence in public relations and consumer affairs into the distribution utilities' management, and into PEA's mandate to act as a safeguard for consumer interest and social protection (including lifeline tariffs for the poorest and most vulnerable). Beneficiaries. JDECo, which would bear the main responsibility for project execution, would be supported by targeted technical assistance. Implementation of the SELCo components would proceed under a management contract. The HEPCo components would be supported by TA, while PEA's would be implemented under consultancy service contracts (see Institutional and implementation arrangements under sections C4a and 4b above).

23 Project Appraisal Document Page 19 (c) Project management. Support for JDECo's restructuring and project management needs is to be provided through a contract with an internationally experienced consultant, which would also take responsibility for the training for Palestinian counterparts. 6. Social and Stakeholder Aspects (supported by Annex 9): In addition to the socioeconomic background study conducted in 1996 (see Annex 13, item 9) a more recent diagnostic survey was undertaken by a team of Palestinian sociologists in mid Conclusions are that the project is expected to bring measurable direct benefits to consumers, the majority of whom are households, through improved quality and reliability of supply at little or no increase in tariffs, and with a possible future decrease in real terns as consumers share in efficiency gains. (a) (b) Social benefits. The great majority of households have electricity connections and appliances, the cost is within their means, and many would be willing to pay more for improved service. However, to secure these socioeconomic benefits, the project would need to ensure that: (i) lifeline rates for the poorest and most vulnerable are implemented; (ii) distribution companies develop management capacity to handle consumer affairs; (iii) PEA develops the professional capacity and the mandate to monitor and evaluate social impacts and safeguard consumer interests as an integral part of its regulatory role; and (iv) the project and institutions concerned make provision for consumer education and consumer voice. Other expected indirect benefits are: (i) a strengthened basis for economic growth, which should indirectly benefit the poor2; (ii) improved environmental and physical conditions, including reduced hazards, noise, and pollution from private generators and from unsafe installations, and (iii) a sound financial and institutional base to extend future public network connections to unserved areas. Social aspects would be monitored through appropriate TA at the PIU and assessed by the PEA, whose mandate shall include oversight of the socioeconomic impacts of sector reform. Tariff issues. More effective sector regulation has the potential to reduce electric bills by at least 10 percent. Under the project, a tariff study is to be conducted and results implemented. The study shall include the following issues: * Refocusing of subsidies. Once refocused, subsidies are often more affordable (though not necessarily desirable). * Linkages of energy to basic social needs. Energy subsidies compete with many, often higher priority social needs. Basic energy needs include space heating in the winter, fuel for cooking, and electricity for lighting. Where access is already available, subsidies should go to reducing the bill through increased energy efficiency. (Note that this is done in only a few OECD countries.) A US$2.25 million UNDP (GEF) program was recently approved to focus on energy efficiency and energy conservation measures across Gaza and the West Bank. * Access to service. Opening up access in the Hebron governorate is an objective of the project and should, by itself, reduce the need for subsidies in this region. But reforms being supported under the project are needed to achieve this development objective. (c) Labor impacts. Limited labor force reduction (50 to 75 positions) is expected at JDECo. A severance package shall be provided and funded by JDECo under the project to cover early 2 Research has shown that growth almost always reduces poverty and that energy promotes growth. The resulting gainful employment of the poor usually is, in turn, enhanced through increases in labor productivity.

24 P'roject Appraisal Document Page 20 C(ountry: West Bank and Gaza retirements and assistance to staff who leave as a result of the restructuring, to help them find good jobs or to retire comfortably. Appropriate records shall be kept and impacts monitored during supervision and evaluated at midterm. These job losses would be counterbalanced by: (i) improved training, career opportunities, and remuneration, including performance incentives at JDECo; (ii) an increase in employment opportunities at SELCo and HEPCo, together with retraining of existing municipal electric department staff; and (iii) an increase in commercial and industrial employment where improved power supply enables expansion (see example in Annex 9). (d) (e) Financing of social services. The cost of social services is presently financed by municipal overcharging for electricity and is dealt with under risks below. Stakeholder aspects. The potentially strong stakeholder interests and possible conflicts revolve around: (i) the vested interests of municipalities; (ii) the tradition of non-payment for supply as a form of political resistance; (iii) the considerable differences among areas in terms of wealth, employment, infrastructure, income, and supply needs; (iv) the competition between the needs of commercial and industrial consumers as against those of household consumers; (v) the potential conflict of roles between PEA and the distribution companies; and (vi) the differences of interest, approach, and experience among JDECo, HEPCo, and SELCo. The project would need to make considerable efforts to ensure that stakeholders are appropriately integrated and involved in the project and have sufficient common interest in its successful outcome. 7. Environmental Assessment - supported by Annex IO: Environmental Category [ ]A [x]b [IC Overall, the proposed project should have a positive impact on the environment by increasing safety and reducing line losses, which would reduce environmental impact at the power generation points. The emergency upgrading of existing distribution voltage level facilities would have major environmental benefits by reducing the dangers that exist in many parts of the power system. Overhead line design will be implemented to provide safety to people, animal, and birds. The project is well defined from an environmental viewpoint and the design criteria incorporate appropriate standards (British standards as adapted by the Israel Electric Company) which address environmental issues such as clearance of electrical lines. In accordance with Operational Directive 4.01 on environmental assessment, the proposed project is classified as a category B project, and an environmental management plan has been prepared and included in the project implementation plan (PIP). The main part of the project concerns upgrading of existing 33 kv and lower-voltage facilities. There would be no works associated with power stations, transmission lines, or greenfield sites, and no rightsof-way issues. Electromagnetic radiation from extra-high voltage is therefore not an issue. Distribution sabstations included in the project are within existing locations in urban areas and should have no effect on vegetation. It was confirmed, through a series of random tests and insulating oil manufacturers' specifications, that polychlorinated biphenyls (PCBs) have not been used in the transformers that are being replaced. 3 During appraisal, a random sample of insulating oil from six of these transformers was checked for PCBs, with negative results. In addition, the maintenance log of all transformers to be replaced was checked. All use Shell Diala-A insulating oil, manufactured to ANSI/ASTM standard D3487, an oil that does not contain PCBs, a factor that was re-confirmed with the manufacturer. Nonetheless, to be even more sure that no PCBs are present upon removal and before disposal of the old transformers, all will be tested before final disposal. In the unlikely event that PCBs are found present, then these will be disposed of in accordance with the IFC Environmental, Health and Safety Guidelines for PCBs, as issued July 1, 1998-see environmental management plan at Annex 10 for details. 3 Overall, some 84 low voltage distribution transformers rated from 250 kva to 630 kva are to be replaced, all finded under the Italian and EIB cofmancing.

25 Project Appraisal Document Page 21 A focused environmental monitoring plan (details at Annex 10) has been agreed upon with the PEA and JDECO, and would proceed as follows: removal and proper disposal (according to international standards) of any substances considered environmentally unacceptable is mandatory; responsibility for implementation would rest with the PIU, which would also report on any other environmental issues that may emerge during project execution. Rehabilitation contracts shall provide for the disposal of any transformer oils, using duly licensed and internationally certified toxic waste disposal firms. Certificates stating that such disposal has proceeded according to international standards shall be submitted by the contractors prior to receiving progress payments. If any transformer oil leaks are found to have contaminated the soil in the vicinity, then such soil shall also remedied in accordance with international standards. Environmental regulation. A diagnostic assessment has been done by the international consulting firm IVO International Ltd (see Annex 13). Based on this preliminary work, PEA, in coordination with the Ministry of Environmental Affairs (MEA), would develop the policy guidelines and regulations for the power sector. Training would be provided to the PEA in the use of these guidelines and regulations. This work would be done with the assistance of international consultants (US$200,000 has been allocated for this purpose). 8. Participatory Approach: (a) Primary beneficiaries and other affected groups. Preparation was undertaken with close collaboration with West Bank municipalities, including through power sector workshops in Nablus (October 1996) and Hebron (December 1996). Hebron governorate municipalities played a key role in the steering committee for the creation of SELCo-as did northern municipalities in the parallel creation of a northern utility, outside the purview of this project (see Section D4c, Indications of borrower commitment and ownership). A key project preparation activity, the WBG power system master plan, was developed with the full participation of the affected municipalities, JDECo, and the PEA (see para. E4). (b) Other key stakeholders: * Consultations with the Israeli Electricity Authority, and the Israeli Ministry of Energy and National Infrastructure; * Consultations and collaboration with other power sector donors; - Ministry of Local Government, through consultations and involvement in the Steering Committee for the Creation of SELCo; * Both the Ministry of Finance and the PEA have been closely involved with the preparation of all aspects of the project. * Stakeholder consultations, including household survey, conducted mid see Annex 9 for details. F: Sustainability and Risks 1. Sustainability: Relatively weak municipal management has led to lack of accountability, poor collections, deterioration in service, and tariff structures that fail to respond to market signals, and provide inadequate incentives for efficient energy use. All investment requirements for the sector cannot be met from public resources alone. Given this environment, project sustainability is critically dependent on: (a) political commitment to undertake reforms; (b) preparation and implementation of an unambiguous legal and regulatory framework that would facilitate the introduction of the private sector in the delivery of utility services;

26 F'roject Appraisal Document Page 22 gand (c) clear definition of an impartial and competitive regulatory structure. Related actions to provide incentives to the various stakeholders to implement the project successfully would therefore be undertaken in the context of the proposed project, through, inter alia, decrees and regulations under the new Electricity Law; the regulation of electricity enterprises, including the formulation and enforcement of policies; and the use of operational contracting for distribution and commercial functions. Flexibility in the application and timing of the institutional reforms is called for, rather than a more classic atpproach with relatively tight scheduling, buttressed by legal covenants. This choice of approach reflects riot only experience in other countries (see Section D3 above), but, more importantly, the central role that the electricity business has played in maintaining the ability of city mayors in the WBG to deliver other infrastructure services to their population; and the large number of such municipal stakeholders involved in the proposed operation. On the other hand, implementation of the rehabilitation work presents no unusual challenge. Linking reforms to rehabilitation permits early successes in rehabilitation (including improvements in commercial performance), which would set the stage for needed public support for the reforms. Given the non-blueprint nature of the proposed operation, close (monthly) oversight by the Resident Mission, coupled with a fll midterm review of implementation, would be provided for. Plroject sustainability depends on the financial viability of JDECo, HEPCo, and SELCo to mobilize (internally, or through debt) the working capital needed to sustain ongoing activities for system operation and maintenance (cost recovery), and on their capacity to self-finance a portion of the capital needed for expansion. Development of a modem system of financial management and the gradual introduction of the private sector into the operation of the two new utilities (SELCo and HEPCo) within an efficient regulatory environment will be crucial. To make the project sustainable, the following actions either have been taken or are envisaged: (a) (b) (c) JDECo. The new Electricity Law and the regulatory framework to come into effect during project execution would set rules for establishing rates and clarifying the regulatory framework (see LSDP Attachment); SELCo. While SELCo is now established, it has yet to become operational. Disbursements for SELCo's components would only take place after SELCo enters into a performancebased management contract arrangement acceptable to IDA. Future performance would be subject to the Companies Law and would therefore be subject to audits by qualified external auditors; HEPCo. Hebron municipality's electricity operations would be corporatized and registered as a shareholding distribution utility (HEPCo) before disbursements are made. HEPCo would submit a corporate business plan covering its initial years of operation, to be vetted by the project's cofinanciers.

27 Project Appraisal Document Page 23 Electnc Sector Investment and Management Project (ESIMP) 2. Critical Risks (reflecting assumptions in thefourth column ofannex 1): Risk Risk Rating Risk Minimization Measure Annex 1. cell "from Outputs to Development Obiective" Implementation of remaining elements of LSDP, S Participatory approach in developing and including regulation and redefinition of PEA's role adopting sector policy, followed by signature of LSDP at presidential level (see section B2 above); implementation of crucial initial steps before Board presentation; e.g., SELCo has been registered as a company under the companies law (see Section D4c). Two key disbursement conditionalities for SELCo and HEPCo introduced in the TFCA. Cross-conditionality provisions with project cofinanciers. Continued financial viability of distribution utilities M Gradually increasing private sector after project involvement in SELCo, HEPCo, and JDECo; rehabilitation of existing networks to reduce technical losses, reduce costs, and, as a result of new meter installations, improve revenue collection. Project funds a portion of initial startup costs of new utilities. Continued support for further private sector M Signing of LSDP at presidential level; involvement from all stakeholders implementation of crucial first steps before Board presentation. Successful negotiations with IEC on transfer of M Outside the Bank's control; capacity remaining assets in the West Bank building within PEA as part of the project. Sufficient transmission capacity in WBG created S Sector investment program has been developed and agreed upon. Specific consultancy service contract to create new Palestinian transmission company is a funded component of the project. Enough energy generated or available through N Hedge risk through two-pronged strategy imports of own generation and imports from neighboring countries. Regular power supplies from IEC were historically maintained even during the height of the Intifada. Annex 1. cell "from Components to Outputs" Political situation conducive to implementation S While primarily outside the Bank's control, autonomy has now been granted to the PA to go ahead in areas defined as A and B in the Peace Accords. Sufficient rehabilitation implementation capacity in M Project management consultancy, other

28 Project Appraisal Document Page 24 the sector TA; modular character of rehabilitation works. Implementation of similar rehabilitation components already successfully completed in other regions of the WBG (see Section D2 above). Continued collaboration among municipalities, and S Prominent role of municipalities in the with PEA, JDECo, SELCo, HEPCo project steering conmmittee (see Section C 4b). MoLG a significant shareholder in the new distribution utility, SELCo (see Section B3). No significant delays in the availability of M Cross-conditionalities, retroactive cofinancing financing with allowance for bridge financing, modular character of rehabilitation work. EIB loan has already been approved and loan documents signed; Italian loan approved end July Overall Risk Rating M I Risk ratings: H (High Risk), S (Substantial Risk), M (Modest Risk), N (Negligible or Low Risk). While the risk rating for the project as a whole is modest-given the relative success of other projects in the country-project risks that do exists would be partially mitigated by the modular character of the operation; in this sense, project execution would be essentially self-regulating. That is, the benefits of individual project components would occur independently of the successful implementation of other components. For example, the strengthening of JDECo would be beneficial even if the creation of SELCo or HEPCo were delayed. The same applies for individual rehabilitation components, each one of which would yield economic benefits without direct dependence on the completion of the entire project. 3. Possible Controversial Aspects: (a) Issues related to the status of the Palestinian-owned but Jerusalem-based JDECo; (b) Final status of SELCo after termination of the management contract (private vs. public; merger with another utility); (c) Vertical separation of generation and distribution (keen municipal interest in generation); (d) Local sensitivities involved in collaboration among municipalities, PEA, JDECo, and (e) (f) (g) HEPCo; Merger of HEPCo into SELCo; Divestiture by HEPCo of electric distribution assets, currently located in the municipality of Halhul, which are to be transferred to SELCo; Possibility of using JDECo as the management contractor to launch SELCo. G: Main Credit Conditions 1. Effectiveness Conditions: Satisfactory onlending agreements among PA, JDECo, and the PEA. 2. Other [classify according to covenant types used in the Legal Agreements]: * Cross-conditionality with EI: Credit to be suspended if EIB parallel financing is not available within 9 months of loan effectiveness. * Cross-conditionality with Italy: While there would be no cross-conditionality with the Italian program, provisions for bridge financing, including retroactive funding, would be

29 Project Appraisal Document Page 25 made to mitigate the risks associated with a possible delay in the execution of works finded under Italian aid. * Disbursement to HEPCo under the Italian loan and IDA credit conditioned on: (a) HEPCo having been registered as a company under the Companies Law; (b) a business plan for HEPCo being agreed upon by the project cofinanciers; and (c) satisfactory on-lending agreements put in place. * Disbursement to SELCo under the Italian loan and IDA credit conditioned on SELCo having a performance-based management contract (a "service improvement program") that is acceptable to IDA, and being duly signed and effective; and satisfactory on-lending agreements put in place. * Financial covenants: JDECo to achieve (i) a minimum debt service coverage ratio of at least 1.5 times before it may issue any new debt; (ii) a minimum current ratio of 1.5 times to ensure adequacy of working capital and short-term liquidity; and (iii) a limitation on dividend payout, requiring it to obtain the prior approval of IDA in case payment of the dividend would cause the current ratio to fall below 1.5 times. * Audits: The Borrower shall cause each responsible agency to carry out each year financial audits of their financial statements (including SOEs) by independent auditors acceptable to the administrator of the TFGWB, and to submit such audits to IDA no later than six months after the end of such year. H. Readiness for Implementation [x] The engineering design and procurement documents for the first year's activities are complete and ready for the start of project implementation. Cofinancing arrangements for approximately US$73 million (about 80 percent of estimated total financing required) have been approved. JDECo as an operating utility has in place an appropriately staffed engineering and construction department that will form the basis for starting the implementation of rehabilitation subprojects. The PEA, while a relatively new entity, has been functioning since Advance procurement activities are underway to recruit the TA needed by JDECo to assist in implementation of its restructuring program, including the engineering services needed to support the engineering and construction department. Advance procurement activities are underway to: (a) recruit the TA for SELCo (i.e., the performance management contract); (b) TORs for the preparation of HEPCo's business plan have been agreed; and (c) TORs for the PEA consultancies have been agreed. Terms of reference and the project implementation plan have been agreed and found to be realistic and of satisfactory quality. No further PA approvals are required. No land acquisition is involved. Conclusion of the on-lending agreement is a condition of project effectiveness. SELCo has already been incorporated as a company under the Companies Law (see Section D4c). I. Compliance with IDA Policies [x] This project complies with all applicable IDA policies. [] [The following exceptions to IDA policies are recommended for approval: NA. The project complies with all other applicable IDA policies.] Team Leader ng Sector Director - Country Director Rama L. Skelton Zoubeida Ladhibi-Belk Joseph Saba

30 Project Appraisal Document Page 26 Attachment Palestine Narional Authoriry The Palestine Energy Authoritv The Power Sector Letter of Sector Policv The power sector in Palestine has been severely neglected. Systems are old and inefficienr, electricirv supplies are unreliable; generation is highly dependent on Israeli sources; the institutional framework is weak and highly fragmented: and consumption is considerably below resional standards. In response to these conditions, in 1995 the Palestine National Authority (PA) established the Palestine Energy Authority (PEA) as the sole arency responsible for sector development (Decision No. 12 of 1995). This Letter of Sector Policy (LSP) sets out the PA's and PEA's policy for the development of the sector. Objectives and Strategy TLe PEA is committed to providing the citizens of the Palestinian with reliable electicirv supplies, and is committed to doing so at a price that is affordable and that permits the efficient long term development of the sector and the economy as a whole. Consistent with the above objectives and given the urgent problems of the sector, priority is being given to: remedying current svstem deficiencies; improving service delivery and public acc:ountability; and laying the legal institutional, economic and financial and technical basis for efficient system development Thus over the last two years the PEA has undertaken a number of actions. srudies and consultations aimed at improving system performance and service delivery, and reforming the institutional frameworl. These have been underalken in corljunction with municipalities, village councils and villages, and with the assistance of the World Bank, Norway and other members of the donor community and villages. Medium-term Strategy As a result of these actions and deliberations, the PEA has developed a medium-term (- 7 year) sector development strategy, the main components of which are: 1. To focus on rehabilitating existing networks and services and extend services to currently unserved communities, 2. To separate the 'policy' and 'regulatory' functions from the -commercial fumctions' of power sector enterprises; 3. To refocus and reorganize the PEA to be the main policy making body for the sector; 4. To encourage maximum priva.te sector paruicipation in sector operations and development, particularly in generation and distribution. thus minimizing the need for government financial support: PEA 03/07/97 1

