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1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Document of The World Bank FOR OFFICIAL USE ONLY PROJECT APPRAISAL DOCUMENT FOR A Report No: PROPOSED GRANT FROM THE OZONE PROJECTS TRUST FUND FOR THE HYDROCHLOROFLUOROCARBON (HCFC) PHASE-OUT IN THE POLYURETHANE FOAM SECTOR PROJECT Indonesia Sustainable Development Unit Sustainable Development Department East Asia and Pacific Region IN THE AMOUNT OF US$ 2.71 MILLION TO THE REPUBLIC OF INDONESIA July 2, 2013 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization ID 1

2 CURRENCY EQUIVALENTS (Exchange Rate Effective April 30, 2013) Currency Unit = Indonesia Rupiah Rp 9723 = US$1 FISCAL YEAR January 1 December 31 ABBREVIATIONS AND ACRONYMS Acronyms CFC CO 2 CO 2 e CPS DA ExCom EMF EMP FM FTRA FTRP GA GHG GOI GWP HC HCFC HFC HPMP IA MDI MLF Chlorofluorocarbons Carbon dioxide Carbon dioxide equivalent Country Partnership Strategy Designated Account Executive Committee of the MLF Environmental Management Framework Environmental Management Plan Financial Management Foam Technology Replacement Agreement Foam Technology Replacement Proposal Grant Agreement (between Indonesia and the World Bank) Greenhouse Gas Government of Indonesia Global Warming Potential Hydrocarbon Hyrdochlorofluorocarbons Hydrofluorocarbon HCFC Phase-out Management Plan Implementing Agency Methylene Diphenyl Isocyanate Multilateral Fund for the Implementation of the Montreal Protocol MOE MOF MP MT NOU NPV ODP ODP tons ODS ORAF OP/BP ORAF PAD PDO PMA PMU POM PU TA TOR UNDP UNIDO Ministry of Environment Ministry of Finance Montreal Protocol on Substances that Deplete the Ozone Layer Metric Tons (of ODS) National Ozone Unit Net Present Value Ozone Depleting Potential ODS measured in ODP equivalent tons Ozone Depleting Substance Operational Risk Assessment Framework Operational / Business Policy Operational Risk Assessment Framework Project Appraisal Document Project Development Objective Project Management Assistant Project Management Unit Project Operations Manual Polyurethane Technical Assistance Terms of Reference United Nations Development Program United Nations Industrial Development Organization Regional Vice President: Country Director: Sector Director: Sector Managers: Task Team Leader: Axel von Trotsenburg, EAPVP Stefan G. Koeberle, EACIF John A. Roome, EASSD George Soraya (acting) (EASIS) Johannes Heister, EASER 2

3 INDONESIA HCFC Phase-out in the PU Foam Sector Project TABLE OF CONTENTS Page I. INTRODUCTION AND STRATEGIC CONTEXT...7 A. Country Context... 7 B. Sector and Institutional Context C. Higher Level Objectives to which the Project Contributes II. PROJECT DEVELOPMENT OBJECTIVES...14 A. Project Development Objective (PDO) B. Project Beneficiaries C. PDO Level Results Indicators III. PROJECT DESCRIPTION...15 A. Project Components B. Project Financing IV. IMPLEMENTATION...17 A. Institutional and Implementation Arrangements B. Results Monitoring and Reporting C. Sustainability V. Key Risks and Mitigation Measures...20 A. Risk Ratings Summary Table B. Overall Risk Rating Explanation VI. APPRAISAL SUMMARY...20 A. Economic and Financial Analyses B. Technical Analysis C. Financial Management D. Procurement E. Social (including safeguards) F. Environment (including safeguards) Annex 1: Results Framework and Monitoring...26 Annex 2: Detailed Project Description...27 Annex 3: Implementation Arrangements...34 Annex 4: Operational Risk Assessment Framework (ORAF)...41 Annex 5: Implementation Support Plan

4 ..... PAD DATA SHEET INDONESIA HCFC Phase-Out in the PU Foam Sector Project PROJECT APPRAISAL DOCUMENT EAST ASIA AND PACIFIC EASIS Basic Information Date: July 2, 2013 Sectors: Other industry (90%); Central government administration (10%) Country Director: Stefan G. Koeberle Themes: Pollution management and environmental health (50%); Environment policies and institutions (50%) Sector Manager/Director: George Soraya (acting) (EASIS) EA Category: B Project ID: Lending Instrument: Team Leader(s): P Specific Investment Loan (SIL) Johannes Heister Does the project include any CDD component? No Joint IFC: No Borrower: Republic of Indonesia Responsible Agency: Ministry of Environment Contact: Ms. Ir. Emma Rachmawaty MSc Title: Assistant Deputy Minister for Mitigation and Atmospheric Function Preservation, Ministry of Environment Telephone No.: Project Implementation Period: Start Date: June 1, 2013 End Date: December 31, 2015 Expected Effectiveness Date: July 15, 2013 Expected Closing Date: June 30, 2016 Project Financing Data(US$M) [ ] Loan [ X ] Grant [ ] Other [ ] Credit [ ] Guarantee For Loans/Credits/Others Total Project Cost : US$ 3.63 million Total Bank Financing: US$ 2.71 million (MLF grant) Total Co-financing: US$ 0.92 million Financing Gap : Financing Source Amount(US$M) BORROWER / BENEFICIARIES 0.92 IBRD 0.00 IDA: New 0.00 IDA: Recommitted 0.00 Others: Montreal Protocol Investment Fund 2.71 Financing Gap Total

