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Ethiopian Nile Irrigation and Drainage Project: Public-Private Partnership Options and Action Plan Study Final Report

to the World Bank

March 2008

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Public-Private Partnership Options and Action Plan Study

Final Report to the World Bank

March 2008

Copyright Castalia Limited. All rights reserved. Castalia is not liable for any loss caused by reliance on this document. Castalia is a part of the worldwide Castalia Advisory Group.

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Table of Contents
Executive Summary 1 Introduction 1.1 1.2 2 3 The Importance of Agriculture and Irrigation Report Outline 1 7 7 8 15 17 27 47 56 56 66

Basic Facts on the Megech, Ribb and Anger Irrigation Schemes 10 Key Stakeholders Objectives and Views 3.1 3.2 3.3 Government Farmers Private Operators Basics of Public Private Partnerships PPPs vs. Public Service Provision

Public-Private Partnerships in Irrigation 4.1 4.2 4.3

International Experience with a Private Sector Approach to Irrigation 69 75 Key Findings on the Current Legal and Regulatory Framework and their Implications 75 Possible Changes to Improve the Framework Analysis of Legal Framework for PPPs Operating Subsidy Non-Irrigation Services Demand and Payment Risk Approach to PPP Options Role of Farmers Potential PPP Options Analysis of PPP Options 77 78 88 88 92 93 95 95 96 105 115

Legal Framework for PPPs in Ethiopia 5.1 5.2 5.3

Key Considerations for PPP Design 6.1 6.2 6.3

Public Private Partnership Options 7.1 7.2 7.3 7.4

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7.5 8

Government Views on PPP Approach and Recommended PPP Option 120 123 123 129 137 148 150 150 152 159 and 163 168 Overview of PPP Model Tariff and Subsidies Administration of Subsidies and Other Payments PPP Arrangement for Anger Why is Economic Regulation Needed? Traditional Regulatory Options and Lessons Learned Comparison of Options and Recommendation Recommendations Enforcement for Contract Monitoring

Recommended PPP Options 8.1 8.2 8.3 8.4

Contract Monitoring and Enforcement Arrangements 9.1 9.2 9.3 9.4 9.5

Economic Regulation Options for Megech, Ribb, and Anger155

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Appendices
Appendix A : Meetings with Government Officials Appendix B : Project Brief Presented to Potential Private Partners Appendix C : Profiles of Potential Private Investors Appendix D : Willingness-to-Pay Methodology and Full Results Appendix E : Smallholder Farmer Questionnaire Appendix F : Commercial Farmer Questionnaire Appendix G : Encouraging Private Investment in Ethiopia Appendix H :Laws and Policies Reviewed Appendix I : Government Ministries and Agencies Appendix J : Key Drafting Instructions of PPP Contract Appendix K : Projected Availability and Variable Payments Appendix M : CMU Budget and Technical Assistance Needs 173 176 182 185 229 242 251 257 260 263 266 273

Appendix L : Rules and Procedures for Independent Panel of Experts 268

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Tables
Table 2.1: Basic Characteristics of Megech, Ribb, and Anger Irrigation Schemes 12 Table 2.2: Basic Characteristics of Farmers in Megech, Ribb, and Anger Command Areas 14 Table 3.1: Irrigated and Non-Irrigated Crops Table 3.2: Feedback from Potential Private Operators Table 4.1: Allocation of Risks in PPP Contracts Table 4.2: Comparison of Public Service Provision and PPPs Table 5.1: Questions on the Legal Framework for the PPPs Table 5.2: Ethiopias Principal Public Private Partnership Models Table 5.3: Areas and Periods of Income Tax Exemption 43 50 62 66 78 79 86

Table 6.1: Subsidy Required to Make Megech and Ribb Financially Viable (ETB million) 89 Table 7.1: Options for Involving Farmers Table 7.2: Recommendations on Farmers Roles Table 7.3: Potential PPP Options Table 7.4: Comparison of PPP Options Table 8.1: Risk Allocation of Recommended PPP Option 97 102 107 116 126

Table 8.2: Advantages and Disadvantages of Options for Increasing Tariffs 130 Table 8.3: Detail of Increasing Tariff Path Table 8.4: Collection Incentive Payments 135 145

Table 9.1: Allocation of Regulatory Functions for Megech, Ribb, and Anger 156 Table 9.2: Weighing Options 1 and 2 for Internal Organizational Consistency 161 Table B.1: Costs for Megech and Ribb Table B.2: Range of PPP Options Table D.2: Kebeles Identified as Lying Within Ribb Project Area Table D.3: Kebeles Identified as Lying Within Anger Project Area Table D.4: Selection of Issues Raised with Draft Questionnaire 179 179 188 189 190

Table D.1: Kebeles Identified as Lying Within Megech Project Area 187

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Table D.5: Kebele-specific Data - Megech Table D.6: Kebele-specific Data - Ribb Table D.7: Kebele-specific Data - Anger

212 212 213

Table G.1: Industries Reserved for Investment by Government, Domestic Investors, or Ethiopian Nationals 253 Table H.1: Laws Reviewed 257 Table M.1: Summary of Expenditure for CMU During First Three Years 273 Table M.2: Three-Year Training and Technical Assistance for CMU 275 Table M.3: Costing of 3-Year Training and Technical Assistance for CMU 277 Table M.4: Estimate of Annual IPE Costs 280

Figures
Figure 1.1: Tariff Transition Period Figure 1.1: Rainfall Variation around the Mean and GDP Growth Figure 2.1: Locations of Irrigation Schemes Figure 3.1: Current Approach to Irrigation for Smallholders Figure 3.2: Willingness-to-Pay Results: Megech Figure 3.3: Willingness-to-Pay Results: Ribb Figure 3.4: Willingness-to-Pay Results: Anger Figure 3.5: Willingness-to-Pay of Farmers Using Irrigation: Megech Figure 3.6: Willingness-to-Pay of Farmers Using Irrigation: Ribb Figure 3.7: Willingness-to-Pay of Farmers Using Irrigation: Anger 3 7 10 21 31 31 32 33 34 34

Figure 3.8: Smallholder Farmer Incomes (Categorized by Irrigation Use) - Megech 40 Figure 3.9: Smallholder Farmer Incomes (Categorized by Irrigation Use) - Ribb 41 Figure 3.10: Smallholder Farmer Incomes (Categorized by Irrigation Use and Households with Associated Irrigation Cost) Ribb 42 Figure 3.11: Smallholder Farmer Incomes (Categorized by Irrigation Use) Anger 43

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Figure 3.12: PPP Option Preferred by Private Operators Figure 4.1: Basic PPP Structure Figure 4.2: Range of PPP Structures Figure 6.1: Transition Period Figure 7.1: Approach to Developing PPP Options Figure 7.2: Structure of Outgrower Scheme Figure 7.3: Structure of PPP Option One Figure 7.4: Structure of PPP Option Two Figure 7.5: Structure of PPP Option Three Figure 7.6: Structure of PPP Option Four Figure 7.7: Structure of PPP Option Five Figure 7.8: Structure of PPP Option Six Figure 8.1: Structure of Recommended PPP Option Figure 8.2: Translating Irrigation into Higher Incomes

55 57 59 91 96 98 108 110 111 112 114 115 124 131

Figure 8.3: Projected Household-Level Incomes of Farmers Using Irrigation 132 Figure 8.4: Projected Average Incomes in Megech and Ribb Figure 8.5: Possible Tariff Paths Figure 8.6: Tariffs and Subsidies over the Transition Period Figure 8.7: Structure of Trust Account Figure 8.8: Effect of Reduced Collection Efficiency Figure 8.9: PPP Arrangement for Anger 133 134 136 138 143 148

Figure 9.1: Economic Regulation Balances Needs of Customers and Private Operators 151 Figure 9.2: Comparison of Regulatory Traditions Figure 9.3: Option 1: Regulatory Office Figure 9.4: Option 2: CMU with Independent Panel of Experts Figure 9.5: Suggested Organization of the CMU Figure 10.1: Action Plan Gantt Chart Figure B.1: Location and Characteristics of Irrigation Schemes Figure D.1: Smallholder Farmer Income - Megech Figure D.2: Smallholder Farmer Income - Ribb 154 158 159 166 172 178 194 194

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Figure D.3: Smallholder Farmer Income Anger Figure D.4: Land Area Worked Figure D.5: Crops Cultivated Megech Figure D.6: Crops Cultivated Ribb Figure D.7: Crops Cultivated under Irrigation Ribb Figure D.8: Crops Cultivated Anger Figure D.9: Irrigation of Land - Ribb Figure D.10: Annual Irrigation Cost per Hectare Irrigated - Ribb Figure D.11: Farm-based Problems Megech Figure D.12: Farm-based Problems Ribb Figure D.13: Farm-based Problems Anger

195 196 197 197 198 199 200 201 202 203 203

Figure D.14: Farm-based Problems Market, Financial/Legal and Production Issues 205 Figure D.15: Annual Amount Willing to Pay per Hectare Megech 209 Figure D.16: Annual Amount Willing to Pay per Hectare Ribb Figure D.17: Annual Amount Willing to Pay per Hectare Anger Figure D.18: Amount Willing to Pay for Registration Megech Figure D.19: Amount Willing to Pay for Registration Ribb Figure D.20: Amount Willing to Pay for Registration Anger Figure D.21: General Interest in Partnerships Megech Figure D.22: General Interest in Partnerships Ribb Figure D.23: General Interest in Partnerships Anger 209 210 214 214 215 217 218 218

Figure D.24: Interest in Partnerships with Private Sector Irrigation Operator Megech 219 Figure D.25: Interest in Partnerships with Private Sector Irrigation Operator Anger 220 Figure D.26: Interest in Partnerships with Private Sector Irrigation Operator Ribb 221 Figure D.27: Difference in Interest in Assistance when in Partnership with Private Sector Irrigation Operator Ribb 222 Figure D.28: Interest in Becoming an Outgrower to the Private Sector Irrigation Operator 223

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Figure D.29: Interest in Leasing Land to the Private Sector Irrigation Operator 224 Figure D.30: Temporary Staff Numbers of Commercial Farmers 226 Figure D.31: Commercial Farmers Annual Amount Willing to Pay per Hectare 227 Figure D.32: Commercial Farmers Registration Fee Figure G.1: Foreign Direct Investment into Ethiopia, 19932006 228 253

Boxes
Box 1.1: Gradual Tariff Increase and Operating Subsidy 3 Box 3.1: Ministry of Finances View on Subsidizing Irrigation for Smallholders 25 Box 5.1: Amhara Revised Rural Land Administration and Use Determination Proclamation: Provisions for Irrigation Land 81 Box 5.2: The Nile Basin Initiative 82

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Executive Summary
The World Bank and the Government of Ethiopia (the Government) are currently implementing the Ethiopian Nile Irrigation and Drainage Project (EIDP). This project seeks to increase household incomes and reduce the effects of climate variability on agricultural productivity by financing irrigation development and by strengthening the Governments strategy for irrigation and drainage. The EIDP will finance the development of three irrigation schemesin Megech (via pump from Lake Tana), on the Ribb River, and in the Anger Valley, with a total cost of US$110 million. This includes financing of feasibility and detailed design studies for all three irrigation schemes and capital costs of up to US$46.5 million for the capital costs of Megech and Ribb. The Ministry of Water Resources (MoWR) is leading this project on behalf of the Government of Ethiopia (the Government). The World Bank and the Government would like to develop the three irrigation schemes by way of public-private partnerships (PPPs). This could provide farmers with access to irrigation services that is more reliable than under the Governments current approach to providing irrigation. The World Bank has engaged Castalia to: Identify various PPP options, and recommend one option to be used for each of the three schemes Prepare contract monitoring arrangements for the recommended PPP options Prepare an action plan for implementing the recommended PPP options, including a road map for transaction implementation. Castalia has identified six possible PPP options that could be applied to each irrigation scheme. We recommend that the Government implements a PPP that is structured as follows: The Government and the private operator will enter into a 20 to 30 BuildOperate-Transfer (BOT) contract The private operator finances a small portionfor example, 5 or 10 percentof the capital costs of building the irrigation system. The Government finances the remaining portion of the capital costs The private operator is responsible for building and testing the system following the standards and specifications defined by the Government and farmers. These specifications could include dimensions as well as construction materials and techniques The private operator is responsible for operating and maintaining the irrigation system, providing water to farmers according to the terms and standards established in the BOT contract and a service agreement between

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the private operator and the farmers. This means that the private operator assumes all risks associated with operating and maintaining the system to meet the agreed-upon standards Farmers will start paying a tariff that is closer to what they revealed as being willing to paythat is, around ETB 300/ha/year, but this tariff will gradually increase to close to ETB 2,000/ha/year during the first seven years of the systems commercial operations date. A tariff of ETB 2,000/ha/year is reasonable given what farmers are currently paying for irrigation. Farmers in the Ribb project area that are currently paying for irrigationrenting pumps and buying fuelare already paying on average ETB 1,970/ha/year. Box 1.1 below discusses the tariff transition in more detail The Government will collectvia the water user association or private operator, tariff payments from farmers The Government will make the following three payments to the private operator: Construction Milestone PaymentsThese will be made when the private operator has reached certain construction milestones and will be for a total amount equal to the portion of the capital costs funded by the Government Availability PaymentsThese will be made periodically, say every month, if the private operator maintained the system according to the standards set in the contract. This payment is intended to reimburse the private firm for the portion of the capital costs that it financed Variable PaymentsThese will be made periodically, say every month, if the private operator delivered water to farmers according to the specifications and standards defined by farmers and the Government. This payment is intended to reimburse the private operator for the costs of operating the system. Farmers will be organized in water user associations (WUAs) along secondary canals. Each WUA will collect tariff payments from farmers and schedule delivery of water to farmers. WUAs may also perform other functions to support farmers, such as negotiate the purchase of inputs on behalf of farmers, aggregate farmers crops for marketing, disseminate information, and assist with training Farmers will be given the option to buy from the private operator nonirrigation servicessuch as storage, processing, marketing and so on

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Box 1.1: Gradual Tariff Increase and Operating Subsidy Tariffs should increase gradually as farmers realize increased incomes from the use of irrigation. The World Bank has estimated how fast farmers may transition to irrigated farming and how their incomes will grow as a result. Given these estimates, we think it is reasonable for tariffs to increase from ETB 300/ha/year to ETB 2,000/ha/year over a period of approximately seven years. This is the tariff path recommended for Megech and Ribb. Given that no reliable cost information exists for the Anger scheme, the tariff path is yet to be determined. An operating subsidy will be required during the period in which tariffs charged to farmers are less than the amount required for the private operator to recover operating and maintenance (O&M) costs. Figure 1.1 illustrates the tariff transition period and the required operating subsidy for Megech and Ribb. All amounts are in real terms. The subsidy is needed until tariffs per hectare become greater than O&M costs per hectare of each scheme. We estimate that, using the recommended tariff transition path, an operating subsidy of ETB 9.7 million (US$1.1 million) will be needed over the first five years of operation of the Megech scheme, and an operating subsidy of ETB 16.9 million (US$1.9 million) will be needed over the first four years of operation of the Ribb scheme. The World Bank has allocated US$1.76 from the EIDP to fund an operating subsidy for Megech and Ribb. Our estimates show that an additional US$1.17 million will be needed if the recommended tariff path is implemented and O&M costs are as estimated in the pre-feasibility studies for the Megech and Ribb projects carried forward to 2008 prices. Figure 1.1: Tariff Transition Period
2,500 2,000 ETB/ha/year 1,500 1,000 500 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 O&M Megech O&M Ribb Tariff
O&M Subsidy

We recommend this PPP option for the Megech, Ribb, and Anger irrigation schemes. The PPP option for Anger could also include commercial farming, and multi-purpose components such as hydropower generation if the ongoing feasibility study finds that this is indeed feasible. In Anger, if the irrigation operator also engages in commercial farming, smallholder farmers could also become outgrowers to the commercial farming operation.

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We have developed a structure for administering subsidy and other payments to the private operator. It involves a trust account managed by a private financial institution, into which all funds used to make payments to the private operator will be deposited. We have developed a regulatory structure, including contract monitoring arrangements, for this type of PPP. It involves the following: Tariffs, service standards, and how they change over the life of the contract are regulated through the PPP contract An Independent Panel of Experts (IPE) approves extraordinary tariff and service quality adjustments, which are those that cannot be regulated through the PPP contract A Contract Monitoring Unit (CMU) within the MOWR monitors and enforces private operator terms of service, and supports the IPE where necessary. This regulatory structure effectively relies on the parties to the contract to selfregulate, and where there are disagreements on service quality or tariffs, defer decisions to an independent panel of experts. In terms of contract monitoring, we recommend that the CMU require the private operator to report water availability in terms of the number of hours of water delivered per day, and data on farmer complaints about service. The CMU will monitor the private operators performance through theses reports (private operator self-reporting), farmer feedback, and auditing and inspections. If the private operator does not deliver water as scheduled, it will face a financial penalty (pay a fine). We have also developed an action plan that can serve as a guide for the World Bank and the MOWR to implement the PPP schemes. This plan shows the steps needed to engage a private operator under a PPP contract for each scheme. Public-Private Partnership Options To develop PPP options that could be implemented for each irrigation scheme, we conducted general due diligence to identify the: Objectives and views of the key stakeholdersGovernment, farmers and private investors that could potentially be party to the PPP contract Lessons that may be learned from other countries experience involving the private sector in the provision of irrigation services through PPPs and reforms Legislative and regulatory framework for these schemes Financial viability of the schemes. We developed a range of PPP options and analyzed how each option performs with regard to: Providing strong incentives to deliver reliable services
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Minimizing the level of subsidy required Attracting strong interest from potential private investors Being relatively simple for the Government to implement. We developed a preliminary set of recommendations and discussed these recommendations with some of the key stakeholders. We held these discussions at a workshop in Addis Ababa on February 11, 2008. Based on the feedback received in these discussions, we developed our final recommendations. We recommend the PPP option described above because it: Provides strong incentives to deliver reliable services. This is because the private is only reimbursed for capital costs over time as it complies with the terms and service standards agreed upon in the PPP contract and service agreements signed with farmers Has the potential to attract strong interest from potential private investors. This is because the Government bears demand and payment risk, and the PPP option allows for the private operator to provide non-irrigation services to farmers Is simpler for the Government to implement than other options that provide strong incentives. Contract Monitoring Arrangements To develop the recommended regulatory framework, we considered the three types of regulatory structures that have been used around the world: Institutional regulator Regulation by contract, supported by an independent panel of experts A hybrid of the two. In practice, hybrid regulatory frameworks have not delivered the desired results. This is because it is difficult to define how an independent regulator (institutional regulator) can coexist with rules defined in contracts and subject to final decisions by binding arbitration (regulation by contract). We compared how these options perform with regard to: International best practice Organizational consistencyperforming the necessary regulatory functions competently and impartially in a way that does not strain the countrys or sectors organizational capabilities and that is consistent with legal and administrative traditions. We recommend regulation by contract, supported by an independent panel of experts because:

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International experience has demonstrated that: Because it is difficult to define how an independent regulator (institutional regulator) can coexist with rules defined in contracts and subject to final decisions by binding arbitration (regulation by contract), hybrid regulatory frameworks do not work well An institutional regulator for a PPP project that has as its heart a PPP contract performs essentially the same as a hybrid regime The recommended option allows the irrigation schemes to benefit from involvement of foreign experts with extensive experience in economic regulation, and the independent nature of the IPE ensures impartiality Regulation by contract is easier to integrate with existing legal and administrative traditions. Action Plan We have recommended an action plan for implementing the Megech, Ribb, and Anger irrigation PPPs. The action plan is essentially a road map for implementing a transaction that will engage a private operator as the private party to each of these PPP contracts. It includes the steps required to prepare and carry out this transaction and is based on our knowledge of what has been necessary to implement similar PPP transactions around the world.

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Introduction

This section will first describe the central role that agriculture plays in the Ethiopian economy, and why irrigation is a priority for the Government and the World Bank (Section 1.1). It will then outline the rest of this report (Section 1.2).

1.1

The Importance of Agriculture and Irrigation

Agriculture is central to the Ethiopian economy, with approximately 86 percent of the population engaged in agricultural activities. Agriculture also provides around 52 percent of the gross domestic product (GDP) and 90 percent of export earnings. Lack of sufficient and effective irrigation in agriculture contributes to low agricultural yields, and is a significant constraint to economic growth. Irrigation increases the yield of cultivated lands, and allows for the extension of cultivated areas. Greater productivity will have a positive impact on rural income, food security, agricultural exports, and, ultimately, on the overall Ethiopian economy. The Government is aware that in order to increase agricultural productivity it will need to increase the number of hectares with access to irrigation. As evidence of the importance that irrigation has on Ethiopias economy, Figure 1.1 presents a chart prepared by the World Bank that clearly shows how economic growth is correlated to rainfall. Figure 1.1: Rainfall Variation around the Mean and GDP Growth

Source: World Bank (2006), in Sadoff, C (2006) Can Water Undermine Growth? Evidence from Ethiopia, Agricultural & Rural Development Notes, The World Bank

The Government has prioritized the development of irrigation schemes as a central component of its poverty reduction strategy. Irrigation is a key component of the Governments Plan for Accelerated and Sustained Development to End Poverty
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(PASDEP) and the Governments strategy for meeting the Millennium Development Goals. The Government plans to support the development of irrigation for over 260,000 hectares in the Nile Basin by 2016. This means doubling the amount of land under irrigation there in less than 15 years. The Government expects the amount of land under irrigation to increase by 4.5 percent annually in the short term, and 6.5 percent annually in the long term. The World Bank is also committed to supporting the development of irrigation in Ethiopia. One of the four priority objectives in the World Banks May 2006 Interim Country Assistance Strategy for Ethiopia is to increase agricultural productivity. The Ethiopian Nile Irrigation and Drainage project is a key element of the World Banks strategy in Ethiopia. The objective of the Ethiopian Nile Irrigation and Drainage project is to increase household incomes, increase sustainable agricultural output and productivity, and reduce the effects of climate variability on agricultural productivity by financing irrigation development and by strengthening the Governments strategy for irrigation and drainage. The project will finance the development 20,000 hectares of ground and surface water irrigation (Megech and Ribb) and preparation of irrigation projects for an additional 80,000 hectaresincluding Anger.

1.2

Report Outline

This report presents the recommended PPP models for each irrigation scheme, the contract monitoring arrangements that we propose, and an action plan for implementing the recommended PPP models for each scheme. Section 2 shows the location of and describes some basic characteristics of the Megech, Ribb, and Anger irrigation schemes and the farmers in the command areas for each scheme. Section 3 discusses the objectives and views of the key stakeholders for the irrigation schemes. The key stakeholders are the Government, farmers and private partners. For the irrigation schemes to be successful, the objectives of all of the key stakeholders should be met. Section 4 defines public-private partnerships (PPPs) and discusses how PPPs can be used to provide farmers with access to irrigation services that is more reliable than under the Governments current approach to providing irrigation. It also reviews the experience of other countries implementing PPPs, and other private sector management approaches, for irrigation and draws lessons from them for the case of Ethiopia. Section 5 outlines the legal framework for PPPs in irrigation in Ethiopia. Section 6 summarizes the key implications of the previous sections for the design of PPPs in Megech, Ribb, and Anger irrigation schemes. This includes:

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Comparing the costs of developing the schemes with the amount that farmers are willing to pay for irrigation, and discussing how an operating subsidy could be minimized and implemented Considering how non-irrigation services could be incorporated in to the PPPs Considering how demand and payment risk could be allocated, given the private sectors views on bearing these risks. Section 7 discusses the PPP options that we have developed, analyzes them, and states which PPP option we recommend for each scheme. Section 8 presents the recommended PPP option in more detail. It also includes estimates of the required subsidy and recommendations for administering payments to the private operator. Section 9 presents the contract monitoring arrangements that we recommend, and Section 10 presents a step-by-step plan for implementing the PPPs for each scheme.

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Basic Facts on the Megech, Ribb and Anger Irrigation Schemes

The Abbay (or Blue Nile) river basin is one of three river basins in Ethiopias Nile drainage system. The irrigation potential is estimated at over 1 million hectares. The Megech, Ribb, and Anger irrigation schemes are located within the Abbay basin. This section shows the location of and describes some basic characteristics of the irrigation schemes and the farmers in the command areas for each scheme. Figure 2.1 shows the location of each scheme. Figure 2.1: Locations of Irrigation Schemes

Megech

Ribb

Anger

Table 2.1 presents characteristics of the irrigation schemes, including: Size of project area and irrigable area Number of woredas and kebeles in each project area Source of water

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Assumed crop pattern Type of system Peak demand Phasing Estimated capital costs Estimated operating and maintenance costs Economic internal rate of return

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Table 2.1: Basic Characteristics of Megech, Ribb, and Anger Irrigation Schemes
Megech Project Area Irrigable Area No. of Kebeles No. of Woredas Source of water Assumed crop pattern Type of System Peak Demand Phasing Capital Costs (ETB 2008) O&M Costs (ETB 2008/ha/year) Economic Internal Rate of Return 5,254 ha 4,466 ha 13 Kebeles within project area; 8 Kebeles partly within project area Project within 1 Woreda Lake Tana Rice Two pumping stations and open channels 8,700 m3/ha/year 6 phases of which this project is first phase ETB 213 million ETB 1,157/ha/year 22% Ribb 17,700 ha 14,460 ha 8 Kebeles within project area; 8 Kebeles partly within project area Project within 2 Woredas Ribb River NA Dam on Ribb River and open channels 9,300 m3/ha/year None ETB 984 million ETB 874/ha/year 14% Anger 17,200 ha 14,450 ha 22 Kebeles within project area Project within 3 Woredas Anger River NA Dam and open channels NA 2 phases of which this project is one phase NA NA NA

Sources: Castalia Willingness to Pay Surveys, BCEOM Pre-Feasibility Study, World Bank Project Appraisal Document (2007)

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The Megech and Ribb command areas are populated with smallholder farmers. There are approximately 13,600 farm households in Megech and 10,700 farm households in Ribb. These households cultivate an average of 2.0 hectares and 1.2 hectares, respectively, for Megech and Ribb. The Anger area has areas of unoccupied land, which are suitable for commercial farming. There are approximately 10,300 farm households in the command area. They cultivate an average of 1.7 hectares. Further details on the characteristics of farmers in each command area, their interest in receiving irrigation and other agricultural services, and their willingness to pay for irrigation are provided in Section 3.2 Table 2.2 presents characteristics of the farmers in the command areas, including: Number of households/farms Average farm size and distribution Average income per farm Current crops grown Current irrigation practices Percent of farmers with land use certificates.

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Table 2.2: Basic Characteristics of Farmers in Megech, Ribb, and Anger Command Areas
Megech Number of Farms (Farming Households) Average Farm Size (Cultivated Land) Size Distribution Average income per farm Current Crops 13,600 (approximate) 2 ha 87% of farms have 1 to 3 ha ETB 4,750/year >70% cultivate chick peas, teff, finger millet and sorghummostly subsistence 11% use irrigation Ribb 10,700 (approximate) 1.2 ha 75% of farms have 1 to 3 ha ETB 3,360/year >70% cultivate rice, chick peas and vetchmostly subsistence 40% use irrigation average reported cost is ETB 1,970/ha/year Anger 10,300 (approximate) 1.7 ha 81% of farms have 1 to 3 ha ETB 4,240/year >90% cultivate maize and sorghum 8% use irrigation

Current use of Irrigation

Rights to use land

100% of farmers have been certified to use land, but over 60% of farmers rent land from other farmers

97% of farmers have been certified to use 96% of farmers have been land, but over 25% of farmers rent land certified to use land from other farmers

Sources: Castalia Willingness to Pay Surveys, BCEOM Pre-Feasibility Study, World Bank Project Appraisal Document (2007)

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Key Stakeholders Objectives and Views

The first step in the process of identifying public-private partnership (PPP) models for the Megech, Ribb, and Anger irrigation schemes involves consultation with key stakeholders. This is important because to be successful, the PPP model chosen for each irrigation scheme must respond to the expectations, concerns, and objectivesin short, the viewsof these stakeholders. The key stakeholders are: The Government of Ethiopia The farmers in the command areas 1 The private partners who develop the irrigation schemes. We met with 37 central, regional and local Government officials in Addis Ababa, Bahir Dar, Nekemte, and the project areas. These officials represent 24 ministries, agencies, and local governments. We carried out a survey of approximately 200 farmers in each project area. We also contacted 16, and spoke with eight, potential private investors to gauge their views on the various PPP models under consideration. Governments Views and Objectives In our consultations with the central, regional, and local Governments in the Megech, Ribb, and Anger project areas, we found that: The Government is committed to developing the Megech, Ribb, and Anger irrigation schemes and supports the idea of private-sector involvement in their development and management The Government would like to help farmers access reliable irrigation services The Government would like to improve water management practices in irrigation The Government would like to involve the private sector in the development and operation of irrigation schemes The Government would like to attract investors to commercial farming in the Anger Valley The Government would like to help farmers access inputs, post-harvest services, and other related services The Government would like to encourage investors to engage smallholder farmers as outgrowers

The command area of each irrigation scheme is the land area that will be served with irrigation from the scheme.

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The Government is prepared to subsidize the capital costs of developing irrigation infrastructure for smallholder farmers, but less willing to subsidize operating and maintenance costs. The Government does not have experience designing or implementing PPPs for infrastructure projects Although private ownership of land is not permitted in Ethiopia, there is foreign investment in commercial farming The lack of private ownership of land may make it difficult for investors to secure financing for irrigation schemes. Farmers Views The smallholder farmers in the command areas are very interested in receiving irrigation, even if this means paying for it. At least 93 percent of farmers in all three command areas are willing to pay for irrigation. However, the amount that smallholder farmers are willing to pay for irrigation is low. In Megech, the average amount that farmers are willing to pay is 310 ETB per hectare, per year. In Ribb, it is 294 ETB per hectare per year, and in Anger it is 216 ETB per hectare per year. Only approximately one-third of respondents in each project area stating they were willing to pay 300 ETB or more per year. This will cover only a fraction of the estimated cost of operating and maintaining the systems. Farmers in the Ribb project areas that are currently using irrigation (43 percent of the farmers surveyed) pay up to 1,970 ETB per hectare per year. These farmers are willing to pay an average of 373 ETB per hectare per year under the irrigation scheme to be developed as a PPPthis is 27 percent higher than the average willingness to pay. This leads us to believe that once farmers see the benefits of irrigation, in terms of increased productivity and incomes, they would be willing and able to pay more than they reported in the survey. Farmers in the command areas also have a high degree of interest in receiving services beyond irrigation from the private investor in the irrigation schemes. This includes training, post-harvest services, and possibly becoming outgrowers to the private investor. Private Investors Views Based on consultations with eight potential private investors, we found that to be attractive to potential private investors, the PPP structures for each irrigation scheme should: Give the private investors comfort that they will recover their costs and receive adequate return on any capital they invest Allocate the following risks to the Government:

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Demand riskthe risk that demand for irrigation will be lower than expected Payment riskthe risk that farmers will not pay for the water that they use Allow for irrigation operation and maintenance to be combined with other commercial activities such as: Commercial farming Providing complimentary services to farmerssuch as marketing Delegate responsibility for design and construction of the irrigation system to the private investor Not require the private investor to have capital at risk Give secure land use rights to the private investor, in the form of a land lease with a term that is as long as legally possible Ensure that the portion of revenue to the investor that is meant to cover costs incurred in hard currency (US dollars, euros) is paid in hard currency. The rest of this section presents in more detail what we understand to be the objectives and views of these three groups of stakeholders, based on our consultations. It also describes the methodology we followed to consult with them. Section 3.1 presents the Governments objectives and views, Section 3.2 presents the farmers views, and Section 3.3 presents the potential private investors views.