31 Prouect Apprainsk and Gaza Page To consolidare transrnission networks, systems and functions in the a new transmission company; 6. To establish three new autonomous and conrnerciallv-oriented regional distribution utilities (one in Gaza and two in the West Bank) by consolidaing the existina electricity departments of municipalities, village councils and villages; 7. To increase the operating/technical efficiency of the distribution utility companies through energy end-use efficiency, energy conservation and better load management; and 8. To develop pragmatic tariff setting guidelines that will permit full cost recoverv and promote the commercial viability of sector enterprises while at the sarne time providing for 'lifeline' rates for needy consumers. Our strategy is guided by the following core considerations: While the existing transmission and distribution svstem is currently weak and fragmented, complete centralization of all components of the svstem in a single public aaencv would be inefficient and would militate a=ainst efficient long-term system development. In particular. it would discourage private investment in the sector. * Decentralization and commnercialization can yield sienificant service benefits to consumers, reduce the financial burden on the public sector, encourage private invesunent and parricipation in the sector. "Unbundling" and comrnercialization/privatization of key parts of the system (particularly generation and distribution) is both feasible and desirable. Also it is necessary in order to improve service and system quality, and to yield efficiency gains to consumers and the economy as a whole. * Certain functions and parts of the svstem (particularlv policv, system development, and transmission) cannot be efficiently privatized and must thus be retained in the public sector to 'significant extent. But for these functions to be efficiently performed they should be disentangled form each other. While the PEA is fully committed to the strategy outlined in this letter, we propose to act prudently, in close consultation with stakeholders, and with due regard to questions of economic and technical feasibility and strategic national interests. Thus we propose to implement the reforms in carefullv sequenced and calibrated steps over the next two to three years. Some of the key components of our institutional reforrn strategy are briefly discussed below and are summarized in the attached table and organogram (Exhibits I and 2). Svstem Rehabilitation Network upgrading is critical to improving service reliability and efficiencv. Accordingly, since its establishment the PEA has undertaken a number steps to remedv critical networkl deficiencies. Among- of our first actions was to begin to remedy the most critical defects in PEA 08/07/97

32 I:roject Appraisal Document Page 28 the distribution network in Gaza with the assistance the government of Norway. This program is now being extended to cover the Northern West Bank, and we will shortly extend our efforts to begin to address the most critical deficiencies in the Hebron and central regions, i.e., in the southerm West Bank. Rural Electrification Electrifying the Palestinian rural areas is a crucial function to develop the a agricultural sector, water supply and other sector in the villages. Reforming the Institutional Framework As indicated above, the PEA is convinced that major svstem reforms are necessarv for efficient sector development The kev areas of reform are: 1) Overall Sector Coordination, Policy Formatior4 and System Development; 2) Generation; 3) Transmission; 4) Distribution; 5) Tariffs and RegUlation; 7) Government Asset Holdina; and 8) Legal Measures To Give Effect To The Proposed Reforms. Each is brieflv discussed below. Overall Secror Coordination, Policy Formation, and System Development The PEA will continue to be the sole PA agency responsible for these critical national fuictions, and will of course lead the reforms. In doing so. it will divest itself of some of its cuirent functions (see below) and reorgzanize itself into a professional agency as shown in 'Exhibits 1 and 2. with offices in both West Bank and Gaza. The PEA would also continue to be responsible for those components ofthe sector such as rural electrification. regional interconnection, energy conservation and research which cannot be realistically or efficientlv coimmercialized. Energy efficiencv and conservation will be coordinated with the existing Palestine Energy Center (PEC). Tariff setting and regulation will be overseen by a separate independent commission reporting To the Palestinian Authority (PA) as discussed below and shown schematically under Exhibit 2. Generation In order to increase system capaciry and reduce supply dependency on Israel, the PEA will encourage the creation of new generating capacitv within Palestine. In doing so, the PEA will encoura=e maximum participation by the private sector through independent power providers (IPPs). In this context The PEA has been promoting private participation in the development of a new generating plant in Gaza with interconnection to the West Bank. The PEA will also diversify the sources of supply by encouraging the purchases from neighborinz countries while at the sane time promoting regional interconnection, system stabilization and scale economies. Transmission The transmission network is not vet fully in Pales-tinian hands. Also it is a component of the svstem that can nt be reasonablv privatized. However it needs to be efficiently managed. To this end the PEA would es;ablish a new. professionally managed and commercially - PEA (8/07/97

33 Project Appraisal Document Page 29 Electric Sedor Investment and Management Project (ESIMP) oriented companv. Palestine Energy Transmission Company Ltd. (PETL) which would eventually own, operate and develop the network. Board of PETL would enter into powerpurchase agreements with independent and semi-independent generating comparnies and from neighboring countries. and would sell power to regionai distribution utilities (see below). Distribution 'In order to reduce fragmentation and increase efficiency the existing fragmented distribution system will be consolidated into three new commercially oriented regional utilities, one in Gaza and three in the West Bankc (A privately owned utility alreadv serves the Jerusalem region.). The three new utility (Gaza Region Electficity Utility (GREU), Nablus Electricity Utility (NEU). and Southem ElectriciTy Company (SELCo) would be owned jointly by the PEA and the municipalities and village Councils in the respective regions.. The members of the boards of the new companies would be appointed by the respective municipalities, village councils and the PEA. The new utilities would own the distribution networks, be responsible for service delivery and operations within their regions. They would of course do so within an overall policy fiamework established under LSP and as administered by the PEA. To help establish the new utilities as quicklv and a efficiently as possible, the PEA. would contract technical assistance services from competent international authorities and utilities for an iitial period not expected to exceed 5 years. While privatization of the utilities is not considered practicable at this stage, provision would be made for siamificant private participation within 5 years. Tariffs and-keg-ulation In order to help create a "level playing field" for the private sector participation, tariff setting would be done by a new independent conimissiorn, the Palestine Energy Regulation Commission (PERC) reporting to the PA. While the PEA would establish the overall policy for sector development, tariffs would be set bv PERC on the basis of commercial considerations with due regard to the needs of especiallv vulnerable segments of the population. The members of the Board of PERC would be appointed by the PA on the recormmendation of the Board of PEA. PERC would include significant representation from the private sector. Government Asset Holding The PEA will divest itself ofmany of its existing functions. However, for reasons outlined above, government will need to retain ownership of significant sector assets. In order to ensure the efficient management of important national assets. these assets would be vested in a small professionally managed holding company, Palestine Energy Holdings Ltd. (PEEL). The members of the Board of PEHL would be appointed by the PA on the recomrnmendation of the Board of PEA. PEA O8/07i97 4

34 Project Appraisal Document Page 30 Legal Measures To Give Effect To The Proposed Reforms In order zo give effect to the proposed reforms the existing law will ne-d to be amended or a new law passed. The PEA will take steps over the next, few months to draft the necessary le.2islaton and present it to the Palestinian Council for debare and ratificarion. Time Table As noted above, the PEA will act prudently and on a timely basis. Accordingly, the following time table is envisaged: Kev Activities Target Starr/Completion Dates Rehabilitntion Ga' program On-goin, * Imple.nent West Bankprogram Be2in Mav 1997 * Rural Electrification: begin West Bank Begzin imnlemenraion by July 1997 program 13nstitUtional Reform Legislation Pr:?ara necessary legislation Complete by end October 1997 P:esent reform legislarion to the Council Present by end November Resructcre PEA - Establish PERC January, Generation Invite proposals from IPPs for Gaz On-going Execute fist IPP aereemenx for Gaza Seatember Transmission Es-ablish PETL January, 1998 * Dismibution Es-tablish NEU January, 1998 Establish GREU and SELCo March, 1998 p. PEA sse: Holding Establish PEB. January, 1999 Signed: Dr. Abdul Rahman Hamad *.-* K Chairman, PEA,J Signed: 4A Yr' mscr 7U-,. :.- - asier

35 Project Appraisal Document Page 31 Electrc Sector Investment and Management Project (ESIMP) xhilbitl1: The Proposed Institutional Framewor- of the Pover Secror Role/Function Responsibility Structure/Strategv * Overall Sector PEA A small, highly professional public a.ency already established by Coordination & the PA; responsible to the PA for overall system performance and Development developmenl and for administering PA policv for the Power sector, as defins in the LSP. * Policy PEA A department of PEA focusing on rechnical, economic and formation financial analysis of system perforrnance and planning for future system development, including regional inter-connection. e Svstem PEA A department of PEA focusing on immediate and lon. term Development system improvement, investment promotion, regional interconnection and those areas such as rural electrification which may not attract private investors and operators. * Energy PEC An existing independent sub-agency of the PEA focusing on Efriciency and research and public education. Conservation * Generation Private & Semi- Independent generating companies, developed, financed and Private Corpora- managed by private investors. but with PEA support and, possibly. tions minor PEA shareholding. = Trantsmission Palestine Energy A small, separate professionally managed public company, Transmission Ltd responsible for management, maintenance and development of the (PETL) national transmission svsrem (grid). Purchases power from generating companies and sells to regional utilities. * Distribution Semi-Private Newly created autonomous regional utility companies (perhaps; regional utilities on the West Bankl and I in Gaza)operating on a commercial basis, with PEA and municipalities as lastone in March the major shareholders: systems to be created over the next year by consolidating existing municipal systems; operating and development support to be provided, inter alia, by internarionallv recruited experts including- management contractors (MCs); privatizaion a key objecrive by yr. 5; minor PEA sht reholding; responsible for local and regional system operations,. anagement and developmenl servic- delivery to customers, anr billing and collection. * Tariffs & Palestine Energy An independent PA/PEA appointed Re-ulatory Commission with Regulation Regulation members from central eovernment- indusrv, municipalities. and Commission the general public; responsible for tariff settine and competition (PERC) policy; to be created over the next year ( table says Jan 1998). v Government Palestine Energy A small professionallv managed public corporation wholly owned Asset 1iolding Holdings Ltd. by PEA: to be created during the next year, ( table says Jan 199S) (PEHL) independent Board appointed by PA and PEA.

36 Electric Sector Investment and Management Page 32 Project Appraisal Document 2, --- =rc! 46~ ~ ~ ~~~~~4 -U -Q< 4C. LU ~~~~~~~ = = '

37 Project Appraisal Document Page 33 Annex 1 Project Design Summary NARRAT SUMMPARY PERFOOA CEZ LA.uM o A- 1NDGAT2 S 1Y~A~~O Sector-reIatod CAS Goal - Provision of infrastructure Favorable macroeconomic needed to create an conditions; successful continuation environment conducive to of the peace process. private sector activity and investment. Project Development.- evelopnentobject tocas To benefit electricity * No suppressed demand * Successful implementation of consumers, predominantly after other financial, legal, and households, through infrastructure projects. sustainable improvements in * Implementation of the power the quality of electricity sector expansion plan. supply. In particular, the project will: * Initiate restructuring of * Self-financing ratio of * Audited financial the power sector in 25% or more for statements, PEA accordance with the planned system distribution company Palestinian Authority's expansions. statistics. (PA) Statement of * HEPCo and SELCo * Company articles of Power Sector established. association and Development Policy; concessions. i.e., corporatize and commercialize two new entities (HEPCo and SELCo). * Strengthen PEA's * Completion of studies. capacity to put in place * New regulatory power sector reforms framework and and, in coordination Electricity Law in place with Ministry of by end of project. Environmental Affairs, * Passage of Electricity develop environment Law, including (a) policy and regulations regulatory framework for the power sector. as per LSDP; (b) power * Reinforce the power market at generation systems in the central and distribution level andn southern regions open to private sector of the West Bank, as a operators via IPPs, first step in the PA's BOOs, concessions, and PEA's least-cost etc.; (c) open access to power expansion plan. tramsmission by third parties. Draft law presented to PLC by the third project year.

38 Project Appraisal Document Page 34 Electnc Sector Investment and Management Project (ESIMP) * Implementation of environmental policy guidelines and regulations by mid-term I. Strengthened * Independent southern * Concession, Artiicles of a Implementation of remaining institutional structure. distribution company Association. elements of LSDP, including operating by * Company annual regulation and redefinition of * 50% of staff have reports. PEA's role. received adequate * Continued financial viability training by of distribution utilities beyond * Customer Management project. Information System in * Continued support for further place by end private sector involvement in * Computerized billing the sector from all and collection systems stakeholders. in place by end * Successful negotiations with * Positive cash flow for IEC on transfer of remaining SELCo by end of its assets. first year of operation. 2. Higher efficiency in * Reduction of technical * Company audited * Sufficient transmission electricity distribution, and non-technical annual reports (HEPCo, capacity in WBG created. and improved quality of losses by 2-3% per SELCo, JDECo). * Enough energy generated or service. year: * Quarterly reports by available through imports. * More than 200 PIU project manager. * Excludes consumer outages customers/employees * Company financial related to wholesale by end statements. purchases. * Voltage fluctuation less than +12% by 2001 and after I10% by 2003 and after * Number and duration of power outages reduced by: 50% by end of 2001; a further 25% reduction below the 2001 level by 2002, and maintained at this level thereafter. 1. Rehabilitation of * About US$80 million in *Progress report from Political situation conducive to electricity distribution rehabilitation work PIUi. implementation: system inn southern program: * Progress reports from * Sufficient implementation West Bank and central * About US$4.4 million PEA and consultants. capacity in the sector. West Bank. for technical assistance. * Continued collaboration * 76 km of high-voltage among municipalities in the and 54 km of low- steering committee, and with voltage cable replaced; PEA, JEDCo. 310 km of overhead * No significant delays in the

39 Project Appraisal Document Page 35 Electrc Sector Investment and Management Project (ESIMP) MorrrRI4GAND distribution lines availability of cofinancing. replaced. * 195 distribution transformers and 10 power transformers replaced; 190 circuit breakers replaced. 2. Targeted technical a About US$4.3 million. Project management assistance for the for project management and monitoring system institutional systems design and is established and strengthening of implementation operational within 6 JDECo. services. mo. of startup. * New MIS installed and operational as from Technical assistance for * Southern WB the consolidation and distribution companies corporatization of operational as from end municipal electricity of first project year. departments in the. 50% number of staff in southern West Bank. each company trained in relevant management skills by end of project. 4. Performance-based * Signed MC contract. management assistance contract for SELCo. 5. TA to PEA to assist in US$2 million budget for * New Electricity Law. Lifeline electricity rates for sector reform (new consultancy services. submitted to the poorest and most electricity law,. Professional capacity Parliament. vulnerable are implemented. regulatory issues, etc.) and mandate created * Tariff study completed. Responsible agencies within and the safeguarding of within PEA to evaluate and agreed project make provision for consumer interests. social impacts and reconmmendations consumer education and safeguard consumer implemented consumer voice. interest. * Transmission company * PEA mandate to include registered as company oversight of the by end of socioeconomic impacts of * Pre-feasibility studies sector reform. to expand power distribution systems in West Bank completed. * Study to develop environmental policy guidelines regulations for the power sector, and training provided to PEA and MEA.

40 Project Appraisal Document Page 36 Annex 2 Detailed Project Description The general condition of the power system in the West Bank and Gaza varies from barely adequate to totally deteriorated. Substations and distribution transformers are generally overloaded and poorly maintained. The substations are in poor condition and installed reactive power capacity is inadequate to correct for low power factors. There are insufficient transformers to provide acceptable voltage levels to the ultimate consumers. A number of obsolete non-standard distribution voltages are in use. Damaged insulators are common and exposed cables often show considerable damage to their outer covering. Low-voltage lines are too long, leading to excessive technical power losses. Consultants (funded through the TATF) have developed an emergency rehabilitation program to ease the West Bank's overloaded electricity distribution system. Component 1: Rehabilitation and expansion of the distribution network - US$76.3 million 1 IDA, along with Italian and EIB parallel financing, would finance this component. It forms the critical initial part of the least-cost solution for power system expansion, and includes the work and training of Palestinian counterparts necessary to regain the bulk of the capacity and reliability of the existing infrastructure. The following is a summary of the distribution network rehabilitation work to be implemented under this component: (a) for the Hebron governorate (Hebron and the five smaller southern West Bank municipalities of Yatta, Dura, Thahriah, Halhul, and Beit Ommar): * installation of 2 new substations (33/ kv) and all associated elements of the distribution system for future 11 kv operation. One would be located at Alharayek with 10 MVA capacity and the second near Halhul with 5 MVA capacity; installation of 80 additional transformers (33/0.4 kv; 11/0.4 kv to 400 kva) to relieve overload on existing transformers and to reduce the secondary LV line lengths. Out of the 80 transformers, 28 would be replacements; * installation/replacement of 70 km of primary lines (33 and 1 lkv) and associated secondary LV lines (0.4 kv) to accommodate the new substations and the distribution transformers mentioned above. * The SELCo Phase II component (US$2.6 million funded under the Italian loan) includes the engineering, preparation costs and the initial rehabilitation work for the expansion of the SELCo system beyond the boundaries of the initial five smaller municipalities. (b) for the Central West Bank area (Jerusalem and Jericho distribution networks and distribution network extension in Bethlehem): * installation of a new 10 MVA substation (33/ kv) at Wadi El-Goz near the old city; * rehabilitation of the Silwan and Aqbat Jaber substations and installation of a new 5 MVA transformer; * installation of 100 additional transformers (33/0.4 kv; 11/0.4 kv to 630 kva) to relieve the overload on existing transformers and to reduce the secondary LV line length. out the 100 transformers, 56 would be replacements; Includes contingencies.

41 Project Appraisal Document Page 37 installation/replacement of 65 km of primary lines (33 and 11 kv) and associated secondary LV lines (0.4 kv) to accommodate the new substation and the distribution transformers mentioned above. (c) for the Central West Bank area (Ramallah distribution network): * replacement of the 7.5 MVA transformer by a 10 MVA at the Beiten West substation and installation of a 5 MVA substation in Umm Safa; * installation of 8 additional transformers (33/0.4 kv; 11/0.4 kv to 400 kva) to relieve the overload on existing transformers and to reduce the secondary LV line length; * installation/replacement of 27 km of primary lines (33 and 11 kv) and associated secondary LV lines (0.4 kv) to relieve the overload of existing transformers and to reduce the secondary LV line length; * installation of a new distribution level Supervisory Control and Data Acquisition (SCADA) system to enable JDECo to improve the control and monitoring of all of its subtransmission and primary voltage distribution facilities. Component 2: Technical assistance to strengthen sector institutions - US$12.2 million This component would be financed by IDA, with Italian parallel financing, and counterpart funding (US$3.0 million) by the project utilities (JDECo, HEPCo and SELCo): (a) Management contract, systems design, and implementation for SELCo (US$2.15 million). To start up the new SELCo operations, consolidate the merger of the constituent municipal systems, and improve its management, SELCo would enter into a performance-based management contract. Under this contract, the utility operator would take on managerial responsibility for the operation of SELCo for about three years. Remuneration for these services would be a combination of performance-based incentive fees and a fixed management fee. The fee structure would be on a declining scale, as the contractor gradually hands over more operational responsibilities to the newly trained SELCo management team. SELCo would contribute a portion of its internally generated funds to the financing of the management contract, as well as to other related working capital costs to launch the new company. This component also includes the engineering work to implement the SELCo Phase II expansion. (b) Technical assistance to JDECo (US$5.8 million). This component would provide targeted technical assistance to JDECo in areas where JDECo's own capacity has potential for improvement (e.g., financial management, billing and collection, project management). It would also include the project management assistance needed by JDECo to ensure the successful and timely implementation of the rehabilitation work under its purview. The TA team shall be integrated into JDECo's existing project/construction management department. The duties of the consultant would include: ensuring uniformity of construction standards, minimizing operating costs, negotiating rehabilitation contracts with bidders, approving designs, construction cost control, and commissioning. The consultant would also ensure smooth interface with project donors and train Palestinian counterparts. The consultant would report to JDECo management. (c) Technical assistance to PEA (US$2. 0 million). The TA component of the project would include assistance to PEA in the implementation of the LSDP Action Program (e.g., on sector regulation, drafting of a new Electricity Law and related regulations, conduct an electricity tariff study, establishment of a transmission company, preparation of technical and safety standards, training), as well as engineering consultancies to further advance the prefeasibility studies for the transmission and distribution expansion programs in the central and southem regions.

42 Droject Appraisal Document Page 38 (d) Technical assistance to HEPCo (US$2.25 million). To corporatize and commercialize its electric utility operations (business plan implementation). Component 3: Initial Startup and Operating Expenditures - US$2.5 million This component would be financed by IDA. It would cover a portion of the startup costs of SELCo to operate as a financially sound and technically capable power distribution company. Funding would include provision of expert services, training, and goods related to the initial startup of the company. This component would also cover a portion of the startup cost to establish BEPCo's capacity to operate as a financially sound and technically capable power distribution company. The Italian loan would finance primarily the distribution rehabilitation work in the Hebron govemorate (Hebron and the smaller municipalities in the southern part of the West Bank) as well as the SCADA; the EIB loan would finance the Jerusalem and Jericho areas (central West Bank) as well as the distribution,network extension in Bethlehem. Counterpart funds would cover any taxes and duties applicable to project components (see Annex 3 for details of the financing plan).