5 Expected Disbursements (in USD Million) World Bank Fiscal Year FY 13 FY14 FY15 Annual Cumulative Project Development Objective(s) The Project Development Objective is to reduce the consumption of HCFC-141b in the foam sector in Indonesia in order to contribute to the government s effort to comply with Indonesia s HCFC phase-out obligations under the Montreal Protocol. Components Component Name Component 1: Investment in HCFC-141b Consumption Reductions in the PU Foam Sector Component 2: Technical Assistance and Policy Support Component 3: Project Management Cost (USD Millions) Compliance Policy Does the project depart from the CAS in content or in other significant respects? Yes [ ] No [X] 3.63 Does the project require any exceptions from Bank policies? Yes [ ] No [X] Have these been approved by Bank management? Yes [ ] No [X] Is approval for any policy exception sought from the Board? Yes [ ] No [X] Does the project meet the Regional criteria for readiness for implementation? Yes [X] No [ ] Safeguard Policies Triggered by the Project Yes No Environmental Assessment OP/BP 4.01 X Natural Habitats OP/BP 4.04 X Forests OP/BP 4.36 X Pest Management OP 4.09 X Physical Cultural Resources OP/BP 4.11 X Indigenous Peoples OP/BP 4.10 X Involuntary Resettlement OP/BP 4.12 X Safety of Dams OP/BP 4.37 X Projects on International Waters OP/BP 7.50 X Projects in Disputed Areas OP/BP 7.60 X Legal Covenants Name Recurrent Due Date Frequency (1) Technical consultant no 4 months after date of grant agreement Description of Covenant: The grant Recipient shall appoint a technical consultant with qualifications, experience, and terms of reference satisfactory to the Recipient and the World Bank. (2) Project Implementation Plan no Dec. 31, 2014 once Description of Covenant: The Recipient shall prepare a Project implementation plan for year 2015 and 2016 and obtain World Bank approval. (Note: the once 5

6 . plan for the period until Dec. 31, 2014 was prepared and approved during project preparation.) Team Composition Bank Staff Name Title Specialization Unit UPI Benardita Ledesma Operations Analyst Operations Analyst EASER Erik Pedersen Consultant Consultant EASER Viraj Vithoontien Sr. Environmental Specialist Team Member EASER Isono Sadoko Consultant Social Safeguard Specialist EASID Ahsan Ali Lead Procurement Specialist Lead Procurement Specialist EASR Daniel Sebayang Consultant Consultant EASIS Johannes Heister Sr. Environmental Specialist Task Team Leader EASER Retno Anna Widiana Team Assistant Team Assistant EASIF Seble Berhanu Legal Analyst Legal Analyst LEGES Ina Pranoto Sr. Environmental Specialist Co-TTL (Jakarta) EASIS Fnu Hanny Program Assistant Program Assistant EASER Marjorie Mpundu Senior Counsel Senior Counsel LEGES Enggar Prasetyaningsih Procurement Analyst Procurement Analyst EASR I Gusti Ngurah Wijaya Kusuma Financial Management Analyst Financial Management Analyst EASFM Kian Siong E T Consultant Env. Safeguard Specialist EASIS Name Title Office Phone City Locations Country Indonesia First Administrative Division National Ozone Unit of Ministry of Environment Location Planned Actual Comments Jakarta X X A tentative list of foam companies that are eligible for financing have been identified in the project document. 6

7 I. INTRODUCTION AND STRATEGIC CONTEXT 1. Hydrochlorofluorocarbons (HCFCs) are Ozone Depleting Substances (ODS), subject to consumption and production control measures of the Montreal Protocol on Substances that Deplete the Ozone Layer (MP). The MP requires gradual phase-out of HCFCs starting from 2013 and leading to a complete phase-out of HCFC consumption and production by 2030 for developing countries known as Article 5 countries. The HCFC Phase-out Project for the Foam Sector (the Project) will contribute to Indonesia s effort to meet its 2013 and 2015 MP obligations by addressing HCFC-141b consumption in the PU foam sector. 2. HCFCs were introduced as transitional substances to replace the wide use of chlorofluorocarbons (CFCs) that were phased out globally as of January 1, 2010 as required by the MP. HCFCs are used primarily as refrigerants in refrigeration and air-conditioning equipment and as blowing agents for producing PU foam. 3. In 2007, the Parties to the Protocol adopted Decision XIX/6, accelerating the HCFC consumption and production phase-out schedule for both developed and developing countries, with the latter being subject to a freeze on HCFC consumption and production as early as 2013 and complete phase-out by A major driver for the adjustment to the Protocol is that HCFCs are not only ODS with an ozone depleting potential (ODP), but also greenhouse gases (GHG) with a global warming potential (GWP) ranging from several hundred to several thousand times that of carbon dioxide (CO 2 ). As per Decision XIX/6 of the Parties to the MP, Parties are encouraged to promote the selection of alternatives to HCFCs that minimize environmental impact, in particular impact on climate, as well as meeting other safety, health standards and economical consideration. A. Country Context Table 1: ODP and GWP of CFCs and HCFCs HCFC ODP*) GWP**) Atmospheric life HCFC-141b year HCFC , year HCFC year HCFC year HCFC-142b , year Alternatives HFC-245fa year HFC-365mfc year Cyclo-pentane 0 25 days *) ODP values from the 2006 MP Handbook **) GWP values from IPCC s Fourth Assessment Report: Climate Change Indonesia is the largest economy in Southeast Asia and is one of the emerging market economies of the world. The country is also a member of the G-20. Indonesia has a market economy, but the government plays a significant role, owning more than 164 enterprises and regulating prices on several basic goods, including fuel, rice, and electricity. In the aftermath of the financial and economic crisis that began in mid-1997, the government took drastic actions, restructuring its economy and banking system. The national economy has since recovered and 7