3.1

Government

The Government recognizes that a new approach to developing irrigation schemes for smallholder farmers is necessary. It is interested in using PPPs to develop the Megech, Ribb, and Anger irrigation schemes. We consulted with central, regional, and local government officials to gather their views on issues related to the design of these PPPs and irrigation schemes, and to gather information on the context in which these PPPs will be implemented. This section summarizes the results of our consultations with central and regional government agencies, and with woreda administrators (local governments) in the project areas. In Section 3.1.1 we present the list of Government agencies we spoke with during our work. In Section 3.1.2 we discuss the results of our consultations, as outlined above. 3.1.1 List Government Stakeholders Consulted The key Government stakeholders are those that will make decisions regarding, and implement the PPPs. We consulted Government stakeholders at the central, regional, and local levels. We also consulted agencies that will not be directly involved in making decisions or implementing the PPPs, but that do have relevant information for our work.
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Central Government Level At the central Government level, we consulted with the following ministries and agencies: Ministry of Water ResourcesIt is the ministry responsible for implementing large-scale irrigation projects Ministry of FinanceIt will decide whether the Government should fund the capital costs of the projects and any other costs associated. It has already decided that the capital costs can be financed by the World Bank loan for the EIDP The Ministry of Agriculture and Rural DevelopmentIt is the ministry responsible for implementing small- and medium-scale irrigation projects, and for providing agriculture extension services to farmers in the command areas The Privatization and Public Enterprises Supervising AgencyThis agency provided useful feedback on the Governments current approach to PPPs, privatization, and land leases to the private sector. The results of this meeting are discussed in our Legal Due Diligence note. Regional Government Level At the regional level, we met with officials at five agencies in the Amhara region and four in the Oromia region. These agencies have information that is relevant to the irrigation schemes, and they may be involved in aspects of the development and implementation of PPPs for the irrigation schemes. They agencies are: Amhara Bureau of Water ResourcesIt is the regional branch of the Ministry of Water Resources for the Megech and Ribb schemes Amhara Bureau of AgricultureIt is the regional branch of the Ministry of Agriculture and Rural Development for the Megech and Ribb schemes Investment Promotion Agency of Amhara National Regional StateIt is the agency responsible for attracting private-sector investment to the Amhara region Amhara National Regional State Environmental Protection Land Administration and Use Authority (EPLAUA)It is the agency responsible for implementing land use policy Amhara National Regional State Cooperative Promotion AgencyIt is the agency responsible for overseeing the development of cooperatives in the region Oromia Bureau of Water ResourcesIt is the regional branch of the Ministry of Water Resources for the Anger scheme

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Oromia Agriculture BureauIt is the regional branch of the Ministry of Agriculture and Rural Development for the Anger scheme Oromia Irrigation Development AgencyIt is responsible for developing small-scale irrigation projects East Wellega Investment OfficeIt is the agency responsible for attracting private-sector investment to the Oromia region. We also consulted with the Regional Project Coordinator of the EIDP in the Amhara region. Local Government Level At the local level, we met with key officials in the following woredas in the command areas: Fogera (Ribb) Libokemkem (Ribb) Gida Ayana (Anger) Sibu Sure (Anger) Appendix A contains a list of our meetings with central, regional and local government stakeholders. 3.1.2 Findings on the Governments Objectives and Views Implementing the Megech, Ribb, and Anger irrigation schemes is a high priority for the Government. Section 1.1 explained why the Government is committed to developing these (and other) irrigation schemes. In our consultations with the Government, we gathered their objectives and views on issues directly related to the design of the PPPs and irrigation schemes. We have found that the Government: Is committed to developing the Megech, Ribb, and Anger irrigation schemes and supports the idea of private-sector involvement in their development and management Would like to improve the reliability of irrigation for smallholders Involve the private sector in the development and operation of irrigation schemes Would like to attract investors to commercial farming in Anger Would like to provide farmers with access to inputs, post-harvest services and infrastructure, and other related services Would like to encourage investors to engage smallholder farmers as outgrowers

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Is prepared to subsidize the capital costs of developing irrigation infrastructure for smallholder farmers, but less willing to subsidize operating and maintenance costs. The following sections discuss each point in more detail. Support for the irrigation schemes and a private sector involvement Officials in the central, regional, and local governments are committed to developing the Megech, Ribb, and Anger irrigation schemes. The Ministry of Water Resources, which has responsibility for developing large-scale irrigation schemes, is completely committed to their development. Other officials note that these three irrigation schemes are very important, as they will give farmers access to irrigation that they desire, increase crop yields, and therefore increase farmers incomes. Almost none of the officials whom we consulted are familiar with PPPs; however, they support the idea of a private-sector entity developing and operating the irrigation schemes. Officials at the central and local government levels are already involved in preparing the projects and have committed to developing them with participation from the private sector. Officials at the woreda offices in the project areas expressed their full support for the projects and the private-sector approach. The concept of involving a private company in the development and operation of the irrigation schemes was relatively new to them when we consulted them, but they did not hesitate to support this concept. It is also interesting to note that the Minister of Finance is working on developing a concept paper on PPPs in large-scale irrigation. There was no information available on the content of this paper when we consulted the Ministry. We have observed this high level of support for PPPs during our initial consultations, in which Government officials are learning of the plans for the irrigation schemes and the benefits that PPPs can have. However, the Governments true level of commitment will be seen when decisions regarding the implementation of the PPPs have to be made. Some critical decision points that would reveal the Governments true level of commitment may include: Drafting and passing legislation or regulations, such as a PPP law or policy, or a Water Code, to strengthen the legal framework for PPPs Establishing a subsidy fund, administered by a private financial institution, to pay any subsidies required to the private investor. Improve the reliability of irrigation for smallholders From our consultations with the officials listed in Section 3.1.1, we understand that the Governments principal objective for the Megech, Ribb, and Anger irrigation schemes is to provide more reliable irrigation for smallholders than past approaches have. This is the overriding objective at all levels of Governmentcentral, regional, and local. It involves assuring that the farmers receive the quantity of water they need whenever they need it, accurate to the day and even hour that they need it.

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Government stakeholders including the Ministry of Water Resources, Ministry of Agriculture, Oromia Irrigation Development Agency, several regional bureaus in Amhara and Oromia, and woreda officials, recognize that the Governments past approach to developing irrigation for smallholders has not provided the reliability that farmers need to effectively increase the yield of their land and increase their income, and have a positive impact on economic growth. These Government stakeholders wish to take a new approach to improve the reliability of irrigation for smallholders. Under the current approach, fees paid and contributions-in-kind from farmers barely cover operating costs and do not cover maintenance costs. Because of this, massive rehabilitations are usually needed every few (approximately 4-5) years. If the Government cannot fund these rehabilitations, the farmers are left without access to irrigation. Figure 3.1 illustrates the Governments current approach to providing irrigation for smallholder farmers. Figure 3.1: Current Approach to Irrigation for Smallholders
Ministry of Finance Budget Ministry of Water Funding for Construction Resources / and Rehabilitation Ministry of Agriculture Taxes

Irrigation Scheme

Contributions inkind and Cash

Farmers

The Ministry of Water Resources (in the case of large-scale schemes of over 3,000 hectares) or the Ministry of Agriculture and Rural Development (in the case of smalland medium-scale schemes) fund the construction of the irrigation system. Typically these funds are sourced from a concessional loan or grant from a multilateral or bilateral donor agency. Farmers make contributions in-kind, and in some instances make cash payments, to support the construction and operation of the system. For example, they may provide construction materials. Farmers themselvesorganized in water users associations or irrigation cooperativesoperate the systems. In cases cited by the Oromia Irrigation Development Agency, farmers cash payments cover no more than 10 percent of operating and maintenance costs. Farmers total contributions including labor and materials given in-kind cover no more than 15 percent of operating and maintenance costs. Under this approach, the Government and farmers bear all of the risks of building, operating and maintaining the irrigation systems. For example:

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Construction cost overrunsconstruction is delayed or implementing agency must increase its budget for the project, or both. Here, the Government bears risk Construction delaysfarmers must wait longer than expected to receive irrigation. Here, the farmers bear risk Operating problemsif the irrigation system experiences problems that result in farmers not being able to extract water from the system as needed, the farmers have no recourse. For example, if the gate that controls the inflow of water to a canal on a farmers property is not opening, the farmer cannot receive water until he or she finds a way to fix the gate. Here, the farmers bear risk System repairsthe Government must fund repairs to the system. Farmers may be without irrigation for a time while the Government secures the funding. Here, the farmers bear risk As described by the Ministry of Agriculture, the Oromia Irrigation Development Agency, and other government officials, this approach has resulted in: Inefficient irrigation systems, with technical and non-technical losses of up to 75 percent or more Unsustainable irrigation systems Inadequate operation and maintenance leading to system breakdowns that require massive rehabilitations In most cases, the Government does not have funds available for these rehabilitations and must secure funding from donors such as the United Nations Food and Agriculture Organization, United Nations Development Program, and others. Government ministries, regional bureaus, and local governments concur that a new approach is needed to provide more reliable irrigation to smallholders. This includes reducing system losses and improving maintenance so that the schemes are more sustainablethat is, they do not require massive rehabilitations every 4-5 years or so. Improve water management practices in irrigation The Government is also interested in taking a new approach to irrigation that will reduce the amount of water lostor wastedfrom irrigation systems. The Ministry of Agriculture and the Oromia Irrigation Development Agency have told us that previous irrigation schemes built to serve smallholders have losses of between 50 percent and 75 percent. There are many reasons for these high levels of losses. One of the reasons is poor maintenance of irrigation systems, as described in Section 0. Another reason is that farmers lack incentives to use the water they obtain from irrigation systems efficientlyin part, because they do not pay for the water they use on a volumetric basis.

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Involve the private sector in the development and operation of irrigation schemes Another of the Governments objectives for the Megech, Ribb, and Anger irrigation schemes is to expand the role of the commercial private sectorthat is, the private sector beyond smallholder, subsistence-level farmersin the agriculture sector. This objective has three sub-components. The Government would like to involve the private sector in the development and operation of irrigation schemes The Ministry of Water Resources document on the operationalization of its irrigation strategy states that the Government wishes to encourage the involvement of the private sector in: Implementation or construction of medium/large scale schemes The O&M and management phases of the schemes. Officials at the Ministry of Water Resources have noted that involving the private sector in the operation and maintenance of irrigation schemes will introduce best practices to these areas. As discussed in the sub-section above, best practice has been lacking in irrigation schemes developed for smallholder farmers. Attract investors to commercial farming in the Anger Valley In the Anger Valley, large tracts of unoccupied land exist and can be used for commercial farming. The Ministry of Water Resources has expressed interest in attracting commercial farmers to this land. Officials at the Oromia Irrigation Development Agency, East Wellega Investment Bureau, Gida Ayana woreda, and Sibu Sire woreda also share this view. Officials in the woreda administration offices in Gida Ayana and Sibu Sire stated that attracting commercial farmers to the valley is a high priority because it would provide additional sources of jobs and income for the people living in the valley. Officials also recognize that in order to make a large plot of land available for a commercial farm, some smallholder famers may need to be relocated. While the Ministry of Water Resources has stated that it would not like to relocate farmers, regional agencies and woreda officials think that relocation would be possible. Officials at the Oromia Agriculture Bureau, East Wellega Investment Office, and Gida Ayana woreda Sibu Sire woredas have expressed that the Government could relocate farmers without much difficulty if the farmers are properly compensated. Provide farmers with access to inputs, post-harvest services and infrastructure, and other related services At the central, regional, and local Government levels officials concur that they would like for the private investor in the irrigation schemes to provide non-irrigation services to farmers as well. This objective comes in the context of Ethiopias ongoing transition from a centrally-planned to a market economy. The commercialization of agriculture and the promotion of non-farm private sector growth is one of the main elements of the Governments Plan for Accelerated and Sustained Development to End Poverty (PASDEP).

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The Government is interested in having the private investor in the irrigation schemes provide any combination of the following services to farmers: Input supply Training on: Crop selection Use of irrigation Post-harvest services, including: Storage, including cold storage for perishable crops such as tomatoes Processing Marketing Transportation. Interest in the private investor to providing these types of services is strongest at the local Government level and weakest at the central Government level. There is also a higher level of interest in having the private investor provide post-harvest services, than in having the investor provide inputs and training. Officials in Fogera woreda (Ribb) stated that the most critical issue for farmers is the lack of access to markets, and that farmers would welcome assistance with marketing their crops. Officials at Libokemkem woreda (Ribb) had a similar position. In both of these woredas, and in the opinion of the Oromia Irrigation Development Agency, another critical issue is the lack of cold storage facilitiesfarmers would like to cultivate high-value vegetable crops, but these crops are perishable. Without cold storage, the market is flooded at harvest time and crops that are not sold rot. Woreda officials and officials at the Amhara Cooperative Promotion Agency also state that farmers also need access to inputs, transportation, and processing facilities. The official at the Amhara Cooperative Promotion Agency noted that although marketing is one of the irrigation cooperatives main responsibilities (where these cooperatives exist), their marketing systems are not well-established and tend to be insufficient. Officials at the Gida Ayana and Sibu Sire woredas (in Anger) state that farmers need support in marketing their crops. Officials in Sibu Sire also state that farmers need better physical access to markets through roads. Most kebeles in the woreda do not have access roads. Officials perceive that farmers have a stronger need for post-harvest services than for input supply and training. Also, agricultural extension workers at the woreda levels are already providing training (coordinated and funded through the regional Bureaus of Agriculture), and cooperatives are already providing some access to inputs in some of the project areas. In Amhara, the Bureau of Water Resources provides training to farmers on the use of irrigation.

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Smallholder farmers as outgrowers Government officials are also interested in the possibility that the private investor in the irrigation schemes engages smallholder farmers as outgrowers. This is a definite possibility in Anger, where an investor that develops commercial farming in addition to irrigation could include outgrowers in its commercial farming scheme. It is less clear how this would work in Megech and Ribb, where there is no land available for the private investor to develop its own farm. The official at the Oromia Bureau of Agriculture stated that developing smallholders as outgrowers to commercial farmers is its main strategy in the region. An outgrower structure could also help to resolve the problem of inadequate marketing. Furthermore, the official in charge of the PPP Department at the Privatization and Public Enterprises Supervising Agency has also mentioned that engaging smallholders as outgrowers to a commercial farmer would be feasible and attractive to investors in the agriculture sector. Subsidize the costs of developing irrigation infrastructure for smallholder farmers The Government is prepared to fund the capital costs of developing irrigation schemes for smallholders. The Governments water sector policy states that irrigation schemes should achieve total cost recovery, but the Government also acknowledges that this is not likely to be achieved for schemes that serve smallholders. The Government is prepared to finance the capital costs of developing irrigation schemes that serve smallholders. Of the funds from the EIDP, the Government has destined US$46.5 million to finance the capital costs of the Megech and Ribb schemes. Approval for Government subsidies comes from the Ministry of Finance and the Council of Ministers. Box 3.1 describes the Ministry of Finances view on subsidizing irrigation for smallholders and the process of subsidy approval.
Box 3.1: Ministry of Finances View on Subsidizing Irrigation for Smallholders The Ministry of Finance supports the policy of subsidizing irrigation schemes that are developed for smallholder farmers. The Minister is currently leading the development of a concept paper regarding the Governments approach to subsidizing large-scale irrigation systems. The Council of Ministers, led by the Prime Minister, is responsible for approving subsidies for large projects such as Megech, Ribb, and Anger. The Ministry of Finance recommends subsidies for approval by the Council of Ministers. In making this recommendation, the Ministry of Finance considers each project on a project-byproject basis. The Ministry of Finance considers budget capacity, other spending priorities, and political aspects in making this decision.

The Governments position on subsidizing operation and maintenance costs is unclear. According to the water sector policy, the Government is not prepared to provide operating subsidies for irrigation schemes. However, in practice, the Government has

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indicated that it may be willing to provide operating subsidies over a short period of time. The Ministry of Water Resources is overseeing the development of the Koga irrigation scheme. This is the first large-scale irrigation project in the country to serve smallholder farmers. The Governments position on this project is that the full costs of operating and maintaining the irrigation system should be recovered through tariffs paid by farmers. However, tariffs have not yet been set. The results of the ongoing willingness-to-pay survey will help to determine at what level tariffs will be set. The Government realizes that full recovery of operation and maintenance costs may not be achieved. The Government and the World Bank are also aware that smallholder farmers in the Megech, Ribb and Anger command areas may not be willing and able to pay tariffs that allow the full operation and maintenance costs to be recovered. The Government and the World Bank have set aside some funding in the EIDP to finance an operating subsidy during the first four years of operation of the Megech and Ribb schemes. No experience with PPPs The Government does not have experience designing or implementing PPPs of the type under consideration for the Megech, Ribb, and Anger projects. PPPs of the type under consideration for these projects are contractual arrangements whereby the Government transfers some of the responsibilities, and some of the risks, of service provision to a private-sector party. The private-sector party delivers a service over a period of time, and ensures that the service meets certain standards defined in the agreement. The private-sector party delivers these services by operating a facility for which it has provided a combination of the following: design, construction, and finance. The Government has implemented PPPs per its own definition. Its definition of PPPs includes long-term leases, short-term leases, or joint ventures used to transfer existing Government assetsmainly state-owned farms and factoriesto the private sector. However, this is not the type of PPP that would be developed for the EIDP project Therefore, an important component of our work will be to familiarize the Government with the definition of, and issues related to the implementation of, PPPs of the type that will be implemented for the EIDP. Foreign investment in agriculture Although no PPPs of the type that will be implemented for this project exist, and there is no foreign investment in infrastructure in Ethiopia, there are some large commercial agriculture ventures involving foreign investment. This suggests that while the private sector is not allowed to own land (per the Constitution of Ethiopia), foreign investors have still found attractive investment opportunities in Ethiopias agricultural sector. Some examples of foreign investment in agriculture include:

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Green Focus 3,000 hectare farm near Anger Valley. This is a joint venture between Ethiopian and Indian investors Fri El Green Power 60,000 hectare palm oil plantation in Omo Basin. This is a US$3 billion investment by an Italian company A sugarcane plantation in the Belles valley. This is a joint venture between Ethiopian and Brazilian firms (BDFC and FP Aeroparts Ethiopia). There are also a number of commercial farms in Awash valley, some of which have developed their own irrigation systems. Lack of land ownership may make financing difficult While foreign and domestic companies have invested in the agriculture sector despite not having full land ownership, the lack of full land ownership may make it difficult for investors to obtain financing. This is especially true in irrigation. In agriculture schemes, companies may use crops, land leases, buildings, or vehicles as collateral for loans. Investors in the irrigation schemes will not have crops or a lease over a consolidated land territory. They also may not have a lease for the land that the irrigation system runs throughthe Government may instead issue another type of certificate giving them the right to use the irrigation infrastructure financed by the Government. This could be the case if the Government finances 100 percent of the capital costs. Thus, it may be difficult for the investor to provide collateral that banks will accept.

3.2

Farmers

To ensure that the PPPs for the Megech, Ribb, and Anger irrigation schemes respond to the expectations and needs of farmers it is necessary to determine: The farmers degree of interest in receiving irrigation from the schemes How much the farmers are willing to pay for irrigation from the schemes, and if the amount that farmers are willing to pay follows any geographical patterns The farmers interest in receiving complimentary agricultural services such as marketing services and storage infrastructure, for example. To determine the farmers views regarding these points, we carried out a survey of a sample the farmers in the command areas. The results of the survey indicate that: Farmers have a very high degree of interest in receiving irrigation from all three schemes, even when this means paying for it. At least 93 percent of farmers in all three command areas are willing to pay for irrigation However, the amount that household farmers are willing to pay for irrigation is low. In Megech, the average amount that farmers are willing to pay is 310 ETB per hectare, per year. In Ribb, it is 294 ETB per hectare per year, and in Anger it is 216 ETB per hectare per year. Only approximately

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one-third of respondents in each project area stating they were willing to pay 300 ETB or more per year. This will cover only a fraction of the estimated cost of operating and maintaining the systems Farmers that currently use irrigation11 percent of farmers surveyed in Megech, 43 percent in Ribb, and 8 percent in Angerare, on average, willing to pay higher amounts than farmers that do not use irrigation. They also tend to have higher incomes and cultivate higher-value crops. Farmers in the Ribb area that currently use irrigation that has an associated cost pay on average ETB 1,970 per hectare per year. This payment would be sufficient to cover the operating and maintenance costs of the Megech and Ribb irrigation schemes estimated in the pre-feasibility studies for each scheme The amount that farmers are willing to pay for irrigation within each command area does not vary significantly between kebeles in the same command area. In other words, no significant geographic patterns emerge regarding the amount that farmers are willing to pay for irrigation within each command area Farmers in the command areas also have a high degree of interest in receiving complimentary services from the private investor in the irrigation schemes, including possibly becoming outgrowers to the private investor. A summary of the survey methodology and results is presented below in six parts. First, we present the survey methodology (Section 3.2.1) Second, we present the willingness to connect of household farmers to the irrigation system (Section 3.2.2). This explains the farmers degree of interest in receiving irrigation, what amounts they are willing to pay for irrigation, and if these amounts follow any geographical patterns Third, we present the farmers interest in receiving complimentary agricultural services from, and entering into other types of partnerships with, the private investor (Section 3.2.3) Fourth, we present information on the socio-economic characteristics of farmers (Section 3.2.4). This includes their incomes, the amount of land they cultivate, the types of crops they grow, and their current irrigation practices. This helps to understand the context in which the irrigation PPPs will be implemented Fifth, we analyze in more detail the incomes and crops grown by the farmers currently using irrigation (Section 3.2.5) Fifth, we present what farmers perceive to be their main problems (Section 3.2.5). This provides more information on how strongly they value irrigation and the other types of services that may be provided as part of the PPP, compared to other types of agricultural services and assistance

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Finally, we present the results of our consultations with commercial farmers separately from our consultations with smallholder farmers (Section 3.2.7). Appendix D presents the survey results and methodology in more detail. 3.2.1 Methodology This section summarizes the methodology used to carry out the willingness-to-pay survey. A full description of the methodology, along with tables on the sample size, is provided in Appendix D.1. Initial survey design work commenced in September-October 2007. A draft questionnaire was developed with the field manager and tested in the field in between 2 and 10 November 2007. Training of the supervisors and interviewers was undertaken including in the fieldbetween 2 and 9 December 2007 in Megech and Ribb, and between 11 and 14 December in Anger. Further field testing was completed during the interviewer and supervisor training. This led to no significant content changes, although a number of local language updates were made. Formal field work was completed between 10 and 22 December 2007. Data input and cleaning was then completed by 6 January 2008. The sample frame includes household farmers and commercial farmers in the three project areas. The project areas are split into woredas which are in turn made up of kebeles. A woreda is an administrative ward, or local government, equivalent to a district. Kebeles are neighborhood associations and are the smallest unit of local government in Ethiopia. There is no complete and accurate data on which kebeles definitely lie within the project areasespecially in the Anger project area. The kebeles within the sample frame were identified through meetings with the Ministry of Water Resources and with relevant Woreda and kebele officials in the field. In total, a sample of 615 household farmers was used, with a minimum of 200 household farmers sampled in each of the three project areas. There were six kebeles sampled in each of the Megech and Ribb project areas, and seven kebeles in Anger making a total of 19 sampled kebeles. Both the sampled kebeles in each project area and the sample within each kebele were identified randomly. 3.2.2 Willingness of Smallholder Farmers to Connect to the Irrigation Systems For each command area, this section summarizes farmers degree of interest in receiving irrigation that they would have to pay for, how much they would be willing to pay, and whether and how much they would be willing to pay as a one-time registration fee. The question of a registration fee is relevant because some PPPs in irrigation and other network infrastructure sectors have sought to recover a portion of the projects capital costs through a one-time registration fee. This section provides a summary of our results. Full results and figures may be found in Appendix D.3.

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Interest in Principle In Megech, 96 percent of respondents were interested in principle in connecting to the irrigation system. 98 percent were interested in Ribb and 99 percent in Anger. Of those respondents in Megech that stated they were not interested, around half stated the reason was that they did not have land suitable for irrigation and half stated they did not have the capacity to use irrigation. Of those which expressed an interest in connecting, virtually all agreed that they would pay an annual charge to be connected: Megech: Of those 96 percent interested in connecting, 97 percent were willing to pay an annual charge (thus, in total, 93 percent of the sample were willing to pay an annual charge to be connected) Ribb: Of those 98 percent interested in connecting, all were willing to pay an annual charge (thus, in total, 98 percent of the sample were willing to pay an annual charge to be connected) Anger: Of those 99 percent interested in connecting, 98 percent were willing to pay an annual charge (thus, in total, 96 percent of the sample was willing to pay an annual charge to be connected). Payment Of the farmers that were willing in principle willing to pay for irrigation, the average amount per hectare that they were willing to pay were as follows: Megech: ETB 310 per hectare per year Ribb: ETB 294 per hectare per year Anger: ETB 216 per hectare per year. In all three project areas, only approximately one-third of respondents (36 percent in Megech, 38 percent in Ribb and 30 percent in Anger) were willing to pay ETB 300 or more per year. Thus whilst interest in the irrigation system and willingness in principle to pay an annual charge was very high, the amount that many of the farmers were willing to pay annually was relatively low. Figure 3.2, Figure 3.3, and Figure 3.4 illustrate the cumulative proportion of respondents that stated they were willing to pay between ETB 100 and ETB 800 and more per year. Thus, for instance, in Megech, 56 percent of respondents stated they were willing to pay at least ETB 200 per year. The figures emphasize that there is little substantial difference between the results from each kebele and that for the relevant project area.

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Figure 3.2: Willingness-to-Pay Results: Megech


100% C u m u l a t i v e S a P m e p r l c e e n t a g e o f 93% 90% 80% 70% 60% 50% 40% 30% 20% 14% 11% 10% 0% 100 200 300 400 500 600 700 800 and Over Annual Amount per Hectare (ETB) 8% Megech Project Area Woina Tera Guraba Bate Guranba Michael Jerjer Seraba Dablo 56% Debir Zuria

36% 29% 22%

Source: Castalia Willingness-to-Pay Survey

Figure 3.3: Willingness-to-Pay Results: Ribb


100% C u m u l a t i v e S a P m e p r l c e e n t a g e o f 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 100 200 300 400 500 600 700 800 and Over Annual Amount per Hectare (ETB) 38% 30% 98% Ribb Project Area Abua kokit Diba Sifatra Shaga Mariam 66% Shina Tsion Banbiko Genda Wuha

20% 11%

9% 3%

Source: Castalia Willingness-to-Pay Survey

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Figure 3.4: Willingness-to-Pay Results: Anger


100% C u m u l a t i v e S a P m e p r l c e e n t a g e o f 90% 80% 70% 60% 51% 50% 40% 30% 20% 10% 0% 100 200 300 400 500 600 700 800 and Over Annual Amount per Hectare (ETB) 30% 96% Anger Project Area Lelistu Anger Worebu Tulu Lencha Village 15 Village 21 Galessa Uke

15% 8% 3% 2% 1%

Source: Castalia Willingness-to-Pay Survey

Of the farmers surveyed in Ribb, 43 percent currently use irrigation. Approximately half of these farmers report that they pay for irrigation servicesusually by renting a pump and purchasing fuel for it. The average of this cost for these farmers was ETB 670 per year, which equates to a cost of ETB 1,970 per hectare per year. The average that they reported they would be willing to pay under the irrigation scheme to be developed is ETB 373 per hectare per year. This is 27 percent more than the overall average willingness to pay of ETB 294 per hectare per year. About a fifth of respondents in Ribb initially stated they were only willing to pay a lower annual figure for the proposed services than they currently pay for their irrigation use. In the main, the reasons given were that they would adjust their willingness after seeing the benefits, and that it should be the governments responsibility to pay, for instance because they own the service. In Megech, 11 percent of the farmers surveyed currently use irrigation. They stated that they would be are willing to pay, on average, ETB 495 per hectare per year under the scheme to be developed. This is 60 percent greater than the overall average of ETB 310 per hectare per year. In Anger, 8 percent of the farmers surveyed currently use irrigation. They stated that they would be are willing to pay, on average, ETB 229 per hectare per year under the scheme to be developed. This is only slightly greater (6 percent) than the overall average of ETB 216.

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Figure 3.5, Figure 3.6, and Figure 3.7 show the willingness to pay of farmers currently using irrigation in Megech, Ribb, and Anger, respectively, compared to the amounts that farmers not currently using irrigation are willing to pay. The farmers currently using irrigation are shown in blue. Figure 3.5: Willingness-to-Pay of Farmers Using Irrigation: Megech
100% 91% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 50% 40% 33% 30% 20% 10% 0% 100 200 300 400 500 600 700 800 and Over Annual Amount per Hectare (ETB)
Farmers that Irrigate Farmers that do not Irrigate

93%

59% 54% 50% 45% 36% 26% 19% 10% 36% 27% 23%

8%

6%

Source: Castalia Willingness-to-Pay Survey

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Figure 3.6: Willingness-to-Pay of Farmers Using Irrigation: Ribb


100% 90% 80% 70% 60% 50% 50% 40% 30% 20% 10% 0% 100 200 300 400 500 600 700 Annual Amount per Hectare (ETB)
Farmers that Irrigate Farmers that do not Irrigate

98% 97%

P e r c e n t a g e o f S a m p l e

69% 63%

44%

29% 19%

32%

19% 16% 10% 5% 4% 0% 800 and Over 8%

Source: Castalia Willingness-to-Pay Survey

Figure 3.7: Willingness-to-Pay of Farmers Using Irrigation: Anger


100% 90% 80% 70% 60% 52% 50% 40% 30% 20% 10% 0% 100 200 300 400 500 600 700 Annual Amount per Hectare (ETB)
Farmers that Irrigate Farmers that do not Irrigate

100% 93%

P e r c e n t a g e o f S a m p l e

35% 30%

18% 12% 15% 12% 7% 2% 1% 0% 800 and Over 12% 12% 12%

Source: Castalia Willingness-to-Pay Survey

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These results lead us to believe that once farmers see the benefits of irrigation, in terms of increased productivity and incomes, they would be willing and able to pay more than they reported in the survey. Registration Almost all respondents that expressed an interest in being connected to the irrigation system were also willing to pay a one-off registration fee. However, the respondents that were willing to pay a registration charge in Megech were only willing to pay ETB 18 per hectare of cultivated land. Those in Ribb were willing to pay an average of ETB 20 per hectare of cultivated land and those in Anger were willing to pay an average of ETB 18 per hectare of cultivated land. 3.2.3 Non-Irrigation Services from the Irrigation Operator We asked farmers what types of services, if any, they would be interested in receiving from the private investor in the irrigation scheme. We also asked them if they would find the prospect of becoming an outgrower to the private investor attractive, and whether they would be willing to lease their land to the private investor if the terms were attractive. This section presents a summary our results in terms of farmers interest in receiving agricultural services, becoming an outgrower, and leasing their land. Full results and figures may be found in Appendix D.4. Interest in Receiving Services Respondents were asked to state whether they would be interested receiving the following types of assistance from the irrigation operator, with the understanding that they would have to pay for the assistance received: Provision of storage facilities Provision of processing facilities Provision of selling services for your crop output to traders and/or consumers Provision of inputs, such as seeds and fertilizer Provision of training in how to cultivate the varieties Provision of assistance in determining standards which the crops must meet Provision of assistance in determining the highest-value crops and varieties you could produce. In Anger, over 95 percent of respondents stated they were interested in each of the series of assistance types identified. In Megech, over 93 percent of respondents stated they were interested in each of the assistance types, with the exceptions of the provision of storage facilities and provision of processing facilitiesin which slightly less than 90 percent of respondents stated they were interested. Approximately onethird of respondent in Megech which did not express interest in the provision of storage and/or processing facilities stated this was because of financial constraints.