43 Project Appraisal Document Page 39 Annex 3 Estimated Project Costs, 1 ' Financing Plan, and Implementation Schedule Proiect ComDonent Local Foreign Total US $ million Component 1 Rehabilitation of distribution network and system expansion JDECo Ramallah area Bethlehem area Other central West Bank areas SCADA SELCo Phase I Phase HEPCo Component 2 Technical assistance to strengthen sector institutions Organizational strengthening (JDECo. HEPCo, SELCo) 2J Component 3 Initial startup and operating expenditures Base Cost Contingencies Physical Price Total project cost Project cost exempt from taxes and duties. 21 Costs are associated with component 2 above and consists primarily of pre-retirement including business system design and implementation.

44 Financing Plan (Costs include contingencies) Use of Funds Bv Beneficiary IDA ' EIB itaiy internai Funds Total Percent g) Of Utility 1Of ESIMP Local expenses $2,500,000 $9,500,000 $14,000,000 $2,000,000 $28,000, % Foreign expenses $12,500,000 $28,500,000 $21,000,000 $1,000,000 $63,000, % Total ESIMP $15,000,000 $38,000,000 $35,000,000 $3,000,000 $91,000, % w X a Jerusalem District Electric Company (JDECo) ESIM Project Implementation and Change Management U $1,700,000 $0 $0 $0 $1,700, % CD General Management and Systems Design $500,000 $0 $0 $400,000 $900, % Organizational Restructuring and Pre-retirements $0 $0 $0 $1,500,000 $1,500, % Technology and Management Systems Implementation $600,000 $0 $200,000 $100,000 $900, % Networks Rehabilitation Project Management $0 $0 $800,000 $0 $800, % SCADA System $0 $0 $3,000,000 $0 $3,000, % Distribution Network Rehabilitation Work $5,000,000 $38,000,000 $4,400,000 $0 $47,400, % Sub-total For JDECO (Central West Bank) $7,800,000 $38,000,000 $8,400,000 $2,000,000 $56,200, % 61.76% Southern Electric Company (SELCo 11 Initial startup & Operating Expenditures $1,000,000 $0 $0 $0 $1,000, % Management Contract $500,000 $0 $0 $0 $500, % General Management and Systems Design $500,000 $0 $0 $100,000 $600, % Organizational Restructuring and Pre-retirements $0 $0 $0 $200,000 $200, % Technology and Management Systems Implementation $100,000 $0 $100,000 $100,000 $300, % Networks Rehabilitation Project Management $0 $0 $300,000 $0 $300, % Distribution Network Rehabilitation Work $200,000 $0 $11,000,000 $0 $11,200, % Sub-total for SELCO (Original Shareholders) $2,300,000 $0 $11,400,000 $400,000 $14,100, % 15.49% Palestinian Energy Authority (PEA) ESIM Project Implementation and Change Management U $100,000 $0 $0 $0 $100, % General Management and Systems Design $200,000 $0 $0 $0 $200, % Organizational Restructuring $0 $0 $0 $0 $0 0.00% m Technology and Management Systems Implementation $100,000 $0 $0 $0 $100, % Power Sector Institutional and Regulatory Frameworks $900,000 $0 $0 $0 $900, % cn Power Demand Projections and Tariff Studies $700,000 $0 $0 $0 $700, % Sub-total for PEA (institutional & Regulatory) $2,000,000 $0 $0 $0 $2,000, % 220% 5- Small SWB Municipalities (SELCo Phase II) <CD Organizational Restructuring and Pre-retirements $0 $0 $0 $0 $0 0.00% Technology and Management Systems Implementation $0 $0 $0 $0 $0 0.00% a Networks Rehabilitation Project Management $0 $0 $250,000 $0 $250, % Distribution Network Rehabilitation Work $0 $0 $2,600,000 $0 $2,600, % Sub-total for SELCo Phase II $0 $0 $2,850,000 $0 $2,850, % 3.13% r Hebron Electric Power Company (HEPCo) Technical Assistance (Business Plan Implementation) $600,000 $0 $0 $0 $600, % 3 Initial startup & Operating Expenditures $1,500,000 $0 $0 $0 $1,500, % 3a General Management and Systems Design $500,000 $0 $0 $100,000 $600, % / Organizational Restructuring and Pre-retirements $0 $0 $0 $400,000 $400, % i3 Technology and Management Systems Implementation $300,000 $0 $0 $100,000 $400, % i> Networks Rehabilitation Project Management $0 $0 $300,000 $0 $300, % 0 Distribution Network Rehabilitation Work $0 $0 $11,050,000 $0 $11,050, % Sub-total For HEPCo $2,900,000 $S $11,350,000 $600,000 $14,850, % 16.32% ( Revised May 5,1999-0

45 Financing Plan (Costs include contingencies) 0 a PC D Use of Funds By Beneficiary _ IDA EIB Interna Toa ece0 -CD Iud Unallocated $0 $0 51,000,000 S0 $1,000,000N Consolidated Totals - ESIMP ODeration Initial startup & Operating Expenditures $2,500,000 $0 $0 $0 $2,500, % ESIMP Project Implementation and Change Management U $2,900,000 $0 $0 $0 $2,900, % General Management and Systems Design $1,700,000 $0 $0 $600,000 $2,300, % Organizational Restructuring and Pre-retirements $0 $0 $0 $2,100,000 $2,100, % Technology and Management Systems Implementation $1,100,000 $0 $300,000 $300,000 $1,700, % Networks Rehabilitation Project Management $0 $0 $1,650,000 $0 $1,650, % Distribution Network Rehabilitation Work $5,200,000 $38,000,000 $29,050,000 $0 $72,250, % SCADA System $0 $0 $3,000,000 $0 $3,000,000 Unallocated $0 $0 $1,000,000 $0 $1,000, % Power Sector Institutional and Regulatory Frameworks $900,000 $0 $0 $0 $900, % Power Demand Projections and Tariff Studies $700,000 $0 $0 $0 $700, % Sub-total $15,000,000 $38,000,000 $35,000,000 $3,000,000 $91,000, % GRAND TOTAL $15,000,0001 $38,000,000 $35,000,0001 $3,000,0001 $91,000, % % DISTRIBUTION OF TA, SYSTEMS DESIGN AND IMPLEMENTATION FUNDS, AND SPECIAL TRANSITION CHANGE MANAGEMENT FUNDS JDECO SELCO 1 SELCO 2 HEPCo PEA TOTAL % of ESIMP ESIMP Project Implementation and Change Management U $1,700,000 $500,000 $0 $600,000 $100,000 $2,900, % o General Management and Systems Design $500,000 $500,000 $0 $500,000 $200,000 $1,700, % : Technology and Management Systems Implementation $800,000 $200,000 $0 $300,000 $100,000 $1,400, % PEA Sector Restructuring and Regulation $0 $0 $0 $0 $1,600,000 $1,600, % Technical Project ManagementAssistance $800,000 $300,000 $250,000 $300,000 $0 $1,650, % CD Sub-total Technical Assistances $3,800,000 $1,500,000 $250,000 $1,700,000 $2,000,000 $9,250, % CD System Design and Implementation contingency $500,000 $200,000 $0 $200,000 $0 $900, % Organiza Restructuring /Pre-retirements(Self Financed) $1,500,000 $200,000 $0 $400,000 $0 $2,100, % Total Administrative Restructuring and Technical Assis 5,800,000 $ 1,900,000 $ 250,000 $ 2,300,000 $ 2,000,000 $ 12,250,000 $ 13.46% Percent of ESIMP Component by Beneficiary 10.3% 13.5% 8.8% 15.5% % 13.46% 13.46% 3, M CD CD CD mx CD Revised May 5,1999

46 Financing Plan (Costs include contingencies) 0-0.~~~~~~~~. 02 SUMMARY -- PHYSICAL NETWORK REHABILITATION WORK (EXCLUDING TECHNICAL ASSISTANCE) ' JOECo SELCOI SELCO 2 HEPCo TOTAL % Funds from IDA $5,000,000 $200,000 $0 $0 $5,200, Funds from EIB $38,000,000 $0 $0 $0 $38,000, % N Funds from Italy $8,400,000 $11,000,000 $2,600,000 $11,050,000 $33,050, % Total Financed from ESIMP $51,400,000 $11,200,000 $2,600,000 $11,050,000 $76,250, Self-financing by Utilities $0 $0 $0 $0 $0 0.00%1 Total Rehabilitation Work (Without Technical Assistance) $51,400,000[ $11,200,000 $2,600,000 $11,050,000 $76,250, % Percentof Total ESIMP Budget 56.48% 12.31% 2.86% 12.14% 83.79% JDECo SELCO 1 SELCO 2 HEPCo PEA TOTAL % A) FINANCED UNDER ESIMP, All Technical Assistances Financed by ESIMP $3,800,000 $1,500,000 $250,000 $1,700,000 $2,000,000 $9,250, % Total Rehabilitation Work Financed by ESIMP $51,400,000 $11,200,000 $2,600,000 $11,050,000 $0 $76,250, % Initial startup & Operating Expenditures $0 $1,000,000 $0 $1,500,000 $0 $2,500, % Sub-total Financed Under ESIMP $55,200,000 $13,700,000 $2,850,000 $14,250,000 $2,000,000 $88,000, % Percents 63% 16% 3% 16% 2% 100% B) SELF-FINANCED BY DISTRIBUTION UTILITIES Total Rehabilitation Work Self-financed by Utlities $500,000 $200,000 $0 $200,000 $0 $900, % Self-financed Organizational Restucturing $1,500,000 $200,000 $0 $400,000 $0 $2,100, % m Sub-total Self-Financed by UtIlIties $2,000,000 $400,000 $0 $600,000 S0 $3,000, % Percent 66.67% 13.33% 0.00% 20.00% 0.00% % 1 ~~~~~~~~~It0) Total ESIMP $57,200,0001 $14,100,000 $2,850,0001 S14, 850, $2,000,000 $91,000, % a BREAK DOWN BY SOURCE OF FINANCING JDECo SELCO I SELCO 2 HEPCo PEA Unallocated Totl Percen 1 From IDA $7,800,000 $2,300,000 $0 $2,900,000 $2,000,000 $0 $15,000, % From European Investment Bank $38,000,000 $0 $0 $0 $0 $38,000, / From ialian Loan $8,400,000 $11,400,000 $2,850,000 $11,350,000 $0 $1,000,000 $35,000, / R From Self-financing $2,000,000 $400,000 $0 $600,000 $0 $0 $3,000, % : Total $56,200,000 $14,100,000 $2,850,000 $14,850,000 $2,000,000 $1,000,000 $91,000, i, Percent of Total ESIMP Operation 61.76% % 3.13% /..20 /. 1.10% / _ %/ M 5R(D Revised MIay 5,1999

47 Implementation Schedule > 0-', FY2000 FY2001 FY2002 FY2003 FY2004, 0 Key Processing and Review Dates I - III - IV I III IV I _I II III IV I III IV -I I III IV NI Board Presentation Effectiveness Project Launch Workshop Mid-Term Review Project Implementation 1. Rehabilitation Program: X (a) Ramallah Area Component (WB) - _ (b) Central and Bethlehem Areas Components (EIB) (c) Southern Area Component (Italy) _ X X (d) SCADA Component (Italy) _- _ II. Consultant Services, Studies, Training: (a) PEA Sector Reform (b) Institutional strengthening of JDECo (c) Institutional strengthening of SELCo - - _ l (d) Institutional strengthening of HEPCo _ - _- - - X N m 3,a-u.2.

48 Project Appraisal Document Page 44 Annex 4 Cost-Benefit Analysis Summary This annex provides details of the project's economic assumptions and an analysis of the project's economic justification. It is based on the report of the Generation, Transmission and Distribution Master Plans and Emergency Assistance Project for WBG carried out by international consultants (RKD) (see Annex 13, Documents in Project File). These master plans established the need for a project that would meet the growing demand for electricity in the central and southern parts of the West Bank in a least-cost manner. The rehabilitation of the electricity distribution system in the central and southern parts of the West B3ank-the core of the proposed project-forms part of a large least-cost expansion program for the power sector in the West Bank and Gaza. The program includes both rehabilitation and reconstruction of the system and other measures to meet future demand. Despite this larger scope, the analysis concentrated on the economic assessment of the project's rehabilitation package, which demonstrated that rehabilitation is economically justified as the first step in the expansion program. It would be the least-cost means of mneeting future incremental demand in the project area, and would be economically profitable. Least-cost Justification To establish that the proposed project represents the least-cost means of meeting incremental demand, the cost associated with the project was compared with that of the most feasible alternative-self-generation from small diesel sets. The project cost, estimated to be about US$91 million equivalent,' includes: (i) investments in rehabilitation and system expansion to be incurred over the construction period of five years; (ii) engineering and technical assistance; and (iii) a SCADA system for enhanced distribution operations. Incremental fixed operation and maintenance costs were estimated at about 2 percent of total capital investments. Additional imports necessitated by the incremental demand were estimated at current IEC bulk power purchase price. The cost of the diesel alternative comprises capital, fixed and variable operating costs, and fuel cost of the incremental generation or the long-run marginal cost of selfgeneration. Table I provides details of cost of self-generation, and Table 2 presents the comparative cost analysis in 1998 prices. Discount rates of 10 and 12 percent were used. The results confirmed that the proposed project is the least-cost means of meeting incremental demand. The cost of self-generation was 20 and 15 percent higher at discount rates of 10 and 12 percent, compared with project costs. Economic rate of return (ERR) The ERR calculation was carried out for the period , covering the 5-year implementation period ( ), and about 17 years of operating life. The ERR for the project was estimated at about 23.0 percent, using the base case load growth scenario, and about 20 percent using the low load growth scenario provided by the consultants. The results are relatively robust to changes in underlying parameter values, and confrm the project to be economically sound. Computation of ERR is provided in Table 3. Costs The total investment package, including rehabilitation, technical assistance, and project management but excluding price contingencies is estimated at US$84.8 million, and disbursement is spread over five years. Investment expenditures were not shadow priced. Since equipment is procured at world prices, the 'Cost includes US$11.4 million in contingencies (US$6.2 million - physical; US$5.2 million - price)

49 Project Appraisal Document Page 45 selling price should reflect economic costs. To account for some level of further rehabilitation during the forecast period, an expenditure of US$3 million was assured to take place in each of the years Labor costs were assessed at market wage rates. Given the high level of unemployment in the West Bank, however, this is likely to overestimate the true opportunity cost of labor. On the other hand, if the labor market should open up, market wage rates would be a good reflection of what Palestinian workers would earn in alternative employment in neighboring countries. Although there are plans for domestic electricity generation, it was assumed for the purpose of this analysis that electricity will continue to be imported from Israel. The cost of electricity imports was assessed at the current tariff charged by the EEC; i.e., NIS (about US 6.6 per kwh). This tariff is net of Israeli VAT, since the tax is reimbursed to the Palestinian Authority, and hence constitutes a de facto Palestinian tax. This estimate for purchase power is conservative in as much as the long-run marginal cost for generation and transmission was estimated by the consultants (studies noted above) to be about NIS 0.18 per kwh at a 50 percent load factor. Benefits The RKD load forecast for the West Bank assumed an annual increase in energy demand of 3.0 percent: (low scenario), 6.4 percent (base case), and 7.3 percent (high scenario) between 1996 and The analysis used the base case growth assumption, adjusted to match the actual 1996 demand. Although the project foresees some upgrading of distribution capacity, it would not provide a sufficient increase in capacity to fully meet the projected demand. Based on the consultant's analysis, it was assumed that the rehabilitated system would be able to meet an annual demand of about 800 GWh-enough to meet demand until the year 2002 under low growth, but insufficient in the base case projection (see Figure 1). In the absence of the project, the distribution system would continue to gradually disintegrate. For the calculations, it was assumed that current capacity could be maintained until 1998, after which deliveries would start to decrease by 3 percent per annum (see Figure 1). Avoiding this deterioration is the main quantifiable benefit of the project. The benefit of additional supply is equal to people's willingness to pay for the additional energy (see Figure 2). Willingness to pay was measured as consumer surplus; that is, the area under the demand curve in Figure 2. The demand function was derived from the consultant's load forecast, adopting the price elasticity of estimated in the RKD study. In addition, it was assumed that a fraction of the suppressed demand occurring in the absence of the project would be met through small-scale local generation. The level of auto-generation was determined by economic efficiency. That is, auto-generation was assumed to take place up to the point where the long-run marginal costs of generation are equal to the marginal willingness to pay of consumers (see Figure 2). As people's willingness to pay rises over time, local generation becomes increasingly important. The project would therefore lead to substantial cost savings by reducing the need for more expensive local generation. The long-run marginal costs of own generation were calculated using data from rural West Bank villages that currently produce power in this way (see Table 1). A third quantifiable benefit is the reduction in technical losses. The current annual energy loss has, for technical reasons, been estimated at about 11 percent (average for the central and southern West Bank; based on the consultant study, and found to be reasonable during appraisal). In comparison, well-managed power distribution systems of comparable consumer density and size would not usually experience technical losses of more than 4 to 5 percent. However, given the scope of the investment, slightly higher losses of 6.5 percent were taken as the target value of the project. In addition to technical losses, there are

50 Project Appraisal Document Page 46 also substantial non-technical losses due, for example, to absent or inaccurate metering, and to illegal connections. While a reduction in non-technical losses is important for the financial viability of the two regional distribution companies, non-technical losses can be ignored in the economic analysis. They constitute a financial transfer from electricity distributors to consumers, but not an economic benefit. A fourth quantifiable benefit concerns the power factor penalty. Due to inadequate reactive compensation capacity, the power factors currently observed in the central and southern West Bank systems are on the order of about 0.90 and 0.83, respectively. As is common practice, IEC charges a penalty for power factors of 0.92 or less. Lifting the power factor above this threshold is one of the goals, and would be one of the benefits, of the rehabilitation project. The final quantifiable benefit concerns the improved bargaining position in negotiations for power imports, resulting in lower-cost imports. It was assumed that as of 2000 the newly created Southem Electric Company would benefit from the same bulk rates as the already existing Jerusalem District Electric Company. JDECo's current import tariffs are 3.1 percent lower than those of the municipalities that would participate in the new southern utility. In addition, there will be a series of non-quantifiable benefits associated with the project. These include, most importantly: * an improvement in service quality; e.g., a reduction in the number and duration of power outages, and better voltage control, reducing damage to customer appliances; * the creation of sufficient institutional capacity to plan subsequent power system expansions, and the ability of institutions to finance a large portion of sector needs from their own internal resources; a better basis for further rural electrification (where grid connection is economically justifiable), as a result of the improved networks; * a reduced accident risk and increased public safety in the rehabilitated system, compared to the status quo; * reduced air and noise pollution through the replacement of less efficient, unsightly, and more polluting small-scale diesel generators. Interpretation of results The estimated ERR for the project in the base case is 23.0 percent. The net present value (NPV) amounts to US$88.8 million at a 10 percent discount rate and US$63.0 million at 12 percent. Detailed calculations are shown in Table 3. It should be noted that the estimates are based on a conservative set of assumptions, and that the resulting ERR and NPV should be interpreted as a lower-bound estimate. Assumptions that lead to an underestimation of the ERR and NPV (i.e., an overestimation of project costs or an underestimation of benefits) include: * Non-quantifiable benefits. The project would provide a number of non-quantifiable benefits that were not included in the analysis (see above).

51 Project Appraisal Document Page 47 * Electricity cost. Electricity was assumed to be imported from Israel at retail tariffs. The alternative assumption that cheaper electricity would eventually become available (both with and without project) - e.g., from domestic generation -leads to an increased ERR, as both the cost and benefit estimate would change. On the cost side, lower import tariffs would reduce the cost of electricity provision. This effect is partly, but not fully, offset by a lower value assigned to the reduction in technical losses and the avoided power factor penalty. Benefits would be higher because a decrease in costs would stimulate energy demand (provided that cost savings are passed on to consumers). Without project, this additional demand cannot be met, since the system is already constrained. With rehabilitation, the additional demand can be met partially (in early years, before the rehabilitated system also becomes insufficient to meet total demand). * Shadow pricing. Labor costs were assessed at market rates, even though there is considerable unemployment in the West Bank. Thus, unless the labor market dramatically improves, the opportunity costs of labor would be lower than assumed, and the local cost element of the investment costs would be overestimated. * Operation and maintenance (O&Ak) costs. The calculations include the incremental O&M cost arising from the additional investment. What was not included are the potential savings in the O&M of existing structures that may occur as a result of the increased reliability of the system, as well as savings from the rationalization of manpower use resulting from the consolidation of municipal electricity departments into a more economic regional distribution utility. Sensitivity analysis Sensitivity analysis was carried out with respect to a series of parameters, as shown in Table 4. The main model parameters are shown in Table 5. The first set of results in Table 4 concerns sensitivity to the load forecast. This analysis is important because future demand is one of the most uncertain parameters in the analysis. The most crucial parameters are those concerning the capacity of the system with and without project, and the costs of self-generation. Since additional supply is the main quantifiable benefit of the project, ERR results are highly sensitive to parameters affecting the size of this benefit. This importance is compounded by the fact that capacity parameters are among the most uncertain in the analysis. A final sensitivity analysis concerns the cost of electricity imports. ERR results are less sensitive to this parameter. The analysis is nevertheless important because a change in generation costs is likely if projects for domestic generation are pursued. The analysis is also interesting from a methodological point of view. Assuming that all cost reductions are passed on to consumers, a reduction in import tariffs (or a switch from importing to domestic generation) would lead to an increase in energy demand, which means that the capacity constraint of the rehabilitated system would be reached earlier than previously anticipated. Finally, the sensitivity analysis tested under what circumstances the ERR would fall below 10 percent. Ten percent was assumed to be the threshold value that a satisfactory project would have to exceed. Results are shown in Table 6.