8 Indonesia has experienced rapid economic growth at a rate of 6.5 per cent of GDP in 2011 and 6.2 per cent in 2012 (World Bank data). 5. The Government of Indonesia (GOI) is committed to protecting and preserving both the local and the global environment. In keeping with its commitments, Indonesia is a Party to the MP and operates under MP Article 5. As such, GOI is eligible for financial and technical assistance (TA) from the Multilateral Fund for the Implementation of the MP (MLF) for meeting its MP obligations. Since 1993, the government has undertaken a number of ODS Phase-out projects under the MP, including the sector plans for the phase-out of CFC-11 in the PU foam sector and CFC-12 in the mobile air conditioning sector. By 1 January 2008, Indonesia had completed its phase-out of CFC-11 consumption in the foam sector, two years ahead of its MP obligations, and phase-out of CFC-12 consumption in the mobile air conditioning sector was completed by January Indonesia is also a Party to the United Nations Framework Convention on Climate Change and the Kyoto Protocol and has agreed to limit the impact of climate change, save energy, promote green growth and move towards a low-carbon economy. In line with this initiative, Indonesia has set a voluntary target to reduce CO 2 emission by 26% in Replacing the use GHGs with a high GWP such as HCFCs with lower GWP alternatives provides an excellent opportunity for synergies between the MP and climate related initiatives as per Decision XIX/6 of the MP Parties. 7. GOI is now poised to embark on the first stage of its HCFC phase-out. As per the Decision of the Parties to the MP, the MLF will finance the cost of phasing out HCFCs in Article 5 countries. And the Executive Committee of the MLF (ExCom) requested Article 5 countries to prepare an overall HCFC Phase-out Management Plan (HPMP) to be submitted with the first request for funding for HCFC phase-out. The proposed Project is part of GOI s efforts to implement the HPMP. 8. ExCom also decided to adopt a staged approach to the HCFC phase-out. Stage 1 ( ) will assist countries in reducing their consumption to the baseline freeze level in 2013 and further reduce their consumption to 90% of the baseline in Subsequent funding for Stage 2 of the HPMP will assist countries in meeting the reduction target of 65% of the baseline in Stage 2 will address the remaining consumption of HCFC-141b in the foam sector. It is expected that HCFC used for manufacturing of products will be phased out completely by The residual HCFC consumption after 2020 is expected to be for servicing of refrigeration equipment only. 9. As per MLF guidelines, Indonesia can request financial assistance as early as 2014 for meeting its 2020 reduction target, and GOI plans to submit this request to ExCom in When Stage 2 is approved, the MLF funding presently scheduled for release in 2018 (final tranche of Stage 1) will be rolled into a revised Agreement with ExCom and requested in 2015 instead. The proposed Project is currently limited to Stage 1, but is expected to be extended through additional financing to include funding for Stage 2 as early as Presidential Regulation of the Republic of Indonesia Number 61 Year 2011 on the National Action Plan for Greenhouse Gas Emissions Reduction. 8

9 10. An overall HPMP to meet the consumption freeze and reduction to 90% of baseline consumption was developed with support from UNDP and the World Bank. UNDP was the Lead Implementing Agency (IA) for the HPMP Stage 1 preparation, while the World Bank, in close collaboration with GOI, developed the HCFC Phase-out in the Foam Sector Plan. 11. ODS consumption is defined by the MP as ODS production plus ODS import minus ODS export. As Indonesia does not produce any of the ODS substances, its HCFC consumption is calculated on the basis of the net import of HCFCs. Using 2007 to 2010 import data, which is based on information from different sources (Customs Office; Central Bureau of Statistics; mandatory reporting by registered importers to the Ministry of Trade; data from Ministry of Environment), the national HCFC consumption was established. The HCFC consumption data reported to the Ozone Secretariat of the MP (Article 7 data) is shown in Table 2 below. From 2007 to 2010, the overall growth in HCFC consumption in ODP terms was 14.73%, a significant growth mainly due to the overall economic growth. Table 2: HCFC Consumption (Article 7 data) by type of HCFC HCFCs MT *) ODP tons *) MT ODP tons MT ODP tons MT ODP tons HCFC-22 3, , HCFC-141b HCFC HCFC HCFC Total (MT) 4, , *) MT indicates metric tons of ODS, ODP tons measures ODS in ODP equivalent tons. 12. The baseline level of HCFC consumption for Indonesia, based on the average of the reported HCFC import in 2009 and 2010 Article 7 data, is ODP tons. As seen from Table 2, the consumption and control targets are the aggregate consumption for all HCFCs combined. Table 3 shows the HCFC phase-out schedule for Indonesia and the phase-out plan for Stage 1 of the HPMP. Table 3: HCFC Phase-out Schedule for Indonesia (ODP tons) Year of reduction Allowed level of HCFC consumption MP HCFC consumption limit*) Allowed HCFC consumption as per ExCom agreement*) Reported baseline (2009 and 2010 average) Freeze at baseline level % of the baseline % of the baseline Not decided % of the baseline Not decided % of the baseline Not decided 2040 No consumption of HCFCs 0 0 *) Note that the phase-out schedule agreed with ExCom was based on preliminary consumption data for This resulted in a difference between the MP HCFC consumption limits (column 3) and the allowed ODP consumption as per ExCom Agreement (column 4). 9