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In Ribb, overall interest was slightly lessalthough at least 70 percent of respondents stated they were interested in each of the series of assistance types identified. Interest was lowest for the provision of storage facilities, provision of processing facilities, provision of selling services for your crop output to traders and/or consumers, and provision of inputs, such as seeds and fertilizer. In the main, the reasons provided by the respondents in Ribb for not expressing interest in these assistance types were: The land is already fertile General financial constraint Likely price would be too high. In some cases, this lower interest was a result of respondents in Ribb stating they would be interested in general in an assistance type but not if the assistance were to be provided in partnership with the private sector irrigation operator. For instance, a total of nearly 18 percent of respondents in Ribb stated that they would have been interested in general in the provision of storage facilities, but not if in partnership with the private sector irrigation operator. Outgrowing Over 90 percent in all three project areas answered positively to the option of becoming an outgrower to the private irrigation operator. Land Leasing In Megech and Ribb a majority or respondents (63% in Megech and 76% in Ribb) stated that they were not interested in leasing their land to the irrigation operator. Respondents in Anger were more positive, with just over half (52%) of them stating they were willing to lease some or all of their land. Of those that were not willing to lease land, the majority in each project area stated that the land was small and/or they wanted to use it themselves and so were not interested in leasing their land. 3.2.4 Characteristics of Smallholder Farmers This section summarizes our findings on the average incomes of smallholder farmers in the command areas, the average amount of land each farmer cultivates, the types of crops they grow, and their current irrigation practices (if any). Full results and figures may be found in Appendix D.2. Farmers current irrigation practices influence their perception of the benefits of irrigation, and thus their willingness to pay. We can assume that farmers currently using irrigation are aware of its benefits, while farmers not currently using irrigation may not be fully aware.

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Incomes On average, incomes were highest in Megech, followed by Anger. The average annual incomes in each of the project areas were as follows2: Megech: ETB 4,750 Ribb: ETB 3,360 Anger: ETB 4,240. There was a relatively wide range of household farmers incomewith most farmers incomes ranging between ETB 1,000 and 6,000 per year. It is important to measure farmers average incomes in order to determine approximately what portion of their income they would be willing to spend on irrigation. This gives an indication as to how the amount they are willing to pay for irrigation may increase as their incomes increase due to productivity gains from irrigation (though the ratio of irrigation payments/income will not necessarily remain constant). Land Area The average household farmers cultivated land area worked was lowest in Ribb (1.2 hectares). The average household farmers cultivated land area in Anger was 1.7 hectares, and 2.0 hectares in Megech. Some farmers not only cultivated land of their own but also cultivated land rented from other farmers. It is useful to know the average amount of land each farmer cultivates for purposes of designing the system and planning business models that involve outgrowing or providing services to farmers. Crops There was a wide variety of crops cultivated in all three project areas, although a few crops were cultivated by the majority of farmers in each project area: Megech: Over 70 percent of farmers cultivate chick peas, teff, finger millet and/or sorghum Ribb: Over 70 percent of farmers cultivate rice, chick peas and/or vetch Anger: Over 90 percent of farmers cultivate maize and/or sorghum. It is useful to know what crops farmers cultivate for purposes of planning business models that involve outgrowing or providing services to farmers, and in order to determine how irrigation will increase the yields of the current cropping pattern. Irrigation is more effective in increasing the yields of some crops, and less effective for others.

For the assessment of household farmer income, the highest and lowest 5% of responses from each of the project areas have been eliminated. This was done to limit the impact of outliers on the assessment.

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Current Use of Irrigation Only a small proportion of farmers in Anger (8%) and Megech (11%) stated that they currently use irrigation on all or some of their land. In Ribb, however, 43 percent of farmers stated that they use irrigation. A total of 22 percent of farmers in Ribb stated that they irrigate up to (and including) 0.25 hectares, 11 percent stated that they irrigate between 0.250.5 hectares, and 5 percent stated they irrigate 0.50.75 hectares. The remaining 4 percent of farmers that practiced irrigation farming stated they irrigate more than 0.75 hectares. The source of irrigation for these farmers in Ribb was mainly pumped from river and diversion from river. Approximately half of these farmers in Ribb report an annual cost associated with their irrigation use. The average of this cost for these farmers was ETB 670 per year. This amount equates to a cost of ETB 1,970 per hectare of irrigated land per year. Most of the costs relate to renting pumps and fuel for pumps. There was a relatively large distribution in these costs. Virtually none of the respondents in any of the project areas were members of a water user association or irrigation cooperative. However, over half (56%) of respondents in Anger were members of some type of groupalmost all of producers service cooperatives. The amounts that farmers currently using irrigation stated that they would be willing to pay for the irrigation in the Megech, Ribb, and Anger schemes was discussed above in Section 3.2.2. 3.2.5 Incomes and Crops of Farmers Using Irrigation Section 3.2.2 above showed that farmers that are currently using irrigation are willing to pay higher amounts than farmers that are not using irrigation. This is because farmers have seen the positive effect that irrigation has on their incomes. Irrigation increases yields and allows farmers to grow higher-value crops, such as vegetables. In addition to the analysis of average incomes and crops grown presented in Sections 3.2.4 and D.2, we have examined the incomes of and the crops cultivated by the farmers that are currently using irrigation. The sub-sections below present our analysis. Farmers using irrigation have, on average, higher incomes than farmers that do not use irrigation. They also cultivate a slightly different crop mix than farmers that do not using irrigation. Their crop mix includes higher-value crops. Incomes As described in Section 3.2.4, only a small proportion of farmers in Anger (8%) and Megech (11%) stated that they currently use irrigation on all or some of their land. In Ribb, however, 43% of farmers stated that they use irrigation. The section provides details on the income levels of the smallholder farmers that:

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Stated that they irrigateirrespective of whether these farmers stated that there was a cost associated with their irrigation Stated that they irrigate and that there was a cost associated with their irrigation. This analysis is only presented for Ribb because the small number of farmers that irrigate in Megech and Anger may make this type of analysis unreliable for those two areas. The number of smallholder farmers in the sample which stated that they irrigate is as follows: Megech: 22 farmers Irrigation has an associated cost: 12 farmers Irrigation does not have an associated cost: 10 farmers Ribb: 88 farmers Irrigation has an associated cost: 42 farmers Irrigation does not have an associated cost: 46 farmers Anger: 17 farmers Irrigation has an associated cost: 5 farmers Irrigation does not have an associated cost: 12 farmers. As a result of the small sample sizes of household farmers which irrigate, in particular for Megech and Anger project areas, the results of this analysis should only be considered as introductory only. Figure 3.8, Figure 3.9, and Figure 3.11 present the distribution of incomes of the farmers in Megech, Ribb, and Anger (respectively) that stated that they irrigate and those that stated they do not irrigate. Farmers that irrigate are shown in blue, and farmers that do not irrigate are shown in yellow.

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Figure 3.8: Smallholder Farmer Incomes (Categorized by Irrigation Use) - Megech


25% 24% P e r 20% c e n t a 15% g e o f 10% S a m p l e

18% 16% 16% 17%

18%

12%

12% 10%

7% 6% 5% 3% 6% 6%

7% 6% 6% 6%

2% 0% 0% 6,000 7,000 7,000 8,000 8,000 9,000

3%

0% 0 - 1,000 1,000 2,000 2,000 3,000 3,000 4,000 4,000 5,000 5,000 6,000 9,000 10,000 Above 10,000

Annual Amount (ETB) Irrigated Household Farmers Non-Irrigated Household Farmers

Source: Castalia Willingness-to-Pay Survey

A significant proportion of the 22 farmers that stated they irrigate in Megech have relatively high incomes18 percent have incomes above ETB 10,000 per year. The average income of the farmers that irrigate in Megech is ETB 6,000 per year, while the average income of the farmers that do not irrigate is only ETB 4,600 per year. On average, the incomes of farmers that irrigate are 30 percent higher than those that do not.

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Figure 3.9: Smallholder Farmer Incomes (Categorized by Irrigation Use) - Ribb


30% 28% P e 25% r c e n 20% t a g e 15% o f S a m p l e 10% 6% 5% 5% 4% 3% 1% 0% 0 - 1,000 1,000 2,000 2,000 3,000 3,000 4,000 4,000 5,000 5,000 6,000 6,000 7,000 7,000 8,000 8,000 9,000 9,000 10,000 Above 10,000 4% 3% 1% 0% 0% 0% 0% 9%

22%

18% 18% 18% 16% 16% 14% 14%

Annual Amount (ETB) Irrigated Household Farmers Non-Irrigated Household Farmers

Source: Castalia Willingness-to-Pay Survey

In Ribb, the average income of the farmers that irrigate is ETB 3,800 per year, while the average income of the farmers that do not irrigate is ETB 3,000 per year. Figure 3.9 shows that a higher proportion of farmers that irrigate fall into the higher-income categories. Figure 3.10 shows the incomes of farmers that irrigate and incur costs associated with irrigation, compared with the incomes of farmers that do not irrigate, in the Ribb area. The average cost of irrigation, as mentioned in Section 3.2.2, is ETB 670 per year, which translates into ETB 1,970 per hectare per year.

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Figure 3.10: Smallholder Farmer Incomes (Categorized by Irrigation Use and Households with Associated Irrigation Cost) Ribb
30% 28% P e 25% r c e n 20% t a g e 15% o f S a m p l e 10%

22%

22% 19% 18% 19%

14% 11%

14%

9%

5% 5% 4% 3% 3%

5% 3% 1% 1% 0% 0% 0% 0% Above 10,000 8,000 9,000 9,000 10,000

0% 0 - 1,000 1,000 2,000 2,000 3,000 3,000 4,000 4,000 5,000 5,000 6,000 6,000 7,000 7,000 8,000

Annual Amount (ETB) Irrigated Household Farmers with Associated irrigation Cost Non-Irrigated Household Farmers

Source: Castalia Willingness-to-Pay Survey

In Ribb, the average incomes of farmers that pay for irrigation are ETB 4,200 ETB per year. This is 10 percent higher than farmers that irrigate at no cost, and 40 percent higher than farmers that do not irrigate. Also, Figure 3.10 shows that farmers that pay for irrigation tend to have incomes in higher categories than farmers that do not irrigate. The incomes of farmers that pay for irrigation peak in the ETB 4,000-5,000, while the incomes of those that do not irrigate peak in the ETB 1,000-2,000 range.

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Figure 3.11: Smallholder Farmer Incomes (Categorized by Irrigation Use) Anger


45% 43%

P e r c e n t a g e

40% 36% 35%

30%

25% 22% 20%

o 20% f 15% S a m 10% p l 5% e 2% 0% 0% 0 - 1,000 1,000 2,000 2,000 3,000 3,000 4,000 4,000 5,000 0% 5,000 6,000 6,000 7,000 0% 7,000 8,000 0% 8,000 9,000 15% 10% 7% 7%

9% 7% 7% 6% 3% 0% 9,000 10,000 4% 0% 1% Above 10,000

Annual Amount (ETB) Irrigated Household Farmers Non-Irrigated Household Farmers

Source: Castalia Willingness-to-Pay Survey

In Anger, average income of the farmers that irrigate is ETB 2,700 per year, and the average income of the farmers that do not irrigate is ETB 3,000 per year. The distribution of incomes of farmers that irrigate is also lower than the distribution of incomes of those farmers that do not irrigate. There are several possible explanations for this unexpected result. The farmers that irrigate could be located in areas from which it is harder to access markets, for example. Also, given that the sample size of the farmers that irrigate is very small (17 farmers), the results could be skewed. Crops Cultivated As can be expected, the farmers that use irrigation cultivate higher-value crops than farmers that do not use irrigation. Table 3.1 presents the crops cultivated under irrigation and those cultivated without irrigation in Megech, Ribb, and Anger. Further detail is provided in Appendix D.2. Table 3.1: Irrigated and Non-Irrigated Crops
Irrigated Megech Onion Garlic Chick peas Tomatoes Onion Not Irrigated Chick peas Teff Finger millet Sorghum Rice

Ribb

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Chick peas Vetch Tomato Teff Sunflower Garlic Anger Onion Tomato Cabbage Sugar cane

Chick peas Vetch

Maize Sorghum

Source: Castalia Willingness-to-Pay Survey

3.2.6 Main Problems Faced by Smallholder Farmers The respondents were asked their opinion of a series of potential farm-based problems. Knowing what farmers perceive as their largest problems can help gauge their interest in irrigation and other infrastructure and services that could provide solutions for these problems. This section summarizes our resultsfull results and figures may be found in Appendix D.2. The problems that farmers face can be classified into three categories: Market Issues, Finance/Legal Issues and Production Issues. The individual problems are listed below: Market Issues: Access to vehicles for transporting your products Physical access to marketse.g. roads Prices obtained for your products are low Prices obtained for your products are volatile The trader/intermediary takes a large cut of the revenue. Finance/Legal Issues: Access to credit Land tenure. Production Issues: Access to farm inputs Access to storage facilities, including cold storage Access to training Pests and livestock diseases. In all three project areas, sufficient irrigation and pests and livestock diseases were regarded as the most important problemsboth regarded by at least 96% of
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respondents in the three project areas as a very important or important problem. In addition, in all three project areas land tenure was regarded as the least important problem to farmers. For instance in Ribb, this was only regarded as a very important or important problem by 40 percent of respondents (57% in Megech and 73% in Anger). Overall, production issues were regarded as the most important in all three project areas. Market issues were regarded as more important than finance/legal issues in Megech and, in particular, Ribb. In Anger, market and finance/legal issues were regarded as broadly equally important. 3.2.7 Commercial Farmer Results There are several commercial farmers in the command areas for the irrigation schemes. We identified and surveyed eighteen of them. We have summarized their responses separately from the responses of the smallholder farmers because their average willingness to pay and landholdings cannot be analyzed on the same scale as those of the smallholder farmers. This section summarizes our resultsfull results and figures may be found in Appendix D.5. Willingness to Connect All commercial farmers expressed interest in connecting to the proposed irrigation system, although two of the commercial farmers did not provide a value they would be willing to pay for an annual charge. Half of the commercial farmers that expressed interest in connecting to the proposed irrigation system stated they were willing to pay an annual charge of up to ETB 250 per hectare per year and one quarter stated they were willing to pay an annual charge of between ETB 250500 per hectare per year. The remainder was willing to pay over ETB 750 per hectare per year. All but one of the commercial farmers were prepared to pay a one-off registration charge. The amount most were willing to pay for this registration charge ranged between ETB 1,000 5,000. Partnerships Approximately three-quarters of the commercial farmers expressed interest in receiving services such as processing, storage, and marketing services from the irrigation operator. Nearly two-thirds expressed interest in being a partner of the irrigation operator, sharing some of the risks and benefits of operating the irrigation system. In addition, nearly three-quarters also expressed interest in being the provider of the irrigation services responsible for all aspects of operating the irrigation system. Land Ownership

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All the commercial farmers, with one exception, had a long-term lease for their land. The one exception has a short-term lease (this is the commercial farmer with the smallest cultivated land area of 15 hectares). Land Area Five of the commercial farmers cultivated up to 100 hectares, four cultivated between 100 to 200 hectares, four cultivated between 200 to 300 hectares, two cultivated 300 to 400 hectares, one cultivated 400 to 500 hectares and two cultivated over 500 hectares. Use of Irrigation Only three of the commercial farmers interviewed practiced irrigation farming. One of these commercial farmers sourced their irrigation as pumped from river, and another sourced their irrigation from an irrigation pond/spring and from river diversion. The third of these commercial farmers sourced their irrigation from river diversion. Crops and Other Production The main crops produced were maize, soya beans, sorghum and sesame. In addition to crop production, eight of the commercial farmers were engaged in livestock farm activities. Four cultivated seeds or provided improved crop services, and three cultivated horticultural products. Two sold farming machinery and one provided training services. Staff Each of the commercial farmers has a relatively small number of permanent staff (up to 30) and a higher number of temporary staff (generally up to 300, with two farmers claiming between 4,500-5,000 temporary employees). Customers The commercial farmers surveyed sold their produce to a large range of types of customers. Customers included companies, local consumers, local and national traders, local institutional organizations (such as universities), the Ethiopian Seed Enterprise, and national/international institutions (such as OXFAM, Save the Children, FAO and DPPA - Disaster Prevention and Preparedness Agency) Relationships with Smallholder Farmers All commercial farmers worked with local farmers. The relationship included hiring them for temporary labor, providing improved seeds and training, purchasing products from them, and providing services, technology and machinery. In addition, one commercial farmer had share cropping arrangements through the provision of tractors and seeds.

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3.3

Private Operators

To be interested in participating as the private-sector party to the PPPs for irrigation in Megech, Ribb, or Anger, a private operator must be certain that it will recover its costs and receive a reasonable return on any investment it makes. The private operators views on the various risks involved in the projects will influence the types of PPP options that would be possible to implement for the irrigation schemes. This section presents the views that some potential private operators have with respect to participating in PPPs for the Megech, Ribb, and Anger irrigation schemes. Through our consultations, we found that to be attractive to potential private operators, the PPP structures for each irrigation scheme should: Give the private operators comfort that they will recover their costs and receive adequate return on any capital they invest Allocate the following risks to the Government: Demand riskthe risk that demand for irrigation will be lower than expected Payment riskthe risk that farmers will not pay for the water that they use Combine irrigation operation and maintenance with other commercial activities such as: Commercial farming Providing complimentary services to farmerssuch as marketing Delegate responsibility for design and construction of the irrigation system to the private operator Not require the private operator to have capital at risk Give secure land use rights to the private operator Ensure that the portion of revenue to the operator that is meant to cover costs incurred in hard currency (U.S. dollars, euros) is made in hard currency. We arrived at this conclusion through consultations with several potential operators representing a range of business activitiesinfrastructure operators, irrigation equipment suppliers, and agri-business companies. At this early stage of PPP preparation, potential operators will demand as much as they can in terms of making the PPP options attractive to them. The Government does not need to accept all of their demands, but should take them into account when deciding on the PPP structure. This section is organized in three sections. Section 3.3.1 describes the methodology that we followed in these consultations. Section 3.3.2 discusses the results of our

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consultations in more detail, citing the potential operators feedback on country-level, project-level, and PPP-related issues. Section 3.3.3 illustrates a PPP option that would match all of the potential operators preferences. 3.3.1 Methodology and Companies Consulted Before consulting with potential private operators in the Megech, Ribb, and Anger irrigation schemes, we prepared a project brief that described the investment opportunity. This project brief is included in Appendix B. To obtain the views of potential private operators on the Megech, Ribb, and Anger irrigation schemes and PPP options under consideration, we: Identified potential operators from various industriesinfrastructure operators, irrigation equipment suppliers, and agri-business companies Sent them the project brief Followed up by telephone with senior executives in order to discuss their views in detail. We approached sixteen companies, but were able to get feedback from eight. These eight represent four categories of potential operators: Relevant companies that expressed interest in the West Delta (Egypt) irrigation PPP: Cadman Power Hydrosult Nuteka Other international irrigation and infrastructure companies: Netafim SNC-Lavalin Isrex Other international and local agri-business companies: Ethio Agri-CEFT (subsidiary of MIDROC) Schaffer. Appendix C presents profiles of each of these companies. We attempted to contact seven agri-business and water sector operators in the Amhara region. We obtained their contact information from the List of Licensed Investment Projects in Amhara Region, in the Agriculture, Industry, and Construction Sectors, 19851999 (Ethiopian Calendar). However, we were not able to reach them due to incorrect telephone numbers and other communication problems.

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During our consultations with commercial farmers in the command areas (summarized in Section 3.2.7 and described in detail in Appendix D.5), we obtained feedback from five commercial farmersone in Megech and four in Anger. In principle, three would be interested in exploring ways to participate as a minority partner in the consortium that is chosen as the private operator in the irrigation schemes. 3.3.2 Detailed Results Table 3.2 summarizes the feedback we received from the companies listed in Section 3.3.1. Feedback from one company is not reported because the companys chief executive cited that the projects fall outside of the companys scope of interest. One company gave us their feedback in principle, but expressed that they are not currently looking to take on new projects or make new investments.

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Table 3.2: Feedback from Potential Private Operators


Company 1 Interest in Ethiopia Company 2 Company 3 Company 4 Company 5 High. Exploring business opportunities Possibly Company 6 Not actively pursuing Company 7 High. Already doing business

High. Already None. Political High. Already High. Already doing business. risk too high. doing business. doing business

Interest in designing/supplying system Interest in O&M

Not directly, but consortium partner would

Yes, if a lower- Yes risk country

Yes

Yes

Not directly, but consortium partner may If combined with commercial farming If combined with commercial farming Yes, but must have adequate transportation infrastructure to access market (no response)

Possibly, if Yes, if a lowercombined with risk country commercial farming Yes

Possibly, if No combined with post-harvest services Yes (training only)

Possibly

Possibly

Interest in providing non-irrigation services

Yes, if a lower- Yes risk country. Consortium partner would provide Yes, if a lower- No risk country. Consortium partner would develop Possibly, No where political risk is lower

Yes

No

Interest in commercial farming

Yes, but must have adequate transportation to market

No

No

No

Willing to sink capital?

No

No

No

No

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Company 1 Willing to bear demand risk? Willing to bear payment risk? Position on land tenure
Key: Yes Possibly No

Company 2 No No

Company 3 No No

Company 4 No No

Company 5 No No

Company 6 No No

Company 7 Possibly No

No Possibly

Must be secure Must be secure Must be secure Not applicable Must be secure Not applicable Must be secure

Source: Interviews with senior executives of the companies listed, January 2008.

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The feedback obtained from private operators can be classified into three categories: Degree of interest in doing business in Ethiopia, and country-level risks The scope of the services that they are interested in providing The risks that they are willing to bear (risk allocation). The following sections summarize the feedback obtained on each category. Degree of interest in doing business in Ethiopia Companies already doing business in Ethiopia cited few problems with the countrys business environment. On the whole, they are comfortable doing business in the country and would like to expand their activities. Three of the international companies with whom we spoke are already doing business in Ethiopia. One is exploring business opportunities in the country, and one is a large Ethiopian company. The companies already doing business in Ethiopia cited the following as difficulties of doing business in the country, but for which they have found acceptable solutions: For agricultural investments, the Government must provide secure land tenure over a long period of time in order to make the investments attractive and viable. The Government has entered into long-term lease agreements with private companies. This system could be improved by allowing private ownership of land, or, if this is not possible, lengthening the term of the land leases Better transportation infrastructure is needed to expand export-oriented agriculture to the Anger Valley and the Megech and Ribb areas. In the case of Anger, a road upgrade is scheduled. In the case of Megech and Ribb, the Government may have plans to upgrade the Bahir Dar airport for international flights. Until these initiatives are implemented, it would be very difficult to engage in export-oriented agriculture in the command areas In some cases, when a company sells used equipment that it had imported free of Customs duties, the Government charges duties as if the equipment were newly imported. This imposes a very large cost on the company. One company has stated that political risk in Ethiopia is too high it to consider participating in a PPP for irrigation. The executive we spoke with is concerned that potential political problems or changesfor example, a change in governmentcould result in the Government breaching its obligations under the PPP contract. Scope of the private operators activities The companies consulted are interested in undertaking a range of activities related to the irrigation schemes. This includes: Designing and building the irrigation systems Operating and maintaining the systems

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Providing training to farmers in the command areas on the use of irrigation and other agricultural issues Providing post-harvest services and infrastructure to farmers in the command areas, including marketing services and storage and processing facilities Engaging smallholder farmers in the command areas as outgrowers In Anger, developing commercial farming on the land allocated to the operator. The companies consulted consider that their main business opportunity in the irrigation schemes is one of the following two options: Engaging in commercial activitiessuch as commercial farming or marketing servicesin addition to providing irrigation to farmers Designing and supplying the irrigation systems. Most of the companies consulted would be interested in operating and maintaining the irrigation system primarily if this is combined with other commercial activities such as commercial farming or marketing services. They have a small degree of interest in engaging smallholder farmers as outgrowers in Megech and Ribb, and a higher degree of interest in doing so in Anger as part of a commercial farming scheme. The companies do not see the pure operation and maintenance of irrigation systems as their main business opportunity in these schemes. The companies that would like to provide post-harvest services and infrastructure to farmers in the command areas, and those that would like to develop commercial agriculture, see the design of the irrigation system as an integral part of their business model. The specifications for irrigation systems vary based on the types of crops grown and other considerations related to the agricultural business model. Because of this, these companies want the design and construction of the irrigation system to be part of the private operators responsibilities in the PPPs. Two companies would be primarily interested in designing and supplying the irrigation systems. They are less interested in taking on a longer-term commitment to operate and maintain them, and are not interested in providing post-harvest services or infrastructure. They see the supply of irrigation systems as their main business opportunity in the schemes. The two companies that would be interested in developing commercial farming in the Anger command area cite that adequate transportation to end markets is a concern. The road infrastructure linking the Anger command area to Addis Ababa must be high-quality and reliable. Addis Ababa is the port of exit to international markets for high-value, perishable crops.

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Risk allocation The potential private operators are not prepared to bear some of the risks related to the development and operation of the irrigation schemes. They think that the associated risks are too high, and that if they bore the risks they would not be able to recover their costs. The risks that the potential private operators are not prepared to bear are: Demand risk: The risk that not enough farmers will use the irrigation systems, or that they will not use enough water, for the cost of service to be recovered through tariffs charged for the use of this water. The perceived risk is high mainly because farmers in the command areas have very low levels of income Payment risk: The risk that farmers that use the irrigation system will not pay for the water that they use. The perceived risk is high mainly because farmers in the command areas have very low levels of income Foreign exchange/convertibility risk: The risk that the operator cannot exchange and repatriate birr for a hard currency such as US dollars or euros, or that the birr depreciates vis--vis the hard currency. The value of the birr does not fluctuate widely vis--vis hard currencies. However, there are some difficulties converting birr to hard currency and remitting this hard currency abroad Hydrology risk: The risk that there is not enough water in the river for the private partner to supply the agreed-upon quantity to the farmers. In most PPP projects involving the extraction of water from a specified source, the Government must bear this risk. The companies consulted also would not be willing to invest capital in these projects, because they consider that the risk of recovering this capital plus an adequate return on it is too high. 3.3.3 Preferred PPP Option Considering the activities that potential private operators are interested in carrying out in the irrigation schemes, and the risks they are willing to bear, we have identified the PPP option that would be most attractive to them. This is an option in which the private operator is: Responsible for designing and building the irrigation system, but the costs of doing so are financed by the Government Responsible for operating and maintaining the irrigation system to a set of pre-defined standards Paid by the Government, and this payment is pre-determined based on the amount of water the Government expects farmers to use

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Allowed to engage in the following commercial activities, beyond purely operating and maintaining irrigation: Provide post-harvest services, infrastructure or both to farmers in the command area (Megech, Ribb, and Anger) Engage in commercial farming (Anger) Allowed to engage the smallholder farmers in the command areas as outgrowers. Figure 3.12 illustrates the main components of this PPP option. Figure 3.12: PPP Option Preferred by Private Operators
Government
Payment for services received Payments for services provided by investor (irrigation, marketing, etc.)

Payments for completed construction milestones

DB for Construction Operation and Maintenance Contract

Private Investor
The investor may subcontract construction, operation and other activities

Irrigation and other services

Farmers

Construction Contractor
Key Contracts Payments to investor Investors subcontracts Payments by farmers Services provided by investor

O&M Contractor

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Public-Private Partnerships in Irrigation

The public-private partnerships (PPPs) for irrigation in Megech, Ribb, and Anger will be among the firstif not the firstPPPs for Greenfield infrastructure projects implemented in Ethiopia. Section 4.1 presents the definition of public-private partnerships (PPPs) and discusses some of their basic characteristics. Section 4.2 compares PPPs to public-sector service provision, which is the current approach to providing irrigation services in Ethiopia (see Section 3.1.2). Although there are few existing PPPs in irrigation, the Government can draw lessons from other countries experiences introducing private sector participation into irrigation. This includes emerging PPPs (West Delta project, Egypt and Guerdane project, Morocco) and other types of reform (New Zealand). Section 4.3 discusses these experiences.

4.1

Basics of Public Private Partnerships

There is no single definition for PPPsin fact, the term is used to describe a wide range of contractual relationships between governments and the private sector. In this section we first define the structure of a basic PPP. We then discuss the range of PPP structures and how they differ based on risk allocation between the public and private sectors. We conclude with a more in-depth discussion of risk allocation principles, because risk allocation determines the structure of a given PPP. 4.1.1 Basic PPP Structure In a basic PPP, a private operator enters into a contract with the government (a PPP contract) through which the private operator agrees to provides services to users according to certain service standards, for a certain period of time. The PPP contract allocates responsibilities related to providing the service between the government and the private operator and defines the consequences to each party of fulfilling, and of not fulfilling, these responsibilities. PPPs can be used to deliver a wide range of services, including for example: providing potable water, electricity, irrigation water, or even education or health services. In the case of potable water, for example, a facility could be a water treatment plant, water distribution system, or both. In the case of irrigation services, the facility is the irrigation system. Service standards included in PPP contracts for potable water, for example, could include number of hours of access per day and quality of water. Figure 4.1 shows the structure of a basic PPP.

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Figure 4.1: Basic PPP Structure


Government

Payment

PPP Contract

Private Operator

Provides service

Service Agreement

Pays tariffs

Users

In this structure, the government and the private operator enter into a PPP contract that specifies the service standards the private operator must meet, as discussed above. If the private operator delivers service according to these standards, it may collect payments from the government and tariff payments from users of the service. These payments are designed to reimburse the private operator for the cost of the service it has delivered, including its profit. The government agency that signs the PPP contract is the public party to the contract. The public party is usually a government agency responsible for developing PPPs or developing the type of facilities or services requiredfor example, Ethiopias Ministry of Water Resources in the case of an irrigation PPP. The private operator is a company that is usually a consortium of various firms with different specialties needed to make the particular project work. For example, a consortium might comprise venture capitalists, sector-specialist engineers and project managers. The company is usually a special purpose vehicle, formed specifically for the project, which may raise capital and secure debt before entering into the PPP contract. The PPP contract includes clear, detailed and measurable specifications of the required service and performance standards. The contract also defines: The consequences to each party of fulfilling these responsibilities. As long as the private operator fulfills its obligations, it will receive payment from the government, or directly from users of the service, or a combination of both. As long as the public party fulfills its obligations, it can continue to enjoy the benefit of the service provided by the private partner, and, in some cases (such as a concession agreement in which tariffs are high enough to cover all

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costs plus the private operators return on investment) may receive payment from the private operator The consequences to each party of not fulfilling those responsibilities. If the private operator fails to fulfill its obligations, it may be subject to nonpayment, financial or administrative penalties, litigation arbitration, or contract termination without payment. If the public party fails to fulfill its responsibilities, it may suffer similar consequences. The private operator enters into service agreements with users of the service. The service agreements specify the tariffs that consumers will pay for the service (for example, cost per cubic meter of water consumed) and the service standards the user is entitled to (for example, number of hours of access per day and quality of water). 4.1.2 Range of PPP Structures While Figure 4.1 illustrates the structure of a basic PPP, PPP structures may vary between countries and between projects. Section 4.1.1 stated that a PPP allocates the responsibilities related to providing a service between the government and the private operator. There are a variety of responsibilities related to providing a service. They include: Developing a facility to provide the service. This involves: Designing the facility Financing the facility Building the facility Providing the service by operating and maintaining the facility. Structuring a PPP is about allocating these responsibilities, and the risks related to fulfilling them, between the government, a private operator, and in some cases, consumers. There are a number of ways to allocate these responsibilities, and this results in a range of types of PPPs. Figure 4.2 illustrates various different PPP structures.