52 F'roject Appraisal Document Page 48 Table 1:Long-run Marginal Costs of Small-scale Diesel Generation Fuel Diesel price, CIF ($/bbl) world market price, summer 1997 Ufnit conversion (I/bbl) 159 Exchange rate (NIS/$) 3.45 Diesel costs, CIF (NISII) 0.52 Transport cost, Israeli (%/.) 46% derived from PEA data taxes E.conomic cost, diesel ($/I) 0.22 Israeli tax constitutes an Economic cost, diesel (NIS/1) 0.75 economic cost for WBG VAT (%) 17% Selling price ($/1) 0.26 Selling price (NISA) 0.88 Generator Capacity (kw) 150 PEA data Lifetime (hrs) 12,000 PEA data, actuals Lifetime (years) 4 (nom: 20,000hrs, 7yrs) Discount rate (%) 10% Annual output (MWh) 450 Local distribution losses (%) 30% PEA data, actuals Output net of losses (MWh) 315 Auto-generation costs Capital costs ($) 21,368 Annuitized capital costs ($) 6,128 Annuitized capital costs (NIS) 21,142 Energy value diesel (kwh/i) 3.50 Annual fuel costs ($) 28,030 Annual fuel costs (NIS) 96,703 O&M level (% of cap. costs) 4% Annual O&M costs ($) 855 Annual O&M costs (NIS) 2,949 Distribution cost (% of gen. Cost) 35% Annuitized distribution ($) 12,254 cost Ainuitized distribution (NIS) 42,278 cost Total costs at point of ($) 47,267 construction Total costs at point of (NIS) 163,072 construction Unit costs at cons. Point (USc/kWh) Unit costs at cons. point (NIS/kWh) 0.52

53 Table 2: Analysis of Least-cost Justification 0 -u a3c c , 2h Dinesel lntaltgemeatioe 09 IGI) , Cost of Auto-generat-on ~ CD System Expansion En.&TcnclAsst II Total Capital Coast I FixedO)&M , TtalCr morcat I IS ) Total Coals ~~~~~~~~~~~~~~ t NPV of Cost.s 10%DR $ %DR $ Table 3: Economic Rate of Return Analysis Ca ital C-t m Total ~~~~~ Incremental Energy Imports TII l Total Costs , ] J Redn. Power Factor penalty , II Redn. In technical losses , _23 4 Incr. System Fue Sav 20 Incr. Sstem Ful Savigs , Tota Benefi'ts T Net Benefits.2. M O ,483 (a) IO%IDR: $TS88.3 (b) 12%/DR.. $63.00 O IRR: 230% M CO CD CD~

54 Project Appraisal Document Page 50 Table 4: Sensitivity Analysis Parameter ERR (%) Energy demand (base: RKD base scenario) - RKD low scenario RKD high scenario 21.4 Supply with rehabilitation (base: 800 GWhlyr) - supply capacity for 750 GWh/yr supply capacity for 825 GWh/yr 24.5 Supply without rehabilitation (base: 750 GWh 1 yr decreasing at 3% p.a after 1998) GWh, decreasing at 1% GWh, decreasing at 4% p.a 25.0 Price of auto-generation (base: 15 US cents/kwh) - 13 US cents / kwh US cents / kwh 27.8 Price of electricity imports (with and without project) (base: 6.6 US cents/kwh, constant) US cents / kwh, constant US cents / kwh, constant US cents / kwh, growing at 3% p.a 21.6 Project-induced reduction in price of electricity imports (base: 3.1 percent) -0.0 percent percent 23.6 Table 5: Key Assumptions Parameter Units Value Distribution capacity w/o project Gwh / yr 750, decreasing at 3% p.a. Distribution capacity with project Gwh /yr 800, constant Power factor w/o project Power factor with project Technical losses w/o project % of imports 11.1 Technical losses with project % of imports 6.5 Operation and maintenance costs % of investment 2.0 Electricity import costs US / kwh 6.6 Current electricity tariff (weighted average) USO / kwh 11.2 Price elasticity of electricity demand LRMC of small-scale auto-generation US) / kwh 15.0 Difference bulk tariffto municipal tariff (% decrease) 3.1

55 Project Appraisal Document Page 51 Table 6: Switching Values (10 percent ERR cut-off) Parameter Value Low demand forecast Capacray v/oproject 750 GWh/yr, decr at >1.2% (bas c.ase 5 Whydcraiga 800 GWh/yr, decr. at >2.2% Base demand forecast 750 GWh/yr, decr. at >0.7% 800 GWh/yr, decr. at >1.9% Capacity with project (base case: 800 GWh/yr) >720 GWh/yr >718 GWh/yr Price of auto-generation >11.5 USC/kWh >11.2 USO/kWh (base case: 15 USO/kWh) Price of electricity imports < 12.6 USO/kWh <13.6 USg/kWh (base case: 6.6 US c/kwh) Note: The table shows values for critical parameters at which the ERR is 10 percent or more. For example, assuming demand follows the base forecast, an ERR of more than 10 percent is obtained if the price of electricity import (with and without project) remains below 13.6 USflkWh (everything else equal). Figure 1: Electricity Demand and Distribution Capacity, * * ; A ' * I~~~~~~~~~~ I Demand (base case) A _ a... Demand (low scenario) A Demand (high scenario) Maxdeliverywithproject -0-Max Mxdlieywopojc delivery w/o project 500 l year

56 F'roject Appraisal Document Page 52 Figure 2: Economic Benefits in the ERR Calculation LRMC autogeneration Cost of el. import Q['/oJ [O wathj l a_and quantity Note: -Q (w/o) denotes the maximum delivery without project -Q (with) denotes maximum delivery with project -the dotted area denotes avoided cost of auto-generation -the striped area denotes consumer surplus from incremental consumption In any period of time, electricity is self-generated up to the point where the long-run marginal costs (LRMC) of auto-generation equal consumers' marginal willingness to pay; i.e., the intersection with the electricity demand curve. Increasing capacity from Q (w/o) to Q (with) eliminates the need for auto-generation (with cost savings equal to the dotted area), and meets some but not all of the suppressed demand (with benefits equal to the striped area). The graph depicts the demand situation in early periods ( ). As demand grows over time (the demand curve shifts to the top right), auto-generation becomes increasingly important, and eventually a quantity of Q (with) or more would be self-generated in the absence of the project. In this case, the project would no longer lead to additional consumption, but would simply replace self-generation of Q (with) - Q (w/o). This is the situation observed from year 2001 onward (see Table 1).

57 Project Appraisal Document Page 53 Annex 5 Financial Summary (HEPCo, JDECo, SELCo) Main Assumptions Underlying Financial Forecasts for years I. Hebron Electric Power Co. (HEPCo) and Southern Electric Company (SELCo) Data sources: The 1998 financial data were taken from the records (unaudited) of the six municipal electricity departments - the five founding members of SELCo (Yatta, Beit Omar. Dahria, Halhul, Dura), and for HEPCo, from the municipality of Hebron. The financial data for the years 2000 through 2004 have been forecasted based on historical data for 1998, which was taken as the base year. Given the uncertain quality of recordkeeping by the municipalities, all cost and sales figures should be taken as indicative only. 2. Inflation Rate: Figures are expressed in current terms and reflect an annual inflation rate of 8 percent for the years 1999 to Financial Statements (a) Income Statements l Revenue - Growth in sales of approximately 10 percent per year for HFPCo and 9.3 percent per year for SELCo was determined, reflecting improvement in commercial operations and reductions in non-technical losses-see 3(c) below. This reflects historical growth rates in consumer count and specific kwh consumption for residential and commercial consumers. * Average revenues per kwh increased by 6 percent a year over (2 percent less than the inflation rate). * Average purchasing power is assumed to increase at 6 percent over the years * Participation fees for new residential and commercial consumers are taken at NIS 1,500, based on the current fees for each new hookup. Similarly, participation fees for new industrial consumers are taken at NIS 20,000. * 30 percent of new consumer's participation fee is capitalized as fixed assets additions. * Bad debt expenses are estimated at 2 percent of electricity sales for each year. * Operations and maintenance expenses for are based on 2 percent of the yearend gross fixed assets balance for each year. * Wages and salaries expenses for were estimated to increase by 15 percent yearly. * Severance pay expense is estimated at 7 percent of total wages and salaries. * General and administrative expense is estimated at 40 percent of wages and salaries. * Other operating expenses are based on 10 percent of wages and salaries. * Depreciation expense is computed on a straight-line basis at the rate of 5 percent of the gross fixed assets balance; new management systems are written off over an estimated life of ten years. * SELCo management contract expenses (fixed fee and incentive payments) reflect the management contract proposed by JDECo. * Interest expense on the foreign loans (IDA and Italy) reflect a 2.0 percent annual interest rate. * Income taxes are calculated at 30 percent of net profit before taxes. * Board remuneration is assumed to be 2 percent of net profit from 2000 onwards.

58 Project Appraisal Document Page 54 * Declared dividends are assumed to be 20 percent of net profit before income tax from 2000 onwards. (b) Balance sheets * Cash balances were derived on a residual basis. * For the years , improvement in collections results in lower levels average age of accounts receivables. For HEPCothe average age of accounts receivables (days of billings) is assumed to improve as follows: 150, 125, 110, 100 and 90 for years respectively. For SELCo, the average age of accounts receivables is forecasted to improve from 125, 100, 82, 70 and 60 days over the same period as HEPCo above. * fixed assets for SELCo for year 2000, the initial balance (net after accumulated depreciation) was estimated at NIS 10,000,000; and for HEPCo it was taken at NIS 20,000,000. * Additions to fixed assets from 2000 and thereafter are based on the ESIMP investment program. * Foreign loans reflect the ESIMP investment program for each company, less internal contribution to the program of US$600,000 by HEPCo, and of US$400, 000 by SELCo. * Loan disbursements reflect the ESMIP investment program. - Share capital is determined at NIS 150,000 for SELCo, and at NIS 30,000 for HEPCo. (c) Electricity Losses (percent of electric purchases) SELCo HEPCO * % 20% * % 17% * % 14% e % 11% * % 9% ri. Jerusalem District Electric Company (JDECo) 4. Data sources. The financial data was taken from the audited financial statements. The financial data for the years 1999 through 2004 were forecasted based on historical data and future estimates. Two major changes have been introduced in the forecasted statements compared to audited accounts as follows: (i) revaluation of fixed assets; and (ii) treatment of consumer participation in the costs of capital projects. The latter reflects JDECo's accounting policy as stated in their audited financial statements. 5. Inflation Rate. Costs are expressed in current terms, with annual inflation taken at 8 percent for the years 2000 to Financial Statenents (a) Income statements * Revenue: Overall kwh sales growth for financial forecasting purposes was taken at 4.6 percent per year. Consumer participation was calculated based on growth in new consumer hookups-overall consumer count projected to grow from 103,000 at end 1998 to 114,500 by end * Wages and salaries, starting from base year 1998, were estimated to increase by 15 percent a year.

59 Project Appraisal Document Page 55 Electrc Sector Investment and Management Project (ESIMP) * Other Income is increased annually at the inflation rate of 8 percent, starting from the year * Tariffs and the cost (price) of purchase power increase at 6 percent a year from years , i.e., at 2 percent less that the assumed rate of increase in the CPI. * Operations and maintenance expenses are based on 2 percent of fixed assets balance for that year. * Interest revenue is based on 20 percent of the average cash balances, and reflects actual experience in the last three years. * Interest expense on new foreign loans is calculated at 6 percent annually. * Income tax is taken at 30 percent of net. * Board remuneration is assumed to increase by 10 percent annually. * Declared dividends are assumed to be 20 percent of net profit before income taxes from 2000 onwards. (b) Balance sheets * Cash on hand is derived on a residual basis. * Accounts receivable are derived from the days of sales equivalent, starting from 143 days of sales in 1998, with a gradual improving trend to 90 days from year 2002 onward. * Provision for doubtful debts is taken at 2 percent of sales. - Other assets (which include accrued interest receivable, refundable deposits, fuel inventory and prepaid expenses) are assumed to increase by 15 percent. - Cash restrictedfor severance pay, is assumed to increase by 90 percent of the provision taken for that year annually, to gradually increase to match severance pay reserves in the liabilities. * Additions to fixed assets from 1997 and thereafter are based on historic costs and future years of the ESIMP investment program. * Materials and supplies in stores were estimated at 15 percent of the gross fixed assets balance for each year. * Accounts payable are estimated at 7 percent of total electricity purchased and other operating expenses. * Other current liabilities and deferred revenue are increased by 8 percent per year., in line with inflation. * Reserve for severance pay is assumed to increase by 20 percent annually, in line with monthly payroll. * IDA credit balance remains constant during the forecast period, based on JDECo's rescheduling provision with the concerned banks. * New foreign loan amounts are based on the investment program, less a contribution of US$2,000,000 from JDECo's internal funds flow. * Repayment of the principal of foreign loans is assumed to start in 2003 (reflects three years of grace on the ESIMP loans). (c) Electricity losses (percent of electricity purchased) * % (actual) * % * % * % * % * % * %

60 Project Appraisal Document Page 56 Financial Summary for Revenue Earning Project Entities Hebron Electric Power Company (To be created) Years Ending 2000 through 2004 (Currency: NIS 000,000's) Forecast Annual l Growth Income Statement Items Sales (GWh) % Revenues % Operating income Net income after tax Funds Statement Items Internal sources - Net profit after tax (before debt service) Decrease (increase) in cash (6.2) (7.9) (24.0) (29.2) (36.2) - Adjustment for item not involving cash Depreciation Provision for severance pay Provision for bad debts Internal sources Borrowings Equity investment Total Sources Capital expenditures (13.0) (22.0) (18.2) (10.2) (7.1) Changes in working capital Board remuneration (0.2) (0.2) (0.8) (1.0) (1.2) Dividends (1.6) (1.8) (7.8) (9.5) (11.9) Debt service (0.2) (0.6) (1.0) (1. 1) (1.3) Total Applications (13.8) (23.3) (26.3) (20.2) (18.8) Balance Sheet Items Current assets Current liabilities Net Fixed Assets Total Assets % Debt Equity % Total Liabilities and Equity Operating income as % of revenue 22% 22% 49% 50% 52% Vet income as a% of revenue 14% 14% 33% 34% 36% Return on average invested capital 13% 14% 50% 45% 42% Debt service coverage Selffinancing ratio Current ratio Debt: debt & equity 22% 41% 44% 41% 36% kwh losses (as % of purchases) 20% 17% 14% 11% 9%

61 Project Appraisal Document Page 57 Hebron Electric Power Company (To be created) Balance Sheets (Currency: NIS 000's) Forecast Current Assets Cash 13,747 21,627 45,599 74, ,019 Accounts receivable 15,527 14,809 23,686 25,232 27,108 Provision for doubtful debts -1,427-2,292-3,863-5,705-7,904 Total current assets 27,848 34,144 65,421 94, ,223 Fixed Assets Fixed assets 32,956 54,981 73,198 83,402 90,470 Accumulated depreciation -1,766-4,835-8,978-13,713-18,845 Total fixed assets 31,190 50,146 64,220 69,690 71,625 Total Assets 59,038 84, , , ,848 Current Liabilities Income tax 2,331 2,732 11,707 14,261 17,840 Electricity purchases- IEC 1,981 2,186 2,450 2,775 3,242 Board remuneration ,189 Current portion of LT debt Declared dividends Total current liabilities 4,597 5,252 15,588 18,779 23,262 Long-term debt 11,802 32,387 49,314 58,440 64,086 Reserve for severance pay ,025 1,398 1,827 Total operating liabilities 16,825 38,340 65,927 78,618 89,175 Shareholders equity Share capital (par value) Retained earnings 10,458 14,830 33,561 56,379 84,922 Shareholder reserve 31,725 31,089 30,123 28,977 27,720 Total shareholders equity 42,213 45,949 63,714 85, ,673 Total liabilities and shareholders equity 59,038 84, , , ,848 Debt: debt & equity 22% 41% 44% 41% 36% Days ofsales in receivables Current ratio

62 Project Appraisal Document Page 58 Hebron Electric Power Company (To be created) Income Statements (Currency: NIS 000's) Forecast Revenues Electricity sales 37,783 43,242 78,595 92, ,938 Doubtful debts ,572-1,842-2,199 Consumer participation 2,992 4,118 5,282 6,295 8,313 Total revenues 40,019 46,495 82,305 96, ,053 Operating expenses Electricity purchased 23,772 26,231 29,395 33,300 38,905 Depreciation 1,766 3,070 4,143 4,734 5,133 Repair and maintenance ,100 1,464 1,668 Severance pay expense Wages and salaries 3,309 3,926 4,636 5,331 6,131 General and administrative expenses 1,324 1,570 1,854 2,133 2,452 Other operating expenses Total operating expenses 31,133 36,124 41,916 47,868 55,331 Operating income 8,887 10,371 40,389 48,683 60,722 TA performance bonus Technical assistance Interest expenses ,146-1,257 Net profit for the year (before income tax) 7,771 9,108 39,024 47,537 59,465 Allocation of profit Income tax 2,331 2,732 11,707 14,261 17,840 Board remuneration ,189 Declared dividends 1,554 1,822 7,805 9,507 11,893 Retained earnings 3,730 4,372 18,731 22,818 28,543 Total allocation 7,7711 9, , ,537F 59,465 Times interest earned Return on total assets 9% 8% 21% 20% 21% Return on net worth 13% 14% 43% 39% 37% Operating ratio 78% 78% 51% 50% 48%

63 Project Appraisal Document Page 59 Hebron Electric Power Company (To be created) Sources and Applications of Funds (Currency: NIS 000's) Forecast Operating income 8,887 10,371 40,389 48,683 60,722 Depreciation 1,766 3,070 4,143 4,734 5,133 Subtotal 10,652 13,441 44,532 53,417 65,854 Less: Interest ,146 1,257 Changes in working capital (1,056) (1,373) (1,458) (1,645) (2,607) Principal Dividends 1,554 1,822 7,805 9,507 11,893 Taxes 2,331 2,732 11,707 14,261 17,840 Board remuneration ,189 Other (987) (1,140) (1,896) (2,215) (2,628) Subtotal 2,229 2,858 17,905 22,005 26,943 Funds available for investment 8,423 10,583 26,627 31,412 38,911 Investment program 13,840 22,654 18,615 10,204 7,068 Financing gap (5,417) (12,071) 8,012 21,208 31,843 Financed by: ESIMP loans 11,571 19,950 15,960 7,980 4,389 Borrowings, other Subtotal 11,571 19,950 15,960 7,980 4,389 Cash increase (decrease) 6,154 7,879 23,972 29,188 36,232 Cash beginning of year 7,593 13,747 21,627 45,599 74,787 Cash end of year 13,747 21,627 45,599 74, ,019 Debt service coverage ratio Selffinancing ratio Proposed tariff increase 6% 6% 6% 6% Assumed CPI increase 8% 8% 8% 8%