10 13. Indonesia submitted its HPMP together with a request for funding for Stage 1 in Stage 1 of the HPMP will phase-out ODP tons by 2015 in order to reduce HCFC consumption to ODP tons (based on estimated HCFC consumption in 2012 of ODP tons, see footnote in Table 7). During Stage 1, the majority of the planned reduction, namely tons, will come from the manufacturing sub-sectors and only 3.67 tons from servicing subsectors. B. Sector and Institutional Context 14. Indonesia s continued economic growth and improved living standards has resulted in an increased demand for products containing HCFCs, such as refrigerators, air-conditioning and PU foam for insulation, at a time when the country sets out to reduce its consumption of HCFCs. Hence, the phase-out of HCFCs will be a challenge and will require introduction of alternatives to HCFCs and a strict control of imports of HCFCs. 15. The consumption of CFCs in Indonesia peaked in 1996 at the level of 9,012 ODP tons. The CFCs used in Indonesia were mainly CFC-11 and CFC-12. Both of these chemicals were widely used as refrigerants in refrigeration equipment and as blowing agents in the PU foam sectors. GOI completed its phase-out of CFC consumption by January 1, The World Bank, as IA, assisted GOI in phasing out 6,892 ODP tons of CFCs in six ODS consuming sectors. The PU foam sector was the largest CFCs consuming sector, followed by the refrigeration sector and the fire protection sector (halons). Table 4 shows the number of participating enterprises and ODS consumption phased out with World Bank assistance as IA. 2 No. Sector Table 4: CFC and Halon Phased-out by Sectors No. of Planned No. of subproject participating phase-out % enterprises (MT) Actually phased-out (MT) 1 Foam , % 3, % 2 Refrigeration , % 1, % 3 Halon 2 4 1,437 20% 1,654 24% 4 Solvent % % 5 Aerosol & MDI % 546 8% 6 Tobacco % 54 1% 7 TA TOTAL 55 1,146 7, % 6, % 17. The sectorial distribution of HCFC consumption is shown in Table 5. The Table gives a breakdown of consumption used for manufacturing and servicing of refrigeration equipment in sectors, i.e. refrigeration equipment manufacturing and servicing and PU foam production. The growth in the PU foam sector over the past years has been around 7%. The projected baseline for the HCFC consumption sectors are shown in Table 6. % 2 The Technical Completion Report for Ozone Depleting Substance Phase-out (Trust Fund )-IND, 20 December 2010, Ministry of Environment Indonesia. 10

11 Table 5: Distribution by Sector of HCFCs Used in 2009 (MT and ODP tons) HCFC using sector HCFC-22 HCFC-141b HCFC-123 HCFC-124 HFC-225 Total (ODP) MANUFACTURING Air conditioning Refrigeration sector Foam sector Fire fighting Solvent SERVICING Refrigeration Total (MT) 4, , , Total (ODP tons) Table 6: Projected Baseline per Sector (ODP tons) Sector HCFC consumption Projected baseline Manufacturing Servicing Total Air-conditioning Refrigeration Firefighting Foams Solvent Total Reduction for Stage 1 compliance: Baseline consumption data has been calculated for each sector based on 2009 and 2010 HCFC consumption data. Taking consumption growth into account, the HCFC consumption in 2012 is estimated to be ODP tons. Table 7 shows the reduction target for each of the HCFC consuming sectors. 19. HCFC-141b is used in the PU foam manufacturing sector for insulation in refrigerators, thermo wares, buildings etc. and in integral skin and as insulation in the commercial refrigeration sector. As per the Article 7 data, the baseline consumption of HCFC-141b is ODP tons ( MT) with ODP tons ( MT) used in the PU foam sector and ODP tons ( MT) used in the commercial refrigeration sector. The phase-out of HCFC-141b consumption for commercial refrigeration will be addressed through the Commercial Refrigeration Sector Plan. 20. As per ExCom agreement, Indonesia will reduce its HCFC-141b consumption in the PU foam sector to ODP tons ( MT) in 2013 and to ODP tons ( MT) from in Table 8 shows a comparison between the estimated baseline consumption until 2016 without any reduction efforts and the agreed phase-out targets. 11

12 Component Table 7: Agreed ODP Consumption Reduction by 2015 as per HPMP (ODP tons) IA Sector baseline consumption Estimated consumption in 2012 HCFC consumption reduction targets in 2015 per sector*) HCFC-22 HCFC-141b Total Air conditioning sector UNDP Refrigeration sector UNDP World Foam sector Bank Group project for four UNIDO foam companies Fire Protection (HCFC-123) UNDP Solvent (HCFC-225) UNDP Subtotal Manufacturing Servicing air conditioners sector**) UNDP Servicing commercial refrigeration sector**) Fire protection 1.0 TA for refrigerant management Australia na na Total ***) *) The columns under consumption reduction targets show the 2015 targets agreed with ExCom. **) HCFC-22 service demand in the air conditioning and refrigeration sector is estimated to grow by 5% p.a. in 2011 and ***) The total estimated HCFC consumption in 2012 is ODP tons. The respective number reported in Table 7 (448.7) is based on an error in the HPMP related to the air conditioning and refrigeration sectors, but this does not affect the Project. Table 8: Consumption of HCFC-141b in the PU Foam Sector: Baseline and Phase-out Targets (ODP tons) PU foam sector Baseline HCFC-141b consumption*) With the proposed HCFC-141b phase-out plan *) Calculated at an estimated business-as-usual growth rate of 10%. 21. Foam manufacturing companies in Indonesia using HCFC-141b can be divided into two main groups: rigid PU foam and integral skin foam. In 2009, 55 foam companies were producing rigid PU foam, 18 companies integral skin foam and three companies both rigid PU foam and integral skin foam. The majority of the PU foam companies are small to medium-size, with only 15 companies considered as larger HCFC-141b users. The sector can be divided into eight subsectors based on the use of the foam: PU foam for insulation in appliances (domestic refrigerators and freezers), thermo wares, water heaters, sandwich panels, PU foam for insulation in refrigerated trucks, spray foam, block foam for insulation, and integral skin foams for the automotive and furniture industry. 12