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Figure 4.2: Range of PPP Structures


PPP

Financing: 100% Public Design & Construction: Operation:

Government Government Private

Government Private Private

Private Private Private 100% Private

The PPP options listed in Figure 3.1, moving from left to right, transfer more responsibility, risk, and financial commitment from the government to the private operator. Transferring responsibilities and risks for service provision to a private operator, and giving the private operator the corresponding opportunity for reward, is the main rationale for a PPP. This risk transfer gives a private operator incentive to provide reliable service. For example, if under traditional public provision a contractor simply receives a fee for building a facility, the contractor has little to lose if the construction runs late. If, instead, construction over-runs mean the same private contractor must wait longer to receive revenue from operating the facility, they face a strong incentive to ensure construction is completed on time. In the PPP structure to on the left of Figure 4.2, the private operator is only responsible for providing the service (operating and maintaining the facility). The private operator generates revenue (and thus profit) by providing services to the standards indicated in the PPP contract. Continuing with the example from the water sector, the private operator would be responsible for delivering water to customers using a water distribution system financed and built by the government. In this case, the private operator bears the risks related to operating the distribution system. Bearing these risks gives the private operator the incentive to provide reliable service. For example, private operator bears the risk that pressure inside the distribution pipes will be too low and will allow groundwater will to leak into the pipes and contaminate the water. This may reduce the quality of the water delivered to customers to below the standards indicated in the PPP contract. If the private operator does not comply with the standards indicated in the PPP contract, it faces financial penalties (not be entitled to receive its payments from the government, or pay a fine to the government). This, in turn, reduces the private operators profit. Therefore, the threat of reduced profits is an incentive for the private operator to ensure that it always meets the standards specified in the PPP contract.

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In the PPP structure in the middle of Figure 4.2, the private operator is responsible forand thus bears risks related todelivering the service by operating and maintaining the facility, and also for designing and building the facility. This PPP structure transfers not only operating risk, but also construction risk, to the private operator. This creates incentives for the private operator to complete construction on time and according to standards specified by the government. To mitigate construction risks, the private operator may enter into a sub-contract with a construction company specialized in managing construction-related risks, and delegate responsibility for building the facility on time and to specifications to this construction company. In the PPP structure on the right of Figure 4.2, the private operator is responsible for, and bears risks related to, delivering the service by operating and maintaining the facility, designing and building the facility, and financing the facility. This PPP structure transfers financial risk to the private operator. It also increases the incentives he private operator has to provide reliable service. In financing a facility, a private operator may obtain loans for approximately 70 percent of a projects costs and invest its own capital to finance the remaining 30 percent. If the private operator does not meet the service standards defined in the PPP contract, it will not be able to recover the capital it has invested in the project or be able to make the payments on the loans it secured to finance the project. 4.1.3 Risk Allocation Principles As discussed in Section 4.1.2, structuring a PPP is about allocating the responsibilities for, and risks of, service provision between the government and the private operator. In some cases risks may also be transferred to consumers. This is the case if water or electricity tariffs, for example, increase in line with inflationcustomers bear risks associated with a rising general level of prices. Each risk should be allocated to the party who can best manage it. The means of managing a risk varies depending on its nature. According to best-practice risk management principles, risks should be allocated to the party that is best placed to either: Influence the risk factor, if possible Influence the sensitivity of total project value to the risk factor (anticipate or respond to risk factor), if possible, or Absorb the risk.3 One party to the contract may have direct influence over the risk factor. For example, in the case of a PPP for a toll road, the government has the power to choose whether to build a road that competes with the toll road. If the government builds this new road, traffic on the toll roaddemand for use of the roadmay decrease. In this case, it

Irwin, Timothy C. Government Guarantees: Allocating and Valuing Risk in Privately Financed Infrastructure Projects. Washington, D.C.: The World Bank. 2007.

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makes sense for the government to bear part of the risk that demand for use of the toll road decreases. In other cases, one party to the PPP contract may be best placed to reduce the sensitivity of the project value to the risk by building appropriate safeguards. For example, if a facility is to be built in an area that is prone to natural disasters, such as flooding or earthquakes, it would be logical for the party in charge of construction (including specifying the building materials and techniques to be used) to bear at least part of the force majeure risks related to these natural disasters. This gives that party incentives to build the facility in a way that limits the facilitys exposure to damage from these natural disasters. This would minimize service interruptions from the natural disaster. Finally, there may be some risks that neither party has the ability to influence, anticipate or respond to. In these cases, to manage the risk simply means to absorb its impact. The government may have a greater ability to absorb the impact of some risks than the private operator. The government has a variety of sources of revenue income taxes, import duties, and profits of state-owned enterprises, for example. The private operator typically has only one source of revenue because it is typically a special-purpose vehicle designed to develop the specific PPP. Thus, if revenue to the PPP project falls for reasons outside the control of the government or the private party, the government may be best-placed to absorb this loss. Alternatively, these types of risks may be shared, to reduce their impact on any one party. For the risk allocation to be effective, and acceptable to all concerned, the party that bears a risk should also have control over decisions related to the risk factor. For example, the party that bears construction-related risks should be able to select the construction materials and techniques to be used. This allows that party to react to changes in relative prices of materials by choosing the best-value alternative. In this way, the party both mitigates its own exposure to the risk of construction cost increases, and in turn minimizes the overall project cost. The various categories of risk involved in PPP contracts, and guidelines for thinking about how to allocate them, are described in Table 4.1.

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Table 4.1: Allocation of Risks in PPP Contracts


Risk Description Allocation Assumed by the party that has responsibility for building the facility. The government may transfer this risk to the private sector if it wishes to ensure that construction is completed ontime and within budget Usually assumed by the private operator because it has responsibility for operating the facility to provide the service. However, where inputs are controlled by the government, the government may take on risks related to the provision of this input. For example, in a PPP for electricity generation where fuel to a power plant is supplied by a state-owned company, the government may be penalized for any interruptions in service caused by delayed fuel supply If the PPP involves a private operator taking over the operations of a service for which there is well-established demand and payment capacity, this may be borne completely by the private operator If the PPP is for a Greenfield project with uncertain demand, serving customers whose payment capacity has not been tested, or if demand and payment risks are quite high, these risks may be shared between the public party and private operator or borne completely by the public party

Construction The risk that quantities or prices of inputs are higher, or construction takes longer, than estimated. Construction delays increase labor costs, and this means the operator receives revenue later than forecast, reducing the projects net present value. Operational The risk that the infrastructure provided or service delivered: Fails to meet original specifications Has higher operations and maintenance costs than expected Is interruption or ceased because of a fault of the operator The risk that operating revenues differ from expected revenues. Commercial risk is often broken down into: Demand risk: The risk that customers use the service less than expected Payment risk: The risk that customers do not pay the expected fees, or pay their bills later than expected

Commercial

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Risk Financial

Description

Allocation

The risk of the project failing to obtain financing, or that Allocation usually depends on whether the project is financing terms (tenors and rates) will differ from financially viable (expected revenue covers expected costs) on forecasts its own or requires government subsidies to be financially viable. If it is financially viable on its own, the private operator should be able to obtain financing with little difficulty, and financial risk is borne by the private operator. If it requires government funds to be financially viable, the government may need to bear some degree of financial risk. The risk that variability in foreign exchange rates will affect project profitability. This arises when project inflows are in a different currency than project outflows, such as debt repayments or input purchases. The risk that changes in regulations affecting the PPPs sector will affect project cash flows. Includes tariff risk, where tariff is government-controlledthe risk that tariffs will not be upheld or enforced at a cost-recovery level The risk that the project developer will not be able to acquire the necessary land, or that it costs more than expected May be shared between private operator and the public party, or consumers, through indexation of prices Where government policy has a large impact on exchange rates, the private party may have to bear a larger share of exchange rate risk Usually borne by private operator, unless tightly specified in contract. However, the PPP contract may also include penalties to the government for not adjusting tariffs as specified

Exchange Rate

Regulatory

Land Acquisition

If the land that the project will be developed on is owned or otherwise controlled by the government, the public party may bear this risk If land will be acquired from other private-sector parties in the real estate market, this risk may be assumed by the private operator

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Risk Force Majeure

Description The risk of events beyond the control of either party. Force majeure risks can be categorized as insurable and uninsurable. Acts of nature, such as earthquakes, floods or droughts are typically insurable. Some political events, such as acts of terrorism or wars, are typically uninsurable

Allocation If the risks are insurable, they are usually assumed by the private operator, who may obtain an insurance policy to mitigate its exposure to these risks If the risks are uninsurable, they are usually assumed by the public party Usually borne by the private operator. Some government or multilateral agencies offer insurance against these types of risks, such as Political Risk Insurance offered by the U.S. Governments Overseas Private Investment Corporation (OPIC). The private operator may obtain such an insurance policy to mitigate its exposure to these risks

Sovereign or The risk that legal or political changes negatively impact Political the project. Examples include the risks of expropriation, inability to repatriate dividends, or inconvertibility of foreign exchange

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The relative importance of the different risk types varies between PPP projects, which in turn may affect their allocation. Private operators are likely to have an upper limit on the total level of risk they will accept. In this case, risk allocation may need to depart from the theoretical ideal in order to attract private sector interest. In Ethiopia, for example, the commercial risk is particularly high. With no precedent for tariff-based irrigation systems, the level of demand and farmers willingness and ability to pay is relatively untested. The Government of Ethiopia may therefore have to take on a high degree of demand and payment risk in order to provide the private operator with the required level of comfort regarding its revenue stream. The implications for PPP contract design are discussed in Section 5 below.

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4.2

PPPs vs. Public Service Provision

In Section 3.1.2 we presented the existing approach to irrigation service provision in Ethiopia. This is an example of service provision by the public sector. The Government is looking for an alternative model of service provision in order to provide more reliable irrigation services to farmers. The Government and farmers are unsatisfied with the level of reliability that has been achieved through public-sector service provision. In Section 3.1 we discussed that PPPs involve allocating risks and responsibilities of service provision between the government and a private operator. PPPs can present an alternative to public service provision. To decide whether it makes sense to implement a PPP for a given projectsuch as the Megech, Ribb, and Anger irrigation schemesthe Government should consider the advantages and disadvantages of PPPs and public service provision. Table 4.2 compares how PPPs and public service provision perform in several areas that are of interest to the Government. Table 4.2: Comparison of Public Service Provision and PPPs
100% Public Project Design and Procurement Incentives to design and provide service at lowest cost Scope for accurate wholeproject-life costing Project Implementation Incentives to complete construction on time and within budget Incentives to provide quality service Overall degree of government exposure to risk Service Control Governments ability to control tariffs or fees Consumers ability to hold service provider to account High tariffs directly government-controlled Lower through electoral channels only Lower limited to terms of contract Higher through service agreement Low weaker incentive to remain within budget High cost increases impact profits, delays reduce present value of revenues Low no competition High lower cost could ensure winning bid High driven by financial incentives or profit motive PPP

Low limited incentive for accurate cost estimates

Low limited financial reward High driven by financial incentives or profit motive for good performance High all risk borne by government or farmers Lower risk shared with private operator

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The major strength of PPPs, as mentioned in Section 4.1, stems from the transfer of risks and responsibilities to the private operator. This can improve performance across most aspects of contract execution, by harnessing the private operators profit-based motivation. In addition to improved incentives, the private operator may be better equipped to performthrough sector experience and staff capacitythan a public sector alternative. Since uncontrollable risks are also typically shared between the public and private parties, PPPs reduce the overall degree of the governments exposure to project risk. PPPs present advantages over public service provision in project design and procurement stage. The cost of a given project is reduced through competitive bidding for PPPs. Prospective PPP contractors also face a stronger motivation to accurately assess the costs of the project than public sector planners, because cost over-runs will reduce their profit. PPP contracts in which the private partner designs, builds and operates the facility can reduce the projects cost over its lifecycle. In these cases, the private operator has an incentive to find the optimal balance in project design between the costs of initial construction and the costs of maintenance over time. In the project implementation phase, PPPs provide stronger incentives to complete construction on time and within budget, and to deliver reliable services, than the public service provision alternative. PPPs also reduce the governments and consumers exposure to riskwhen a project is developed and operated completely by the government and consumers (as has been the case with irrigation in Ethiopia), the government and farmers bear all risks associated with the project. By definition, in a PPP, some of this risk is transferred to the private operator. In terms of service control, PPPs can improve consumers ability to hold the service provider to account. Under public provision, accountability is diluted through electoral channels. In contrast, where PPPs include service agreements between the private party and the consumer, these provide a direct mechanism for accountability. However, because in a PPP the private operator needs to have some degree of comfort regarding the level of revenue it will receive and how this revenue will be calculated, the government loses some control over tariffs charged for services. Tariffs, and formulas for adjusting them, are usually set in the PPP contract or by an independent regulator. Tariff increases may be politically sensitive, but once they are specified in the PPP contract, or if they are set by an independent regulator, they are outside the governments control. Table 3.2 shows PPPs hold significant potential for improved service delivery when compared with public service provision. The benefits of PPPs stem mainly from the transfer of risks and responsibilities from the public to the private sector. This creates incentives for the private operator to:
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Develop a project at an accurate and low cost Complete construction on time and within budget Deliver reliable services Be accountable to consumers.

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4.3

International Experience with a Private Sector Approach to Irrigation

There are few existing PPPs in irrigation, as using PPPs to implement irrigation schemes is a relatively new idea. However, the Government can learn from the experiences of the Government of Egypt in designing and implementing a PPP for irrigation in the West Delta region (described in Section 4.3.1), and the Government of Morocco in designing and implementing a PPP for irrigation in the Guerdane region (described in Section 4.3.2). The Government can also learn from New Zealands experience with the transition from an irrigation approach based on traditional cooperatives to one incorporating private-sector management principles (described in Section 4.3.3). The main lessons that can be drawn from these examples are as follows. Farmers levels of income and the levels of tariffs that they are willing to pay impact the degree of risk that can be transferred to the private sector. The West Delta and New Zealand irrigation schemes serve large-scale commercial farmers with relatively high incomes. Tariffs that farmers willing to pay are enough for the private operator to recover all costs associated with developing the scheme, including capital costs. This is one reason that the private operator is accepting to bear demand, payment, and some financing risk. In the Guerdane irrigation scheme, tariffs charged to farmers will allow the private operator to recover operating and maintenance costs plus some capital costs. The private operator is thus accepting to bear some financing risk. Farmers in Ethiopia have an even lower willingness-to-pay, which means that the Government may have to bear a greater degree of risk to find a private operator for the PPPs Irrigation projects require massive investment in fixed assets, so it makes sense to consult with farmers to ensure that they will use the systems that are built. Willingness to connect and pay surveys are useful to better understand the expected demand for the project, and to tailor the project design to match demand. However it is difficult for farmers that are not using irrigation to quantify the value that irrigation could bring Greenfield irrigation projects generally involve charging farmers for a service that they have not paid in the past. Private operators may be very concerned about the risk that farmers do not pay Introducing private-sector management principlesthrough PPPs or other approaches such as the New Zealand irrigation reformhas significant potential to improve irrigation service delivery.

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4.3.1 West Delta Irrigation Project (Egypt) In the West Delta region in Egypt, the incipient PPP scheme in irrigation is based on full cost recovery through tariffs. This reflects both the scale and commercial orientation of the farmers, and the PPP objective of financial sustainability. The West Delta is an area of reclaimed desert land that has been rapidly developed for agricultural use over the past 1520 years. The area totals 107,000 hectares, with 960 farmers, who can be characterized as follows: Average farm size of 112 hectares, but with a wide variation in farm sizesthe largest 30 farms occupy almost 50 percent of the land area. These farms are unevenly distributed geographically, with larger holdings mainly situated towards the south Crops are mainly high-value fruits and vegetables, and largely for export Agricultural income of US$300-500 million per year, an average of $500,000 per farm. The principal objective of the irrigation PPP in the West Delta region is to halt the rapid depletion of ground water, in a financially sustainable manner. A Design-Build-Operate PPP scheme was selected, based on full cost-recovery. The concession covers an area of around 80,000 hectares covers the southern part of the West Delta area, over a period of 30 years. The main features of the PPP scheme are as follows: Private operators have been invited to design, construct and operate a closed conduit system in the project area The investment and operating cost requirement for the initial project area was estimated at US$200 million, 15 percent of which is required as equity from the private operator. The remaining 85 percent will be made available through on-lent donor support, largely comprising a $145 million IBRD (World Bank) loan Since willingness to pay was found to be concentrated among the larger farms, the system was re-conceived on a phased basis, with an initial development area of around 40,000 hectares. Highest-demand areas and farmers will therefore be connected first, mitigating demand risk. Rules were set for how other farmers could subsequently join the irrigation scheme Payment by farmers is based on a two-part tariff, with fixed and variable components designed to fully cover investment and operating costs respectively An additional $8 million of World Bank funding has been approved for institutional development and farmer capacity-building.

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The list of pre-qualified bidders, released in February 2008, includes Chinese firms, and Egyptian/European consortia. These prospective private operators have been invited to prepare full bids. The structure of the West Delta Irrigation PPP is illustrated in Figure 3.4. Figure 3.4 Structure of the West Delta PPP
Ministry of Water Resources & Irrigation Water User Group Regulatory Office Service Agreement PPP Company

Project Management Unit

DBO concession contract

The government party to the PPP contract is the Ministry of Water Resources and Irrigation (MWRI). A Project Management Unit is responsible for contract design, procurement and management. A Regulatory Office, also within the MWRI, will be responsible for contract monitoring and enforcement, supported where necessary by an Independent Panel of Experts. Contract commitments of the MWRI include provision of a fixed water resource allocation. A Water User Council (WUC) has been established as an independent farmers organization by ministerial decree, pending the appointment of a more permanent user group once the participating farmers have been identified and can hold elections. The WUC has been involved in project preparation, and will play an informal role in contract monitoring. 4.3.2 Guerdane Irrigation Project (Morocco) Farmers in the Guerdane area in Morocco operate on a smaller scale, and affordability of the irrigation service is a major concern. The PPP therefore includes a public subsidy, which covers approximately 25 percent of the total project cost, with the remaining investment and operations cost to be recouped through user fees. Although smaller than those in the West Delta region in Egypt, Guerdane farmers are nonetheless larger and more commercially oriented than those in the Ethiopian project areas. The Guerdane area covers 10,000 hectares of the arid Sous-Massa region in southwestern Morocco. The 670 farms, of an average of 15 hectares, largely comprise citrus groves and grow for both the home market and export. Overexploitation of ground water through private wells has led to rapid diminishing of the ground water level. This has dramatically increased the cost of pumping water, and resulted in some wells and farms drying up entirely. The main

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objective of the Guerdane PPP is to make surface water accessible and affordable to the largest number of farmers possible. A Design-Build-Transfer-Operate scheme based on a 30-year concession contract was designed, with the following characteristics: The private operator is responsible for construction, including most of its financing. Upon completion, the infrastructure will be transferred to the state, and operation re-delegated to the private operator The total estimated project cost is approximately US$105 million, of which the $25 million government subsidy covers 24 percent. The private operator has access to a further $25 million of government funds in soft loans, and is responsible for mobilizing the balance of the investment finance User payments comprise an upfront subscription plus a variable component, designed to minimize the risk of non-payment Advance subscriptions were required from farmers, to facilitate design and mitigate demand risk. This subscription cost amounted to approximately US$840 per hectare. Construction was not required to start until 80 percent of water was subscribed, raising an expected $8m in revenue. Since reliability of water supply is considered a major project risk in this drought-prone area, contract provisions ensure this risk is shared between parties. The revenue deficit of the private party due to water shortages is limited to 15 percent of normal volumes. The remaining potential loss is borne by water users, through tariff surcharges up to a maximum of 10 percent, and beyond this by the Government.

The structure of the Guardane PPP is illustrated in Figure 3.5. Figure 3.5 Structure of the Guerdane PPP
Regional Water Authority Central Government (Public Funds) Water Users

Regional Rural Development Agency

Service Agreement PPP Company

B-T-O contract

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The Government party to the contract is the Regional Rural Development Agency of Souss-Massa (Office Rgional de Mise en Valeur Agricole du SoussMassaORMVA-SM), under the Ministry of Agriculture and Rural Development. The Governments contract commitment to provide a minimum allocation of water is supported by an intra-government contract between the contracting authority, ORMVA, and the regional water authority. The PPP Company, an international conglomerate led by the Moroccan group Omnium Nord-Africain, was selected in 2005 through competitive auction. Its total project costand hence water unit pricewas 20 percent lower than the expected cost and the competing bid. Contracts were signed between the government and the private operator in 2005. User subscriptions commenced in 2006, with a strongly positive response. 95 percent of farmers had subscribed before construction commenced in 2007. The two-year construction process is currently underway. 4.3.3 Irrigation Reform in New Zealand New Zealands success in replacing government management of irrigation with privately-run schemes sets an interesting precedent for private participation in irrigation. There are more than 20 privately-run community irrigation schemes in New Zealand, covering 300,000 of the 500,000 hectares of irrigated agricultural land. Significant differences in the nature of the agricultural sector, however, limit its usefulness as a direct model for the Government of Ethiopia. Until 1988 most community schemes were developed by central government through the Ministry of Works and Development. In the late 1980s, these schemes were sold to the community groups of farmers who were using them as part of a series of agricultural reforms. Since then, several new schemes have been developed on largely commercial lines: Farmers provide equity to a cooperative company, which implements a project if it is expected to be financially feasible, subject to regional council approval The cooperative company usually raises financing to cover up to 50 percent of the investment Shares in the cooperative company correspond to rights to draw water from the scheme, and are tradeable between farmers as needs change or as new farms seek to join the scheme. Figure 3.6 illustrates the typical structure of the privately-run community irrigation schemes.

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Figure 3.6: Structure of Irrigation Schemes in New Zealand


Regional Council Formation of project company driven by local leading farmers Irrigation Cooperative Company Private Financial Institution

Environmental & Social Analysis

Loan finance

Equity (proportional to water use), design input, fee per unit

Service Provision Debt can be guaranteed by government

Water Users

The private sector-based schemes have provided continued service quality, allowed further expansion in community irrigation, and resulted in increased innovation in scheme design. They have also proved commercially successful, evidenced in significant increases in share prices over time. For example, the share price of a community scheme in the Opuha area increased 20-fold over the first five years of operation. The New Zealand structure is certainly not directly transferable to the Ethiopian context, as it depends on the participation of well-educated, well-capitalized farmers generally with large, commercial enterprises. Nonetheless, it supports the premise that private sector participation can successfully drive reliability, innovation and efficiency in irrigation provision.

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Legal Framework for PPPs in Ethiopia

In order to give advice on the design and implementation of public-private partnerships (PPPs) for the Megech, Ribb, and Anger irrigation schemes, it is critical that we identify any barriers and opportunities that Ethiopias existing laws and regulations present for PPPs in these schemes. Such evaluation needs to cover both laws and regulations applicable to private investment in general, and laws and regulations applicable to PPPs and water and irrigation. To avoid time-consuming changes to existing laws or regulations, the selected PPP model(s) should, in principle, fit within the restrictions set by the existing legal framework. That said, some aspects of the legal framework may create uncertainty to private investors. Some small, practical changes to the legal framework may be needed to provide a more solid legal basis to implement the PPP transactions. We analyzed the legal and regulatory framework for PPPs in Ethiopia in order to identify the opportunities or barriers this framework presents for implementing PPPs for irrigation services in Megech, Ribb, and Anger, and to determine whether any changes are needed in Ethiopias laws and regulations to facilitate the implementation of these PPPs. This section presents our key findings and their implications for designing PPPs for the Megech, Ribb, and Anger irrigation schemes (Section 5.1). It then presents the changes we recommend to improve the framework (Section 5.2). Finally, in Section 5.3 it presents a more in-depth analysis of the existing framework, which we used to reach the conclusions in Sections 5.1 and 5.2.

5.1

Key Findings on the Current Legal and Regulatory Framework and their Implications

Based on our analysis of the applicable laws and regulations, our key findings are that: The Government is making a strong effort to increase private investment in Ethiopias economy. It is also committed to making the private sector an engine for Ethiopias development. Appendix G provides an overview of how Ethiopias legislative and regulatory framework for private investment has evolved over the last 30 years or so Existing rules on PPPs provide limited guidance. There are rules that define the type of PPP models that can be used in Ethiopia, but these were conceived as being applicable to sale of state assets (privatization) or private use of Government land. These rules provide no guidance on the PPP options that can be used for developing Greenfield infrastructure projects (such as irrigation schemes)we

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interpret this to mean that any possible PPP option could be used for these sort of projects The Ministry of Water Resources has a key role in licensing and tariff-setting. The Ministry of Water Resources is the entity responsible for granting permits to private firms for constructing waterworks (including irrigation systems) and for using and supplying water (including water for irrigation). This Ministry will apply a charge for the use of water, but there are no clear rules on how this charge is determined. However, the Ministry of Water Resources has drafted a Water Code, where these rules will be defined Rules for the provision and regulation of irrigation are undefined. There are no rules designating a Government agency as being responsible for providing irrigation services for public use, and on the legal right of a specific Government agencyfor example, the Ministry of Water Resourcesto delegate or concede this responsibility to a private firm. There are no rules for setting, monitoring, and enforcing rates and service standards for irrigation services, but it is expected that these will be defined in the Water Code. The Ministry of Water Resources however, has the right to define the standards for the construction of waterworks, and for supervising compliance with these standards There are some opportunities and incentives for private investment. Private land ownership is prohibited in Ethiopia, but the Government can lease to a private firm the right to use the land. The Government is required to lease the land to private firms which have already secured investment permit from the Government. There are laws that provide income tax and custom tax holidays for certain investors, including investors in agro-industrial activities (for example, irrigation services), and investors establishing new enterprises in the country. We think that the implications of these findings to the design of a PPP option under this project are: Any form of PPP can be can be considered for the irrigation schemes in Megech, Rib and Anger Legal opinion from the appropriate judicial authority is needed to clarify the legal right of the Ministry of Water Resources to enter into a contract with a private firm to provide irrigation services Rules for setting, monitoring, and enforcing rates and service standards set in the PPP contract would need to be consistent with the provisions

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of the forthcoming Water Codeassuming this Water Code is issued before the PPP contract is executed To avoid delays and creating uncertainty, the Ministry of Water Resources should issue, before launching the competitive process to select the private firm, the necessary permits to build the waterworks and use the water.

5.2

Possible Changes to Improve the Framework

The legal basis for a PPP transaction and its credibility to investors could be greatly enhanced if the Government issues laws or regulations that set the basic principles needed to implement these PPP transactions or that clarify some of areas of uncertainty. Such laws or regulations could include: A law, regulation or a policy paper that: Clarifies the right of the Ministry of Water Resources to delegate to a private firm the provision of irrigation services for public use The Government is prepared to provide a subsidy to cover the difference between the true cost of service and the rates that are affordable to farmers The Government will establish a subsidy fund to give investors comfort that funds will be available to make subsidy payments The rates paid by farmers, within two or three years of the irrigation system becoming operational, should be at least equal to the cost of operating and maintaining the irrigation system The private firm will be selected through a competitive process which leads to selecting the firm that will deliver the service standards defined in the PPP contract at the lowest possible cost or subsidy The Water Code, which would regulate fees for raw water, and water rates for irrigation water supply. Although the Government has already this regulation, it has not yet been issued. Drafting and issuing these new laws and regulations would of course be a time consuming process, but one that would demonstrate and solidify the Governments commitment to PPPs in irrigation.

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5.3

Analysis of Legal Framework for PPPs

The PPP model(s) chosen for the Megech, Ribb, and Anger irrigation schemes should in principle fit within the restrictions set by Ethiopias current legal framework. The legal framework for these PPPs should also give investors in the irrigation schemes comfort that a comprehensive and clear set of laws and regulations will govern the schemes. In this section, we examine the legal framework for these PPPs based on a set of questions regarding: The legal framework for private investment and private participation in irrigation Water resources and irrigation Incentives for private investment. These questions reflect the concerns that we think investors might have when considering participating as the private-sector party in the PPPs for irrigation in Megech, Ribb, and Anger. The questions are listed in Table 5.2. Table 5.1: Questions on the Legal Framework for the PPPs
Type of Question Questions regarding the legal framework for private investment and private participation in irrigation Example of Specific Questions Are there any laws or regulations that define limits on foreign private investment, or require a minimum investment? Are there any particular PPP models prescribed in the law? Are there any restrictions on land ownership? What Government entity would be the counterpart to a PPP contract? Does this entity have the right to enter into a PPP contract for irrigation? What are the rules for obtaining permits to build waterworks and to use water resources? How are raw water and irrigation water charges set and regulated? What are the rules and regulations on Water Users Associations? Does the Government provide any type(s) of guarantee(s)? Are there incentives to invest in a project of this nature (for instance, tax holidays or tax exemptions)?

Questions regarding water resources Questions regarding Government incentives

We answer these questions below. To develop these answers, we analyzed the relevant laws and policies that are listed in Appendix H. In Appendix I we provide information on some of the Government ministries and agencies that oversee private participation in public enterprises, and the water sector (including irrigation).

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Ethiopia limits foreign investment in some sectors, but not in irrigation As described in Appendix G, the Government has carried out many reforms to encourage private investment in Ethiopias economy. It is not uncommon for countries to limit private or foreign ownership of infrastructure assets. For instance, in this Philippines, the Build-Operate-Transfer law requires that all privately developed infrastructure projects be at least 60 percent owned by the Philippines. In Ethiopia, investment in the transmission and supply of electricity is reserved exclusively for Government investment.4 The Government, however, does not have a position on private investment in irrigation projects. The Government requires foreign investors to invest no less than US$100,000 as initial investment capital per project; this will not affect this project. There are no restrictions on the types of public private partnership models In some countries, regulations limit the types of PPP models that can be used. In Paraguay, for example, the water sector law requires that any form of PPP be limited to management contracts. In Ethiopia, the laws do not explicitly allow or disallow any specific PPP models. Proclamation No. 146/1998 tasked the EPA with undertaking studies to adopt detailed procedures enabling the use of various appropriate modalities of privatization. In 2002, Proclamation No. 280/2002 listed the allowed forms of investment: Sole proprietorship Business organizations incorporated in Ethiopia or abroad Public Enterprises established in accordance with the relevant law, and Cooperative Services formed in accordance with the relevant law. Though the Government doesnt specifically disallow a particular PPP type, it tends to use three principal models (see Table 5.2). Table 5.2: Ethiopias Principal Public Private Partnership Models
PPP Model Joint Venture Description Private partner owns a majority share in a newly-formed company, for an indefinite period of time The Governments contribution is valued as the value of installations existing on the land (irrigation system, buildings, and so on) Over time, the Government will sell its shares so that the company becomes fully private. However, the Government still owns the land. Long-term lease of up to 70 years that gives the private sector the right to use the land. Assets on the land may be bought or leased.