64 Project Appraisal Document Page 60 Financial Summary for Revenue Earning Project Entities Southern Electric Company Years Ending 2000 through 2004 (Currency: NIS 000's) Forecast Annual _ Growth Income Statement Items Sales (GWh) Revenues 18,667 21,640 24,710 28,316 33, / Operating income 3,328 2,668 2,261 3,016 4,774 Net income after tax (1,493) (1,277) (750) 1,303 2,534 Funds Statement Items Internal sources - Net profit after tax (before debt service) (1,091) (473) 270 2,458 3,688 - Increase in cash (1,834) (2,032) (3,021) (5,435) (5,934) - Adjustment for items not involving cash 2,041 3,272 4,047 4,518 4,687 - Depreciation 1,622 2,753 3,415 3,795 3,852 - Provision for severance pay Provision for bad debts Internal sources (884) 768 1,297 1,541 2,440 Borrowings 20,118 20,118 10,794 6,691 0 Total Sources 19,234 20,886 12,091 8,232 2,440 Capital expenditures (20,545) (20,732) (11,559) (7,605) (1,146) Changes in working capital (1,713) Board Remuneration (37) (72) Dividends (372) (724) Debt service (402) (805) (1,021) (1,154) (1,154) Total Applications (22,661) (20,886) (12,091) (8,232) (2,440) Balance Sheet Items Current assets 7,320 8,424 10,641 15,433 20,926 Current liabilities 948 1,032 1,126 1,886 2,640 Net fixed assets 28,923 46,903 55,046 58,856 56,150 Total Assets 36,244 55,326 65,688 74,290 77, Debt 21,216 41,576 52,688 60,396 61,446 Equity 15,027 13,750 13,000 13,893 15, % Total Liabilities and Equity 36,244 55,326 65,688 74,290 77,077 Operating income as a% ofrevenue 18% 12% 9% 11% 14% Net Income as a% of Revenue -8% -6% -3% 5% 8% Return on average invested capital -10% -9% -6% 10% 17% Debt service coverage Selffinancing ratio Current ratio Debt :debt & equity 57% 75% 80% 81% 79% kwh losses (as % ofpurchases) 20% 18% 15% 13% 11% Purchases kwh

65 Project Appraisal Document Page 61 Southern Electric Company Balance Sheets (Currency: NIS 000's) Forecast Current Assets Cash 1,834 3,865 6,886 12,321 18,255 Accounts receivable 6,038 5,472 5,078 4,901 4,998 Provision for doubtful debts (552) (913) (1,322) (1,789) (2,327) Total current assets 7,320 8,424 10,641 15,433 20,926 Fixed Assets Fixed assets 30,545 51,277 62,836 70,441 71,587 Accumulated depreciation (1,622) (4,375) (7,790) (11,585) (15,437) Total fixed assets 28,923 46,903 55,04 58,856 56,150 Total Assets 36,24 55,326 65,688 74,290 77,077 Current Liabilities Income tax ,086 Electricity purchases- IEC 948 1,032 1,126 1,25-1,421 Board remuneration Declared dividends Total current liabilities 948 1,032 1,126 1,886 2,640 ESIMP loans 20,118 40,237 51,031 57,722 57,722 Reserve for severance pay ,084 Total operating liabilities 21,216 41,576 52,688 60,396 61,446 Shareholders equity Share capital (par value) Retained earnings 2,730 1, ,596 3,333 Shareholders reserve 12, ,148 12,148 12,148 Total shareholders equity 15,027 13,750 13,000 13,893 15,631 Total liabilities and shareholders equity 36,244 55,326 65,688 74,290 77,077 Debt: Debt & Equity 57% 75% 80% 81% 79% Days of sales in receivables Current ratio

66 Project Appraisal Document Page 62 Southern Electric Company Income Statements (Currency: NIS 000') Forecast Revenues Electricity sales 17,564 19,955 22,570 25,736 29,733 Doubtful debts (319) (362) (409) (466) (539) Consumer participation 1,423 2,046 2,548 3,046 3,821 Total revenues 18,667 21,640 24,710 28,316 33,016 Operating expenses Electricity purchased 11,371 12,380 13,508 15,112 17,056 Depreciation 1,622 2,753 3,415 3,795 3,852 Repair and maintenance Severance pay expense Wages and salaries 1,431 2,250 3,193 3,672 4,222 General and administrative expenses ,277 1,469 1,689 Other operating expenses Total operating expenses 15,339 18,971 22,449 25,300 28,242 Operating income 3,328 2,668 2,261 3,016 4,774 Incentive management fee (840) (840) (840) 0 0 Fixed management fee (3,580) (2,301) (1,151) 0 0 Interest expenses (402) (805) (1,021) (1,154) (1,154) Net profit for the year (before income tax) (1,493) (1,277) (750) 1,862 3,620 Allocation of profit Income tax ,086 Board remuneration Declared dividends Retained earnings (1,493) (1,277) (750) 894 1,737 Total allocation (1,493) (1,277) (750) 1,862 3,620 Times interest earned (2.7) (0.6) Return on total assets -4.1% -2.3% -1.1% 1.8% 3.3% Return on net worth -10% -9% -6% 90/0 16% Operating ratio 82% 88% 91% 89% 86%

67 Project Appraisal Document Page 63 Southern Electric Company Sources and Applications of Funds (Currency: NIS 000's) Forecast Operating income 3,328 2,668 2,261 3,016 4,774 Depreciation 1,622 2,753 3,415 3,795 3,852 Subtotal 4,950 5,421 5,676 6,811 8,626 Less: Interest ,021 1,154 1,154 Changes in working capital (1,713) (651) (488) (937) (657) Principal Dividends Taxes ,086 Board remuneration Other (419) (519) (632) (723) (834) Subtotal (1,730) (365) (100) 462 1,546 Funds available for investment 6,680 5,787 5,776 6,349 7,081 Investment program 24,965 23,873 13,549 7,605 1,146 Financing gap (18,285) (18,087) (7,773) (1,256) 5,934 Financed by: ESIMP loans 20,118 20,118 10,794 6,691 0 Borrowings, other Subtotal 20,118 20,118 10,794 6,691 0 Cash increase (decrease) 1,834 2,032 3,021 5,435 5,934 Cash beginning of year 0 1,834 3,865 6,886 12,321 Cash end of year 1,834 3,865 6,886 12,321 18,255 Debt service coverage ratio Selffinancing ratio Proposed tariff increase 6% 6% 6% 6% Assumed CPI increase 8% 8% 8% 8%

68 Project Appraisal Document Page 64 Financial Summary for Revenue Earning Project Entities Jerusalem District Electricity Corporation Years Ending 1996 through 2004 (Currency: NIS 000,000's) Audited Forecast Annual 1996 [ Growth Income Statement Items Sales (GWh) % Revenues % Operating income Netincomeaftertax Funds Statement Items Internal sources -Net profit aftertax (before debt service) Decrease (increase) in cash (25) (7) (8) 20 (15) (I8) (25) (24) (28) - Adjustment for item not involving cash Depreciation Provisionforseverancepay Provision for bad debts Internal sources (2} Borrowings Equity investment Total Sources (2) Capital expenditures (1) (7) (8) (10) (46) (80) (64) (32) (18) Changes in working capital 3.4 (10) (13) (43) (19) (22) (23) (24) (26) Board remuneration (0.0) (0.1) (0.1) (0.1) (0.1) (0.1) (0.1) (0.2) (0.2) Dividends (1) (1) (1) (5) (4.0) (5) (6) (8) (10) Debt service (0.6) (0.3) (3.0) (8) (11) (23) (26) Total Applications 2 (18) (23) (59) (72) (114) (104) (88) (79) Balance Sheet Items Current assets Cunrent liabilities NetFixedAssets Total Assets % Debt Equity % Total Liabilities and Equity I8 Operaling income as % ofrevenue 8.8% 5.4% 4.1% 4.4% 4.4% 4.4% 4.4% 5.2% 4.8% Net income as%ofrevenue 10.3% 7.6% 7.5% 8.3% 6.5% 6.4% 6.6% 8.3% 9.1% Return on average invested capital 57%/ 21% 15% 15% 12% 12% 12% 16% 17% Debh service coverage 0.7 N/A Selffhancing ratio (1.19) Current ratio Debt:kdebt & equity 719/ 4% 3% 3% 25% 45% 51% 51% 48% kwh losses(ais %ofpwrchases) 19% 17% 1% 18% 16% 13% 11% 9% 9%

69 Project Appraisal Document Page 65 Jerusalem District Electricity Corporation Balance Sheets (Currency: NIS 00's) Audited Forecast i Current Assets Cash on hand and at banks 46,488 53,579 61,398 41,158 56,046 74,002 98, , ,638 Accounts receivable 56,743 68,654 86,102 74,766 73,248 70,562 70,664 78,308 86,894 Provision for doubtful debts (6,000) (6,000) (6,000) (8,398) (10,529) (12,521) (14,496) (16,499) (18,597) Materials and supplies in stores 9,560 10,093 14,659 16,853 23,820 35,832 45,442 50,247 52,889 Other current assets ,118 1,286 1,479 1,700 1,955 2,249 2,586 Total current assets 107, , , , , , , , ,410 Restricted Assets Cash at bank- for severance pay 10,802 16,138 23,747 34,476 46,814 61,003 77,320 96, ,664 Fixed Assets Operating assets 15,310 83, , , , , , , ,596 Accumulated depreciation (5,932) (13,674) (16,021) (22,425) (31,477) (45,093) (62,361) (81,455) (101,553) Net operating assets 9,378 70,115 86,121 89, , , , , ,043 Deferred consuner participation (20,873) (25,057) (25,057) (25,057) (25,057) (25,057) (25,057) (25,057) Investments Conscession rights Total assets 127, , , , , , , , ,385 Current Liabilities Duetobanks 862 6,158 7, Accountspayable 17,842 18,811 24,474 12,041 13,028 13,951 15,183 16,466 18,265 Provision for income tax 7,212 11,059 15,763 8,030 6,972 7,576 8,757 12,083 14,712 Dividends payable 1,826 2,323 2,952 5,353 4,648 5,051 5,838 8,055 9,808 Current portion of long-term debt ,819 12,751 13,885 Other current liabilities 8,143 2,723 2,877 3,107 3,356 3,624 3,914 4,227 4,565 Total current liabilities 35,885 41,074 53,300 29,193 28,664 30,864 45,173 54, Deferred revenue 9,668 12,650 16, Reserve for severance pay 29,324 37,162 48,769 59,498 71,836 86, , , ,686 ESIMP loans - 44, , , , ,385 Extemal financing 3,575 3,850 3,850 3,850 3,850 3,850 3,850 3,850 3,850 Total operating liabilities 78,452 94, ,S88 92, , , , , ,817 Shareholders equity Share capital 1 3,750 3,750 3,750 3,750 3,750 3,750 3,750 3,750 Retained earnings, beginning of year (7,397) 8,667 22,829 37,923 51,197 62,697 75,193 89, ,622 Contribution for the year 16,064 14,162 15,094 13,274 11,500 12,495 14,451 19,979 24,345 Retained eamings, end of year 8,667 22,829 37,923 51,197 62,697 75,193 89, , ,967 Special reserve 40,353 40,353 40,353 40,353 40,353 40,353 40,353 40,353 40,353 Fixed assets revaluation reserve - 29,277 35,624 35,624 35,624 35,624 35,624 35,624 35,624 Cornpulsory reserve 1,875 1,875 1,875 1,875 1,875 1,875 1,875 1,875 Total shareholders equity 49,021 98, , , , , , , ,569 Total liabilities and shareholders equity 127, , , , , , , , ,386 Debt: debt& equity 70/o 4% 3% 3% 25% 45% 51% 51% 48% Days of sales in receivables Current ratio

70 Project Appraisal Document Page 66 Revenues Jerusalem District Electricity Corporation Audited Income (Currency: Statements NIS 000's) Forecast l Electricity sales 151, , , , , , , , ,405 Doubtful debts (4,198) (4,650) (5,151) (5,732) (6,352) (7,048) Consumer participation 10,826 13,232 11,732 16,011 17,612 19,373 21,310 23,441 25,785 Other income 3,190 4,089 4,590 4,769 5,151 5,563 6,008 6,489 7,008 Total Revenues 165, , , , , , , , ,151 Operating Expenses Electricity purchased 121, , , , , , , , ,346 Depreciation 1,466 1,894 2,347 6,404 9,052 13,616 17,268 19,094 20,098 Operation and maintenance 5,011 5,051 7,064 2,247 3,176 4,778 6,059 6,700 7,052 Wages and salaries 13,308 17,352 20,732 23,842 27,418 31,531 36,260 41,699 47,954 Other operating expenses 3,715 5,896 6,534 7,187 7,906 8,697 9,566 10,523 11,575 Provision for severance pay 5,125 8,134 12,630 11,921 13,709 15,765 18,130 20,850 23,977 Total operating expenses 150, , , , , , , , ,003 Operating income 14,558 10,815 9,083 10,068 11,133 12,339 13,556 17,588 18,148 Interest revenues/expenses Interest:revenues 9,074 11,396 17,531 17,029 15,127 20,572 27,001 35,260 43,719 Existing loans interestexpense (460) (284) (553) (331) (331) (331) (331) (331) (331) ESIMP loans interest expense - (2,689) (7,326) (11,036) (12,241) (12,496) Netinterestrevenue/expense 8,614 11,112 16,978 16,698 12,107 12,915 15,635 22,688 30,893 Management contract revenue - Net income (before income tax) 23,172 21,927 26,061 26,767 23,240 25,254 29,191 40,276 49,040 Allocation of net income Income tax 6,192 6,745 9,540 8,030 6,972 7,576 8,757 12,083 14,712 Board remuneration Declared dividends ,328 5,353 4,648 5,051 5,838 8,055 9,808 Retained earnings 16,064 14,161 15,094 13,274 11,500 12,495 14,451 19,979 24,345 Total allocation 23,172 21,927 26,061 26,767 23,240 25,254 29,191 40,276 49,040 Times interest earned Return on total assets 13% 8% 7% 8% 6% 4% 4% 5% 6% Return on net worth 35% 15% 14% 14% 11% 11% 12% 15% 16% Operating ratio 91% 95% 96% 96% 96% 96% 96% 95% 95% Provisionfor doubful accounts as % of sales 2% 2% 2% 2% 2% 2%

71 Project Appraisal Document Page 67 Jerusalem District Electricity Corporation Sources and Applications of Funds (Currency: NIS 000's) Audited Forecast i Operating income 14,558 10,815 9,083 10,068 11,133 12,339 13,556 17,588 18,148 Depreciation 1,466 1,894 2,347 6,404 9,052 13,616 17,268 19,094 20,098 Subtotal 16,024 12,709 11,430 16,472 20,184 25,956 30,824 36,682 38,246 Less: Interest ,020 7,657 11,366 12,572 12,827 Increase in working capital 7,664 29,915 39,693 29,704 4,040 5,356 4,502 3,600 2,949 Principal repayment 25, ,819 12,751 Dividends ,328 5,353 4,648 5,051 5,838 8,055 9,808 Taxes 6,192 6,745 9,540 8,030 6,972 7,576 8,757 12,083 14,712 Board remuneration Cash allocated for severance pay Other (37,654) (23,944) (37,925) Subtotal 3,439 13,737 13,288 43,526 18,800 25,771 30,609 47,288 53,223 Plus: Non-operating income 9,074 11,396 17,531 17,029 15,127 20,572 27,001 35,260 43,719 Intemal funds available for investment 21,659 10,368 15,673 (10,025) 16,511 20,756 27,216 24,654 28,742 Investment program 503 7,128 7,854 10,214 46,446 80,080 64,064 32,032 17,618 Financing gap 21,156 3,240 7,819 (20,239) (29,935) (59,324) (36,848) (7,378) 11,124 Financed by: ESIMP loans 0 44,822 77,280 61,824 30,912 17,002 Borrowings, other 3,575 3,850 Subtotal 3,575 3, ,822 77,280 61,824 30,912 17,002 Cash increase (decrease) 24,731 7,090 7,819 (20,239) 14,887 17,956 24,976 23,534 28,126 Cash beginning of year 18,026 46,489 53,579 61,398 41,158 56,046 74,002 98, ,511 Cash end of year 42,757 53,579 61,398 41,158 56,046 74,002 98, , ,638 Debt service coverage ratio I N/A Selffinancing ratio (1.19) Proposed tariff increase 0% 6% 6% 6% 6% 6% Assumed CPI increase 8% 8% 8% 8% 8% 8%

72 Project Appraisal Document Page 68 Annex 6 Procurement and Disbursement Arrangements General The responsibility for procurement has been described in Section C. para. 4(a) and (b) of the main text. Procurement Procurement methods (Table A) The project elements, their estimated costs, and the procurement arrangements for the components to be financed by the IDA credit are shown in Table A. All IDA-financed civil works, equipment and materials, and consultant services would be procured under the relevant Guidelines published by the World Bank. Works All civil works undertaken under the project are small and most are labor-intensive and do not require highly specialized skills. These works would be procured through national competitive bidding (NCB) acceptable to IDA. Said procedures shall ensure, inter alia, that: (i) tenders shall be advertised for at least two (2) consecutive days in a local newspaper of wide circulation; (ii) prospective bidders shall be allowed a minimum of thirty (30) days between the date upon which the notification appears in the newspaper for the first time and the date upon which the bid is submitted; (iii) the format of the bidding documents shall be consistent with that of IDA's standard bidding documents, or with the format of bidding documents used by United Nations agencies operating in the West Bank and Gaza; (iv) interested foreign contractors and suppliers shall be allowed to bid; (v) bids shall be submitted in sealed envelopes and shall be accepted whether mailed or hand carried; (vi) all bids shall be opened at the same time in public; (vii) contracts shall be awarded to the lowest evaluated bidder; (viii) no bidder shall be requested or permitted to modify his, her, or its bid after the bid closing date shall have elapsed; (ix) price negotiations with the lowest evaluated bidder shall be limited to cases provided for under the guidelines; and (x) post-qualification criteria shall, in the absence of a pre-qualification process, be explicitly stated in the bidding documents. Goods Goods will be procured through international competitive bidding (ICB) for all contracts exceeding US$200,000, using World Bank Group standard bidding documents. Goods estimated to cost less than US$200,000 equivalent per contract, and not to exceed US$2 million equivalent in the aggregate, may be pfocured under contracts awarded on the basis of national shopping (NS) procedures, in accordance with provisions 3.5 and 3.6 of the Guidelines.

73 Project Appraisal Document Page 69 Employment of Consultants Consultant services shall be procured in accordance with the provisions of the Introduction and Section IV of the Guidelines and the following provisions of Section II of this schedule. Prior Review Thresholds (Table B) All contracts for goods exceeding US$500,000 and contracts for works exceeding US$1 million would be subject to prior review by IDA. The threshold for prior review for consulting services would be US$100,000 for contracts with consulting firms, and US$50,000 for contracts with individuals. The contract review arrangements are summarized in Table B. Disbursement Allocation of Credit Proceeds (Table C) The proposed credit would be disbursed against the project components, as shown in Table C. The proposed credit would be disbursed over a period of about five years, and the project would be completed by June 30, Use of Statements of Expenses (SOEs) Disbursements out of the special account for contracts below the prior review threshold would be made on the basis of SOEs. Documentation to support expenditures financed under SOEs would be maintained by JDECo and SELCo and made available for review by IDA supervision missions. Special accounts (SAs) Four special accounts shall be opened-one for each project beneficiary. To facilitate disbursements, SAs would be established by the borrower in a commercial bank on terms and conditions satisfactory to IDA. The SAs would be maintained by JDECo, SELCo, HEPCo, and the PEA as separate identifiable accounts to be used exclusively for project expenditures. IDA would, upon request, make an authorized allocation of US$1.0 million (JDECo) and of US$500,000 each to FEPCo, PEA, and SELCo. Initially, and until total disbursements to JDECo reach US$6 million, the allocation would be limited to US$500,000. Replenishment applications would be submitted on a monthly basis, or when about 20 percent of the initial deposit has been utilized, whichever comes first. The replenishment applications would be supported by the necessary documentation; i.e., a bank statement of the SA and a bank statement reconciling the SA against IDA records. The SAs and SOEs would be audited annually by independent auditors acceptable to IDA, and a report submitted to IDA within six months of the end of the fiscal year.