13 22. Collection of HCFC consumption data for the foam sector was undertaken by the Technical Working Group mandated by the Ministry of Environment (MOE) and supported by review and analysis of data by a foam technical expert contracted by the World Bank on behalf of MOE. 23. Based on a review of over 100 foam companies identified, it was concluded that the most effective and sustainable way forward is to phase-out HCFC-141b by sub-sectors, selecting subsectors first where alternatives are known and available in Indonesia. The sub-sectors selected are insulation foam for refrigeration appliances (domestic refrigerators and freezers), insulation foam refrigerated trucks and integral skin foam. 24. As shown in Table 9, there are about 26 companies in these three sub-sectors eligible for MLF funding with a total consumption of MT of HCFC-141b in 2009 (or ODP tons) 3 and an estimated consumption of 360 MT in Table 9: Number of Foam Companies and Consumption by Sub-sectors ( ) Sub-sectors Number of companies 2008 consumption 2009 consumption Estimated consumption in 2012 Domestic refrigerators and freezers Refrigerated trucks Integral skin foam Sum Due to the limited funding available from the MLF and the fact that the conversion at most companies will only be partially funded, the MLF guidelines for funding of capital cost only were used to determine the funding level for participating companies as shown in Table 10. Table 10: Proposed Funding for PU Foam Companies Based on their HCFC-141b Consumption Number of Aggregate Annual Maximum Average cost companies HCFC-141b Proposed Total MLF HCFC-141b funding per effectiveness Rigid Integral consumption technology funding consumption company (US$/kg) foam skin (MT) 0-5 MT HFC-245fa 35,000*) 525, MT HFC-245fa 70,000*) 350, MT HFC-245fa 70,000*) 210, MT HC TBD 500, >50.01 MT HC TBD 700, *) Additional funding of US$10,000 to seven companies with 2 foaming units. 26. Rationale for Bank Involvement. Since 2004, World Bank support for Indonesia has moved towards supporting a country-led and owned policy agenda, consistent with Indonesia s emerging status as a middle-income country. As per the 2009 to 2012 Country Partnership Strategy (CPS) for Indonesia, World Bank assistance is focused on five core areas: (i) private sector development, (ii) infrastructure, (iii) community development and social protection, (iv) education, and (v) environmental sustainability and disaster mitigation. The CPS for was discussed in December 2012, confirming the Bank Group s role in sharing development 3 One MT of HCFC-141b is equivalent to 0.11 ODP tons. 13

14 solutions for an emerging Indonesia with a focus on private sector and sustainable development. The proposed Project falls within the area of private sector development and environmental sustainability; it also supports sustainable development through the strengthening of institutions and their technical and management capacity. 27. The Bank has been engaged in ODS phase-out activities in Indonesia since the early 1990s. The Bank served as Indonesia s partner in the implementation of the earlier ODS program, eliminating an annual use of 6,892 ODS tons of CFCs and halons (Table 4). As both CFCs and halons are high GWP gases (Table 1), the use of alternatives with lower GWP resulted in an annual reduction equivalent to 43 million tons of CO 2. For Indonesia, in particular the Bank s assistance was strategically important and effective in bringing down the demand of CFC during the period 1995 to 2004 and to achieve a complete phase-out of ODS consumption by 2008, two years ahead of the MP requirements. The proposed Project is a continuation of the successful partnership with Indonesia on ozone protection. C. Higher Level Objectives to which the Project Contributes 28. The Project will assist Indonesia to meets its obligations as a Party to the MP. In addition, the Project will benefit the global climate as the replacement of HCFCs by chemicals with lower GWP will lead to a permanent reduction in CO 2 equivalent (CO 2 e) emissions of at least 290,267 tons by the end of 2015, if the Project is implemented as planned. The Project is consistent with the CPS by making non-ods and low carbon technologies available to the PU foam industry through technology transfer. The Project will therefore improve the competitiveness of the foam industry and benefit it in both the domestic and export markets. The Project will contribute to institutional capacity building and enhance the management capacity of the institutions engaged in implementing the MP in Indonesia. The Project is consistent with Indonesia s national policy as it focuses on industrialization and modernization to meet the overall objective of continued economic growth and sustainable development. II. PROJECT DEVELOPMENT OBJECTIVES A. Project Development Objective (PDO) 29. The Project Development Objective is to reduce the consumption of HCFC-141b in the foam sector in Indonesia in order to contribute to the government s effort to comply with Indonesia s HCFC phase-out obligations under the Montreal Protocol. 30. Indonesia s MP obligation within the Project period is: (i) to return the consumption of HCFC to the average consumption level of 2009 and 2010 (baseline) in 2013 and (ii) to further reduce HCFC consumption to 90% of the baseline in These obligations are to be achieved through the reduction of consumption from all sub-sectors covered by the HPMP (i.e. not only the foam sector covered by the Project). The HCFC-141b reductions supported by this Project will be carried out in a manner that maximizes the climate co-benefits through the introduction of low GWP alternatives where possible. 14