Long Term Lease

Investment Proclamation No.280/2002. A full list of the restricted sectors is in Appendix G.

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Short Term Lease

Renewable lease of up to five years The lease may be renewed or the assets may go to tender (full privatization). If the private partners business plan is not implemented as expected, the lease may be terminated.

Source: Interview with Daniel Benti, Head of the PPP Project Department, Privatization and Public Enterprises Supervising Agency, September 26, 2007.

Land ownership is prohibited, and land must be leased from the Government The Proclamation to Provide for Public Ownership of Rural Lands No.31/1975, passed under the pro-Soviet Derg Government, was a radical Land Reform Act. The Act nationalized all rural land in Ethiopia. It eradicated the private land tenure system, replacing it with public ownership. Only individuals who were willing to farm personally were entitled to possess land. In spite of many economic and political policy changes by the present Government, the Dergs land tenure policy has been maintained. Article 40 of the Constitution of the Federal Democratic Republic of Ethiopia5 (which entered into force in 1995) states that landas the property of the nations, nationalities, and people of Ethiopia, and not the private property of individualscannot be sold or exchanged. Ethiopias Constitution assigns broad powers to each of the countrys nine regions6; each region sets its own land use and administration policies, and the land tenure system exercised is different in each region.7 In Oromia, there are no specific laws or policies relating to irrigation; rather, the land use policy aims to develop and protect land resources, and the environment for sustainable and
5

Article 40 of the Constitution of the Federal Democratic Republic of Ethiopia includes: The right to own rural and urban land as well as natural resources belongs only to the state and the people. Land is an inalienable common property of the nations, nationalities, and peoples of Ethiopia The right to own rural and urban land as well as natural resources belongs only to the state and the people. Land is an inalienable common property of the nations, nationalities, and peoples of Ethiopia The right of Ethiopian peasants to free allotment of land and not to be evicted therefrom is guaranteed. Particulars for its implementation shall be determined by law Without prejudice to the right of ownership of land by the nations, nationalities, and peoples of Ethiopia, the state shall guarantee the right of private investors to use the land upon payment of money, the amount of which is to be determined by law. Particulars shall be determined by law. Every Ethiopian shall have the full right to the immovable property he builds on the land and to the improvements he brings about on the land by his labor or capital. This right shall include the right to alienate, and where right of use expires, to remove his property, transfer his title, or claim compensation for it. Particulars shall be determined by law Without prejudice to the right to private property, the state may expropriate private property for public use with the prior payment of adequate compensation. Afar, Amhara, Benishangul-Gumuz, Gambela, Harari, Oromia, Somali, Southern Nations, Nationalities, and Peoples Region, and Tigray. The Oromia Rural Land Use and Land Administration Policy (not dated)

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reliable use, to improve the living standard of the peoples of the region.8 The policy also prioritizes land considerations to pastoralists and peasants living off of agriculture, but states that Government and non Governmental organizations, private investors, and social organizations shall get access to use rural land based on their development objectives. The Amhara Revised Rural Land Administration and Use Determination also states that private investors shall have a right to acquire land, to use on, by rent from the Government or from any other rural land holder on the agreement to be made.9 Unlike the Oromia land policy, Amharas land administration and use proclamation has specific provisions for irrigation land (see Box 5.1).

Box 5.1: Amhara Revised Rural Land Administration and Use Determination Proclamation: Provisions for Irrigation Land Any land to be cultivated by modern irrigation may, causing the acquisition of proper share of the previous landholder, be distributed Farmer or semi-pastoralist whose land is taken by distribution shall, priory be paid compensation through the person to whom his land is to be given for permanent assets he cultivated on decreased land The traditional irrigation usage shall be carried our supported by community cultural rules and counseling of the pertinent professional offices Without prejudice to the obligations to apply the requirements to be issued by professional offices, before any modern irrigation activity is carried out, it shall be necessary to ensure the undertaking of the detailed design works for the dam to be constructed, conducting of the catchment works, and the non-damaging of the soil and stone dug during dam construction on public The beneficiaries shall be duty bound to control their area not to be source of disease and not to cause erosion while irrigation and development takes place The land holders, on whose land the irrigation infrastructure and water dam are built, shall be provided with irrigable land substitution, and be paid compensation priorly which may by substituted by the would-be dam users for their assets cultivated on their land The society using irrigation shall be duty bound to take care and guard of the irrigation infrastructure and catchment in collaboration with the Government.
Source: The Revised Rural Land Administration and Use Determination Proclamation No. 133/2006

For these projects, a private investor would lease land from the Amhara and Oromia Investment Bureaus, respectively.

8 9

The Oromia Rural Land Use and Land Administration Policy (not dated) The Revised Rural Land Administration and Use Determination Proclamation No. 133/2006, section 6(3).

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It is unclear which Government agency should sign the PPP contract In most other emerging markets where PPPs have been used for developing irrigation systems, the national entity in charge of irrigation services would be the counterparty to the PPP contract. In Egypt for example, the Ministry of Water Resources will be the government entity that will sign the contract with the private firm that will provide irrigation services in the West Delta region. This means that in Ethiopia the Ministry of Water Resources should in theory be the agency that would enter into a PPP contract with a private investor to provide irrigation services in Megech, Ribb and Anger. However, the Ministry of Water Resources does not have the legal authority to enter into such a contract. The lack of clarity on this issue is something that could create concerns to investors. We therefore recommend that the Government seeks a legal opinion on this issue from the appropriate judicial body, or issues laws or regulations that clarify this issue. There are international and national rules regarding water rights There are two separate, but inter-related, issues regarding water rights: First, the amount of water Ethiopia can extract from the Nile River must be agreed with the other Nile riparian states (through the Nile Basin Initiative, see Box 5.2) Second, within Ethiopia, permits to extract water are granted by the Ministry of Water Resources. Under the umbrella of the Nile River Basin Initiative (NBI, see Box 5.2) is an investment program called the Eastern Nile Subsidiary Action Program (ENSAP). The ENSAP is led by the Eastern Nile Council of Ministers (ENCOM) and aims for joint action between the Eastern Nile statesEgypt, Ethiopia, and Sudanto promote poverty alleviation, economic growth, and reversal of environmental degradation. These riparian states make joint decisions on the amount of water each can extract from the Nile. In 2001, the ENCOM sought funding to advance studies of promising irrigation and drainage sites and, in October 2004, decided to fast-track the preparation of three irrigation and drainage projects, one in each member country; the ENCOM agreed to limit the projects to 20,000 hectares each.
Box 5.2: The Nile Basin Initiative The Ministry of Water Resources is responsible for coordination with other member countries for the Nile Basin Initiative (NBI). The NBI is a partnership between the Nile Rivers 10 riparian states10 to cooperate in managing and sharing the socioeconomic benefits of the Niles water resources. Specifically, the NBI has five
10

The NBI countries are: Burundi, Democratic Republic of Congo, Egypt, Ethiopia, Kenta, Rwanda, Sudan Tanzania, and Uganda.

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objectives: Develop the Nile Basin water resources in a sustainable and equitable way to ensure prosperity, security, and peace for all its people Ensure efficient water management and the optimal use of resources Ensure cooperation and joint action between the riparian countries, seeking winwin gains Target poverty eradication and promote economic integration, and Ensure that the program results in a move from planning to action.11 This is important because the agreements made by the NBI place limits on the amount of water Ethiopia can extract from the Nile.
Source: Nile Basin Initiative website

Within Ethiopia, permits to extract water are granted by the Ministry of Water Resources, and are needed to: Construct waterworks Supply water, whether for his own use or for others Transfer water which he/she abstracted from a water resource or received from another supplier, and Release or discharge waste into water resources. Applications for water use, release or discharge of waste, and waterworks construction permits are submitted to the Ministry of Water Resources. The Ministry of Water Resources will issue a permit within 60 days so long as the proposed use of water does not: Infringe, in any manner, any persons legitimate interests upon the water, or Entail pollution or harmful effects on the water resource and environment. For these irrigation projects, the Ministry of Water Resources would delegate the granting of water rights to the Regional Water Bureaus of Oromia and Amhara, respectively. There are no national level rules for setting rates for raw water or irrigation water There are no rules in the Ethiopian Water Resources Management Proclamation No. 197/2000 that define how charges for raw and irrigation water are defined. This proclamation however establishes that the users of raw water should pay a charge to the Ministry of Water Resources.

11

Nile Basin Initiative website (www.nilebasin.org).

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A Water Code to regulate licenses, fees for raw water, and water rates for urban and irrigation water supply is under preparation.12 Though there are some private investors using irrigation in the Awash Basin, the water rates governing agricultural operations have, in strict terms, no legal basis other than a Directive of the Council of Ministers. Therefore, there are no national level rules for setting rates for raw water or irrigation water supply. Most PPP contracts for irrigation would include specific formulas and procedures on how to set and adjust the rates that farmers would pay for irrigation servicesthese contract provisions would make tariffs more predictable to private investors and farmers. If the Water Code is issued before the PPP contracts for Megech, Ribb and Anger are launched, then the tariff provisions of these contracts will need to be consistent with the principles established in the Water Code. To this end, it will be important that the Government completes and enacts this Water Code as soon as possible. There are some Water Users Associations Some countries have rules that govern the formation and operation of irrigation user associations. In Egypt, for example, there are clear rules on how irrigation users should organize themselves, the type of legal entity that should be adopted, the rights and obligations of users, as well as the rights of the association to own irrigation assets. In Ethiopia, the Ministry of Water Resources has oversight of any water users associations. However, no national level regulations have been issued. The Water Users Associations (WUAs) in Ethiopia abide by regional-level regulations. Of the two regions covered by this projects (Amhara and Oromia), only Oromia has WUAs. The Government provides some guarantees for foreign investors If PPP contracts are signed, the private sector would like to be confident about the sanctity and enforceability of their contract with the Government. The Government offers the following guarantees: The Investment Proclamation Law (and its amendments) prohibit the nationalization (in whole or in part) of a domestic or foreign investors assets, enterprises, or expansionsexcept when required by public interest and in compliance with the laws and payment of adequate compensation. No acts of expropriation have occurred under either the Transitional Government of Ethiopia (19911995) or the Federal Democratic Republic of Ethiopia (which assumed power in 1995).13 The Investment Proclamation Law also guarantees capital repatriation and remittance of dividends and interest to foreign investors. Any
12 13

Communication with Mr. Zwedu, legal advisor to the Ministry of Water Resources The US Department of State (2007) Investment Climate StatementEthiopia

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foreign investor has the right to remit the following out of Ethiopia in a convertible currency (at the exchange rate on the day of remittance): Profits and dividends accruing from an investment Principal and interest payments on external loans registered with the National Bank of Ethiopia Payments related to technology transfer or management agreements Proceeds from sale or liquidation of an enterprise Proceeds from the sale or transfer of shares or of partial ownership of an enterprise to a domestic investor Compensation paid to a foreign investor Expatriates employed in an enterprise may remit, in convertible foreign currency, portion of salaries and other payments accruing from their employment in accordance with the foreign exchange regulations or directive of the country. Ethiopia is a member of the World Banks Multilateral Investment Guarantees Agency (MIGA). The MIGA provides guarantees against (non-commercial) risks to enterprises that invest in member countries. Ethiopia has also signed the World Bank treaty, the International Convention on Settlement of Investment Disputes between States and Nationals of other States (ICSID). One option for increasing investors confidence would be for Ethiopia to sign the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards. Since Ethiopia is a founding member of the United Nations, the Convention is open to it for accession under Article 9. Accession is effected by the deposit of an instrument of Accession with the Secretary General of the United Nations, after which the Convention comes into force in 90 days. The Secretary General of the United Nations would then transfer a certified copy of the Convention to its member states. There are many investment incentives Foreign investors are 100 percent exempt from import customs duties and other taxes levied on imports. This allows investors to import all investment capital goods, like plant machinery, plant equipment, construction materials, and spare parts (up to 15 percent the value of the imported investment capital goods). Income derived from an (approved) new manufacturing or agro-industry investment, or an investment made in agriculture, is exempt from income taxes for the periods listed in Table 5.3.

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Table 5.3: Areas and Periods of Income Tax Exemption


Profit Tax Exemption for investments made in underdeveloped regions 6 years 6 years 3 years Up to 8 years 3 years 6 years

Conditions for Profit Tax Exemption

Profit Tax Exemption

An investor engaged in a new manufacturing or agro-industry activity If he exports at least 50% of its products If he supplies at least 75% of its products, to an investor, as n input for the production of export items If it exports less than 50 percent of its products If the project is evaluated under a special circumstance by the BOI If the production is for the local market If the production mentioned above is considered by the BOI to be a special one Expansion or upgrading of the above projects If the expansion or upgrading increase the existing production by 25% in value and 50% of the production is to be exported 2 years 3 years 5 years 5 years 2 years Up to 7 years 2 years 5 years

Source: The Ethiopian Business Development Services Network (EBDSN) Investment Guide

Investors receive the following tax holidays: Exemption from profit tax for a minimum period of three years, which may be increased to five years depending upon the type and location of investment, with additional exemption of one or two years for investment in expanding enterprises (Proclamation No. 37/1996) Carrying forward of tax losses during the tax exemption period for three to five years after the expiry of the tax holiday depending upon the geographical region of investment Income derived from expansion in an existing enterprise, whose invested capital is in accordance with the Council of Ministers Regulation No. 7/1996, Article 6(2), is exempted from the payment of

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income tax for a period of two years for pioneer activities and one year for promoted activities.14

14

Ethiopian Privatization Agency website

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Key Considerations for PPP Design

The information presented in the previous sections of this report has several important implications for the design of PPPs for irrigation in Megech, Ribb, and Anger. This section discusses them, as they influence the PPP options we developed and recommend in Section 7. First, the amount that farmers stated they are willing to pay for irrigation in the survey we conducted is well below the estimated costs of operating and maintaining the irrigation schemes. This means that in order to make the irrigation schemes financially viableand interest potential private operators in the PPPthe Government must provide an operating subsidy to cover the gap between tariff revenue and costs, at least in the initial years of the schemes operation. This subsidy is discussed in Section 6.1 below. Second, it would make sense to allow the private operator to provide nonirrigation services to farmers. This is discussed in Section 6.2 below. Farmers are interested in receiving this type of services, the Government would like to provide farmers with access to this type of services, and potential private operators are also interested in providing this type of services. Allowing the private operator to provide non-irrigation services to farmers could close the gap between revenues and costs, and reduce the operating subsidy required and discussed in Section 6.1. Third, the Government may have to bear a significant degree of demand and payment risk for the irrigation schemes to be attractive to potential private operators. This is discussed in Section 6.3 below. Farmers have not demonstrated a sustained level of demand for irrigation services or the ability to pay for them on a consistent basis. The amount farmers state they are willing to pay is low, and potential private operators have stated that in principle they would not be willing to bear demand and payment risk.

6.1

Operating Subsidy

The results of the farmer survey that we conductedpresented in Section 3.2 indicate that the annual amount that farmers in Megech and Ribb are willing to pay is not enough to cover the full operating and maintenance costs of the systems as estimated in the pre-feasibility studies. This means that, in order to make the irrigation schemes financially viable, the Government will have to provide an operating subsidy to the private operator. This section will discuss the need for a subsidy (Section 6.1.1) and ways to reduce the subsidy (Section 6.1.2). Section 8.3 addresses how the subsidy would be administered.

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6.1.1 Need for an operating subsidy The operating costs of the Megech system are estimated to be ETB 1,157 per hectare per year.15 The farmers that are willing to connect to the irrigation system are willing to pay on average ETB 310 per hectare per year. Less than 8 percent of farmers interviewed in the representative sample are willing to pay more than ETB 800 per year. In Ribb, the operating costs of the system are estimated to be ETB 874 per hectare per year.16 The farmers that are willing to connect to the irrigation system are willing to pay on average ETB 294 per hectare per year, and less than 3 percent of farmers interviewed in the representative sample are willing to pay more than ETB 800 per year. Although reliable cost estimates for the Anger scheme are not available, we assume that the level farmers are willing to pay in Anger will not cover operation and maintenance (O&M) costs either. Cost estimates will be provided in the ongoing feasibility study. Private investors will only be interested in this project if they believe that they can recover their costs, recover any capital that they invest, and obtain a reasonable return on this capital. A project that allows these costs plus the return on investment to be recovered is considered to be financially viable. Thus, the Government will need to provide a subsidy that is equal to the difference between the true cost of the project (capital costs and O&M costs) and the tariffs that farmers are willing to pay. We have estimated the present value of the subsidy (taken over a 10 year period) needed to make the Megech and Ribb schemes financially viable. Table 6.1 presents the value of this subsidy, assuming that farmers pay a tariff of ETB 300 per hectare per year. This amount is close to the average amount that farmers interested in the irrigation schemes have stated they would be able to pay. Table 6.1: Subsidy Required to Make Megech and Ribb Financially Viable (ETB million)
Megech PV of Capex Subsidy PV of O&M Subsidy PV of Total Subsidy 212 8 220 Ribb 984 19 1,003

15 16

Source: BCEOM Pre-Feasibility Study Source: BCEOM Pre-Feasibility Study

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We have divided the subsidy into the amount required to fund capital costs and the amount required to meet the difference between tariffs and O&M costs. We know that the Government is prepared to absorb the capital costs of the irrigation schemes of the Megech and Ribb schemes. We assume that all tariff revenue will be used to recover a portion of the O&M costs. The subsidy to cover O&M costs represents around: Four percent of total present value of the subsidy needed for Megech around ETB 1.4 million per year Two percent of the subsidy needed for Ribbaround ETB 3.2 million/year. 6.1.2 Ways to reduce the required subsidy There are several ways to minimize the required subsidy: Reduce O&M costs to a level that is closer to the willingness to pay of farmers Encourage farmers to pay more Use the private operators required subsidy as the bid variable when awarding the PPP contract Design the system to serve the farmers with the highest willingness-topay first. Reduce O&M costs The ongoing feasibility studies of the Megech, Ribb, and Anger schemes will update the cost estimates. They provide a good opportunity to explore ways to reduce O&M costs. However, it is unlikely that O&M costs could be reduced to the levels that farmers are willing to pay. Encourage farmers to pay more It is reasonable to expect that farmers would be more willing to pay as they see the benefits of irrigation. Irrigation will increase farmers yields, and thus their incomes. The findings from our survey might not have revealed the true willingness to pay of farmers because currently they might not be well informed of the value that irrigation could add to the yield of their land. As discussed in Section 3.2.4, 43 percent of the farmers surveyed in Ribb currently use irrigation. Of those, 48 percent reported how much they pay in irrigation-related costs per yearthese costs are related to the rental of pumps and purchase of fuel for the pumps. They pay on average ETB 1,970 per hectare per year. This shows that in practice farmers that use irrigation are willing to pay more than what the survey revealed.

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Thus, tariffs charged to farmers could increase over time. There could be a transition period of approximately 4-7 years over which tariffs would approach the levels needed to recover O&M costs. Thus, the O&M subsidy would be phased out over this period. Figure 6.1 illustrates how tariffs could be increased over time from the amount that farmers are currently able to pay to an amount that covers O&M costs. Figure 6.1: Transition Period
ETB/m3

Equivalent to ETB 1,157/hectare

O&M Cost-reocvery Tariff

Subsidy Affordable Tariff


Equivalent to ETB 300/hectare

Starting Point

Transition Period

The tariff would have two components: a fixed component and the variable component. The variable component would be based on the amount of irrigation water the farmer actually used during the billing period. This is a volumetric tariff. At the beginning of the projects operation, the fixed and volumetric portions of the tariffs would be set to approximate farmers willingness-to-pay of approximately ETB 300/hectare. Over a 4-7 year period, tariffs would be increased an amount that covers O&M costs plus the private operators required profits. Subsidy as the bid variable Another way to minimize the O&M subsidy that the Government must pay regardless of how this subsidy is phased outis to make the subsidy the bid variable in the process of selecting the private operator to whom to award the PPP contract. As discussed in Section 4.2 the competitive process of bidding out PPP contracts can be used to reduce the overall cost of developing a project. The government awards a PPP contract to whichever private operator offers, in its bid, to charge the lowest tariff (either to consumers or the government). In the case of the Megech, Ribb, and Anger PPPs, the Government could award the

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PPP contract to whichever private operator requires the least amount of subsidyin present value termsduring the transition period. Design the system to serve the farmers with the highest willingness-to-pay first If farmers in one part of the command areas of each irrigation scheme are willing and able to pay significantly more than farmers in other parts, the irrigation systems could be developed in phases, delivering irrigation first to the farmers with the highest willingness-to-pay. As explained in Section 4.3.1, this was done in the West Delta irrigation PPP in Egypt. However, in the Megech, Ribb, and Anger command areas, the amount that farmers are willing to pay does not follow any distinct geographical pattern, and this is not an option. In our survey to famers, we tested whether farmers willingness to pay varied significantly across kebeles. If it did, geographic phasing of the system could be a way to reduce the required subsidy. However, as shown in Table D.5, Table D.6, and Table D.7, the amount that farmers are willing to pay does not vary significantly across kebeles.

6.2

Non-Irrigation Services

The private operator in the Megech, Ribb, and Anger PPP schemes should be allowed to develop and provide farm-related services beyond irrigation (nonirrigation services) to farmers in the command areas. Farmers are interested in receiving services beyond pure irrigation (see Section 3.2.3 and Appendix D.4). The Government is interested in facilitating farmers access to these services (see Section 3.1.2), and potential private operators see the provision of this type of services as a potentially important part of their business plans (see Section 3.3.2). These services include provision of: Storage facilities Processing facilities Marketing services Inputs, such as seeds and fertilizer Training in how to cultivate the varieties Assistance in determining standards which the crops must meet Assistance in determining the highest-value crops and varieties farmers could produce. The structure of the PPP for the Anger scheme could also allow the private operator to develop commercial agriculture on the unoccupied land in the command area and engage farmers as outgrowers. Farmers welcome the idea of extending the PPP option to include non-irrigation services, including post-harvest services that could translate higher yields into
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more cash. They are concerned about accessing markets and obtaining higher and more stable prices for their products. Providing post-harvest services that help farmers realize higher incomes from the use of irrigation could increase the private operators revenue and help reduce the size of the subsidy needed to make the irrigation schemes financially viable. In all of the PPP options that we have designed, presented in Section 7.2, the private operator may offer non-irrigation services to farmers.

6.3

Demand and Payment Risk

It is likely that in the Megech, Ribb, and Anger irrigation PPPs, the Government will have to bear a degree of demand and payment risk. In section 4.3 we mentioned that farmers incomes and the levels of tariffs that they are willing to pay impact the degree of risk that can be transferred to the private sector. We also mentioned that in Greenfield projects, private operators may perceive that there is a high degree of payment risk because there is no precedent for tariffbased irrigation systems. Sections 3.2.2 and 6.1.1 showed that the amount farmers are willing to pay is well below the operating and maintenance costs of the Megech and Ribb irrigation systems (as estimated in the pre-feasibility study). Section 3.3.2 explained that potential private operators have stated that in principle they would not be willing to bear demand and payment risk. Section 6.3.1 explains why the Government may need to bear at least some demand and payment risk in the irrigation PPPs. Section 6.3.2 discusses how it would bear these risks in practice. 6.3.1 Rationale for Government bearing demand and payment risk in Ethiopia Demand and payment risk are key to the structure of PPPs because the principal advantage of PPPs is risk transfer to the private investor, and for the private operator to accept to bear risks, its source of revenue must be predictable. This means that the private operator must have a certain level of comfort regarding demand and payment risk. If the customers (in this case, the farmers) have not have demonstrated demand and ability to make regular payments for the service, the private operator will not be willing to completely bear demand and payment risk. Demand and payment risk are relatively high in the Megech, Ribb, and Anger irrigation schemes. Farmers in the command areas do not have a tradition of regularly using irrigation service that they have to pay forthey have not demonstrated a consistent level of demand for irrigation. For example, in the case of a crop failure or other negative shock that greatly reduces their income, it is unclear how far farmers demand for irrigation would fall. Farmers also do not have a tradition of making regular payments for the use of irrigationthey have not demonstrated a consistent ability to pay for irrigation. A significant proportion of farmers in Ribb (43 percent of those surveyed)
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currently use irrigation, but only 48 percent reported that they have a cost associated with this irrigation. These farmers are mainly renting pumps and paying for fuel for the pumps. They do not have commitments to make regular payments over the long term. Therefore, it is likely that the Government will have to bear a degree of demand and payment risk in order to provide the private operator with the required level of comfort regarding its revenue stream and successfully attract interest from the private sector. Potential private investors in the irrigation schemes have stated that they would not be willing to bear demand or payment risk from the schemes (see Section 3.3). 6.3.2 How the Government can bear demand and payment risk The Government can bear demand risk by agreeing to guarantee a certain level of demandtypically a certain level of cubic meters of irrigation water used. If demand falls below this level, the Government would make a payment to the private operator as if this minimum level of water had been delivered. The Government can bear payment risk by accepting responsibility for collecting tariff payments from farmers. The Government would make payments to the private operator equivalent to the tariff revenue that the private operator would receive if 100 percent of farmers paid their bills for irrigation. This payment would correspond to the volume of water actually used by farmers. However, the private operator could still play a role in collecting tariff payments from farmers. Because the private operator would have staff on the ground to operate and maintain the irrigation system, it could also employ these staff to collect tariff payments. Alternatively, this could be done by Water Users Associations. The private operator or the Water User Association would then pass this tariff revenue on to the Government. The Government would bear the risk that these tariff collections would not be enough to cover its payment to the private operator. If the private operator collects tariffs for the Government, although the Government bears payment risk it can still provide incentives for the private operator to maximize collections. The Government could agree to make a larger payment to the private operator the more tariff revenue the private operator collects. This will be discussed further in Section 8.3.3.

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Public Private Partnership Options

We have developed several PPP options that could be considered for the Megech, Ribb, and Anger irrigation schemes. They present a range of ways of allocating functions and risks between the public and private sectors. This section describes our approach to developing the PPP options and selecting the recommended option for each irrigation scheme (Section 7.1). It analyzes several options for the role that farmers could play in the PPPs, and recommends an approach for each irrigation scheme (Section 7.2). It then describes the PPP options we have developed and how risks and responsibilities are allocated in each option (Section 7.27.3). It analyzes the PPP options to determine the recommended option for each irrigation scheme (Section 7.4). It concludes with a discussion of the Governments feedback on developing the irrigation schemes using PPPs, and on the recommended PPP option (Section 7.5).

7.1

Approach to PPP Options

To design the PPP options and determine which option we recommend for Megech, Ribb, and Anger, we followed a process that included the following: Gathering the views of key stakeholders, including: Governments objectives and views Farmers willingness to pay, interest in receiving non-irrigation services, and other views Potential private investors interest in the schemes Reviewing international experience with involving the private sector in the provision of irrigation services through PPPs and reforms Analyzing the legal framework for the PPPs Analyzing the financial viability of the irrigation schemesin other words, how the estimated capital and O&M costs of the schemes compare with what farmers are willing to pay. To determine which PPP option we recommend for each irrigation scheme, we prioritized the models according to: Incentives to deliver reliable services Level of subsidy required Attractiveness to private sector Complexity of implementation. After determining which PPP option would be most suitable for each irrigation scheme, we discussed our recommendations with the Steering Committee of the

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Ethiopian Nile Irrigation and Drainage Project. Based on their feedback, we developed the recommended option in more detail. Figure 7.1 illustrates the approach we followed to define the preferred PPP model and proceed to develop it in detail. Figure 7.1: Approach to Developing PPP Options
Definition of PPPs Government Views Farmers willingness to pay Farmers preferences Private Operators Views International Experience Legal Framework Capital and O&M Costs Consult with Steering Committee Level of subsidy required AttractiveIncentives to Complexity of ness to private deliver reliable implementsector services ation

Identify potential PPP Options

Identify Recommende d PPP Option

Define Preferred PPP Option

Develop Preferred PPP Option in Detail

7.2

Role of Farmers

The Government is interested in understanding what roles would be appropriate for farmers to play in the PPPs for Megech, Ribb, and Anger. We have considered a range of options for involving farmers in the operation of the irrigation schemes: Option AA large commercial farmer, or a group of farmers in one project area, is the private operator of the irrigation scheme. In this option, smallholder farmers in the command area would be given the option of becoming outgrowers to the large commercial farmer Option BFarmers organized in water user associations (WUAs) are responsible for maintaining the tertiary network in their subdistrict and pay a lower tariff that excludes the cost of this maintenance Option CThe private operator is responsible for operating and maintaining the entire system and farmers pay a tariff that reflects the costs associated with this.

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7.2.1 Description and analysis of each option Here we describe each option in more detail and analyze the advantages and disadvantages of each. Table 7.1: Options for Involving Farmers
Operating System Option A Option B Commercial Farmer Private Maintaining System Commercial Farmer Private and Smallholder Farmers Private Level of Tariffs Tariffs = O&M costs Tariffs < O&M costs Tariffs = O&M costs

Option C

Private

Option ACommercial farmer as private irrigation operator In the first option, a large commercial farmer or a group of farmers in one project area is the private operator of the irrigation scheme. Smallholder farmers in the command area would be given the option of becoming outgrowers to the large commercial farmer. Engaging farmers as outgrowers involves: Providing them with seeds and other inputs required to grow a certain crop Training them in growing the crop Specifying quality standards the harvested crops must meet Purchasing the harvested crops from them at an agreed-upon price. This option could involve an existing commercial farmer (or group of existing commercial farmers) in the project areas. It could also involve a commercial farmer or agri-business company from elsewhere in Ethiopia or the world that comes into the area for the purpose of being the irrigation operator and developing commercial farming. The structure of the outgrower scheme as part of the PPP is illustrated in Figure 7.2.