74 Project Appraisal Document Page 70 Annex 6, Table A: Project Costs by Procurement Arrangements (in US$ million equivalent) Expenditure Category Procurement Method Total Cost (including contingencies) ICB NCB Other N.I.F 1. Works Rehabilitation, southern network area Rehabilitation, Ramallah area C 2.3 (1.3) (1.3) Rehab and expansion, Bethlehem network area Rehabilitation, other central areas 6.6 d Goods Rehabilitation, southern network area 19.1 C 19.1 Rehabilitation, Ramallah area c 73 (2.9) (1.0)d (3-9) Rehab and expansion, Bethlehem network area Rehabilitation, other central areas 21.9 d 21.9 SCADA 3.0c Services Project management (rehab.) 1.6c 1.6 Technical assistance (7.3)b (7.3) Initial startup costs (2.5) (2.5) 4. Organizational Strengthening 3.0' 3.0 Total (2.9) (1.3) (10.8) (15.0) Note: N.I.F. = Not IDA-financed. Figures in parenthesis are the amounts to be financed by the TFGWB credit. a National Shopping b Quality-and-Cost-based Selection (QCBS) and Individual Consultants c Italian parallel financing d EIB parallel financing e JDECo/HEPCo/SELCo financing

75 Project Appraisal Document Page 71 Annex 6, Table B: Thresholds for Procurement Methods and Prior Review Expenditure Contract Value Procurement Contracts Subject to Category (threshold) Method Prior Review US$ thousands US$ millions 1. Works All NCB >1,000, Goods > 200,000 ICB >500,000 < 200,000 NS No 3. Services Consultancy by firm > 100,000 QCBS Yes < 100,000 QCBS No Consultancy by individual > 50,000 Individual consultants Yes < 50,000 Individual consultants No

76 Project Appraisal Document Page 72 Annex 6, Table C: Allocation of Credit Proceeds Expenditure Category Amount Financing (US$ million) (percentage) Works 100% of foreign and 85% of local expenditures Rehabilitation of Ramallah network area 1.0 Goods Rehabilitation of Ramallah network area % of foreign and 85% of local expenditures Initial startup and operating expenditures 85% for SELCo 1.0 expenditures HEPCo 1.5 incurred before June 30, 2000 and 65% thereafter Technical assistance Institutional strengthening of JDECo/HEPCo/SELCo % TA to PEA for implementation of the LSDP % Unallocated 1.8 Total 15.0

77 Annex 7 SELCo Management Contract - Indicative Set of Performance Criteria 01a c The management contractor will be eligible for incentive payments, at the end of each of the four contract implementation phases providing corresponding performance criteria, an indicative set of which are mentioned in this Annex. MC Performance Assessment Time Frame (Performance Incentive Payment Base) N CD Phase I Phase 11 Phase III Phase IV Performance Performance Performance Performance Criteria Criteria Criteria Criteria co3 0- rc CD Time~~~~~~~~~~~ a a a 3 _ CD 8tD~~~~~~~~ C(D

78 1. Performance Criteria for Phase I (month I to 4) As the operations of SELCo will have not yet been established at the project start up date, the assets and liabilities will have not yet been transferred to SELCo, and very few reliable customers and financial data will be available at that time, performance criteria established for the end of Phase I are essentially based on the achievement of critical logistical operational milestones. They are: PERFORMANCE CRITERIA FOR CONTRACT IMPLEMENTATION PHASE I (First four months into the project) 0-n X i CD 0:3 1 World Bank and EIB First Adace Con rmation of 10 / Within 30 Not Applicable Within 45 loans effective transferred into the Electronic Funds days days NotApplicable Witin 60days appropriate ESIMP Transfer special Account 2 Italian Loan funds First Advance Confirmation of 10% Within 45 Not Applicable Within 60 Not Applicable Within 75 days effectiveness date transferred into the Electronic Funds days days Italy ESIMP special Transfer or r Account Effectiveness date in. Italy U 3 Start up of ESIMP Mobilization of US$1 Line of Credit 10% 10 days after 15 days after 20 days after 25 days after 30 days after w project Phase I million Start up established World Bank World Bank World Bank World Bank World Bank Loan A Bridge Financing Loan approval Loan approval Loan approval Loan approval approval R 4 Organizational SELCo ESIMP SELCo Organization 5% Within I Within 1.5 Within 2 Within 2.5 Within 3 months restructuring of Implementation Team Chart and Job months after months after months after months after after ESIMP Start SELCo Organized and Descriptions ESIMP Start ESIMP Start up ESIMP Start ESIMP Startup up UP Trained Published up up 5 Mobilization of Italian Italian Technical Publication of TA 5% Published Published Published Published Published within Networks Assistance mobilized Inception report within 3 within 3.5 within 4 within months after a) Rehabilitation and operational in months after months after months after months after ESIMP Start up 0 Technical Assistance SWB ESIMP Start ESIMP Start up ESIMP Start ESIMP Start up _a _ up up -o~~~~~~~~~~ 0' _a.w ~-10

79 6 Efficient & Disciplined SEL,Co By Laws, By Laws approved, 10% Within 2 Within 2.5 Within 3 Within 3.5 Within 4 months functioning of the Drafted, reviewed and Training completed months after months aflter months after months after after ESIMP Start 0w SELCo Board of approved and ESIMP Start ESIMP Start up ESIMP Start ESIMP Start up up 20 Directors extensive training of up up Board Members O: 7 Quick set up of the femporary or Senior SELCo 10% Within 2 Within 2.5 Within 3 Within 3.5 Within 4 months SELCo Head Office permanent Head personnel working months after months after months after months after after ESIMP Start X Office rented, from Head Office, ESIMP Start ESIMP Start up ESIMP Start ESIMP Start up up rehabilitated, Computer & up up furnished and Telecom lines operational operational 8 Quick staffing of key SELCo General Position Staffed on a 5% Completed Cornpleted Completed Completed Not applicable Senior SELCo Manager - Financial full time basis by a within 3 within 3.5 within 4 within 4.5 Management positions Manager - Human SELCo employee or months months months months Resource Manager - on a temporary full Commercial Manager time basis by MC and Chief Electrical employee Engineer hired and operational v _ 9 Reliable computerized Audited list of SELCo Client Data Base on 10% On new On new On new On new On new Data Base of SELCo customers. new Computer, computer computer computer computer computer customers (including Assessment of clients Reliability tests and within 2 within 2.5 within 3 within 3.5 within 4 Halbul) current situation, field spot-check months after months after months after months after months after m Updated Clients Data conducted ESIMP Start ESIMP Start up ESIMP Start ESIMP Start up ESIMP Start up Base transferred to up up new computer tn 10 Clients Meter reading 100% of meter Publishing of First 5% Completed Cormpleted Completed Completed Completed 0 routines tested and readings completed summary meter within 15 days within 20 days within 25 days within 30 days within 35 days First 100% meter with 95% of accuracy reading Reference after Data after Data Base after Data after Data Base after Data Base reading completed Statistics (Base for Base is ready is ready Base is ready is ready is ready future comparisons) X 11 Reliable billing of Design of SELCo First detailed billing 15% First Billing First Billing First Billing First Billing First Billing SELCo customers Invoice completed; report produced report within 3 report within report within report within report later. First billing batch (Reference base for months after 3.5 months 4 months after 4.5 months than 4.5 successfully produced future comparisons) ESIMP start after ESIMP ESIMP start after ESIMP months after & dispatched. Less up start up up start up ESIMP start up a than 5% of Bills _rejected or returned JU CD' a 0i in m

80 0 -u 12 Review and discussion Detailed complete First SELCo 5% Report Report Report Report Report of "End of Phase I" billing cycle analysis complete billing produced produced produced produced produced Progress Report with report (Meter reading, cycle assessment and within 4 within 4.5 within 5 within 5.5 within 6, 2 the ESIMP Steering consumption data progress report months after months after months after months after months after 3 Committee. "Base entry, billing ESIMP Start ESIMP Start up ESIMP Start ESIMP Start up ESIMP Start CD Reference" for future statistics, Collection up Date Date up Date Date up Date, performance performance, improvement evaluation assessment of technical and commercial loss, commercial net-profit for the first completc billing cycle. TOTAL FOR PHASE I 100% COMPOS TE PERFORMA[NCE SCORE FOR PHASE _ PERFORMANCE INCENTIVE COMPENSATION FOR PHASE - Maximum Possible Compensation for Phase l US$150, Performance Criteria for Phase II (month 5 to 12) The focus of Phase II, in implementing the Contract, is to improve as quickly as possible the overall commercial and financial performance of SELCo. As such the Performance Criteria established for the end of this Phase are based on the relative improvement of the key financial and commercial performance indicators, using the complete customers billing cycle report produced at the end of Phase I as the reference base for assessing performance improvements. Performance indicators agreed upon for the end of Phase II are the following: 5 M m R C 8 0 (0 -u

81 PERFORMANCE CRITERIA FOR SELCo MC IMPLEMENTATION PHASE 11 (Months 5 to 12 into the project) o0x 'C, x,.0 1 Increase Total Number Net increase in the Client Data Base of 10% 15% Client 13% Client 10% Client 8% Client Less than 2% ofactive Customers tota number of active SELCo Customers and increase above increase above increase above increase above Client increase clients after full clients billing report end of Phase I end of Phase I end of Phase I end of Phase I above end of integration of Halhul Phase I customers (Reference 2 -Progress report end of Phase I) Reduction of Net decrease of Consolidated Monthly 10% 3%Technical 2.5%Technical 2%Technical 1.5%Technical 0%oTechnical Consolidated technical consolidated technical Energy Purchases and loss reduction loss reduction loss reduction loss reduction loss reduction loss in the SELCo loss by comparison to Monthly Client Billing distribution Network the Reference Base Summary calculated at the end of Phase I 3 Reduction of Net decrease of Summary Monthly Client 15% 5% Commercial 4.5% Commercial 4% 3.5% 3% Commercial Commercial losses consolidated Billing Report and loss reduction loss reduction Commercial Commercial loss loss reduction commercial loss by Summary Monthly loss reduction reduction comparison to the Clients Account Reference Base Receivable Report M calculated at the end of m 4 Phase li [ncrease in the average Tariff optimization and Monthly Client Billing 10% 3% Net Retum 2.5% Net Retum 2%Net Return 1.5% Net Retum 0% Net Return 0 net return per kwh adjustments between and Monthly Clients per kwh per kwh Increase per kwh per kwh per kwh C sold residential, commercial Account Receivable Increase Increase Increase Increase o and industrial Reports customers _ 5 Reduction of the Consolidate Power and Monthly Billing from the 15% 3% Net 2.5% Net 2% Net 1.5% Net 0% Net 3 Consolidated Cost of Energy Purchases for Israeli Company Reduction in Reduction in Reduction in Reduction in Reduction in ad Bulk Energy all of SELCo and Price per kwh Price per kwh Price per kwh Price per kwh Price per kwh _ Purchased from IEC negotiate a better Price (D 4 CD

82 6 Efficient SELCo Laboratory set up - Client Data Base - New 5% 3000 Meters 2500 Meters 2000 Meters 1500 Meters 1000 Meters Meters Calibration Calibration Procedures sery of meter codes recalibrated recalibrated recalibrated recalibrated recalibrated ~ Laboratory Organized and Standards Established - Program for systematic meter exchange and calibration established _ C) 7 Efficient Materials Procedures established Purchase Orders, 5% 40% of SELCo 30% of SELCo 20% of SELCo 10% of SELCo 0% of SELCo an Procurement, and tested for the Suppliers Invoices, Rehab Materials Rehab Materials Rehab Rehab Materials Rehab Materials Receiving, Custom whole materials Material Receiving Slips, Budget received Budget received Materials Budget received Budget received Clearance, procurement cycle and Warehouses Delivery Budget received Warehousing and Cost for efficient control of Records, Project Accounting materials dispatch and Management Records an use by field Project Accounting rehabilitation teams Records 8 Organization and Rehabilitation 5% Rehab Team at Rehab Team at Rehab Team at Rehab Team at Rehab Team at Training of Efficient standards established, Work in each o Work in four of Work in three Work in Two of Work in one of Network Teams established, the five the five of the five the five the five Rehabilitation Rigging Training performed, Municipalities Municipalities Municipalities Municipalities Municipalities Team Security procedures established, Mobile equipment, cranes, trucks and tools operational. 9 SELCo Head Quarter Network Installed, Reporting capacity, 10% Very efficient Efficient and Personnel Equipment Network not yet Micro Computer Telecom links Volume of E Mail use of Innovative use of Training is ordered but installed m Network is Operational established, Personnel exchanges technology by technology under way Network not yet 'a and Interfaced with trained in using basic key personnel installed both JDECo, PEA and software c HEPCo 10 P~rinting of SELCo Remote data entry of Computerized meter 5% Remote Remote Remote Remote Remote o Monthly Customer meter readings and reading listings - Processing at all Processing at four Processing at Processing at Processing at Invoices at Remote printing of monthly Optimization of meter five Municipal Municipal Client three Municipal two Municipal none of the Municipal Clients customers invoices reading and delivery of Client Service Service Centers Client Service Client Service Municipal Client _ Service Sites invoices Centers Centers Centers Service Centers 2,-. ~0 CD X C 3 as a4m CD

83 0t 11 Adjustment Final valuation of First Audited SELCo 5% Dec 31,1999 Dec 31,19 Dc 31,1999 Dec 31,1999 Not Acceptable -E SELCo Shareholders SELCO Assets and Financial Statement Financial Financial Financial Financial D Respective Share Liabilities before Statement Statement Statement Statement, 0 Allocation rehabilitation - First Produced before Produced before Produced Produced before audited Financial end of Jan 2001 end of Feb 2002 before end of end of April a 3 Statement at the end of March G) a December 2000 _ 1 12 Review and discussion Detailed Progress Detailed Progress Report 5% Report Report produced Report Report produced Report produced of "End of Phase 11" Report - Summary of produced within within 13.5 produced within 14.5 within 15 Progress Report with Cumulative Project 13 months after months after withinl4 months after months after the ESIMP Steering Costs - Identification ESIMP Start up ESIMP Start up months after ESIMP Start up ESIMP Start up Committee. of critical project Date Date ESIMP Start up Date Date implementation Date,difficulties. I _I I I_ I TOTAL FOR PHASE ii 100% COMPOSITE PERFORMANCE SCORE FOR HASE I _ PERFORMANCE INCENTIVE COMPENSATION FOR PHASE 14 * I: : MaximumPossibleCompensationforPhaselq USS150, Performance Criteria Phase III (month 13 to 24) The focus of phase III, in implementing the Contract, is to develop SELCo Management expertise and manager's accountability and to fuirther improve the commercial and financial performance of SELCo. As such, some of the Performance Criteria established for the end of this Phase III are still based on the relative improvement of the key financial and commercial performance indicators, with the addition of new performance indicator specifically related to the performance of the SELCo managementeam. Performance indicators agreed upon for the end of Phase III are the following: m c CD a 3 CD D CD I 0- -U

84 0 -u PERFORMANCE CRITERIA FOR MC IMPLEMENTATION PHASE III (Months 13 to 24 into the project) n. 0 N Cs IFurther increase total Increase total number of Clent Data Base of SELCo 20% 25%Client 20% Client 15% Client I10%/ Client Lesta 10 /% number of active active clients in the Customers and Monthly increase above increase above increase above increase above Client increase customers and integrate SELCo Clients Data Clients Billing Reports end of Phase I end of Phase II end of Phase It end of Phase II above end of non-yet participating Base. New (already Phase II SWB Municipalities electrified) SWB Municipalities admitted as a full members of SELCo 2 Further Reduction of Net decrease of Consolidated Monthly Energy 10% 6/oTechnical 5.5%Technical 5%Technical 4.5%/.Technical Less than Consolidated technical consolidated technical Purchases and Monthly Client loss reduction loss reduction loss reduction loss reduction 4%oTechnical loss in the SELCo loss by comparison to Billing Summary since end of since end of since end of since end of loss reduction distribution Network the Reference Base Phase I Phase I Phase I Phase I since end of calculated at the end of Phase I Phase I ss_- an 3 Further Reduction of Control meter installed Summary Monthly Client 10% 10% 9.5% 9% 8.5% less than 8% Commercial losses at strategic main feeders Billing Report and Summary Commercial Commercial Commercial Commercial loss Commercial (Clients Account nodes - Net decrease of Monthly Clients Account loss reduction loss reduction loss reduction reduction since loss reduction M Receivables) consolidated commercial Receivable Report since end of since end of since end of end of Phase I since end of loss since end of Phase I Phase I Phase I Phase I Phase I 4 Improvement in meter Systematic recalibration Monthly Client Billing - Bar 5% 50% of meters 45% of meters 40% of meters o ters Less than 30%n reading accuracy of meters - Bar code coded meter reading listings, recalibrated recalibrated and recalibrated recalibrated and of meters al meter identification - Meter reading anomalies and replaced replaced and replaced replaced recalibrated _ Automatic detection of report and replaced c abnormal consumption variations ffl ~~~~~~~~~~~~~~~~~~~~ " 5 Priority on High Return Control meterinstalled Prioritized Rehabilitation 10% 100% of 90% of Priority 80% of 70% of Priority Less than 60% a Rehabilitation Work at strategic main feeders Program - Monthly Technical Priority (A) & (A)& (B) work Priority (A) & (A)& (B) work of Priority (A) nodes - Percentage of loss Report (B) work completed (B) work completed &(B) work priority (A) and (B) completed completed completed 3 rehabilitation work a _completed. CD -D coc

85 6 Electronic Geographical Geographical Mapping Geographical Mapping Data 5% Electronic Electronic Electronic Electronic Electronic _ Mapping of the SELCo of SELCo Concession Base. Plotted Maps of Mapping Mapping 90% Mapping 80%/ Mapping 70% Mapping 60% > Power Distribution Territory - Detailed municipal Networks. Interface 100% Completed Completed Completed Completed g c Network (GIS) Mapping of Municipal with Client Data Base. Completed f a as Networks w 7 Efficient Materials Efficient materials Purchase Orders, Suppliers 5% 80% of SELCo 65% of SELCo 60% of SELCo 55% of SELCo Less than 50% - o Procurement, Receiving, procurement planning, Invoices, Material Receiving Rehab Rehab Rehab Rehab Materials of SELCo X Custom Clearance, control of materials Slips, Warehouses Delivery Materials Materials Materials Budget received Rehab Warehousing and Cost dispatching and use by Records, Project Management Budget Budget Budget Materials R Accounting field rehabilitation teams and Accounting Records received received received Budget a received 8 On the Job Training of Systematic "on the Job" Accounting Department - 15% 80% of SELCo 70% of SELCo 60% of SELCo 50% of SELCo Less than 40% SELCo Employees training of SELCo Secretarial Work - E Mail - Personnel Personnel Personnel Personnel of SELCo within MC employees Client Services and Relation - Trained Trained Trained Trained Personnel Administrative Services Project Management - Trained Network Maintenance - Materials Procurement - Monthly Performance Report Writing 9 SELCO Data Processing Qualified Data Degree of direct participation 10% Efficient and Superficial but Participation SELCo Team as No Department Created and Processing Personnel of the SELCo Data Processing productive productive of SELCo observers only participation Staffed Hired and Integrated Team for the development of SELCo Team SELCo Team Team as on the of SELCo within management new computerized Participation Participation Job Training Team systems design and management systems development teams 10 New computer Computer installed at Accuracy of SELCo General 5% General General General General General operational SELCo Head Quarter Accounting Accounting Accounting Accounting Accounting Accounting and SELCo General Transferred in Transferred in Transferred in Transferred in Transferred in Accounting performed July 2000 August 2000 September October 2000 November by SELCo Accounting Personnel E ; :.- ~~~~~~~~~~~~# (.,,.. n 11 Review and discussion of Detailed Progress Report Detailed Progress Report 5% Report Report Report Report produced Report r "End of Phase 111" - Summary of produced produced produced within 26.5 produced j3 Progress Report with the Cumulative Project within 25 within 25.5 within 26 months after within 27 ESIMP Steering Costs - Identification of months after months after months after ESIMP Start up months after Committee. critical project ESIMP Start ESIMP Start up ESIMP Start Date ESIMP Start E implementation up Date Date up Date up Date X idifficulties. IID TOTAL FOR PHASE III 100% COMPOSITE PERFORMANCE SCORE FOR PHASE 111 CD PERFORMANCE INCENTIVE COMPENSATION FOR PHASE 11f ad Maximum Possible Compensation for Phase 11i US$150,000 0-a m_y Ci