15 B. Project Beneficiaries 31. The Project will benefit Project participants and other stakeholders in the following ways: - About 26 PU foam companies (direct beneficiaries) through a financial incentive for the replacement of their HCFC-141b production technology. - Polyol system houses and foam equipment suppliers through introduction of zero ODP and lower carbon technologies. - New foam companies entering the foam market through availability of new foam production technologies in Indonesia. - The Government of Indonesia through financial and technical assistance to meet its obligation under the MP. - The local community through public awareness and information about the MP and the HCFC phase-out program. - The global community through preservation of the ozone layer and reduced emissions of GHGs. C. PDO Level Results Indicators 32. The following results indicators have been established, which are further detailed in the Results Framework in Annex 1: - Limit HCFC-141b imports for the PU foam sector to ODP tons in 2013 and Limit HCFC-141b imports for the PU foam sector to ODP tons in 2015 and III. PROJECT DESCRIPTION 33. Reduction of HCFC-141b consumption in the PU foam sector is part of Stage 1 of the Indonesian HPMP. The Project proposes a combination of policies, TA activities and financial incentives to the PU foam industry. The Project will lead to global environmental benefits while permitting the country to meet its development objectives of sustained economic growth and industrial modernization. A. Project Components Component 1: Investment in HCFC-141b Consumption Reductions in the PU Foam Sector (US$ 2,453,000) 34. The Project will provide investment support in the form of financial incentives to about 26 foam producing companies in the refrigeration appliances, refrigerated trucks and integral skin foam sub-sectors, to phase out at least 360 MT of HCFC-141b and introduce alternative, non- HCFC consuming production technologies. The investment support is planned to reduce demand for HCFC-141b sufficiently to support the government s import quota policy and meet the Project s phase-down results indicators in 2013 and The three sub-sectors were selected by the HPMP to ensure Indonesia s compliance with its MP obligations, while facilitating implementation and sustainability of phase-out and using the 15

16 MLF grant effectively and efficiently. The eligibility of these companies for MLF financial support was confirmed through a survey and will be reconfirmed before Foam Technology Replacement Agreements (FTRA) can be signed with them. 36. A financial incentive will be provided to each company based on their HCFC-141b consumption in 2009 and 2010 and the costs of the technical alternative selected. The funding can be used to modify existing or procure new foaming equipment and accessories including storage facilities and safety equipment, chemicals, training and technology fees. Three larger companies in the refrigeration appliance sub-sector plan to convert their foaming process to cyclo-pentane a flammable hydrocarbon (HC) and the remaining 23 companies plan to use a reduced HFC-245fa formulation as alternative foam blowing agent. It was confirmed that the main foam system houses in Indonesia can supply the new chemicals. Component 2: Technical Assistance and Policy Support (US$ 133,200) 37. The Project will provide TA to help GOI develop and implement (i) policies preventing establishment of new and expansion of existing PU foam manufacturing facilities using HCFC- 141b to ensure that HCFC consumption levels for each HCFC stay below the agreed consumption limits, and (ii) guidelines, policies and regulations to support the introduction of new technologies that replace the use of HCFC-141b, for instance safety standards for HC use in foam production, transport and storage of HC as a hazardous substance, and disposal of redundant equipment. 38. The Project will provide TA, including training and workshops for the benefit of selected foam producing companies, (i) to inform them about the objective of the Project and the implementation arrangements, including, inter alia, Project cycle steps, application criteria for financial incentives, Project supervision, commissioning and reporting requirements, and procurement, financial management and environmental and social safeguards provisions, as necessary; and (ii) to assist them with the preparation of conversion plans and proposals, equipment specifications, Project implementation and preparation of completion reports. 39. The Project will provide TA to support the Project Management Unit (PMU) in (i) evaluating alternative technologies, sub-project designs, review, supervision, verification and other technical activities and overall Project management, and (ii) in delivering awareness campaigns to target groups on the need to phase out HCFCs and on current and future regulatory measures, including training for government authorities to allow them to become more effective in controlling HCFC imports and in assisting foam companies with required safety audits and permitting procedures. Component 3: Project Management (US$ 127,987) 40. The Project will support the establishment of a PMU, which will be fully responsible for the implementation of the Project, including Project management and monitoring and evaluation, and verification of implementation of the sub-projects under Component 1. The PMU will be responsible for the implementation of the HPMP in all sectors under Stage 1 regardless of the supporting IA. To maintain expertise, project management capacity and continuity, staff and experts who served the PMU for CFC phase-out will be assigned to this new unit. 16

17 41. The main tasks of the PMU with regard to the Project will be to: - Promote awareness of the HCFC-141b phase-out policy and projects, - Review Foam Technology Replacement Proposals (FTRP) and funding requests, - Prepare FTRAs to be signed by MOE and each beneficiary, - Review requests for payment from beneficiaries and arrange disbursements, - Prepare Project implementation plans and progress reports, - Monitor sub-project implementation and results at company level, - Prepare reports on sub-project activities, and - Collect information on annual imports of HCFC-141b. B. Project Financing 42. Lending Instrument. The Project will be supported through an MLF grant, for which a total of US$ 2,714,187 was approved by ExCom in April 2011 for Stage 1 of the HPMP. 43. Project Cost and Financing. Table 11 shows the Project costs by components. The total funding will be released by the MLF to the Bank in four tranches as per the Agreement between GOI and ExCom. The first tranche of US$1,500,000 was released to the World Bank upon approval by ExCom in In addition, participating foam enterprises will provide counterpart funding for expenditures exceeding the funding provided by the MLF. This counterpart funding is estimated at US$0.92 million. Project component Table 11: Total Project Cost (US$) Total Project Counterparty cost funding Grant funding Grant funding (%) 1 Investment in HCFC-141b consumption reduction 3,373, ,000 2,453, TA and policy support 133, , Project management 127, , Total 3,634, ,000 2,714,187 IV. IMPLEMENTATION A. Institutional and Implementation Arrangements 44. The implementation of the proposed Project is inherently embedded in the organization and implementation of the overall HPMP. At the 64 th ExCom Meeting in July 2011, GOI entered into an agreement with ExCom on the reduction in consumption of HCFCs with the structure shown in Figure 1. Accordingly, GOI has the overall responsibility for the management and implementation of the Agreement and of the HPMP and all activities undertaken by it or on its behalf to fulfill its obligations, while UNDP functions as the Lead IA and UNIDO, the World Bank and the Government of Australia as Cooperating IAs. 45. UNDP as Lead IA is responsible for annual verification of HCFC consumption and coordination with the Cooperating IAs to ensure appropriate timing and sequencing of activities 17