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Figure 7.2: Structure of Outgrower Scheme


Payments under PPP Contract

Irrigation Operator/ Commercial Farmer


Irrigation Seeds Training Other Inputs

Payment for Crops

Crops

Government

Smallholder Farmers

Tariff for Irrigation

This option has several advantages: Existing farmers in the project areas are familiar with the climate, soil, suitable crops, and other information that is useful when designing and operating irrigation systems and providing other services to smallholder farmers Existing farmers also have relationships with other farmers in the command areas, which could be useful in managing the irrigation scheme, including collecting tariffs from farmers The commercial farmer could transfer knowledge to smallholder farmers through an outgrower scheme. The commercial farmer will be familiar with best practices for cultivating the crops it specializes in, and will transfer this knowledge to smallholder farmers to ensure that the farmers meet the required quality standards The commercial farmer would be a ready customer for the farmers crops. Through an outgrower scheme, the commercial farmer would purchase crops from the smallholders and take them to market. The commercial farmer may have better market access and knowledge than the smallholders. Smallholders may also benefit from being able to sell their crops as part of a larger volume, instead of on the basis of individual production. The commercial farmer would aggregate the smallholders crops and in this way may be able to reach larger markets and fetch better prices than the smallholders could on their own Attracting a commercial farmer to farm large tracts of unoccupied land in a command area may help resolve technical and financial problems. It may be technically unfeasible to develop an irrigation system that uses water from one dam to serve farmers that are dispersed over a wide area. Also, if the irrigation system runs through areas in which no farmers are using it, the proportion of costs that can be recovered

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through tariff revenue would be significantly reduced. This is especially true for the fixed portion of operation and maintenance costs Farmers are interested in becoming outgrowers to a commercial farmer. In the survey we conducted, over 90 percent of smallholder farmers in all three project areas said that they would like to become an outgrower to the private irrigation operator if this were possible (see Section 3.2.3) Some potential private operators have expressed an interest in developing commercial farming as well as irrigation, so this option would be attractive to the private sector. However, there are also disadvantages to adopting this option. These are as follows: This option requires that the farmer who operates the irrigation system be a commercial farmer with the capacity to raise capital to pay for between five and ten percent of the capital costs of the irrigation system to serve smallholders, as outlined in Section 8.1.1 If no farmer in the command area has the capacity to raise the necessary capital, a farmer from outside the command area (national or international) could come in to develop commercial farming and the irrigation system. This would require that large tracts of land be available for this farmer to use It may create tension among farmers if one of the farmers has the exclusive right to control the irrigation system It may create excessive dependency on the commercial farmer if the smallholder farmers are receiving irrigation from, and selling their crops to, the commercial farmer. The commercial farmer as private operator would have a monopoly on the supply side (irrigation and some inputs to the outgrowers) and the demand side (purchase of crops from outgrowers). Allowing farmers to voluntarily join the outgrower scheme is one way to dilute the operators monopoly power on the demand side. Option BFarmers maintain tertiary network The second option is for farmers to be responsible for maintaining the tertiary network. The private operator will be responsible for all aspects of operating the irrigation system up to the farm level, and of maintaining the system up to the tertiary canals. Farmers, through their water user associations (WUAs), are responsible for maintaining the tertiary network. Water user associations will be constituted at the level of secondary canalsone WUA for each secondary canal or for a group of secondary canals. The area covered by each WUA is an

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irrigation subdistrict. Farmers in the WUA would maintain the tertiary network in their subdistrict. If farmers fail to comply with their system maintenance obligations, the operator will have the right to cut off supply to the entire subdistrict. This will create peer pressure and incentives for the WUAs to conduct maintenance according to the standards specified by the private operator. In this option, part of the payments made by farmers will be in the form of the labor and materials needed for maintaining the tertiary network. Thus, the tariff payments that smallholder farmers make in cash will be lower than in the other options. The advantage of this option is that farmers cash payments will be lower than in the other options. The private operators costs are reduced by the amount it would cost the operator to maintain the tertiary canals. Thus, the tariff charged to farmerswhich is determined by the costs of operation and maintenance (O&M)is lower. Farmers may still incur costs related to the purchase of materials for maintenance, and will incur the opportunity cost of their time, but their cash payments will be lower than in the other options There are significant disadvantages to this option, which could reduce its effectiveness. The disadvantages are as follows: The private operator cannot be held accountable for delivery of water to individual farms. The private operator can only be held accountable for the delivery of water to the tertiary canals. As discussed in Section 3.1.2, the Governments main objective in pursuing a PPP for these irrigation schemes is to provide farmers with reliable irrigation. This is done through accountability Thus, giving responsibility for tertiary canal maintenance to farmers may undermine the effectiveness of the PPP approach. It is likely to result in less reliable irrigation services than if the private operator were responsible for delivering irrigation directly to farms. We have assumed that farmers in each irrigation sub-district would be interested in cooperating with one another through WUAs in order to conduct maintenance of the tertiary networks. If there are any constraints to their cooperation, these would need to be addressed for this option to have the desired result. Option CFarmers not directly involved in operation and maintenance In this option, farmers are not responsible for operating or maintaining the irrigation system. The private operator is responsible for operating and maintaining the entire system, and farmers pay a tariff that covers operating and maintenance costs (after a transition period, which will be discussed in Sections 6.1 and 8.2).

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The advantage of this option is that the private operator can be held accountable for delivering irrigation services directly to farmers, so its incentives to provide reliable service remain strong. The disadvantage of this option vis--vis Option B above is that farmers cash tariff payments are slightly higher. 7.2.2 Recommendations Each of the options presented above for farmers involvement in the irrigation schemes has a number of advantages and disadvantages. The advantages can be used to make a strong case for implementing any one of the options. The recommended option is determined mainly by the disadvantages and constraints to implementing each option. The disadvantages and constraints of each option relate to: Farmer and command area characteristicsspecifically, whether the option requires that farmers have access to capital or that the command area has a specific type of landholding pattern (as in Option A) The strength of incentives and accountability mechanisms to ensure that the private operator delivers reliable irrigation services The level of tariffs charged to farmers. Table 7.2 summarizes how each option performs with respect to the above considerations. It also presents in which project area, or areas, we recommend that the options be implemented.

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Table 7.2: Recommendations on Farmers Roles


Incentives for Reliable Required Farmer/Command Area Service Characteristics Option AFarmer as operator Farmer as operator is able to raise capital If no local farmers have this ability, command area must contain tracts of unoccupied land to attract a new farmer/operator to the area Option BFarmers maintain tertiary network Option CFarmers not directly responsible for O&M aspects Possible with all types of Lowoperator cannot farmers be held accountable for service delivery to farms Possible with all types of Highoperator is fully farmers accountable Below full O&M cost Not recommended (due to low incentives) Megech and Ribb Highoperator is fully accountable Tariffs (after transition period) Reflect full O&M cost Where Recommended

Anger

Reflect full O&M cost

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As discussed above, to implement Option Aa commercial farmer as the private operatora farmer or group of farmers in the command area must be able to raise five to ten percent of the capital needed to develop the irrigation schemes. If this is not possible, a commercial farmer from outside the command area would need to have access to large tracts of unoccupied land to farm. We know that there are commercial farmers in the Megech, Ribb, and Anger command areas, but they may not be creditworthy enough, or their income may not be sufficient enough, for them to raise the necessary capital. Thus, Option A is most likely to be successful where there is land available for a commercial farmer from another part of Ethiopia, or from abroad, to install a commercial farming operation. The Megech and Ribb command areas are fairly densely populated with smallholder farmersthere is very little unoccupied land. The Anger command area includes large tracts of unoccupied land that would be suitable for commercial farming. We recommend Option A for the Anger PPP, but not for the Megech or Ribb PPPs. We also recommend this option because under it, the private operator is fully accountable for the quality of service delivered to each farm. Options B and C do not require farmers to meet any financial characteristics, nor do they require any specific landholding pattern. They may be applied in any of the three command areas. However, as discussed above, Option B weakens the mechanisms that ensure reliable irrigation service is delivered to farmers. For this reason, it is unattractive. We do not recommend it. Option C maintains strong incentives and accountability that ensure that the irrigation operator provides reliable service to farmers. We recommend that it be applied in Megech and Ribb. The World Bank has asked us to consider whether Options B and C could be implemented in different parts of the Megech and Ribb project areas. After a test period in which the reliability of service delivery in each area would be monitored, farmers would be asked which option they prefer. That option would be implemented for the entire area. We do not recommend this approach. Applying different models could generate tension and confusion among farmers and lead to sub-optimal results. Furthermore, if Option B does not provide good results (as predicted), it may be difficult to increase tariffs to full O&M cost-recovery levels once farmers have become accustomed to paying, or expect to pay, a lower tariff. 7.2.3 Role of Water User Associations In each command area, farmers will be organized into WUAs. The WUAs will typically group together the farmers that draw water from the same secondary canal or pipeline.

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In all PPP options, the WUAs may play a role in the following activities: Organizing farmers participation in designing and building the irrigation systems. The Government is interested in promoting farmers participation in these aspects of the irrigation schemes. Farmers also have knowledge that is useful in the design of the system, and could provide labor to help build the system Scheduling delivery of water to individual farmers. The WUA would collect information from famers on their water needstiming and quantityand makes a schedule of water delivery to each individual farmer Collecting payments from farmers. The WUAs have easy access to farmers and social capital to encourage farmers to pay. The WUAs are well-placed to collect tariffs because they are made up of farmers and located in each irrigation sub-district. The WUA would collect tariff payments and give them to the private operator to be passed along to the Government (or the trust account, discussed in Section 8.3) Recording farmers service complaints. Through this, the WUA will be involved in monitoring the private operators performance. This task would be carried out in close collaboration with the Contract Monitoring Unit (CMU) discussed in Sections 9.3 through 9.5. Purchasing inputs on behalf of farmers. The WUAs can negotiate on behalf of farmers with suppliers of seeds, machinery, and other inputs. Because the supplier would be selling a larger quantity than if it were dealing with individual farmers, the supplier would be more likely to offer discounts and better payment terms Aggregating farmers crops for marketing. Farmers may be able to reach larger and more diverse markets, and receive better prices, if they sell in larger quantities. The WUAs can group crops together for sale either through the private operator as discussed in Section 6.2, to traders and brokers, or directly in the marketplace Helping farmers access training opportunities. Training in groups is likely to be less expensive than individual training. Also, the WUAs can provide information to farmers on the types of training available Gathering market and other information, and disseminate it to farmers. The WUAs can help farmers access more information on crop markets, training opportunities, input suppliers, and so on, than farmers could access on their own The WUAs role in each of these tasks is essentially one of aggregation. The WUAs involvement can lower the cost to the farmer of gaining access to

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information and conducting transactions (buying inputs or selling output). The WUA could also play other roles to be determined.

7.3

Potential PPP Options

As discussed in Section 4.1, PPPs are about risk-sharing between the public and the private sectors. The PPP options we developed present a range of ways to allocate the key functions and risks of developing and operating the irrigation schemes between the public and the private sectors. These key functions and risks are: Financing of capital costs, and related financial riskfor example, the risk that the terms of the loan change and become less favorable Design and construction of the irrigation systems, including the risks that: Construction takes longer than expected Construction costs are higher than expected Operation and maintenance of the irrigation systems, including all operating riskthe risk of any event occurring in the operation of the system that prevents the operator from fulfilling its commitment to deliver irrigation water to farmers as specified in the supply agreement contracts Demand riskthe risk that the number of farmers connected to the system, the volume of water being used, or both, is lower than expected and does not allow the costs of the system to be recovered at the given tariff levels Payment riskthe risk that farmers do not pay their bills after having used the water. There are other risks related to the development and operation of the irrigation schemes. We have recommended that they be allocated in the same way for all PPP options. These risks are: Convertibility and remittance riskPotential private investors have indicated that in practice, it can be difficult to convert Ethiopian birr to US dollars, euros or other hard currency, and to remit this hard currency abroad. We therefore recommend that the tariff paid to the private operator include a component that is paid in hard currency. This component would be large enough to cover the costs that the private operator has incurred in hard currency and its required return on any investment made in hard currency. This greatly reduces the private operators exposure to convertibility and remittance risk

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Foreign exchange riskBecause the component of the payment that the private operator requires in hard currency will be made in hard currency, the Government bears foreign exchange risk Hydrology riskIn all of the options, the Government bears hydrology risk. This is the risk that there is not enough water in the rivers (or lake) to supply the quantity of water needed to the irrigation schemes. The Government should bear this risk because it is betterplaced than the private operator to absorb it (see discussion of risk allocation principles in Section 4.1.3). Furthermore, all PPP options include the possibility that the farmers purchase non-irrigation services from the private operator. These services could include storage, processing, marketing and so on. For the Anger irrigation scheme, all PPP options include the possibility that the private operator develops commercial agriculture on the unoccupied land in the command area and engages farmers as outgrowers. Farmers will also play an important role in the development and operation of the irrigation schemes. In any of the PPP options we have developed, the farmers are responsible for paying the agreed-upon tariff and may also participate in: The systems design and supervising the systems construction The operation of the system, by way of: Scheduling delivery of water Monitoring the performance of the private operator. Farmers will be organized into water users associations (WUAs). The WUAs will typically group together the farmers that draw water from the same secondary canal or pipeline. Farmers participation in aspects of designing, building, operating and maintaining the irrigation systems may be coordinated through the WUAs. Tariff payments may also be collected through the WUAs, and WUAs may carry out the tasks listed in Section 7.2.3. When the term of the PPP contract has ended, the farmersthrough WUAs may also take over the operation and maintenance of the system, using the skills they acquired from the private operator. Table 7.3 presents the possible PPP options. Sections 7.3.1 through 7.3.6 describe each option in more detail. The degree of risk borne by the private operator, and the number of functions it carries out, increase from Option One (fewest functions and risk borne) to Option Six (most involvement and risk borne).

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Table 7.3: Potential PPP Options


Post-Harvest Services will be provided by private party

Option

Illustrative Financing of Design and Contract Type Capital Costs Construction Operation and Maintenance Design-Build + O&M Design-Build + O&M DBOT DBOT DFBOT Public Public

Operation Demand Risk Payment Risk and Maintenance Private Public

Private (Contract 1) Private (Contract 1)

Private (Contract 2) Private (Contract 2) Public

Public

Public

Private

4 5 6

Public / Private Public / Private

Private Private Private

Public

7.3.1 Option One: Operation and Maintenance Contract In PPP Option One, the Government engages a private operator to operate and maintain the irrigation systems. The Government and the private operator sign an operation and maintenance contract. This contract has a duration of approximately 5 to 10 years. It specifies the responsibilities of the Government and the private operator (discussed below), as well as the service standards that the private operator must meet. In this contract, the Government also grants the operator the right to use water and agrees to deliver irrigation services via the private operator. The private operator signs service delivery agreements with farmers. The service delivery agreements specify the quantity of water the farmers are entitled to receive, when (in terms of months, weeks, and days) they will receive it, and how much they will pay for it. The standards set in the service delivery agreements are reflected in the PPP contract reflects. The farmers pay a tariff that has a fixed and a variable component. The variable payment is based on the volume of water they use. The Government collects tariff payments from farmers, via the WUAs or private operator. The structure of this PPP option is illustrated in Figure 7.3

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Figure 7.3: Structure of PPP Option One


Ministry of Water Resources
O&M Contract

Variable payments (for service delivery)

Tariff

PPP Company (Private Operator)

Service Delivery Agreement

Farmers

Under this PPP option, the private operator is responsible for operating and maintaining the irrigation system, providing water to farmers according to the terms and standards established in the O&M contract and the service agreement between the private operator and the farmers The Government is responsible for: Financing the capital costs of building the irrigation systems Designing and building the systems Collecting tariff payments from farmers Paying the private operator for the quantity of water deliveredand, if the quantity of water demanded by farmers falls below a minimum threshold, paying the private operator as if this minimum level of water had been delivered Paying an O&M subsidy during the initial years of the systems operation, until tariffs reach cost-recovery levels. The Governments payment to the private operator will be made periodically (for example, every month, quarter, or six months) if the private operator delivered water to farmers according to the standards set out in the O&M contract and service delivery agreement. These payments are variable payments based on the quantity of water delivered. They are intended to reimburse the private operator for the costs of operating and maintaining the system. The variable payment that the Government makes to the private operator will include an O&M subsidy component during the initial four-seven years of the contract. This is because, as discussed in Section 6.1, tariffs paid by farmers in the initial period years of the systems operation will not be enough to cover O&M costs. This subsidy component is phased out as farmers ability to pay increases,

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as is illustrated in Figure 6.1. The recommended transition period for phasing out the subsidy is discussed in Section 8.2. The Government will make the variable payment to the private operator regardless of whether it is able to collect 100 percent of the tariffs that farmers owe. In this way, the Government accepts to bear payment risk. The PPP contract also specifies a minimum variable payment that reflects a minimum level of demand for irrigation water. If demand falls below this level, the Government will still make the variable payment as if this minimum amount of water had been used. Through this minimum payment, the Government accepts to bear demand risk. Thus, under PPP Option One the private operator only carries out functions and bears risks related to operating and maintaining the irrigation systems (operating risk). The Government bears financial, construction, demand, and payment risk. In this and all other PPP options, the farmers may purchase non-irrigation services from the private operator. Farmers may also be involved in the design, construction, and operation of the irrigation scheme as described in the introduction to this section (7.2). 7.3.2 Option Two: Design-Build and Operation and Maintenance Contracts In PPP Option Two, the Government enters into two contracts with the private operator: An Operation and Maintenance contract A Design-Build contract. The Operation and Maintenance contract is identical to the contract described in Section 7.3.1, under Option One. The Design-Build contract specifies that: The private operator will design, build, and test an irrigation system that meets standards specified by the Government. These standards may include dimensions as well as construction materials and techniques. The standards will be set to ensure that the resulting system, when operated, will meet the service delivery standards specified in the PPP contract and service delivery agreements The Government will pay the private operator the costs of building the system based on construction milestones. The private operator also enters into service delivery agreements with farmers, as in Option One. The farmers roles and responsibilities are the same as in Option One and all other options. The structure of this PPP option is illustrated in Figure 7.4.

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Figure 7.4: Structure of PPP Option Two


Ministry of Water Resources
Design-Build Contract O&M Contract

Construction milestone payments Variable payments

Tariff

PPP Company (Private Operator)

Service Delivery Agreement

Farmers

In addition to the responsibilities the private operator has under Option One, in this PPP option, the private operator is also responsible for designing, building and testing the system following the standards and specifications defined by the Government and farmers. The Governments responsibilities no longer include designing and building the system, and all of its other responsibilities are the same as in Option One. The Government makes two types of payments to the private operator: Construction milestone paymentsThese are made when the private operator reaches certain construction milestones (as specified in the Design-Build contract) and sum to an amount equal to the total capital costs of the irrigation scheme Variable paymentsas in Option One. Thus, under PPP Option Two the private operator designs, builds, operates and maintains the irrigation systems and bears operating and construction risks. The Government bears financial, demand, and payment risk. 7.3.3 Option Three: Design-Build and Operation and Maintenance Contracts with Payment Risk The structure of PPP Option Three is similar to Option Two, with the difference that the private operator now bears payment risk. Under Option Three, the Government still enters into a Design-Build contract and an Operation and Maintenance (O&M) contract with the private operator as in Option Two. However, under the O&M contract, the Government no longer collects tariff payments from farmers or ensures that farmers will pay their bills for the water they have used. The private operator bears the risk that farmers will not pay their bills. This means that a variable payment (from the Government) is no longer needed because the private operator collects its revenue directly from farmers.

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Although the private operator bears payment risk, the Government continues to bear demand risk, as in Options One and Two. If the quantity of water used by the farmers falls below the quantity liked to the minimum variable payment in the PPP contract, the Government will still make a payment to the private operator as if this minimum amount of water had been used. In Options One and Two, this payment was part of the variable payment. In Option Three, because the Government no longer makes a variable payment to the private operator, this is a stand-alone payment. As in Options One and Two, during the initial four-seven years of the contract, the Government makes an O&M subsidy payment to the private operator. This O&M subsidy payment is based on the quantity of water delivered by the operator. Again, because the Government no longer makes a variable payment to the private operator, this is a stand-alone payment. The structure of this PPP option is illustrated in Figure 7.5. Figure 7.5: Structure of PPP Option Three
Ministry of Water Resources
Design-Build Contract O&M Contract

Construction milestone payments O&M subsidy payments Payments if demand falls below prespecified level

PPP Company (Private Operator)

Service Delivery Agreement

Farmers

Tariff

Thus, under PPP Option Three the private operator designs, builds, operates and maintains the irrigation systems and bears operating, construction, and payment risks. The Government bears financial and demand risk. 7.3.4 Option Four: Design-Build-Operate Transfer In PPP Option Four, the Government enters into a Build-Operate-Transfer (BOT) contract with a private operator. This contract has a duration of 20 to 30 years. A BOT contract essentially specifies that the private operator will finance a portion of the capital costs of building a facility (the irrigation system), build it, operate it, and then transfer the ownership and operation of the facility to the Government at the end of the life of the contract. Transfer of ownership at the

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end of the contract is needed because during the contracts duration, the private operator owns a stake in the facility equivalent to the portion of the capital costs that it has financed. In this contractand in the same way as in the O&M contracts in PPP Options One, Two and Threethe Government also grants the operator the right to use water and agrees to deliver irrigation services via the private operator. This PPP option differs significantly from Options One, Two, and Three in that the private operator will finance a portion of the capital costs of the irrigation scheme. The private operator still signs service delivery agreements with farmers, and the role of the farmers is the same as in all other PPP options. The structure of this PPP option is illustrated in Figure 7.6. Figure 7.6: Structure of PPP Option Four
Ministry of Water Resources
BOT Contract

Construction milestone payments Availability payment Variable payment

Tariff

PPP Company (Private Operator)

Service Delivery Agreement

Farmers

In addition to the responsibilities the private operator has under Option Two, in this PPP option, the private operator is also responsible for financing 10 or 15 percent of the capital costs of the irrigation system. The Governments responsibilities include financing the remaining portion of the capital costs, and all of its other responsibilities are the same as in Option Two. The Government makes the following three types of payments to the private operator: Construction milestone paymentsas in Option Two Variable paymentsas in Options One and Two Availability paymentsThese are made periodically (for example, every month, quarter or six months) if the private operator maintained the system according to the standards set in the contract. These payments are intended to reimburse the private firm for the portion of the capital costs that it financed. It is made whether or not farmers use the quantity of water specified in the PPP contract
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Thus, under PPP Option Four the private operator finances a portion of, designs, builds, operates and maintains the irrigation systems. The private operator bears operating and construction risks, as well as some financial risks (corresponding to the portion of the capital costs it finances). The Government bears demand and payment risk and the majority of the financial risks (again, corresponding to the portion of the capital costs it finances). 7.3.5 Option Five: Design-Build-Operate Transfer with Demand and Payment Risk The structure of PPP Option Five is similar to Option Four, with the difference that the private operator now bears demand and payment risk. Under Option Five, the Government still enters into a BOT contract with the private operator, and the private operator finances a portion of the capital costs. However, under the BOT contract, the Government no longer collects tariff payments from farmers or ensures that farmers will pay their bills for the water they have used. The private operator bears the risk that farmers will not pay their bills and the risk that demand will be lower than expected. Because the private operator has invested in the system by financing part of its capital costs, this means that the private operator is exposed to the risk of being unable to recover its investment, as well as the costs it incurs operating and maintaining the system. Given that tariffs will not start out at cost-recovery levels, the Government will still need to make an O&M subsidy payment to the private operator during the first few years of the systems operation, as in all other options. This O&M subsidy payment is based on the quantity of water delivered by the operator. It does not mitigate the private operators exposure to demand or payment risk. The structure of this PPP option is illustrated in Figure 7.7.

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Figure 7.7: Structure of PPP Option Five


Ministry of Water Resources
BOT Contract

Construction milestone payments Availability payments O&M Subsidy payments

PPP Company (Private Operator)

Service Delivery Agreement

Farmers

Tariff

The Government makes three types of payments to the private operator: Construction milestone paymentsas in Options Two, Three and Four Availability paymentsas in Option Four O&M subsidy paymentsas in Option Three Under PPP Option Fiveas in Option Fourthe private operator finances a portion of, designs, builds, operates and maintains the irrigation systems. In addition to the risks that the private operator bears in Option Four, it also bears demand and payment risks. Compared to Option Four, the Government still bears the majority of the financial risks, but it no longer bears demand and payment risk. 7.3.6 Option Six: Design-Finance-Build-Operate Transfer In PPP Option Six, the Government and the private operator enters into a BOT contract in which the private operator is responsible for financing all of the capital costs of building the irrigation system, in addition to the responsibilities it has under Option Five. In this option, the Governments role is the most limited out of all the options. It is responsible for: Making availability payments to the private operator, as in Options Four and Five Making O&M subsidy payments to the private operator, as in Options Three and Five.

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The structure of this PPP option is illustrated in Figure 7.8. Figure 7.8: Structure of PPP Option Six
Ministry of Water Resources
BOT Contract

Availability payments O&M subsidy payments

PPP Company (Private Operator)

Service Delivery Agreement

Farmers

Tariff

Thus, under PPP Option Six the private operator finances the irrigation systems. As in Option Five, it also, designs, builds, operates and maintains the irrigation systems. The private operator bears full financial risk. As in Option Five, it also bears construction, operating, demand, and payment risk. The Government does not bear any of these risks; however, it must pay an availability payment and an O&M subsidy that make the irrigation scheme financially viable.

7.4

Analysis of PPP Options

Section 7.2 presented six options for allocating the key functions and risks of developing and operating the irrigation schemes between the public and the private sectors. In this section, we analyze the attractiveness of each option based on the criteria presented in Section 6.1: Level of subsidy requiredThe Government would like to minimize the amount of the subsidy required to make the irrigation schemes financially viable. The amount of subsidy required under each PPP option varies based on whether financing is obtained by the public sector or the private sector. The Government can access financing at lower rates and on more attractive terms than the private sector can. For example, the Government can borrow money from the World Bank with a 2-4 percent interest rate, 10 grace period, and repayment period of 40 years (under the July 2007 IDA-only lending terms) Attractiveness to private sectorTo be successful, the PPP option selected must attract private sector interest. Section 3.3 presented some potential investors views on the PPP options under consideration

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Incentives to deliver reliable servicesAs discussed in Section 4.2, it is desirable to implement the irrigation schemes as PPPs because PPPs transfer risk to the private operator, which creates incentives for more reliable service provision. Thus, the strength of the incentives provided by each PPP option is the most important consideration when selecting the most attractive PPP option Complexity of implementationThis will be among the first PPPs implemented in Ethiopia for Greenfield projects, if not the first. Therefore, the model chosen should not be too complex to implement. Table 7.4 presents the results of our analysis. Sections 7.4.1 to 7.4.4 discuss each of the four components. Section 7.4.5 summarizes our analysis. Table 7.4: Comparison of PPP Options
Illustrative Capital Contract Costs Type 1 Operation and Maintenance Design-Build + O&M Design-Build + O&M BOT BOT DFBOT Design and Build O&M Risk Demand Payment Risk Risk Level of subsidy Attractive Incentives Complexit to private to deliver y of investors reliable Implement services ation

333 333 333 33 33 3

333 333 333 33 3 3

3 3 3 333 333 333

333 33 33 33 3 3

4 5 6

7.4.1 Level of subsidy The Government subsidy is made of two components: O&M subsidy until tariffs reach cost-recovery levels Availability payment to reimburse the private operator for the portion of the capital costs it financed. The level of the subsidy depends on whether the project is financed purely by the public sector, with a mix of public and private finance, or purely by the private sector. Private finance carries higher interest rates than the Government of Ethiopia can access through development institutions such as the World Bank. Thus, a project developed with private finance would be more expensive than the same project developed with public finance, or a mix of public and private finance.

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Because Options One, Two and Three are financed purely by the public sector, they require the smallest Government subsidy. Options Four and Five require a higher subsidy because approximately 10-15 percent of the capital costs are financed by the private sector. Option Six requires the highest subsidy because it is completely privately financed. Thus, in terms of level of Government subsidy required to make the project financially viable, Options One, Two and Three score the best (three check marks); Options Four and Five score in the middle (two check marks), and Option Six scores the worst (one check mark). 7.4.2 Attractiveness to private investors Private investors prefer a PPP structure in which their exposure to risk is limitedmost of the potential private investors consulted state that in principle they would not be willing to accept demand or payment risk. They are also disinclined to invest capital. Potential private investors are interested in providing non-irrigation services to farmers. They see this as an activity that could add value to the irrigation business model. Their views on the various PPP options were discussed in detail in Section 3.3. The attractiveness of the PPP options to private investors varies according to the degree of risk borne by the private investors. This is because all options allow for the private operator to provide non-irrigation services to farmers. In Options One and Two, the private operators exposure to risk is extremely lowit bears only operating risk (Option One), or operating and construction risk (Option Two). It does not bear demand or payment risk, or invest capital (finance capital costs and bear the resulting financial risk). In Option Three, the private operators exposure to risk is still very lowit bears operating, construction, and payment risk, but does not bear demand risk or invest capital. The private operator does bear payment risk, but this risk carries about the same degree of, or less, down-side than bearing demand risk, and the operator has no capital at risk. Thus, Options One, Two and Three are very attractive to private investors, and we have given them three check marks under these criteria. Options Four and Five require the private operator to finance approximately 1015 percent of the capital costs, and therefore to invest some capital in the development of the irrigation schemes. This exposes the private operator to significantly more risk than Options One, Two and Three do and makes the projects less attractive. We have given Option Four two check marks under this criterion. Options Five and Six are the least attractive to private operators. In Option Five, the private operator takes on a greater degree of risk than in the previous options because it finances part of the capital costs and bears demand and payment risk. In Option Six the private operator bears the greatest degree of risk of all of the options presented here. The private operator bears demand and payment risk,

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and finances all of the capital costs. Therefore, we have given these options only one check mark under this criterion. 7.4.3 Incentives to deliver reliable services As discussed in Section 4.1, the transfer of risk to the private operator through PPPs creates incentives for the private operator to provide reliable services according to the service standards set out in the PPP contract. As more risk is transferred to the private operator, the private operator has more to lose if it does not fulfill its obligations to deliver a certain level of service. Therefore, in general the more exposed to risk the private operator is, the stronger its incentives to provide reliable services. For example, if the private operator invests capital, it has capital at risk. In order to recover this capital it must deliver services that meet the standards in the PPP contract. If it does not deliver reliable services per the PPP contract, then it will not recover its investment. Thus, requiring the private operator to invest capital is one way to increase its incentives to provide reliable services. Options One, Two, and Three give the private operator relatively weak incentives to provide reliable services. This is because, as discussed in Section 7.4.3, the private investors exposure to risk in these three options is limited. In these options, it does not bear demand risk or invest capital that it must recover. We have given these options one check mark for only weakly providing incentives for the private operator to deliver reliable services. Options Four, Five, and Six provide strong incentives for the private operator to deliver reliable services. This is because the private operator has invested capital that it must recover. In order to recover this capital, the service it delivers must meet the standards set out in the PPP contract. Therefore, it has strong incentives to provide this reliable level of service. We have given these options three check marks for providing strong incentives for the private operator to deliver reliable services. 7.4.4 Complexity of implementation As discussed above, the PPPs for Megech, Ribb, and Anger irrigation schemes will be among the first PPPs implemented in Ethiopia for Greenfield projects. The Government does not have experience implementing this type of PPP, so the structure chosen for the PPPs should not be too complex to implement. As the Government gains more experience with PPPs, more complex models can be chosen. Of the PPP options under consideration, an Operation and Maintenance contract (Option One) is the simplest type of contract to implement because the private operators role is limited. This option requires the Government to prepare the contract with the fewest amount of legal provisions, to prepare the least amount of information to attract private operators (for example, the Government does not need to give construction specifications to the operator), and runs the least
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risk of delay in procurement. Therefore, we have given this option three check marks for being simple to implement. Options Two, Three, and Four are somewhat more complex to implement, mainly because the private operators role is larger. Because the private operator is bearing a larger degree of risk than in Option One, the Government will need to provide more information on the irrigation projects to the private operator. First, the Government must provide design and construction standards or specifications. Second, because in Options Three and Four the private operator is bearing payment and financial risks, respectively, the Government must provide more detailed information on the farmers in the command areas and their willingness to pay for irrigation. This is especially important in Option Four, where the project must be credit-worthy in the eyes of commercial investors. We have given Options Two, Three and Four two check marks for being relatively more complex to implement. Options Five and Six are the most complex to implement. The private operator is bearing a larger degree of risk than in the other options, and the projects to be developed will face a higher level of scrutiny because they must be credit-worthy to commercial investors. This means that the Government must prepare the projects more thoroughly and provide more information such as detailed project cost estimates, the number of farmers in the command areas, their expected level of demand, details on their willingness-to-pay, and information on what crops they will grow and how they expect to market these crops, among others. In these PPP options, the projects run the highest risk of delay because they will need to satisfy the requirements of commercial lenders and investors. Thus, Options Five and Six receive only one check mark for this criterionout of all of the options they will be the most complex to implement. 7.4.5 Summary of Analysis We recommend PPP Option Four for the Megech, Ribb, and Anger irrigation schemes. This option provides strong incentives to deliver reliable services because the private operator finances a portion of the capital costs and is only reimbursed for this investment over time as it complies with the terms and service standards agreed upon in the PPP contract. This option also has the potential to attract strong interest from potential private operators, since the Government bears demand and payment risk and the private operator may provide non-irrigation services to farmers. Of the other options that also provide strong incentives (Options Five and Six), this option is the most attractive to private operators, simplest for the Government to implement and requires either a lower or the same level of subsidy. Options One, Two and Three provide the weakest incentives to deliver reliable services but require the least amount of subsidy, are the most attractive to private investors, and are relatively simple to implement. However, as discussed in the introduction to this section (7.4) and in Section 2, the main reason for pursuing
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PPPs for the Megech, Ribb, and Anger irrigation schemes are to allow farmers to access reliable irrigation services. Therefore, these options are not recommended. Options Five and Six provide strong incentives for the private operator to give reliable irrigation services to farmers. However, they are less attractive to private investors and more complex to implement. Option Six also requires a higher subsidy.