86 0 -u 4. Performance Criteria for Phase IV (month 25 to 36) > PERFORMANCE CRITERIA FOR CONTRACT IMPLEMENTATION PHASE [V w i. (Months 25 to 36 into the project) X Number{A]Ialready electrified Client Data Base of 20% All Not applicable 80% ofwb 70 of small Less ta 0 IIncreaiseTotal of Active Customers SWB Municipalities are SELCo Customers and Municipalities Small municipalities of small now full shareholders o clients billing report excluding Municipalities Municipalities SELCo Hebron 2 Reduction of Account Efficient performance Summary Monthly Client 20% Account Account Account Account Account Receivables of the SELCo account Billing Report and Receivable at Receivable at Receivable at Receivable at Receivable at receivable department Summary Monthly 2.0 months of 2.5 months of 3.0 months of 3.5 months of more than 3.5 Clients Account billing billing billing billing months of 3 Increase in the average Increase in tariff to Receivable Report I _billing Monthly Client Billing 10% 20% net return 15% net return 10% net return 5% net return Less than 5% net return per kwh ensure long term and Monthly Financial on investment on investment on investment on investment net return on sold financial viability of Statements investment SELCo with fltll debt service 4 Network All SELCo network Network Rehabilitation 20% Completed by Completed by Completed by Completed by Completed by m Rehabilitation Work rehabilitation work Program April 2002 June 2002 August 2002 October 2002 December 2002 A for Original SELCo (Priority(A), (B)& c Shareholders is (C)) is completed Completed _ 5 ESIMP Budget for the Request for ESIMP Justification for ESIMP 5% ESIMP Phase I] ESIMP Phase 11 ESIMP Phase 11 ESIMP Phase 11 ESIMP Phase 11 Rehabilitation of the Phase 11 Funds has been Phase 11 Request Request Request Request Request Other Small issued and approved Approved by Approved by Approved by Approved by Approved by Munieipalities not July 2002 August 2002 September 2002 October 2002 November 2002 RP Original Shareholders of SELCo has beena 100% used. And supplementary request Q for Funds to complete 3 the Rehabifitation has CD _bten issuedr 3C co

87 on j 6 New Client Billing and New system installed Proper functioning of the 10% Operational at Operational at Operational at Operational at Operational at Collection System and operational - system SELCo by SELCo by SELCo by SELCo by SELCo by SELCo Personnel September October 2001 November 2001 December 2001 January 2002 trained on how to 2001 x efficiently use it _ 3 7 New Client Interface New system installed Proper functioning of the 10% Operational at onal at nal at Operational at Operational at Operational at Telecommunication and operational - system SELCo by SELCo by SELCo by SELCo by SELCo by 53 System and Work SELCo Personnel October 2002 November 2002 December 2002 January 2003 February 2003 Order Dispatching trained on how to System efficiently use it 8 Review and discussion Detailed Progress Detailed Progress Report - 5% Report Report produced Report Report Report produce of "End of Phase IV" Report - Summary of Overall ESIMP produced within 37.5 produced produced within 39 Progress Report with Cumulative Project Implemented Within within 37 months after within38 within 38.5 months after the ESIMP Steering Costs - Identification of Original Budgetary months after ESIMP Start up months after months after ESIMP Start up Committee. critical project Constraints for the SELC ESIMP Start up Date ESIMP Start up ESIMP Start up Date implementation Component Date Date Date difficulties. II_ I.I I I _ TOTAL FOR PHASE 100% COMPOSITE PERFORMANCE SCORE FOR PHASE IV PERFORMAN4CE INCENTIVE COMPENSATION FOR PHASE IVI ** Maximum Possible Compensation for Phase piv US$150,000 l M CD( 0) CD Q. a m0, CD C-o 00 a

88 Project Appraisal Document Page 84 Annex 8 Project Processing Budget and Schedule A. Project Budget (US$000) Planned ActualI (at fmal Project Concept Document stage) as of 6/30/99 B. Project Schedule Planned Actual (at final Project Concept Document stage) Elapsed time taken to prepare the project (months) First IDA mission (preparation) 11/20/ /20/1995 Appraisal mission departure 05/ /06/1997 Negotiations 07/ /30/1999 Planned date of effectiveness 01/ /01/1999 Prepared by: Preparation assistance: Palestinian Energy Authority /JDECo, European Investment Bank, Italian cooperation, and IDA Technical Assistance Trust Fund (TATF) Municipal Infrastructure Development Project (MIDP) team Staff who worked on the project: PEA Team: Dr. Omar Kittaneh, Director General, PEA Eng Zafer Mihem,,Director of Planning & Research, PEA Eng. Hisham Omari, Networks Division, JDECo Eng. S. M. Abu Rabi, Manager Electric Department, Hebron IDA Team: Rama Skelton, Task Team Leader (MNSID) H. Gruss, Chief Counsel (LEGMN) Etienne Linard, Regional Procurement Advisor (MNAVP) Hadi Abushakra, Counsel (LEGMN) Ayman Abu-Haija, Financial Management Specialist (MNSID) Samuel Fankhauser, Economist (MNSID) Mangesh Hoskote Sr. Power Sector Specialist (EMTEG) Rene Mendonca, Sr. Power Engineer (MNSID) Judith Press, Sr. Private Sector Development Specialist (MNSPF) Brigitte Prophete, Team Assistant (MNSID) Keith Rennie, Social Scientist (MNSED) Virhen Shirohi, Environmental Specialist (EMTEN) Prajapati Trivedi Sr. Private Sector Specialist (PSDPS / NCTI) M. Heitner, Peer Reviewer (SASEG) Jamal Saghir, Peer Reviewer (MNSID) Yves Albouy, Peer Reviewer (EMTEG) EIB Team: Mr. Alberto Barragan Mr. Kurt Simonsen Mr. Patrick Walsh Italian Cooperation Team: Giancarlo, Palma Eng. Ministry of Foreign Affairs Dr. Enric Mollica, Ministry of Foreign Affairs Consultants/Advisors to the PEA: Mr. Raja Shedadeh (Lawyer), Alain Godeau (Institutional Development Specialist); Panos Vlahakis (Power Engineer); Sati Achath (Financial Analyst)- Palestine Social Scientists Network (social survey). Actual project preparation activities undertaken covered sector work for the entire WBG and facilitated mobilization of approx. US$60 million in donor funding for regions outside of the ESIMP. Working with the PEA and cofinanciers, scope of project at original PCD stage retargeted to central and southern regions of the WBG, with key elements of institutional reforms put in place prior to Board presentation.

89 Project Appraisal Document Page 85 Introduction Annex 9 Socioeconomic Issues Project preparation included two socioeconomic inputs (in project files): the technical report and the rapid survey. (a) (b) A substantial technical report prepared in 1996 by an international consulting firm synthesized available scattered socioeconomic informnation on the energy sector, including electricity. It surveyed the institutional framework, the economic and planning framework, demographic trends, and the residential sector, based mainly on data collected between 1992 and Its primary purpose was to complement the institutional and regulatory study with socioeconomic information that would serve as a basis for demand projections. A diagnostic socioeconomic survey, undertaken by a team of three Palestinian sociologists in respect to the West Bank and Arab Jerusalem, was completed in June The team updated and analyzed key socioeconomic indicators on the basis of the October 1997 census and other documents, conducted interviews with some key stakeholders, and undertook a rapid focused field investigation of 110 households focusing on consumer-related issues in Bethlehem, Hebron, Jericho, Ramallah, and six localities in the southern West Bank. The survey clarified certain stakeholder issues, benefits, risks, and matters related to the ultimate beneficiaries (consumers). Its primary purpose was to serve as a basis for the explicit incorporation of socioeconomic issues into project design and implementation. These two inputs provided a sufficient basis to identify the project's major socioeconomic aspects. Despite the broad scope of the first study (energy in general, inclusion of Gaza) and the tight time constraints of the second, the key areas for ongoing process of socioeconomic inputs into the project have been defined and will be carried out during implementation. This future work will include additional investigations, analysis, and incorporation of social concerns into the institutional mandates and procedural documentation of the project, as well as monitoring and establishment of indicators. This annex summarizes the rationale, potential benefits, and outcomes of incorporating socioeconomic monitoring and analysis into the project on an ongoing basis. Household demand In 1996 (the latest year with detailed information available), households accounted for 80 percent of electricity consumption in WBG; most of this electricity was imported. Table 1: Energy Consumption, Usage and Importation by West Bank Region (1996) l l ~ % % % 69% ~~ % % % 110% l ~~~ % % % 43% % % % 73% Source: Derived from PCBS, Energy Consumption in the Palestinian Territories, Annual Report, 1996, tables 2,6, 8 and 18.

90 Project Appraisal Document Page 86 The vast majority (97 percent) of housing units are houses and apartments (other possible residential classifications are villa, tent, marginal, and other). Family ownership is high: families own 93 percent of the villas they occupy, 86 percent of houses, and 64 percent of apartments. The level of electricity grid connections is also high-99 percent of villas, 93 percent of houses, and 98 percent of apartments. This figure drops sharply for the poorest strata of the population. Of the single rented or leased rooms counted as housing units, 25 percent had no supply connections. Table 2: Access to Electricity by Type of Residential Unit (late 1997) Calculated from: PNA, PCBS, Census Final Results-Summary, November 30, 1998, Table 26. There are poor localities where there is little or no access to supply; these include at least five locations in the Jerusalem governorate, a large number of small localities comprising more than a thousand housing units in the Hebron area, two significant localities in Jericho, three in Bethlehem, and two in the Ramallah- Beira area. There are also sharp differences in the localities' access to electricity. The socioeconomic analysis strongly supports the project's strategic approach of concentrating first on improving efficiency, quality of supply, management, and cost recovery, in order to create a sound basis for future extension to unserved areas. able 3: Central Area: Selected Socioeconomic Variables (late 1997) ilililggo o~~~~~~~~~~~~~~6 4% 2% 48%lS

91 Project Appraisal Document Page 87 Table 4: Southern Area: Selected Socioeconomic Variables (late 1997) Calculated from PCBS data (unpublished). Households use electricity for lighting and to operate domestic electric appliances; while for cooking and domestic heating, other sources of energy are still more common. Consumption per household is still very low. In Israel, the per capita consumption of electricity is about 8,000 kwh (1994). In WBG, per capita consumption is about 1,140 kwh, and 660 for household use. Yet the rise in domestic potential demand is substantial. In 1994, automatic washing machines were owned by 34 percent of households in West Bank, 92 percent in Arab Jerusalem, and 17 percent in camps. The 1997 census showed a huge increase: 63 percent in the poorer southern governorates, 80 percent in Jerusalem, 75 percent in Ramallah-Beira, 73 percent in Bethlehem, and 65 percent in Jericho. The predominant household demand is for quality of supply. In the household survey, the field researchers were received with enthusiasm, with respondents expressing a desire to be heard on the issue of electricity, which they felt had not been the subject of sufficient public discussion. The great majority of respondents (83 percent) said that electricity services in their area need to be improved, with the highest percentage in the Hebron area. However, half of them felt that the cost of obtaining a supply connection or permit is too high, and a third found it difficult to obtain a connection. Satisfaction with the promptness of maintenance and repairs was expressed by only 55 percent. More than a third of respondents thought that the quality of electricity services was bad or very bad, and more than a quarter said they require more power. Altogether, just under half felt that electricity was a problem, and just over half (52 percent) had no problem. The majority of respondents (84 percent) believed that better electricity services would have a positive impact on the situation of women. Industry and commerce The example of one company in Hebron illustrates the general principle that increasing demand for quantity and quality comes also from industry, and that potential benefits to the economy couild be considerable. This company, established in 1994, currently employs 65 people and plans to expand. Its automated production system requires electric power for 80 percent of its energy needs. Yet municipal power is expensive and unreliable. The manager is acutely aware that improvement of services would greatly benefit both the neighborhood (reducing the need for a noisy backup generator) and the efficiency and cost-effectiveness of his enterprise. This industry has a keen interest in the price of power not increasing. In general, industry and commerce are a growing sector that would like to be not mere passive

92 Project Appraisal Document Page 88 consumers, but to interact with distribution utilities that will, in turn, make an effort to understand and respond to their needs. Ability and willingness to pay The proportion of household budgets going to electricity supply appears to be modest. A small household (one to three persons) pays just over 10 percent of its per capita expenditure on housing, which includes electricity, gas, water, and rent or estimated rent value for owner-occupied dwellings (1997 census). This falls to 7 percent for an average household of six to seven persons, and to 5 percent for households of ten or more. More than half the respondents considered that the cost of electricity was high. Nobody considered electricity to be inexpensive. However, this appears to be primarily a quality of supply issue, as a small majority of respondents (52 percent) would be willing to tolerate a modest increase, and nearly three quarters (74 percent) would be willing to help bear the extra cost if services were improved. Willingness to pay has been, in the recent past, primarily a political issue. The proportion of people not paying decreased dramatically after the establishment of the Palestinian Authority, when people realized that now their money would be used to pay local salaries and to fulfill the agreements for importation. In addition, the authorities have been using a variety of means to enforce payment, including police and security forces and disconnections. Mechanisms have existed for the relief of the very poor or families of prisoners (e.g., free supplies in Hebron for indigent families identified by the social protection services). Non-payment is now more an institutional than a political problem and varies from one area to another. Consumer issues Domestic and industrial consumers tend to see electricity supply services as remote and unresponsive. There is a risk that negative attitudes might increase with the amalgamation and privatization of services. Consumers could tolerate some increase in prices, but these should be introduced very judiciously and in return for visible and prior or immediately achieved improvements in service. The utilities would gain through reduction of losses (technical and non-technical) and through a rise in revenues from increasing consumption. Stakeholder issues The brief stakeholder investigations conducted in June 1999 covered a range of interests, including the municipalities concerned. A detailed exposition of the findings is not necessary here, other than to note that the project needs to make explicit provision to mitigate stakeholder risks. These risks arise from: (a) the institutional context, where a historically important source of municipal revenues is to be restructured into specialized distribution agencies; (b) the political context, where there is a legacy of past conflict with suppliers; and (c) the project preparation process, where all key stakeholders need to feel they have been consulted. Given that municipalities have in the past used electricity revenues as a system of indirect taxation to crosssubsidize other services, the indirect effects of changing sources and patterns of municipal revenues on services to the community should be carefully monitored and mitigated. In particular, care should be taken to ensure the continuity of health and education services in poorer communities. The capacity to manage and reconcile divergent stakeholder interests will be a major challenge for the PEA as the main policymaking body of the sector. Development of this capacity should be integrated into the explicit objectives of the PEA and the PIU.

93 Project Appraisal Document Page 89 Recommendations Stakeholder risks should be mitigated through mechanisms to ensure explicit consideration of consumer and stakeholder issues. This could be done in five main ways: (a) (b) (c) (d) (e) (f) Build into PEA's mandate the explicit requirement to ensure consumer protection, including: pricing policies that protect the interests of the poor and the extremely poor; the need to give priority to certain key social services (e.g., schools and clinics); monitoring the safety and environmental conditions of families living adjacent to local industries in respect to supply installations; Integrate into the management capacity building of the distribution utilities a consumeroriented (household and industrial/commercial) approach, including consumer education, training of managers, and institutional provisions for customer services, and ensure that this approach is reflected in the management agreements; Include in the PIU the capacity and mandate to access national socioeconomic professional expertise for training, baseline surveys, monitoring and evaluation; and for monitoring potentially delicate aspects of stakeholder interaction; Include in the project implementation plan provision to map the supply requirements of industries; Include in PEA and in the PIU the professional capacity to analyze, monitor, and manage divergent stakeholder interests; Include in the project implementation plan a provision to assess institutional and stakeholder aspects of the project and to evaluate, at midterm review, the extent to which capacity to deal with these aspects has been internalized in the beneficiary institutions.

94 Project Appraisal Document Page 90 Introduction Annex 10 Environmental Management Plan The development objective of the proposed project is to benefit electricity consumers, predominantly households, through sustainable improvements in the quality of electricity supply. This objective will be achieved through fundamental power sector institutional reforms (the policy components), implemented in parallel with reinforcement of the power system (the physical components). In particular, the project will: (a) (b) (c) Initiate restructuring of the power sector in accordance with the Palestinian Authority's (PA's) Letter of Power Sector Development Policy (Attachment). This will involve the corporatization and commercialization of two new entities: the Hebron Electric Power Company (HEPCo) and the Southern Electric Company (SELCo)-the latter taking over the electric utility operations of five small municipalities in the area; Strengthen the Palestinian Energy Authority's (PEA's) capacity to put in place power sector reforms and sector environmental regulations, and to establish an overall institutional basisbuilding on international best practices-for the sustainable operation of the power sector and the safeguarding of consumer interests; Reinforce the power system in the central and southern regions of the West Bank (areas A and B only), as the first step in the least-cost power system expansion plan aimed at the efficient and reliable provision of electricity. The physical component of the project mainly concerns the upgrading of existing distribution of 33 kv and lower-voltage facilities in the Hebron governorate and in the central region of the West Bank. Overall, some 85 low-voltage distribution transformers, rated from 250 kva to 630 kva, are to be replaced. With respect to the policy component of the project, one element will be to address environmental regulations insofar as these affects the electricity sector in the WBG. A diagnostic assessment has been done by the international consulting firm IVO International Ltd. Based on this preliminary work, PEA, in coordination with the Ministry of Environmental Affairs (MEA), would develop the policy guidelines/regulations for the power sector. This work, including training in use of these guidelines, would be done with the assistance of international consultants (US$200,000 has been allocated for this purpose). Environmental issues Transformer insulating oils. The project implementation unit (PIU) has confirmed, via a series of random tests as well as via the insulating oil manufacturers' specifications that PCBs are not now and have never been used in the transformers that are being replaced. In addition, maintenance records going back more than 25 years for all transformers indicate that the oil present in these transformers does not contain PCBs. It has been verified that the suppliers' (Shell) insulating oil used does not contain any PCBs and that this is the insulating oil that has been used by the maintenance workshop that has overhauled all the transformers for at least the last 25 years. One of the major suppliers (covering over 50 percent of the transformers) has also provided a certificate that it has never used PCBs in its transformers. Also, additional testing covering transformers from the other supplier was carried out in a professional laboratory in Israel and has further confirmed that PCBs are not present in the transformers that are being replaced. Nonetheless, and to further ensure that no PCB's are present, the PIU will monitor the replacement of transformers with appropriate testing and corrective action, where needed (US$5,000-has been set aside for further testing prior to the ultimate disposal of units to be scrapped). The rehabilitation works contract documents will also have specific language to address this issue. In the unlikely event that PCBs are found present, then these will be disposed of in accordance with the IFC Environmental Health and Safety guidelines for PCBs as issued in July, 1998.

95 Project Appraisal Document Page 91 Electdc Sector Investment and Management Project (ESIMP) Other environmental issues. The rehabilitated power distribution lines are not associated with material electromagnetic field impacts, since they are not extra-high voltage transmission lines (i.e., above 240 kilovolts) but involve sub-transmission distribution voltages at 33 kv or lower. Standard designs employed for overhead lines have been configured to provide safety to people and animals, including birds. There are no works associated with power stations and/or new substations and no green-field sites are involved. Hence, there are no rights-of-way, resettlement, or land acquisition issues involved. The distribution substations included in the project are within existing locations in urban areas and do not have any incremental impact on vegetation and other aspects of environment. Noise from the distribution lines also would not have any significant impact on nearby residents. Needfor a policy and regulatory framework to address environmental issues within the energy sector in the WBG. A diagnostic review of energy sector regulation was conducted by IVO International and completed in August 1996 as part of the project preparation activities (see report in project file). A main conclusion of the IVO review was that the most urgent action required is to develop environmental regulatory guidelines for the WBG. Items to be addressed with respect to this regulatory framework include developing administrative capacity for environmental issues, enforcement, creation of a waste management system, enactment of regulations on air and water protection, and the need to create an environmental licensing system. Specifically, these new regulations would need to address various energy sector projects to be developed in the future: power plants, transmission lines, fuel storage, fuel pipelines, oil refineries. A key item would be to develop appropriate procedures for environmental impact assessments (EIAs). The ESIMP therefore has provided for the funding of expert consultancy services to develop environmental policy guidelines and regulations, focussing on the power sector as a first instance. The required in-depth studies to develop appropriate environmental policy guidelines and regulations would be undertaken by the PEA in coordination with MEA and training would be provided in use of these guidelines and regulations. Detailed terms of reference need to be agreed at project launch mission. Mitigation Measures The Environment Management Plan (EMP) identifies feasible and cost-effective measures that will reduce potentially significant adverse environmental impacts to acceptable levels. I 1. Guidelines: As a first step, International Finance Corporation's (IFC) Environmental Health and Safety Guidelines for Electric Power Transmission and Distribution, published July 1, (see project file), as well as in the Project Implementation Plan, will be followed and suitable implementation arrangements made by the PIU. This will include: (a) Collecting additional details on the existing distribution system (e.g., area served, km of lines, number and types of substations, types of materials used, number of shops and types of work performed at each); (b) Following applicable public disclosure procedures including publication of the EMP to facilitate awareness of local stakeholders; and (c) Quantifying each major type of waste (used oil, etc.), and following acceptable 'waste management methods described in this plan for recycling, storage, transport, handling, treatment, and disposal. B. The summary Table for Mitigation Measures: Table I summarizes the mitigation measures which will be implemented by the PIU. These include recycling of wires, wooden poles, and other salvageable materials. Used oil will be recycled, according to international best practice. General solid waste will be disposed of in a well-designed municipal landfill. Noise and dust will be maintained at acceptable levels and will comply with the World Bank Group's Environmental Guidelines.