18 and reporting to the MLF. The Cooperating IAs will assist GOI in the implementation and assessment of the activities funded by each Cooperating IA and report to the MLF through the Lead IA. 46. MOE will establish the PMU under the National Ozone Unit (NOU). The PMU will be tasked with the day-to-day management and implementation of the overall HPMP, including the Foam Sector Plan. The PMU will be similar to the one set up for the earlier CFC phase-out project. MOE will hire a Project Manager to lead the PMU. The Project will contribute the following staff to the PMU: (i) a Project Management Assistant, (ii) a Financial Management and Administrative Assistant, (iii) a foam sector Technical Consultant. Further details on the organization of the PMU are included in Annex 3, in the Project Implementation Plan and in the Project Operations Manual (POM). Figure 1 Organizational Structure of the HPMP for Indonesia Government of Indonesia represented by Ministry of Environment Agreement ExCom of the Mulilateral Fund UNDP UNIDO WB Aust. Gov t A/C Refrigeration Foam Foam Tech Assistance UNDP (Lead Implementing Agency) UNIDO, WB, Gov t of Australia (Cooperating Agencies) 47. MOE will, through the PMU and the NOU, collaborate and coordinate with the Ministry of Industry, Ministry of Trade and Customs Bureau to implement the import quota system for HCFCs, review annual HCFC import license applications to ensure that licenses are provided only to registered importers, and establish and publish the annual import quotas for the period 2013 through B. Results Monitoring and Reporting 48. Monitoring and reporting will be carried out on three levels: (i) compliance with the MP and ExCom agreement, (ii) implementation of the Foam Sector Plan, and (iii) results of subproject activities. The World Bank will monitor the success of the Project using the Results Framework in Annex 1. More details on monitoring and reporting requirements are contained in the POM. 18

19 49. MOE, assisted by the PMU, will monitor and report on Indonesia s compliance with the MP and the Agreement with ExCom. In particular the consumption of HCFC will be monitored, verified and reported to the Bank annually. The PMU will monitor Project implementation and prepare the following reports for submission to the World Bank: - Tranche Implementation Reports and Plans provide an overview of all Project activities carried out in the reporting period and include the subsequent tranche implementation plan. These reports and plans will be aggregated for all HPMP subsectors and submitted by UNDP as Lead IA to ExCom. - Financial Reports. Interim financial reports will be prepared semi-annually. The Project s annual financial statements will be prepared and independently audited and submitted to the Bank along with an audit report. - Sub-Project Verification Reports will record that the PMU has verified implementation and completion of each sub-project in compliance with the FTRA signed by each participating foam company. - Progress Reports will be prepared semi-annually to track the implementation of the Project and the achievement of Project results milestones. - A Project Completion Report will be prepared to account for the use of the MLF grant and draw lessons from the Project s implementation. 50. Project beneficiaries will monitor the implementation of their sub-projects and (i) document and report to the PMU on achieved milestones as a prerequisite for the release of incentive payments, and (ii) prepare a Sub-project Completion Report in the format required by MLF for project completion reports to confirm the successful execution of each sub-project. C. Sustainability 51. The Government of Indonesia is obligated, as a Party to the MP, to meet HCFC phase-out obligations starting in This and the following design features of the HPMP and the chosen sector phase-out strategy will ensure that any resurgence of HCFC use in the foam sector after completion of the Project will be highly unlikely. (i) Through policies and regulations GOI will establish an import quota and licensing system for HCFC similar to the one established for the phase-out of CFCs to ensure that imports of HCFC-141b will stay within the limits given by the MP and agreed with ExCom. In addition, Indonesia will, through its environmental regulatory system, prevent the use of HCFC in new companies entering the market. (ii) The sectoral phase-out strategy allows GOI to address all enterprises in the targeted sub-sectors at the same time, thereby preventing unfair competition between companies serving the same market segment. This will avoid competitive pressures that could otherwise build up, undermine the phase-out effort, and lead to a resurgence of HCFC use and (illegal) HCFC imports. 52. The sectoral approach will also (i) facilitate carrying out TA activities for beneficiaries, government agencies and other stakeholders at the sector level, (ii) help establish verifiable 19

20 HCFC phase-out performance indicators and targets, (iii) provide opportunities to promote and introduce zero-odp and a low-gwp alternative technologies in a large number of companies, and (iv) allow to introduce an Environmental Management Framework (EMF) with occupational health and safety requirements for the entire sub-sector requiring certain companies (that switching to HC) to prepare an Environmental Management Plan (EMP) that will avoid or minimizes any potential environmental and health/safety risks. V. KEY RISKS AND MITIGATION MEASURES A. Risk Ratings Summary Table Table 12: Risk Summary Risk Description Risk Rating Stakeholder Risks Moderate Implementing Agency Risks Capacity Moderate Governance Low Project Risks Design Moderate Social and Environment Moderate Program and Donor Low Delivery Monitoring and Sustainability Moderate Overall Implementation Risks Moderate B. Overall Risk Rating Explanation 53. As indicated in Table 12 and detailed in the Operational Risk Assessment Framework (ORAF) in Annex 4, the overall implementation risk of the Project is rated Moderate. Contributing to this rating is the relative safety of HC and HFC-245fa technology in foam blowing applications and the experience of the NOU with the earlier CFC phase-out project, which this Project emulates and which are further mitigated by Project design and implementation arrangements. But residual risks nevertheless remain related to the technical handling of flammable HCs and the availability of low-cost alternative blowing agents in Indonesia, which could lead to slow Project implementation. 54. The earlier identified risk related to the financial capacity of small foam producing companies in Indonesia to co-finance the Project has been addressed through a higher cost effectiveness for funding of the conversion measures for small companies and the above mentioned regulatory measures. And foam system houses and polyol suppliers have indicated that they will be able to deliver the needed chemicals; however, the PMU will follow the availability of alternatives closely and, if needed, will support chemical suppliers with TA. VI. APPRAISAL SUMMARY A. Economic and Financial Analyses 55. An economic analysis captures the Project s impact on the entire economy, which, in this case, would include, besides the foam sector, other sectors, consumers, and the government. The 20