7.5

Government Views on PPP Approach and Recommended PPP Option

For the irrigation PPPs in Megech, Ribb, and Anger to move forward, the Government must be committed to developing the irrigation schemes as PPPs, and the recommended PPP option must be acceptable to the Government. We developed a preliminary set of recommendations, including the PPP model recommended in Section 7.4.5 below, and discussed them with members of the Steering Committee of the Ethiopian Nile Irrigation and Drainage Project at a workshop in Addis Ababa on 11 February 2008. We also discussed these recommendations with the State Minister of Water Resources (Ato Adunga) who chairs the Steering Committeeon 12 February 2008. The Government agreed that a PPP approach is desirable, and agreed in principle with the type of PPP option that we recommend. Based on the Governments agreement, we developed the recommended PPP model in more detailthis is presented in Section 8 below. At the workshop on 11 February the project team and the Steering Committee discussed: What a PPP involves Why a PPP may result in better outcomes than than the conventional public approach to delivering irrigation services What the key issues to consider when structuring a PPP for Megech, Ribb and Anger are What specific PPP option would be most appropriate for these three areas. Section 7.5.1 presents the Steering Committees and the State Ministers views on a PPP approach, and Section 7.5.2 presents their views on the recommended PPP option. 7.5.1 Government View on PPP Approach The Government agrees that the Megech, Ribb, and Anger irrigation schemes should be implemented as PPPs. At the workshop, the Steering Committee agreed that a PPP is more effective at providing the incentives needed to ensure that farmers get reliable irrigation services. State Minister Adugna indicated that he generally agreed that the conventional approach to providing irrigation
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services has have not delivered reliable results for smallholder farmers, and that using PPPs for providing these services would be an effective way to transfer risk away from the Government and the farmers that use the schemes. 7.5.2 Government View on Recommended PPP Option Obtaining the Governments view on the recommended PPP option consisted of two stages. First, at the workshop, Steering Committee members were asked to, in groups, design PPPs for one of the three irrigation schemes based on the definition of a PPP and some basic information about the schemes and the farmers in the command areas. Second, the project team presented the recommended PPP option (described in Section 7.3.6 of this report) in detail. The Steering Committee and State Minister Adunga agreed with a PPP option that involves the following: The Government funds the majority of the capital costs of the irrigation systems, but the private operator also funds a portionsay, 1015 percent or the portion related to tertiary-level infrastructure The Government provides an operating subsidy to cover the difference between tariffs and operating and maintenance costs for the first threefive years of the irrigation schemes operation. During this period, tariffs that farmers pay will increase to levels that cover operating and maintenance costs, so that at the end of the period the subsidy is no longer needed The private firm is responsible for design and construction, following specifications defined by the farmers and the Government The private firm is responsible for operation and maintenance, and for complying with service specifications and standards defined by the Government and farmers (or a water user association representing farmer interests) The Government bears demand riskthat is, the risk that not all farmers connect to the irrigation after the system is built The Government also bears payment riskthat is, the risk that farmers do not pay for the water they use. This means that all payments to the private firm would be made by the Government. The private firm may collect payments from farmers and remit those to the Government, and have incentives to maximize collection The scope of services provided by the private firm includes nonirrigation services such as advice on crop selection, irrigation scheduling, processing, storage, access to markets, and so on. Finally, Steering Committee members and State Minister Adugna expressed their desire to see farmers play a significant role in all stages of the irrigation

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scheme. We incorporated this view into our recommendations. Farmerswho will be organized in water users associationscan participate in the design, construction, and operation of the irrigation systems. The scope for farmers involvement in these systems was discussed in the introduction to Section 7.2.

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Recommended PPP Options

Using the analysis of the PPP models in Section 7.4, we recommended a PPP model that could be implemented for the Megech, Ribb, and Anger irrigation schemes. The broad structure of this model has been endorsed in principle by the Government and the World Bank. In this section we describe the PPP model in detail. We first provide (in Section 8.1) an overview of how this model would work, and in particular, what parties will be involved, what are the contractual relationships between these parties, and how would the main risks be allocated among these parties. In Appendix J we provide further guidance on the key terms that would govern the contractual relationship between these parties. The proposed PPP model will involve farmers paying below cost-recovery tariffs and the Government providing operating subsidies for an initial period, and these subsidies phasing-out as farmers ability to pay increasesSection 8.2 describes how we propose to set tariffs and therefore phase-out these subsidies. A significant share of the private operators revenue will come from the Government. For the private operator to have a reasonable level of comfort that the Government will make its payments as specified in the PPP contract, we recommend that a trust account, managed by a private financial institution, be established to make these payments. Section 8.3 describes how this account will work, the amounts that will need to be deposited into it, and how the Government can create incentives for the private operator to maximize collection efficiency and thus decrease the amount that the Government will need to pay out of its own budget. The Anger area provides some opportunities to adopt a slightly different PPP model than in Ribb and MegechSection 8.4 explains these differences.

8.1

Overview of PPP Model

In this section we provide an overview of the recommended PPP model. In Section 8.1.1 we describe the contractual structure and the flow of funds. In Section 8.1.2 we present how the key risks associated with the project are allocated among the Government, the private operator, and farmers. 8.1.1 Contractual Structure and Financial Flows The PPP model is best defined by describing which parties will be part of the PPP arrangement, what are the contractual relationships between these parties, and what would be financial flows among them. Figure 8.1 below presents this.

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Figure 8.1: Structure of Recommended PPP Option


Contractual Structure
World Bank
Loan Agreement

Financial Flows
World Bank
Loan Proceeds

MoF

MoWR

MoF

MoWR

Design-BuildOperate-MaintainTransfer Agreement

Transfer payments from farmers

Payments for: Construction milestones Availability Service delivery

Private Firm

Shareholders / Lenders

5-10% of Project Capex

Private Firm

Service Agreement

Tariff payments

Farmer 1

Farmer ..

Farmer n

Farmer 1

Farmer ..

Farmer n

The key parties to the PPP arrangement would be the Ministry of Water Resources, the private operator and the farmers. The left side of Figure 8.1 shows the contractual relationship among these parties. The Ministry of Water Resources and the private firm will enter into a Design-Build-Operate-MaintainTransfer Agreement (DBOMT). For simplicity we would refer to this agreement as a BOT agreement. The private operator and each of the farmers in the command area will enter into a Service Agreement. Because most of the funds to develop the project will come from the World Bank, an additional loan agreement will be needed between the Government (possibly the Ministry of Finance) and the World Bank. The terms of this agreement fall outside of the scope of what we were asked to do. The right hand-side of Figure 8.1 shows the financial flows among these entities. We understand that the proceeds from the World Bank would cover the capital costs of the Ribb and Megech systems, as well as part of the operating and maintenance costs of these systems. These funds would be disbursed from the World Bank to the Ministry of Water Resources, which would in turn disburse them to the private operator.17 Payments from the Ministry of Water Resources to the private firm will made based on outputs delivered by the private
17

If potential private operators think that there is a high level of payment risk if the World Bank funds are administered by the Ministry of Water Resources, it might be necessary to structure an arrangement whereby these funds are administered by a financial institution according to a clear set of rules.

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operatorfor example, construction milestones reached, system made available according to standards or water delivered to farmers. The private operator will also raise from private shareholders and lenders around 5 to 10 percent of the total capital cost of the project. Farmers will pay a tariff for every cubic meter of water used. Tariff payments from farmers will be collected by the private operator and transferred to the Ministry of Water Resources.18 8.1.2 Risk Allocation The table below shows how the key risks associated with the project will be allocated among the Government, farmers and the private operator.

18

A simpler arrangement might involve the private operator using tariffs payments from farmers to offset amounts payable by the Ministry of Water Resources. Regardless of how much farmers pay, the private operator would be assured that it will be paid if the agreed outputs are delivered. This means that the private operator does not bear any demand or payment risk. With that said, the private operator could be given incentives to maximize the amount of funds that it collects from farmers. For example, for every Birr collected, the private firm could receive a one cent compensation.

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Table 8.1: Risk Allocation of Recommended PPP Option


Risk Financing Description The risk that funds needed to pay for capital costs and initial working capital are not raised by a certain date Government 3 Government bears the part of this risk that corresponds to the portion of the capital, operating and maintenance costs that will be funded by the Government. If Government fails to raise these funds by a certain date it will need to compensate the private operator 3 Government bears the part of this risk that corresponds to water use, land use and construction of waterworks permits Farmer Private Operator 3 Private operator bears the part of this risk that corresponds to the portion of the capital that will be raised from private sources. If private operator fails to raise these funds by a certain date, it will need to pay a penalty to the Government 3 Private operator bears the part of this risk that corresponds to corporate and environmental permits 3 Private operator bears this risk by accepting to be paid a fixed amount when construction milestones are reached

Permits

The risk that permits needed to build and operate the project are not obtained by a certain date

Constructio n

The risk that the construction cost is higher than expected, or construction takes longer, than expected

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Risk Operational

Description The risk that the system provided or service delivered: Fails to meet specifications Has higher operations and maintenance costs than expected Is interruption or ceased because of a fault of the operator The risk that farmers demand less water than expected

Government

Farmer

Private Operator 3 Private firm bears this risk by accepting to pay liquidated damages if the system fails to meet specifications, or to not be paid a tariff if unable to deliver services

Demand risk

3 Government bears this risk by agreeing to pay the private operator an availability payment regardless of how much water farmers use 3 Government bears this risk by agreeing to pay the private operator regardless of how much farmers pay 3 Government bears this risk by agreeing to adjust payments to the private operator based on changes on the exchange rate

Payment risk

The risk that customers do not pay the expected tariffs, or pay their bills later than expected The risk exchange rate fluctuates beyond the expected levels

Exchange Rate

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Risk Regulatory

Description The risk that rules and regulations change, and that these changes have a material impact on the economics of the project. Includes tariff risk, where tariff is government-controlledthe risk that tariffs will not be upheld or enforced at a costrecovery level

Government 3 Government bears this risk by agreeing to compensate the private operator if changes in rules and regulations adversely affect private operator

Farmer

Private Operator

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8.2

Tariff and Subsidies

It is clear that farmers will not be able to pay a tariff that is sufficient to cover all the capital, operating and maintenance cost of the irrigation systems. This means that the Government will need to provide a subsidy to cover the difference between the cost of the system and the tariff that farmers pay. How should the tariff that farmers pay be set? We answer this question below. We think tariffs would need to start at a level that is close to what farmers are willing to pay. Farmers in Megech and Ribb have indicated that they are willing to pay on average close to ETB 300/hectare/year. This amount is not sufficient to cover operating and maintenance (O&M) costs of the irrigation system in these areas, as estimated in the pre-feasibility reports for these schemes. However, we know that some farmers that already have irrigation in Ribb are paying close to ETB 2,000/ha/year. The farmers that have a cost associated with the irrigation they use are paying on average ETB 1,970/ha/year. This amount is more than enough to cover O&M costs of the proposed irrigation systems for Ribb and Megech. This means that as farmers start to use irrigation and begin to realize the benefits that irrigation has on increasing the yield of their land and their income, they would be prepared to pay more for irrigation. We think that they would be able to pay at least the amount paid by those farmers that currently have irrigation. We think that a reasonable approach to setting tariffs would be to start with a tariff that is close to the level that farmers said they were willing pay, and to gradually increased them to a level that farmers with irrigation are currently paying. Increasing tariffs however, will be politically difficult. Farmers will certainly oppose these increases. Farmers are used to receiving water for irrigation from the Government without having to pay for it. Even if tariffs are increased, there is a risk that farmers simply do not pay. On the other hand, if the income of farmers is indeed increasing as result of having access to irrigation water, they should contribute more to cover the costs of the irrigation system. What is a sensible approach to increasing tariffs? We think there are at least two options: Option 1: Defining an increase path before building the systembefore the irrigation system is built, farmers will be informed that tariffs will increase (in real terms) over a certain period of time and at a certain rate. They would be given details on exact tariffs at various dates. They would also be informed of the benefits that irrigation bring to their income, and be given evidence from farmers that currently use irrigation

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Option 2: Increasing tariffs at the same rate as average income increases in the command areaaverage income in the command area will be used as the basis for increasing irrigation tariffs. Tariffs could be set as a percentage of average income. If income indeed increases after farmers start using irrigation, the tariff that they pay will also increase at the same rate. Each of these approaches has advantages and disadvantages. These are discussed in Table 8.2. Table 8.2: Advantages and Disadvantages of Options for Increasing Tariffs
Advantages
Option 1

Disadvantages

Gives clarity to farmers on how There might be a mismatch between the rate of increase in much they would need to pay farmer income and the rate of over time increase in irrigation tariffs Is simple Ensures that tariffs are increasing at the same rate as farmer income Difficult to implement because there is no reliable information about farmer income

Option 2

The absence of reliable information about farmer income makes Option 2 unviable. A new mechanism could be introduced to track farmer income, but this could be very costly to implement and administer, and it is uncertain if it will provide reliable information. We think Option 1 could be a simpler and therefore more viable approach. In order implement Option 1, we need to decide: i) what is the starting tariff, ii) what should be the target tariff, iii) at what rate should tariffs increase. We discuss these points below in relation to the Megech and Ribb schemes. We do not discuss them in relation to the Anger scheme because cost data for the Anger scheme is not available. However, we recommend that the same approach to setting tariffs and the transition period be implemented for the Anger scheme. Starting tariff We think that farmers should start paying a tariff equal to the tariff that they revealed as being willing to pay. In Megech this is ETB 310/ha/year, and in Ribb this is ETB 294/ha/year. These numbers would be adjusted by inflation from January 2008 to a date in which the irrigation system starts commercial operation. Target tariff We think that the end point should be set at a level that is sufficient to cover the operating, maintenance, and rehabilitation costs of the system, as well as the administration costs of the water user associations. These costs are being estimated by the engineers doing the feasibility study, but we think it will be in
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the vicinity of ETB 2,000/ha/year, in real terms (in other words, the actual amount will be higher once inflation is taken into account). It is important to note that we express tariffs in ETB/hectare for ease of understanding. However, we recommend that tariffs be actually charged on a volumetric basisthat is, ETB per cubic meter of water consumed. This tariff should be set at a level that roughly translates into ETB 2,000/ha/year. The transition period During the transition period tariffs would need to increase from approximately ETB 300/ha/year to around ETB 2,000/ha/yearthat is, an almost sevenfold increase in real terms. Tariffs increases should generally follow the pace of increases in farmers incomes. For farmers to realize increased income from irrigation, the following things must take place: Farmers decide to use and pay for irrigation Farmers change crop patterns. To cultivate the crops that respond best to irrigation in each command area, many farmers will need to cultivate different crops than they are currently cultivating. Changing crop patterns involves obtaining seed varieties and other inputs, learning how to cultivate the new crops, and obtaining and learning to use new farming technologies if necessary Farmers plant, cultivate, and harvest the crops Farmers market the crops. This includes learning about new marketing opportunities and contacting new buyersespecially if the farmer has changed crop patterns. This process is illustrated in Figure 8.2. Figure 8.2: Translating Irrigation into Higher Incomes
Decide to use irrigation Change crop pattern Plant and cultivate crops Market crops Receive higher income

The World Bank projected how farmers incomes in Megech and Ribb areas will increase as part of the economic analysis carried out during the preparation of the Ethiopian Nile Irrigation and Drainage Project (EIDP). Their analysis is based on an estimate of the amount of time it will take farmers to complete each stage included in Figure 8.2 with support from different components of the EIDP. Their analysis is presented in the economic and financial analysis included in the EIDP Project Appraisal Document. The World Bank assumes that farmers will adapt irrigation and transform their farming systems as follows:

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Twenty percent of farmers in the first year that water for irrigation is made available An additional 30 percent farmers by the end of the second year An additional 30 percent farmers by the end of the third year The final 20 percent farmers by the end of the fourth year. The World Bank has also projected how smallholder farmers incomes will increase in Megech and Ribb command areas at the household level as they transform their farming systems. Figure 8.3 illustrates their projection (it is the same for both command areas). Year one is the first year that irrigation water becomes available. The bars show absolute income, and the percentages show the percentage increase in income from year to year. Income is expressed in real terms. Figure 8.3: Projected Household-Level Incomes of Farmers Using Irrigation
25,000 ETB/household/year 20,000 15,000 10,000 5,000 0 Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6

33% 25% 173%

0%

0%

0%

Source: Elaborated by Castalia based on World Bank Ethiopian Nile Irrigation and Drainage Project Appraisal Document, May 2007.

Combining the World Banks projections of the percentage of farming households that will fully adopt irrigation in each year, with the projection of how individual farms incomes will increase as they adopt irrigation, we can project average real incomes in the Megech and Ribb command areas. The projection is shown in Figure 8.4. Again, the bars show absolute income, and the percentages show the percentage increase in income from year to year.

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Figure 8.4: Projected Average Incomes in Megech and Ribb


25,000 20,000
47% 30% 12% 5% 0%

ETB/household/year

15,000
49%

10,000
35%

5,000 0
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7

Source: Elaborated by Castalia based on World Bank Ethiopian Nile Irrigation and Drainage Project Appraisal Document, May 2007.

Thus, average real incomes in Megech and Ribb are expected to increase from ETB 5,049/household/year without irrigation to ETB 22,893/household/year in the irrigation schemes seventh year of operation, and then remain constant at ETB 22,893 going into the future. The path of increase shown in Figure 8.4 can be used to set a path for increasing irrigation tariffs from ETB 300/ha/year to approximately ETB 2,000/ha/year in Megech and Ribb. It suggests that the transition period should be seven years. There are several options for establishing the tariff path over the seven-year transition period: Linear tariff increasesthe real tariff increases by the same amount of birr each year Tariff increases are commensurate with increases in income Slower tariff increases at first, followed by faster tariff increases. These tariff paths are illustrated in Figure 8.5. The top chart shows the tariff paths compared to projected average incomes. The bottom chart shows only tariff paths for ease of comparing each path. Tariffs and incomes are expressed in real terms.

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Figure 8.5: Possible Tariff Paths


25,000

20,000

15,000 ETB

Average Incomes Linear Following Income

10,000

Increasing

5,000

0 Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7

2,500 2,000 1,500 ETB 1,000 500 0 Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Linear Following Income Increasing

Linear tariff increases are not desirable because they represent very large percentage increases in the first year of the irrigation schemes operation. This could be a shock to farmers and make them unwilling to pay. Tariffs would have to increase by ETB 283 per year in order to reach ETB 2,000 by year seven. This represents a 94 percent increase in year one and a 49 percent increase in year two. If tariffs increase in line with incomes, they will not reach ETB 2,000 by year seven. Farmers may also be reluctant to accept tariff increases that are exactly in line with expected increases in income because they may prefer to wait and see how their incomes actually increase before paying significantly more money for irrigation. We think that the best approach would be for tariffs to increase at a slower rate in the first few years of the irrigation schemes operation and at an increasing rate until the target tariffs are reached. This will give farmers more time to see that the use of irrigation is actually translating into higher incomes. We expect that

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after farmers see repetitive increases in income, they will be more willing to pay higher tariffs for irrigation. If tariffs are increased significantly immediately in year two (as occurs in the other two tariff paths), farmers may not have enough confidence in the benefits of irrigation to feel comfortable paying the higher tariffs. This approach also considers that not all farmers will reap the benefits of irrigation in the first few years of the irrigation schemes operation. Increasing tariffs more quickly towards the end of the transition period will make tariffs more affordable for those farmers that adopt irrigated farming with a lag. Table 8.3 presents the tariff levels and the percent increases over the previous year, corresponding to the increasing tariff path in Figure 8.5. This is an illustration that the Government may use as a basis upon which to establish a volumetric tariff path that increases at higher and higher rates through year seven. In practice, tariffs would need to increase by more than the percentages listed to take into account the effect of inflation. Table 8.3: Detail of Increasing Tariff Path
Year 1 Tariff Level Percent Increase 300 Year 2 375 25% Year 3 488 30% Year 4 658 35% Year 5 954 45% Year 6 1384 45% Year 7 2006 45%

After year seven, the tariff path will be determined by the tariff adjustment formulas included in the PPP contract. Section 9.3 discusses tariff adjustment formulas in more detail. Figure 8.6 illustrates the level of tariffs and required O&M subsidies over the seven-year transition period. The estimated O&M costs of the Megech scheme are ETB 1,157/ha/year and those of the Ribb scheme are ETB 874/ha/year.

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Figure 8.6: Tariffs and Subsidies over the Transition Period


2,500 2,000 ETB/ha/year 1,500 1,000 500 300
O&M Subsidy Revenue > O&M Costs

2,006

1,157 874

0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 O&M Megech O&M Ribb Tariff

Figure 8.6 shows that by year five tariffs will be above the O&M costs estimated in the pre-feasibility study for Ribb. By year six, they will be above the O&M costs estimated in the pre-feasibility study for Megech. Based on these estimates, the Government would need to provide an O&M subsidy over the first four years of the Ribb schemes operation and the first five years of the Megech schemes operation. The figure shows that tariff revenue will exceed O&M costs in Ribb in year five, and in Megech in year six. Whether or not there is excess revenue depends on the cost estimates produced by the ongoing feasibility studies. However, assuming that the pre-feasibility studies were more or less accurate, the excess revenue can be used to pay for the costs of administering the water user associations and any combination of the following: Pay the portion of the availability payment that reimburses the private operator for the capital it invested in the system plus its required return Reimburse the Government for any shortfall in tariff revenue due to the Government bearing payment risk Cover the Governments share of the costs of convening the Independent Panel of Experts discussed in Section 9 Reimburse the Government for the O&M subsidy provided in earlier years Cover the costs of the Contract Monitoring Unit discussed in Section 9. Estimates of the amount of the subsidy and the excess revenue are presented below in Section 8.3.2.

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8.3

Administration of Subsidies and Other Payments

For the private operator to have a reasonable level of comfort that the Government will make its payments as specified in the PPP contract, a trust account for subsidies and other payments under each PPP contract should be set up. Without the level of comfort provided by the trust account, potential private operators may perceive that the PPPs are too risky and may not be interested in participating in them. During our consultations with potential private operators (discussed in Section 3.3), they stated that the Government must provide a degree of certainty that it will make its payments under the PPP contracts. The funds that will be needed to make subsidy and other payments to the private operator will be deposited into the trust account. The trust account will be managed by a private entity to isolate it from Government interference. Disbursements from the trust account will be made are made according to a clear set of rules. Section 8.3.1 discusses the rationale for the trust account and how it will work. Section 8.3.2 discusses the amounts that will need to be deposited in the trust account. Section 8.3.3 discusses how the Government can create incentives for the private operator to maximize collection efficiency and thus decrease the amount that the Government will need to pay out of its own budget. 8.3.1 Trust Account The Megech, Ribb, and Anger projects will only achieve the objective of providing reliable irrigation services to farmers if there is certainty that funds will be available to cover the payments that the Government must make to the private operator, including: Construction milestone paymentsthese are the Governments contribution to capital costs Availability paymentsthese reimburse the private operator for the capital it has invested in building the system, plus the private operators required return Variable paymentsthis reimburses the private operator for the costs of operating and maintaining the system, plus the private operators required profit The Government may also make collection incentive payments to the private operator, as will be discussed in Section 8.3.3. The Government must assure the private operator that money will be available to make these payments over the life of the project. However, the Governments budget is on annual terms. This makes it difficult for the Government to provide a credible commitment to the private operator that it will have money available to make payments over a period of several years.

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The Government must also assure the private operator that it will actually make the payments. Even if money is available, there is a risk that the Government decides to use it for other priority purposesor simply refuses to payand breaches the terms set in the PPP contract. One way to provide certainty to private operators that the payments will be made would be to create a trust account managed by a private financial institution. It is necessary to involve a private financial institution because the trust fund must be administered in a way that is isolated from Government interference. Figure 8.7 illustrates how a trust account would work. Figure 8.7: Structure of Trust Account
Contractual Structure
World Bank

Financial Flows

Farmers
Loan Agreement

Capital costs O&M subsidy funds

World Bank

MoWR
Trust Account Agreement

Contract

CMU

Provision to cover shortfalls in tariff revenue Tariff payments Funds for collection incentive payments

Trust Account Manager

Audit Agreement

Trust Account
Construction milestone payments Availability payments Variable payments Collection incentive payments

Private Operator

The contractual structure of the trust account includes: A Trust Account Agreement between the Ministry of Water Resources (MoWR) and a private financial institution (trust account manager) to manage the trust account. The trust fund agreement would state all of the rules for collecting and disbursing funds The loan agreement between the MoWR and the World Bank for the Ethiopian Nile Irrigation and Drainage Project (EIDP). This is the source of the majority of the funds that will be deposited into the trust account

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An audit agreement between the trust account manager and the Contract Monitoring Unit (CMU) that states that the CMU will verify that the private operator has complied with the conditions of its payments. For example, to receive the variable payments, the private operator must have met the service standards specified in the PPP agreement over the time period corresponding to the variable payments The CMUs authority to monitor the private operators compliance with standards is the contract that it has with the MoWR designating it to monitor the PPP contracts. The following deposits will be made into the trust account: Tariff payments collected from farmers Capital costs funded by the EIDP O&M subsidy funded by the EIDP, and an additional amount beyond what has already been specified if necessary (see section 8.3.2) A provision to cover shortfalls in tariff revenue. As will be discussed below in Section 8.3.3, the fact that the Government is bearing payment risk means that the Government will need to fund any shortfall between tariff payments actually collected from farmers and the amount of the variable payment the Government needs to make to the private operator. To give the private operator comfort that the Government will not default on its variable payment obligations even if tariff revenue is insufficient to cover the variable payment, the Government should obtain funds or a stand-by loan from the World Bank if it cannot make these funds available from its own budget Funds for collection incentive payments. Section 8.3.3 will also discuss a way to create incentives for the private operator to maximize tariff collections. The Government will need funds available to make the incentive payments to the private operator. These funds may be obtained from the World Bank. The World Bank would deposit funds from the Ethiopian Nile Irrigation and Drainage Project (EIDP), plus any additional funds to cover shortfalls in tariff revenue and collection incentive payments, directly into the trust accountthese funds would not pass through the Government. The trust account manager will use the funds available in the account to make the payments the Government is required to make to the private operator under the PPP contract. The trust fund manager will disburse the following payments to the private operator: Payments based on construction milestones while the irrigation scheme is being built. The Contract Monitoring Unit (CMU, see Section 9)
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will verify that construction milestones have been met and authorize payment Periodic variable and availability payments to the private operator once the CMU verifies that the private operator has complied with service standards during the period corresponding to the payments. The variable payments include an O&M subsidy component during the years in which this subsidy is necessary. The subsidy is paid only after the CMU has verified that the private operator has delivered services according to the agreed-upon standardsthis ensures that the subsidy is effectively used and that it does not weaken the private operators incentives to provide reliable service Collection incentive payments, as discussed in Section 8.3.3. The trust fund manager also collects payments from the Government and the private operator when the Independent Panel of Experts (IPE, see Section 9) is called. These payments fund the activities of the IPE, and the trust fund manager disburses payments to the IPE. The trust fund manager also manages the disbursal of tariff revenue available for the other purposes discussed at the end of Section 8.2. The amount of tariff revenue available depends on the actual costs of developing and operating the irrigation systems. Estimates of these amounts will be included in the ongoing feasibility studies. The Government will decide how to use this extra tariff revenue to fund various parts of the irrigation schemes. Excess tariff revenue may only be used to cover or reimburse costs related to the irrigation scheme from which it was collected. The trust fund manager may invest the fund in low-risk instruments to earn a return on it. The trust fund managers remuneration is a percentage of the return on the fund. The trust account manager will manage separate accounts for each PPP (Megech, Ribb, Anger) separately. 8.3.2 Amount of Subsidy and Deposits in Trust Fund This section discusses the amounts that will need to be deposited into the trust fund. Although these amounts are the Governments commitment, most (if not all) of the funds will come from the World Bank. Thus, we recommend that the World Bank deposit these funds directly into the trust account. Amount required to cover the O&M subsidy If a tariff path similar to the one recommended in Section 8.2 is implemented, then the required operation and maintenance subsidy would be on the order of ETB 9.7 million (US$1.1 million) over the first five years of the Megech schemes operation, and on the order of ETB 16.9 million (US$1.9 million) over the first four years of the Ribb schemes operation. These are the amounts corresponding

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to the area denoted by the yellow O&M Subsidy oval in Figure 8.6. The subsidy for Ribb is larger because costs and tariffs are calculated on a per-hectare basis, and the Ribb scheme covers a larger area than the Megech scheme. Part of these funds will come from the World Bank, and part will come from elsewhere in the Governments budget, or possibly from an additional loan from the World Bank. As part of the Ethiopian Nile Irrigation and Drainage Project (EIDP), the World Bank committed to funding an O&M subsidy in the amount of US$1.76 million. The World Bank calculated that this amount would be needed by assuming that O&M costs would be subsidized by 100 percent in the first year of the Megech and Ribb schemes commercial operations, subsidized by 75 percent in the second year, subsidized by 50 percent in the third year, and subsidized by 25 percent in the fourth year. Our calculations show that the amount of funds the World Bank has committed to cover the O&M subsidy will not be sufficient if the recommended tariff path set out in Section 8.2 is implemented. To fully fund the O&M subsidy, the Government would require an additional US$1.17 million beyond what the World Bank has already committed under the EIDP. For the US$1.76 million provided by the World Bank to be sufficient to cover the O&M subsidy in Megech and Ribb given the recommended tariff path, tariffs would initially need to be set at ETB401/hectare/year and increased according to the recommended tariff path. Capital costs The amount required to cover the construction milestone payments and the availability payments to the private operator must be deposited into the trust account. This is equal to the total capital costs of the projectsthe US$46.5 million included in the World Bank loan for the EIDP. We assume that this amount will be sufficient to cover the capital costs of the Megech and Ribb irrigation schemes. However, ongoing feasibility studies will include an updated cost estimate. If the costs are estimated to be higher, we assume that the Government will obtain these funds from the World Bank. Provision to cover shortfalls in tariff revenue The Government must provide some assurance to the private operator that it will be able to make the variable payments even if it cannot collect 100 percent of the charges invoiced to farmers. This is because the Government is bearing payment risk. The Government may provide this assurance by: Depositing an additional amount into the trust fund, an amount equal to or somewhat higher than the expected cost the Government must pay if collection efficiency is at a reasonable benchmark level. This benchmark level could be, for example, the collection efficiency of a water or electricity utility close to the project areas. However, because

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these irrigation projects are Greenfield projects, collection efficiency will most likely be lower than the benchmark in the initial yearsthis is why we say that the amount of the deposit could be higher than the estimate calculated by the benchmark level Obtaining a stand-by loan agreement from the World Bank. This loan would become effective if the Government was not able to meet variable payments to farmers from any other source of funds. Excess tariff revenue As tariffs of approximately ETB 2,000/hectare/year are charged beginning in year seven, the Government may be able to recover some of the funds it initially paid out in O&M subsidies. Using the tariff path recommended in Section 8.2, a PPP contract duration of 15 years, and the estimates of O&M costs included in the prefeasibility studies, we estimate that ETB 19.3 million (US$2.1 million) in tariff revenue will be generated beyond what is necessary to cover the O&M costs of the Megech scheme. We estimate that ETB 89.7 million (US$9.9 million) in tariff revenue will be generated beyond what is necessary to cover the O&M costs of the Ribb scheme. This is the amount corresponding to the area denoted by the blue Revenue >O&M Costs oval in Figure 8.6. The additional revenue may be used for the items listed at the end of Section 8.2. Although the Government may be able to recover the cost of the subsidy over the life of the PPP contract, the private operator requires certainty that the funds to make all of the payments it will receive from the Government are available at when the PPP contract is signed (as discussed in Section 8.3.1). Thus, the Government (or World Bank, on behalf of the Government) must deposit an amount equal to the total expected Government outlays into the trust account at the beginning of the project. 8.3.3 Impact of Payment Risk on Subsidy Amount In the recommended PPP model, the Government bears payment risk. This means that if the Government cannot collect 100 percent of the tariff amounts billed to farmers, it will have to make a portion of the variable payment to the private operator out of its own fundseither its own budget or an additional loan from the World Bank. This was discussed in Section 6.3.2 and mentioned in Sections 8.3.1 and 8.3.2. Figure 8.8 provides an illustration.