96 Project Appraisal Document Page 92 Monitoring Environmental monitoring during project implementation will be conducted at least once a month to provide information about key environmental aspects of the project, particularly the environmental impacts associated with the works stage of implementation and the effectiveness of the mitigation measures (refer to Table 2). The IFC Guidelines provide guidance on parameters to be monitored. Such information will allow evaluation of the success of the mitigation measures as part of project supervision, and allow corrective actions to be taken if, as, and when needed. The Resident Mission will report, at least once every 6 months, the results of its supervision and project monitoring, including information on progress made in implementing the mitigation measures identified in Table 1. Capacity Development and Training To support timely and effective implementation of environmental components of the project and the impact mitigation measures, the EMP will draw on the existing capability of environmental units on site, implementing agencies, and at the Palestinian Energy Authority level. An adequate budget has been provided. Training of technicians and environmental staff will also be provided (refer to Table 3). Specific institutional arrangements -- who is responsible for carrying out the mitigation and monitoring measures (e.g., for operation, supervision, enforcement, monitoring of implementation, remedial action, financing, reporting, and staff training) are being worked out by the PIU. The PIU will strengthen the environmental management capability through (a) technical assistance programs and (b) procurement of equipment and supplies. IFC's Guidelines will be used as a guide for designing such training programs. The PIU will appoint an Environment and Safety Officer (ESO) who will responsible for addressing all environmental issues and the budget assumes that the ESO will devote at least half of his or her time to environmental issues. Environmental Regulation and Training Based on this preliminary IVO diagnostic (par.lc above), PEA, in coordination with the Ministry of Environmental Affairs (MEA), would develop the policy guidelines/regulations for the power sector and, where necessary, prepare an environmental policy statement and training in the implementation of the new guidelines. This work would be done with the assistance of international consultants (US$200,000 has been allocated for this purpose)-(refer to Table 4). Implementation Schedule and Cost Estimates For mitigation, monitoring, and capacity development, the Project Implementation Plan will provide: (a) an implementation schedule for measures (refer to Table 5) that will be carried out as a part of the project, showing phasing and coordination of with overall project implementation plans; and (b) the cost estimates (refer to Table 6) and sources of funds for implementing the EMP. A budget for US$235,000 has been set aside for the implementation of EMP and has also been integrated into the total project cost tables. Integration of EMP with the ESIMP Operation Measures recommended by this document have been integrated into the project's overall planning, design, budget, and implementation so that the plan will receive funding and supervision along with other project components.

97 Table 1. Environmental Mitigation Plan Pb5se _sue _,.tin oti -, 0 s). utt a.. :_C.,,, (ouutg x" Decommissioning Waste oil Test & recycle after 6,000 Environment & Used oil is normally G) treatment Safety Officer (PIU) recycled Old transformers Recycle metals, send 5,000 Environment & Metals will be the rest to landfill Safety Officer (PIU) recycled Used poles Reuse/Dispose in 2,000 Environment & Poles will be reused landfill - Safety Officer (PIU) Scrap wire Recycle/Landfill 2,000 Environment & Scrap wire will be Safety Officer (PIU) reused Construction Dust Wetting of dusty 1,000 Environment & Acceptable areas/windbreakers, Safety Officer (PIU) increments of ambient where needed dust levels will be maintained Noise Use mufflers 1,000 Environment & Acceptable noise Safety Officer (PIU) levels (World Bank Operation Guidelines) will be maintained Electromagnetic field Low voltage, impacts 0 Environment & Acceptable EMF n minimal Safety Officer (PIU) levels will be maintained Noise Impacts are expected 0 Environment & Acceptable noise to be insignificant Safety Officer (PIU) levels (World Bank C Guidelines) will be Z Total 17,000. X maintained m CD _ CD C,c -~ŽcO -CD

98 -o Table 2. Environmental Monitoring Plan _ ay~~~~~~~~~~~~ 0 Decommissioning Waste oil disposal At disposal site Every lot Enioment & 1,200 _Safety Officer (PIU) Old transforlners At disposal site Every lot Environment & 100 (landfill) Safety Officer (PIU) Used poles At disposal site Every lot Environment & 100 (landfill) Safety Officer (PIU) ~~~~Scrap wire At disposal site Every lot Environment & 100 (landfill) Safety Officer (PIU) Construction Dust Construction site Quarterly Environment & 500 _Safety Officer (PIU) Noise and other Residential Quarterly Environment & 1,000 receptor sites Safety Officer (PIU) Operation Electromagnetic field Nearby residences Quarterly Environment & 1,000 Safety Officer (PIU) Noise Nearby residences Quarterly Environment & 1,000 Safety Officer (PIU) _ l _ l l T o tal 5,0 0 0 m 0Q pa

99 Project Appraisal Document Page 95 Table 3. Training Plan Decommissioning Environmental 2 days 1,000 crew management; health & safety Construction crew Environmental I day 1,000 management; health & safety Operations staff Environmental 1 day 1,000 management; health. & safety Total 3,000 Table 4. Environment Regulation PEA/MEA Environmental 4 months 150,000 - _ regulation _ PE AMEA Training I month 50,000 _ T otal 200,000 Table 5. Implementation Schedule Mitigation Project launch Project completion Project time Monitoring Project launch Project completion Project time Institutional Project launch Within 6 months Three weeks strengthening Environmental Project launch Within 1 year Four months regulation Table 6. Costs Mitigation 17,000 Monitoring 5,000 Institutional 33,000 strengthening_ Environmental 200,000 regulation Environment & 10,000 Safety Officer Salary Total 235,000

100 Project Appraisal Document Page 9 6 Country. West Bank and Gaza Eletric Srctor Investment and Management Project (ESIMP) Annex 11 A. Statement of Bank Loans and IDA Credits (As of 12-Jul-99) I.!!trence Bet.een o.pected Cr;qiral Aronct ir. US$ Y:llions a-d actual Fiscal d4sibusss.e:s a/?:0ject ID Year 3coroeP:urpose pusbe: of Closed ProjeCts: 3 A0tive ProjeCts :3R3 IDA Cancel. Und-4is. Orig r- Rev' d oz-sf :999 PLO FOR 9D.7FIT or PALEST BETHLEIUD G2-Sr-5B664 :999 PLO FOR THE aere:7 OF.- C D-,. :: C :.sa 0.00 G:-SF-405C GOvERb7I.5T GAZA INDUSTR.A EST. 1: WAELFA.E AS-0AT:Cl PA0.Es;1' bgo PR. I;.S' C GZ-SF PLO IFOR asenrlt OF.A ZS WA0 285h06.S!RV./GA A GZ-5F-4333a I997 PALME00100A2J AUTH^:-Y NMWSIOG J g C-Z-SE CROETERMrSES-:rt GZ-SF PECDAR COMUN7IW D.r.LCE?T GZ-ST-.411; ;9g7 LEO.L OVELOPYMOOT S o.00 Gz-SF :991 PALEST0r1A01 AUTY0CRIY PAL.?AT.PROF.0O0RArM ; GZ-Sr PLO/ PA.E ST'bhIIAN ;=0R0TY 84091CI?AL DEV O.00 GZ-Sr PECOAR EDUC. *E:r' 0L.R_-Ad 4;.t C [0.74.otal 2: h.oti,e Prolects C!:sed Projects Total,oc.a DiOoursb d ilsr, and IDA): of ahich has been repazd: Total no- held by :3RD and IDA: 2: :0.01 Amount sold o:.lch repa'd : Totai Urdisb..sed: a. Intended disbursements to date mir.:s actual disbursemen:s to date as projected at appraisal. Note: Disbursement data is updated at the end Of the first Iaeek of the month and is currently as of 30-Jun-99. B. Statement Of IFC's Committed and Disbursed Portfolio As of 3 1-May-99 (In US Dollar Millions) Commined Disbursed IFC IFC FY Approval Company Loan Equity Quasi Partic Loan Equity Quasi Partic 1994 APIB Arab Bank CornBank Palestin Jordan National PIECO S SEF Arab Conctet SEFNabahin PTF PTF-Mgt Co SEF Al-Ayyam SEF Pharwmaare Al PTIC SEF Cold Storage SEFJerichoMotel Total Portfolio: ;.SS Approvals Pending Commitment - ~~~~~Loan Equitn Quasi Partic 1994 APIB PMHC Total Ptnding Commitment:

101 Project Appraisal Oocument Page 97 Country. West Bank and Gaza Electric Sector Investmtent and Managerent Project (ESIMP) Annex 12 West Bank and Gaza at a Glance West M. East Lowv- POVERTY and SOCIAL Bank & North middle. & Gaza Africa income Development diamoncr 1997 Population. mid-year (millions) Uile expe=ancy GNP per capita (Atlas method. USS) t230 GNP (Atlas method, USS billions) ,818 Average annual growth, Population (%) GNP Laborforce GN p3 Gross per - pri-rny Most recent estimate (latest year available, 1S91.97) capita enrollment Poverty (% otpopulation below naional poventy line) 24 Urban populaion (% of total population) Life expectancy at birth (years) i Infant mortality (per 1000 live births) Child nwnutrition (% of children under 5).... Aeess to safe water Access to safe water (% of population) Illiteracy (% ofpopufation age 15+) Gross primary enrollment (% ofschool-age population) i West Bank and Gaza Male Lower-middil-ncome grup Femaie L KEY ECONOMIC RATIOS and LONG-TERM TRENDS GOP (USS biltions) Economic moos Gross domestic investment/gdp Expons of goods and servicelgop Trade Gross domestc savingslgop Gross national savingslgop Z.S Cum nt account balabnregdp Domestc Interest paymenwgdp Savings Investment Total debtugdp.. Savin Total debt servi e/exports.. Present value of debt/gdp.. Present value of debtlexports.. Indebtecness (verage annual growth) GDP West Bank aid Gaza GNP per capita Lower-middtancome group Fxport of goods and services Z STRUCTURE of the ECONOMY (% of GDP) I Gnwthn tet ofoutput nmd Ivestment(%)! 30 - Agriculture Industry : Constnrction Services Pivate consumpton io 2 General government consumption G0 a GOP Imports of goods and services Grwth mates ofexpomta u,lnports () (average annual growth) Agrculture ^. Manufactunng Construction Private services Public services r Private consumption *Io General govermentr consumption Gross domesticinvestmeqft tmportsofgoodsandservices Expons : o s Gross national product Note: 1997 data are prefiminary estimates. The diamtonds show tour key indicators the country (in bold) compared with its income-grouo average. If data are missing, the diamond vilt be incomplete.

102 Project Appraisal Document Page 98 Country West Bank and Gaza PRICES and GOVERNMENT FINANCE Infaton /.) Domestic prices (% change) 30 - Consumer prices Implicit GDP deflator Govemment finance (% of GDP, includes cun-ent grants) i Currentrevenue es 9f 97 Current budget balance _1A - GDP deiator - -- CPl Overall surplus/deficit -0.9 TRADE (US5 millions) t985 19S5 t i Export and Import levels (US$ millions) Total exports (fob) soo n.a..i n.a Manufactures.... 5s0 Total imports (ci) 668 1,784 2,123 Food Fuelxand energy.5)..., o 0050U Capital goods S ss 97 Export price index (1995=100) 9. Import price index (1995=100)... * a. Exports Elnports Terms of trade (1995=100).... _.._.._ BALANCE of PAYMENTS (US$Smillions) Current account balance to GOP ratio t Exports of goods and services Imports of goods and services 750 2,014 2, i D 4 Resource balance , Net income '. N;et current transfers i5s. 1 Current account balance Financing items (net) Changes in net reserves Mfemo: Required reserves with PMA (USS millions) Conversion rate (DEC, locaw/uss) EXTERNAL DEBT and RESOURCE FLOWS (US$ millions) Total debt outstanding and disbursed.- IBRD IDA Total debt service.. l8rd IDA Ccmposition of net resource flows Official grants Official creditors 'rivate creditors..... F:oreign direct investment.. FPortfolio equity.. World Bank program Commitments Disbursements Princpal repayments Net flows Interest payments,, Net transfers World Bank Resident Mission: West Bank and Gaza 1tol3198

103 Project Appraisal Document Page 99 Annex 13 Documents in the Project File' Project Implementation Plan 1. West Bank & Gaza,, Project Implementation Plan, July 12, ESIMP Environmental Management Plan, JDECo, July 12, 1999 Bank Staff Assessments 1. Economic Analysis* 2. Financial Model for Southern Electric Company* 3. Financial Model for JDECo 4. Financial Model for HEPCo 5. LACI Financial Management System Assessment and Action Plan* 6. Consultant Terms of Reference for Stage I Rapid Social Assessment 7. Bank Assessment: Socioeconomic Issues Other 1. Audited Financial Statements , JDECo 2. Memorandum of Understanding among PEA, NORAD and the Bank on Cooperation in Power Sector Assistance (June 1997) 3. Memorandum of Understanding between the municipalities of the southern West Bank, and PEA on the creation of the Southern Electric Company (July) 4. Signed Letter of Sector Policy of the Palestinian Authority 5. Draft Contract for the Southern Electric Utility management assistance 6. Terms of Reference for consulting services for the creation of SELCo 7. Sample Terms of Reference for the project management consultancy (system rehabilitation and expansion) 8. Generation, Transmission and Distribution Master Plan and Emergency Assistance Project for WBG by Rust, Kennedy and Donkin (1995): Volume I: Load Forecast * Methodology * Existing System * Load Forecast; Gaza, West Bank Volume II: Generation Master Plan * Planning assumptions * Generation Planning in the Gaza Strip * Generation Planning in the West Bank * Technical Annex: > Economic Parameters > Shadow Wage Rates )0 Long-run Marginal Costs/Loss of Load/Consumer Surplus Volume III: Assessing the Viability of Relocating the Shufat Power Station Volume IV: Emergency Works * Description of System * Measurement Philosophy * Assessment of System * Including electronic files.

104 Project Appraisal Document Page 100 Electnc Sector Investment and Management Proect (ESIMP) * Proposed Emergency Works/Budgetary Cost Estimates; Volume V: Transmission Master Plan * Generation and Distribution Master Plans * Outline of Transmission Planning * Detailed Transmission Planning * System Design > Economic Analysis > Load Flow Analysis > Fault Level Analysis > Stability Analysis Volume VI: Loss Reduction * Loss Assessment Methodology * Loss Assessment for Central West Bank * Loss Assessment for Southern West Bank * Reconciliation of Losses for Complete System * Loss Reduction Measures Philosophy * Non-technical Losses * Conclusions and Recommendations Volume VII: Distribution Master Plan * Design Philosophy and Methodology * Long-term System Development for Gaza * Long-term System Development for the Northern West Bank * Long-term System Development for the Central West Bank * Long-term System Development for the Southern West Bank * System Integration * Low Voltage System Development * Fault Levels * Protection and Control * Conclusions and Recommendations 9. Energy Sector Institutional and Regulatory Institutional Development Study by IVO International (Four Part Report, 1996): Part I: Policy, Strategy and the Society and Economy: * Energy Sector Policy and Strategy: Issues and Concerns * Socioeconomic Background of Energy Sector Development Part II: Fuel and Power Sector Status, Plans and Prospects * Palestinian Fuel Supply Study * Review of Palestinian Power System Studies * Power System Control and Interconnection Study * Fuel and Power Market Study * Power Load Management in the Palestinian Power Systems * Fuel and Power Sector Information Management * Palestinian Electricity Pricing and Tariffs Part III: Energy Sector Organization and Financial Restructuring * Energy Sector Entities and Financial Restructuring Part IV: Energy Sector Legislation and Regulation * Palestinian Energy Sector Legal Structure and Content * Power Sector Business Regulation * Energy Sector Environmental Regulation > Main Environmental Issues in the WBG > Present Environmental Regulation in the WBG

105 Project Appraisal Document Page 101 > Recommended Palestinian Energy Sector Environmental Regulation System > Environmental Protection Policies > Integrated Environmental Regulation > Land Use Planning and Control > Water Protection > Air Protection > Waste Management > Chemicals * Law Models for Developing Energy Legislation 10. Performance-based Management Contract (model) 11. Environmental, Health and Safety Guidelines for Electric Power Transmission and Distribution, published by the International Finance Corporation, July Environmental, Health and Safety Guidelines for PCBs as issued by the International Finance Corporation, July 1998

106 3s!00' 1&3 S 0lo 35s20' 35'30' WEST BANK AND GAZA ELECTRICITY SECTOR fill > INVESTMENT AND 3230' MANAGEMENT PROJECT.Yao0 0 PROPOSED PROJECT AREA {REHABILITATION AND REINFORCEMENT OF EXISTING 11 kv AND 33 kv Kof{nJ-. abad ' Jenin NETWORK F P nn Knffeen e..4 Ya'bud f {, EN- is - ~~~~~~~~~~~~11/33 kv OVERHEAD LINES E o F i o. _ -,_n ff ISRAELI ELECTRICITY COMPANY jj8 Qnbniln 161 gj kv tia LINES >> t! m S,9 J.2 E N N < JERUSALEM s > A DISTRICT ELECTRICITY COMPANY 11/33 kv SUBSTATIONS > d ISRAELI ELECTRICITY COMPANY ~~~~~~~~~~~~~161 kv 5UBSTATIONS - r %S S, 6 ;3220' -Xlulkorm wanopint 3. '~ BUILT-UP r itubas AREAS EtE'rkar25.' A o.bw. P ->,2 - ARMISTICE DEMARCATION LINES, 1949 'K M J~~~~~~~~~~~~~~kammiun [77NO-MAN'S LAND AREAS, -l - ARMISTICE DEMARCATION LINE, 1949 J Nablus w - r, JERUSALEM CITY UMIT, UNILATERALLY EXPANDED BY ISRAEL JUNE 1967; THEN ANNEXED JULY 30, 1980 _2 s ' < 9 5 > g < t +~~~~~~~~~ AIRPORT Qaiqitych -, ±~~~~~~~~~~~~~~~~~~~~~~~~~~ AIRFIELDS 3210' q taqla A L ' 5 B'a DISTRICT BOUNDARIES 32'10' 3210'- ~~~~~~~~~~~~~~' -- INTERNATIONAL EA )~ Q f -- 4VW E S T, o0 BOUNDARIES KILOMETERS AVI- M,A N I TOlO MI1 letmle $FO - S B AI-ed N Thn coop wot - p Pd-d by 6 t n op Led -- 'The b-odorieo, colo-s dn-io,ni-on -d -,y to6r,- 'hh r h o 4 n-,p- py pe p., oh. d Th. owono-k esign Unift o The Wo-ld B-ok. oo,noio International ; 'henno oo G-p, Al,pa,t -~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~oy jdgn-to- thenleg. lncooc -(oy t-nn0y, o, -ny -d--sne 3200' 0 32'0'- ISRAEL R A 2S ) t / L NBi9obk f -,=ORDAN ( BANK ' "pO0O" AMMn'AN ~~~J Mdb I~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ 5 5, IE h lon~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ moo To,nn,,ssW 1 JERUSA~~~~~~~~~~~~~~~~~~~~~~~~ EUA~'5~Mslb 31'40' / > /\ 1t td-,5 2 JeoichoMILE js5-0- ju :wit > -_*; j 31 40'EV\ soor i 4~~~~~~~~~~~~~~ 17~~~~~~~~~~~~~~~~~~~ 10 MILAFEOS 3100O' '- 34'300'0wI W ~ ~ ~~ ~ E ~~~~~~~~~~ E-rinc0,cy C. e ~- "ithahriah '~IKkon /~~~~~~~~~~ Y-s,n I S R A E L 3130' " ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ ARAB 'k <IMETERS C ) ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~, ~~~~~~~~~~~REP.OF\ o IE 3450' ~~~~~~35-To' 35; 10O' 35320' 3530 EGP '30' ' '20'-