21 Indonesian and global society as a whole will benefit from reduced health risks due to lower ozone layer depletion and use of chemicals with lower climate impact. In the absence of data on ozone depletion and climate change impacts on direct health and other aspects of life in Indonesia, it is impossible to carry out a quantitative analysis of these aspects; however, it is expected that these impacts will be positive. 56. A financial analysis was carried out to assess the financial impact of the proposed Project on the Indonesian PU foam industry. The financial analysis estimated the net incremental costs in terms of investments in foaming equipment based on the selected foaming technologies. The analysis also estimated the additional cost of raw materials for foam production, especially the higher cost of HFCs compared to HCFC-141b. The analysis was carried out by comparing the cost with and without the Project over a 20 year time frame. 57. Cyclo-pentane, HFC-245fa and water-based foaming technologies are well established and investment and operating costs associated with these technologies are well known from a large number of projects. The experience from the earlier CFC phase-out suggests that prices of alternative technologies will go down over time. This is especially the case for HFCs that are relatively new to developing countries and presently more costly than HCFC-141b as HFC producers are recovering their investments. Since HFC patents are expiring, new HFC producers are likely to enter the market, resulting in lower prices. As example, when HCFC-141b was introduced in Article 5 countries, prices initially ranged from US$5 to US$8, but dropped to US$2.5 to US$4 in the following year. It is expected that HFC-245fa prices will drop in a similar way with the phase-out of HCFC-141b. 58. The Net Present Value (NPV) of the net incremental cost is about US$4.39 million higher with the Project compared to a scenario without the Project, taking into account the financial support provided by the MLF. This result is driven mainly by investments in plant modifications needed for storage and use of cyclo-pentane, storage for HFC-245fa and the higher cost of HFC- 245fa supply over the analysis period of 20 years. The net impact will be smaller if the cost of HFC-245fa decreases as a result of increased global supply of HFC-245fa and decreasing supply of HCFC-141b. A drop of 33% in the price of HFCs over the coming years would reduce the net incremental costs of the Project to close to zero. In addition, foam producers can be expected to pass their net incremental costs on to their customers through increased prices for foam products. The net incremental cost can be regarded as the co-financing that Indonesia provides for achieving benefits associated with HCFC phase-out. Table 13: Incremental Investment Cost by Cost Item Cost items Blowing agent Estimated Cost*) (US$/kg HCFC-141b) HFC-245fa storage and retrofitting of foaming equipment HFC-245fa 10 HC storage, premix and foaming equipment HC 8 HC safety cost HC 4 *) The HFC-245fa cost effectiveness is based on average consumption by companies of 2,500 kg/year. The HC cost effectiveness is based on average consumption by companies of 25,000 kg/year. 59. Table 13 shows the incremental cost for conversion to HFC-245fa and HC technologies. The costs for HFC-245fa use include: storage room, retrofitting of foaming units, technology 21

22 transfer and training. For HC use, the additional costs include: replacement of foaming equipment and safety measures. The Table also lists the associated cost effectiveness indicator defined as the incremental cost per kg of consumption of blowing agent (US$/kg). It should be noted that the introduction of HC technology requires substantial initial investments, but that the per unit cost decreases quickly with increasing production volumes, making this technology attractive for the larger producers compared to HFC-245fa, which is preferred by small volume foam producers despite the significantly higher cost of the blowing agent. 60. Table 14 summarizes the financial impact of the Project based on a net present value analysis for the 26 foam enterprises over a 20-year time horizon. The main impact is associated with the higher annual foam production cost with HFC-245fa compared to HCFC-141b and the upfront investments for companies converting to cyclo-pentane. In contrast, the US$0.92 million co-financing by the beneficiaries only takes into account the investment needed for conversion measures and one year of incremental operating costs for foam production, while the financial impact takes into account the investments and the foam production cost over 20 year. B. Technical Analysis Table 14: Financial Impact of the Project Scenario NPV (US$) NPV without HCFC Phase-out 11,906,263 NPV with HCFC phase-out 19,008,003 Impact of Project without MP support, NPV 7,101,740 MLF support 2,714,187 Impact of Project with MP support, NPV 4,387, The technical options for HCFC replacement in foam production were reviewed and have been confirmed by the reports of the Foams Technical Options Committee at UNEP. The main HCFC replacements cited are HCs, HFCs, and CO 2 (water-blown). The use of HCFC-141b in foam production has been phased out completely in non-article 5 countries (developed countries). Below are the technical options: (i) (ii) Cyclo-pentane. The main alternative foam-blowing agent for PU rigid foams are HCs, principally cyclo-pentanes. Technologies have been well established to accommodate the flammability of cyclo-pentanes and to allow their safe use. However, this results in a significant cost burden for enterprises, which must incorporate a series of safety measures in their production facilities. HFC-245fa and HFC-365mfc (HFC-365mfc mixed with HFC-227ea to eliminate flammability of HFC-365mfc) have been developed to replace HCFC-141b in PU rigid insulating foams. The requirement was to develop a non-flammable liquid blowing agent. These HFCs are being used and the technology around them is being optimized. There is comparatively little use of HFC-134a in PU insulating foams, but it is widely used in XPS foams. However, all these alternatives have a relatively high GWP. 22