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Figure 8.8: Effect of Reduced Collection Efficiency


Collection Efficiency 100% Farmers World Bank Collection Efficiency 75% Farmers World Bank
O&M subsidy funds (ETB 3.0 million) Shortfall (ETB 0.6 million)

Tariff payments (ETB 2.2 million)

O&M subsidy funds (ETB 3.0 million)

Tariff payments (ETB 1.6 million)

Trust Account

Trust Account

Variable payments (ETB 5.2 million)

Variable payments (ETB 5.2 million)

Private Operator

Private Operator

Figure 8.8 is based on projections for the third year of the Megech schemes operation. In this year, the variable payments of ETB 5.2 million are funded by ETB 2.2 million in expected tariff revenue and ETB 3.0 million in operating subsidies. This assumes collection efficiency of 100 percentthat is, all farmers pay their bills. However, if only 75 percent of farmers have paid their bills by the time the trust account manager must disburse the variable payments, only ETB 1.6 million of tariff revenue is available to make the variable payments. There is a shortfall of ETB 0.6 million. As mentioned in Section 8.3.2, this shortfall may be covered by additional funds from the Governments budget that it has already deposited into the trust account, or funds from a stand-by loan with the World Bank. In either case, the ETB 0.6 million represents an additional cost to the Government. As collection efficiency decreases, the payment that the Government will have to fund increases. Collection efficiency affects the size of the subsidy required to make the irrigation schemes financially viable. Thus, it is in the Governments interest to create incentives that maximize collection efficiency. In the recommended PPP model, the private operator collects tariff payments through water user associations and deposits them into the trust account. Although the private operator is not bearing payment risk, the Government can still create incentives for the operator to maximize collection efficiency. This can be done through incentive paymentsthe Government offers to make an

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additional payment to the private operator based on the amount and timing of the tariff revenue that the private operator collects. We have set out a recommended incentive payment structure, presented in Table 8.4. In this structure, the Government pays the operator a percentage of the tariff revenue collected in addition to the variable payment. This percentage increases as the bills are paid closer to the date they were invoiced. For example, in year one, the private operator is paid: Thirty-five percent of the tariff revenue it collects within 30 days of the invoice date Twenty-five percent of the tariff revenue it collects between 30 and 90 days of the invoice date Fifteen percent of the tariff revenue it collects between 30 and 90 days of the invoice date. .These payments are in addition to the variable payment.

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Table 8.4: Collection Incentive Payments


Year Collection within 30 days (% of collected) Collection between 30 and 90 days (% of collection) Collection more than 90 days (% of collection) 1 35% 25% 15% 2 30% 20% 10% 3 20% 15% 5% 4 15% 10% 3% 5 10% 5% 2% 6 7% 3% 1% 7 5% 2% 1% 8 3% 1% 0.5% 9 2% 1% 0.5% 10 2% 1% 0.5% 11 2% 1% 0.5% 12 2% 1% 0.5% 13 2% 1% 0.5%

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We have constructed this schedule of incentive payments based on: The levels of expected tariff revenue in each yearthat is, the amount that will be billed to farmers The percent of the yearly variable payment represented by tariff revenue The percent of the operators remuneration represented by tariff revenue. We have projected these over the life of a 15-year PPP contract. The projections are presented in Appendix K. Incentive payments are highest for on-time payments and highest at the beginning of the irrigation schemes operations. They are highest for on-time payments because lags in payment increase the amount the Government may need to fund from its own sources (or a World Bank loan) if the tariff revenue is not available at the date upon which the Government must make a variable payment to the private operator. The percentages used to calculate the incentive payments are highest at the beginning of the schemes operation and decrease over time for three reasons: First, the risk of non-payment is highest at the beginning of the schemes operation. This means that collection is more difficult and a greater incentive may be needed. Most farmers in the command areas do not have a tradition of making regular payments for irrigation, or paying for irrigation at all. It may take time to create a culture of paying for irrigation. Additionally, as shown in Figure 8.4 and Figure 8.2, farmers incomes will increase with a lag as they shift to irrigated farming. Farmers may be reluctant to pay for irrigation until they see a sustained real increase in their incomes. This may not come until the second or third year of the irrigation schemes operation Second, for the incentive payment to truly provide an incentive to the private operator, the payment should be a fairly substantial amount. Tariff revenue in the first three years of the Megech scheme, for example, is expected to be only ETB 0.4 million, 1.1 million, and 2.2 million respectively. This is equivalent to US$50,000; US$122,000; and US$240,000; respectively. The incentive payment needs to be a significant percentage for this to translate into a meaningful amount of cash to the private operator. At these low amounts of expected tariff revenue, there is scope for the percentage used to calculate the incentive payment to be even higher. However, the incentive payment also represents a cost for the Government, and the Government would probably not choose to pay out more than 35 percent of tariff revenue as an additional payment to the private operator. The schedule of

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incentive payments reflects a balance we have tried to strike between making the payments a substantial amount in the eyes of the private operator, and a reasonable amount in the eyes of the Government Third, expected tariff revenue increases over the life of the contract, so as time goes on, lower and lower percentages are needed to provide the private operator with a meaningful amount of cash. By the time tariffs reach ETB 2,000/ha/year in year seven, expected tariff revenue in Megech is ETB 9.0 million per year (US$1.0 million). The incentive payment for tariff revenue collected within 30 days of the invoice date is 5 percent. If all tariff payments are collected within this time frame, the private operator would receive an incentive payment of US$50,000. Based on the projections and assumptions presented in Appendix K, a reasonable estimate of the cost to the Government of making the collection incentive payments over a 15-year PPP contract is ETB 3.19 million, or US$ 350,000. The Government would need to deposit this amount into the trust account. It could come from a World Bank loan (as illustrated in Figure 8.7) or the Governments own funds.

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8.4

PPP Arrangement for Anger

The PPP option that can be adopted for Anger could benefit from the fact that Anger will be developed as a multi-purpose project that will not only provide irrigation services, but that would also generate electricity from a hydroelectric power plant that uses water from the Anger dam. This hydroelectric plant gives the project the opportunity to generate additional income. Figure 8.9 below explains how this would work. Figure 8.9: PPP Arrangement for Anger
Contractual Structure
World Bank
Loan Agreement

Financial Flows
World Bank
Loan Proceeds

MoF

MoWR

MoF

MoWR

EEPCO

Design-BuildOperate-MaintainTransfer Agreement

EEPCO

Transfer payments from farmers

Payments for: Construction milestones Availability Service delivery

Power Purchase Agreement

Electricity payments

Private Firm

Shareholders / Lenders

5-10% of Project Capex

Private Firm

Service Agreement

Tariff payments

Farmer 1

Farmer ..

Farmer n

Farmer 1

Farmer ..

Farmer n

This is the same diagram that we used for explaining the details of the recommended PPP option, but it highlights in blue the main difference. The difference is that in Anger the private firm would enter into Power Purchase Agreement (PPA) with the Ethiopian Electric Power Corporation (EEPCO). This PPA would require the private firm to build, own and operate a hydroelectricity power plant and to make it available to be dispatched by EEPCO. EEPCO would in turn agree to pay the private firm a fixed payment (generally known as capacity payment) if the plant is available to generate electricity, and a variable payment (generally known as energy payment) for every kilo-watt-hour of electricity produced from the plant. This contract will give the private firm an additional source of revenue and could partly decrease the subsidy that the firm will need from the Government.

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As discussed in Section 7.2 above, the private operator could also develop commercial farming on unoccupied land in the command area. The private operator would be a commercial farmer that would engage smallholder farmers in the command area as outgrowers. This structure would benefit farmers and give the private operator an additional source of revenue that could reduce the required Government subsidy.

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Contract Monitoring Arrangements

and

Enforcement

This section describes the contract monitoring arrangements that we recommend for the three PPPs. Contract monitoring arrangements are essentially a regulatory framework for the PPP contract. Section 9.1 describes why economic regulation is needed. Section 9.2 presents and compares traditional regulatory options. Section 9.3 presents options for the economic regulation of the Megech, Ribb, and Anger irrigation PPPs. Section 9.4 compares those options and recommends one. Section 9.5 presents our recommendations for contract monitoring and enforcement.

9.1

Why is Economic Regulation Needed?

Economic regulation is best thought of as the legal controls on service providers intended to overcome the problem of monopoly behavior. A core definition of economic regulation in the irrigation sector is the rules and organizations which set, monitor, enforce and change the allowed tariffs and service standards for irrigation providers. Economic regulation is needed to address the risk of companies engaging in monopolistic behavior. In a competitive market, customers can choose between suppliers, and suppliers therefore try to offer the quality and quantity of products and services customers want. Competition between suppliers keeps the prices charged in line with costs. For example, in some countries bread is an essential product, but any baker who provided poor quality or over-charged (whether deliberately or because his costs were higher than other bakers) would soon lose business to his competitors. Similarly, a baker who charged less than his costs would lose money, and have to raise prices or go out of business. In most markets, competition ensures that providers offer what customers want at a price reflective of efficient cost, where efficient means lowest cost per unit of input (e.g., baking supplies and labor). The proposed BOT contract will grant to a private operator an exclusive right to provide irrigation services in the Megech, Ribb, or Anger command areas. This means customers will not be able to choose between competing suppliers, so there will not be competitive pressure to ensure the private operator provides the services customers want. In theory, irrigation services are generally worth a lot more to customers (the farmers) than the cost to the private operator of supplying them. In other words, the value of water delivered to the farms is so great, and the cost of alternatives so high that farmers would be willing to pay several times the cost of the service, rather than go without the service completely. A private operator could take advantage of this to make high profits at the expense of farmers. Government-

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owned providers might also take advantage of farmers by charging too much, and would typically dissipate the excess charges in inefficiencies such as low labor productivity or corruption. Or they might charge low prices for a poor service, when farmers would prefer a better quality service, even if it meant paying more. Clearly, some sort of price control is therefore necessary, as are controls on service quality to ensure that, in an effort to maintain or increase profits under price controls, the private operator does not reduce operating and maintenance costs to an extent which leads to a deterioration in the quality of its outputs. 9.1.1 Role of regulation in balancing interests of farmers and private operators Economic regulation is often described as a proxy for the pressures that competition provides in other markets. This description is misleading in that it suggests economic regulation is entirely a scientific exercise. Despite the efforts of regulators, utilities and their respective consultants to determine, through benchmarking and other techniques, the efficient cost of utility services, neither the means of arriving at the result, nor the result itself necessarily reflect what a market would produce. Economic regulation should ensure that private operators provide service their customers want at reasonable or affordable prices that also allow private operators to recover their reasonable costs, which include a reasonable return on any capital invested. The terms reasonable and affordable are, of course, subjective. Economic regulation seeks to reach a compromise between what is reasonable to a private operator, and what is affordable to a customer. As shown by Figure 9.1, this balancing act falls to economic regulation. Figure 9.1: Economic Regulation Balances Needs of Customers and Private Operators

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Tariffs too high? Tariffs too low to recover costs and ensure sustainability of service? Service standard too low?

CONSUMERS / FARMERS
vulnerable

OPERATOR / PROVIDER
With monopoly has market power

REGULATION

Aims to ensure farmers have good services at the reasonable cost

? service standards ? tariffs

return on investment cost recovery

9.2

Traditional Regulatory Options and Lessons Learned

In order to achieve the balance illustrated in Figure 9.1, a regulatory framework must exist to, at a minimum: Set tariffs: Decide initial prices (tariffs) Set service standards: Decide initial service quality (so providers are prevented from cutting costs by compromising on service quality) Determine how tariffs and service standards change over life of contract Monitor and enforce private operator terms of service: Ensure that private operators consistently adhere to regulated prices and quality standards, provided customers have also met their obligations.19 This requires a feedback loop so that customers and/or regulators know
19

A regulatory framework typically also includes a specification of customer responsibilities or obligations. Customers have responsibilities they must uphold in order to receive service of a given price and quality. If they fail to uphold these responsibilities (e.g., by tampering with meters or other private operator infrastructure, or failing to pay their bills), they may be subject to discontinuation of service or, as in some countries, other legal or financial sanctions. We have left out discussion of customer obligations in this paper because we understand these will be specified in a separate contract between the private operator and farmers. Such contracts or customer charters are a sensible way to specify customer obligations.

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when standards have been breached and what must be done to correct the breach. These mechanisms must therefore define how: Information on performance is collected The information collected is understood and analyzed Once the information is analyzed, action is taken as needed to punish, mitigate, or otherwise resolve situations in which a breach of standards may have occurred. Mechanisms may also exist to reward private operators for performance exceeding standards. These controls are typically applied by legal instruments. Regulatory Organizations It is sometimes assumed that all regulatory functions must be performed by a regulator. This is wrong. Lawyers in the (Anglo-American) common law tradition, for example may consider it anathema for regulation to be contained in a contract. Those familiar with (French) civil law traditions, in contrast, may be equally uncomfortable with statutes which give a Government agency unilateral power to set tariffs for a private company. It is also sometimes assumed that regulation must be undertaken by a large, complex institution with multiple experts, specifically devoted to the task of sector or industry regulation. This is also untrue. The UK electricity industry, for example, was regulated by a single person during the late 1990s. In truth, a diversity of organizational arrangements can achieve functionally similar regulatory results. The right choice is a matter of fitting with existing legal and administrative traditions, and may in fact be a mix of French and Anglo-American traditions, with some regulatory functions clearly left to the contract and others clearly left to a regulator. In general, as shown in Figure 9.2, an Institutional Regulator allows for greater flexibility but less predictability. The regulator has more discretion to adapt the rules to any changes that may affect the relationship between private operator and customer. But discretion also brings greater uncertainty to the regulatory regime, both for customers and for the private operator.

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Figure 9.2: Comparison of Regulatory Traditions

Disputes and Resolution Institutional Regulator


Possible disputes over exercise of discretion by the regulator Regulators decisions can be appealed to courts

Governing Law
Actions of the regulator governed by the Egyptian Law

Certainty vs. Flexibility


More flexibility to deal with emerging problems Fewer details need to be specified in the contract Greater uncertainty for investor over exercise of discretion by Regulator

Regulation by Contract

Possible disputes over interpretation of the contract and application of contractual formulas Disputes can be settled by arbitration, with dispute resolution process defined in the contract

Contract to specify governing law

Less flexibility and more detail needs to be built into the contract More certainty for investors Less dependent on competence of Regulator

Hybrid regulatory regimesa mix of regulation by institution and by contract-also exist in many countries. Armenia, Guyana, and the Philippines (Manila) all have examples of hybrid regulatory regimes for the water and sewerage sector. These hybrid regimes have 1) Regulatory institutions, as well as 2) Contracts with various powers over tariffs and service quality standards. In the cases of the countries cited as examples, the marriage between the French and Anglo-Saxon traditions has proven problematic because of unclear distinction of responsibilities between the contracts and the regulator. These often muddled arrangements have arisen in many cases because of an uncoordinated approach to sector policy, with certain interest groups or donor agencies sponsoring independent regulators, while others simultaneously support private sector participation through concession, lease or management contracts. It is possible to mix and match regulatory concepts from these two traditions. However, many of the resulting hybrids have not worked as well as hoped. In Manila, for example, the Regulatory Office was intended as an independent regulator of the concession contracts. The Office was bound to follow the rules in the concession contracts, but also intended to be independent, and to exercise discretion. When a sudden devaluation of the Philippines peso put the concession contracts under great strain, the Chief Regulator thought that the Office should use judgment and discretion in trying to find a workable solution. Some of his deputies thought that their job was simply to enforce the terms of the contract. These tensions crippled the Office. They followed from a failure to define how

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an independent regulator can coexist with rules defined in contracts, and subject to final decisions by binding arbitration.

9.3

Economic Regulation Options for Megech, Ribb, and Anger

As described in the previous section, there are a variety of ways to allocate regulatory functions to organizations, and to choose legal instruments to embody regulatory rules. Many arrangements work reasonably well, and achieve functionally similar results. The process for deciding which arrangement to use begins by deciding what needs to be regulated and what can be left to market forces. To the extent that prices or terms of service can be determined competitively, there is no need for regulation. The Megech, Ribb, and Anger schemes foresee an irrigation system with exclusive (monopoly) rights to provide irrigation services, but potential private operators will bid, through a competitive process, for rights to design, build and operate the system. This allows for at least some terms of irrigation service provision to be determined competitively. The simplest and most common approach is for a BOT contract to specify terms of service and service quality standards, and require that potential private operators bid for the BOT on a least-tariff basis, i.e., the private operator who can provide the services required for the least possible price wins the right to design, build and operate the system. Of the bullet point regulatory functions presented at the beginning of Section 9.3, at least two will therefore be governed by the BOT contract: Set tariffs (through a competitive process) Set service standards Much of the third regulatory task, Determine how tariffs and service standards change over life of contract, can also be regulated through the contract. BOT contracts specify tariff formulae that limit risks to the private operator of changes in certain prices during the life of the contract. These changes in costs are caused by events or decisions beyond the private operators control, and typically include changes in energy input prices, foreign exchange, or inflation. BOT contracts generally allow for the risk on price fluctuations to be passed through to customer tariffs by means of a mathematical formula. Without such assurances, few credible private operators would likely want to submit bids unless their tolerance for risk were very high, in which case the tariffs they require, on which their returns depend, would be accordingly high. However, changes will inevitably occur during a 20-30 year contract which the pass-through formulae cannot be designed to fully anticipate. BOT contracts therefore also typically include a clause that allows for extraordinary or other discretionary adjustments to tariffs to accommodate for events beyond the private operators control that change costs but are not captured by the pass

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through formula. Calculating the amount of the extraordinary or discretionary adjustment requires the exercise of discretion on how unanticipated changes in costs should be passed through into tariffs. The final regulatory task mentioned in Section 9.3 relates to monitoring and enforcement of tariffs and service standards. Rules on the private operators selfmonitoring and reporting responsibilities may be specified in the contract, but the activity of analyzing information, collecting additional information (beyond what the private operator is required to report), and deciding whether and to what extent a breach of contract has occurred, and deciding how to punish, mitigate, or otherwise resolve alleged breaches, requires discretion. Table 9.1 summarizes which regulatory tasks can be governed through the contract and which require some discretion in decision-making. For those tasks that require discretion, some agencys intervention is required. Table 9.1: Allocation of Regulatory Functions for Megech, Ribb, and Anger
Regulatory Task Set tariffs Set service standards Determine how tariffs and service standards change over life of contract Monitor and enforce contract terms (related to tariffs and service quality) Defined in Contract Yes, through competitive bidding Yes Pass-through formula Discretion Required No No Discretionary adjustments not covered by passthrough formula Yes, to determine whether there has been a breach of contract, and determine remedy

Private operators selfmonitoring and reporting responsibilities Consequences for deviating from contract terms (level of financial penalties)

The shaded portions of Table 9.1 indicate those functions which must be overseen by some entity, whether an agency or person. This entitys functions would include, more specifically: Analyzing periodic financial and operational reports from the private operator to determine whether the private operator has complied with the terms of the contract related to tariffs and service quality. This will include a determination of whether the pass-through formula has been applied correctly Hearing any arguments from the private operator, farmers or the government for tariff or service quality adjustments not specified in the

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contract (for extraordinary circumstances only), and deciding whether and to what extent such adjustments are warranted Monitoring and Enforcement: Receiving and investigating any complaints from farmers that the private operator has failed to charge the tariffs or uphold the terms of service specified in the contract Issuing opinions to the private operator and farmers on whether the alleged violations of contract terms have occurred and requiring payment of any consequent financial penalties required under the contract Section 9.3.1 and Section 9.3.2 present two options for handling those functions which require some discretion. 9.3.1 Option 1: Regulatory Office Option 1 envisages the creation of a separate institutional regulator or regulatory office (RO) to undertake the functions of economic regulation that require discretion. Following the model of institutional regulation elsewhere, the RO could be a 3-5 member board or panel of commissioners with a mix of legal, economic, financial and engineering backgrounds, supported by a small staff which also represents a mix of expertise. This model draws its design from the Anglo Saxon institutional regulatory model described in earlier sections. Figure 9.3 shows how such an arrangement would work, with dotted lines indicating the responsibilities each party has to one another.

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Figure 9.3: Option 1: Regulatory Office


MOWR

Project Management Unit

Contract Monitoring Unit

Regulatory Office

Adherence to BOT Contract Terms Private Operator: Periodic financial and operational reporting Regulatory Office: Specification of extraordinary adjustments to tariffs and service quality

Private Operator
Builds and operates

Private Operator: Provision of service at tariffs and service standards under BOT contract

Farmers: Full and timely payment of bills and any other customer obligations specified in service agreement Regulatory Office: Investigate service complaints and if necessary enforce sanctions in contract Farmers: Service complaints

Water Users Associations


Farmers

With this option, the decision of the RO is final and binding. If either party to the contract (the private operator or Government) disagrees with the decisions of the RO, a set of discrete dispute resolution provisions in the contract are invoked. Failing an ability to resolve disputes, the contract goes into arbitration. 9.3.2 Option 2: Independent Panel of Experts + Contract Monitoring Unit Option 2 is similar to Option 1, but: Merges the Contract Monitoring Unit (CMU) and the RO Shifts some of the responsibilities of the RO to a separate body, an Independent Panel of Experts (IPE) Consequently requires fewer regulatory staff in the RO (which is now the CMU). Under this option, responsibilities for decisions on any extraordinary tariff and service quality adjustments lie with the IPE. The characteristics of the IPE which make it truly independent are presented in Appendix K. Under Option 2, the IPE also effectively serves as an intermediate mechanism, before arbitration, for handling disputes (in relation to tariffs and service quality only) between the private operator and Government. The IPEs decisions are binding. If either party to the contract disagrees with an IPE decision, the only remaining recourse is arbitration. Figure 9.4 shows how such an arrangement would work, again with dotted lines indicating the responsibilities each party has to one another.
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The CMU is (as is the RO under Option 1) responsible for monitoring and enforcement under this option, and decides whether the private operator is delivering according to the tariffs and terms of service specified in the contract. When there is disagreement between the private operator and the CMU over whether contracts terms have been met, either party has the option of forwarding the matter to the IPE, provided the party agrees in advance to pay the costs of convening the IPE. Figure 9.4: Option 2: CMU with Independent Panel of Experts
MOWR Independent Panel of Experts (IPE)

Project Management Unit

Contract Monitoring Unit

Adherence to BOT Contract Terms

Private Operator: Periodic financial and operational reporting CMU: Investigate service complaints and if necessary enforce sanctions in contract

Private Operator: Provision of service at tariffs and service standards under lease contract Farmers: Full and timely payment of bills and any other customer obligations specified in customeroperator contract

Private Operator
Builds and operates

IPE: Resolution of MOWR or Operator appeals of CMU decisions and Specification of extraordinary adjustments to tariffs and service quality

Water User Council


Farmers

Farmers: Service complaints

Responsibility for overseeing implementation of the pass-through formula remains with the CMU (i.e., the CMU checks to see that the private operators proposed implementation is correct).

9.4

Comparison of Options and Recommendation

Both of these options present viable models for regulating the BOT, but Option 2 is preferable, both from the perspective of international best practice as well as internal organizational consistency. Option 1 has many of the characteristics of institutional regulation described in Section 9.2, but also has at its heart a BOT contract. It represents therefore a hybrid between contract and institutional regulation. Option 2 effectively relies on the parties to the contract to self-regulate, and where there are disagreements on service quality or tariffs; defer decisions to an independent panel of experts. This option is much closer to the traditional model of contract regulation, though many examples of contract regulation lack any

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body (like the IPE) to handle discretionary changes in tariffs or service standards, or lower-level disputes. 9.4.1 International Best Practice From the perspective of international best practice, we recommend avoiding Option 1 because of the problems we have seen arise with such hybrid arrangements throughout the world (described in Section 9.2). A BOT contract lies at the heart of the arrangement for the Megech, Ribb, and Anger irrigation schemes. Given the limited success with hybrid regulatory regimes elsewhere in the world, we recommend Option 2 as it is most consistent with a regime of contract regulation. 9.4.2 Internal Organizational Consistency Because every country and every sector are to some degree unique, the choice between contract and institutional regulation should typically be based on whether any proposed design can be expected to: Perform the impartially necessary regulatory functions competently and

In a way which does not strain the countrys or (where the regulator does not have national authority) regions or sectors organizational capabilities or resources, and does not impose transaction costs that threaten to outweigh the benefits of economic regulation, and Is consonant with legal and administrative traditions. Table 9.2 shows how Options 1 and 2 rate against each of these criteria.

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Table 9.2: Weighing Options 1 and 2 for Internal Organizational Consistency


Criteria Option 1 Option 2

Competence: May be difficult to find local experts Competence: Discipline of economic regulation is Perform necessary new to many countries. IPE allows the irrigation with extensive experience in economic regulation regulatory functions schemes to benefit from involvement of foreign of irrigation. Training the regulator to get them competently and impartially experts with extensive experience in economic sufficiently up to speed is expensive and time regulation consuming Impartiality: CMU as part of the PMU, represents a Impartiality: Efforts could be made to design an party to the contract and cannot therefore be viewed independent regulatory office, but even with as impartial. However, the involvement of IPE on the appropriate safeguards, it is difficult to isolate substantive issues requiring discretion ensures any regulator, anywhere in the world, from impartiality. political influence or other agenda. Option 2 envisions a much smaller regulatory staff, The PMU and CMU will need of qualified staff Does not strain the located within (and so benefiting from the expertise with some experience in regulation and/or countrys, regions or of), the CMU. This ensures that expertise within the irrigation from the perspective of a range of sectors organizational PMU, CMU and regulatory staff can better be shared disciplines (engineering, finance, law and capabilities or resources, and and will not compete for resources. Expertise in economics). The needs of these organizations does not impose transaction economic regulation required for the IPE is drawn would compete with the needs of a separate RO. costs that threaten to largely from outside, ensuring that Our experience in helping to establish such outweigh the benefits of agencies suggests to us that such skill sets are not economic regulation often in abundant supply It is not certain whether the benefits of institutional (as opposed to contractual) economic regulation for the irrigation schemes would outweigh the costs of establishing a stand-alone institution. Institutional regulators are typically established at the federal level, often for multiple

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network industries (e.g., electricity and natural gas), and in very large countries (such as India) at the state level. The costs of establishing and maintaining such institutions is harder to justify for regional or more limited jurisdictions, and harder still when it is only a single sector or project that is to be the subject of regulation Is consonant with legal and administrative traditions So-called independent economic regulation arose largely from the unique legal and administrative traditions of the US and UK; traditions representing hundreds of years of common law unique to those countries. Few other countries have much successful experience with AngloSaxon institutional economic regulation Contract regulation is easier to integrate with existing legal and administrative traditions in most countries Regulation by contract has proven problematic where there is no mechanism, short of contract termination or arbitration, to interpret or amend the terms of the existing contract. The IPE is proposed in Option 2 as a way of avoiding such problems

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We believe Option 2 presents a better alternative for economic regulation of the irrigation projects. The IPE will therefore have an integral role in making decision on tariff adjustments that require discretion, and attempting to resolve dispute between the parties.

9.5

Recommendations for Contract Monitoring and Enforcement

The CMUs primary responsibilities will involve contract monitoring and enforcement. Service quality monitoring can be one of the more challenging aspects of regulation for a regulator because of asymmetries of information, resources, and sector knowledge between the regulator and regulated entities. The activity of enforcement is relatively straightforward, but setting appropriate rules for enforcement can be quite complicated. 9.5.1 What is Contract Monitoring and Enforcement? Contract monitoring refers to the way in which a regulator collects, verifies and analyzes information about the performance of the private operator. There are three general ways in which a regulator can monitor performance: Self-reporting: The regulator can require the private operator to selfmonitor and submit reports on a regular basis. A regulator or contract monitor typically specifies, or the private operator and regulator agree, on standardized templates/formats for reporting as well as frequency of reporting Auditing and Inspections: A regulator or contract monitor may rely on periodic audits or, in some cases, field inspections to verify the information provided by the private operator Customer Feedback: Collecting feedback from farmers can be a costeffective method of monitoring compliance and auditing information provided in private operator reports. The farmer has the best incentives better than any of the regulators inspectorsto report abuse or neglect by the private operator. Contract enforcement refers to the imposition of whatever sanctions, or in some cases, rewards, may be included in the contract. 9.5.2 Recommendations We recommend that the CMU require the private operator to report: Water availability in terms of number of hours of water delivered per day.20 Data on farmer complaints about service, including: The nature of the complaint

20

An irrigation engineer will need to help determine where the CMU should require the private operator to measure availability, for example, at the individual farm, mesqa, branch canal, or higher distribution levels.

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The identity of the farmer (so the CMU can verify if necessary) The time and date on which the farmer submitted the complaint The time and date on which the private operator resolved the complaint The manner in which the private operator resolved the complaint. Information on major capital works, renovations or repairs, both future (planned) and for the previous reporting period. We recommend the CMU monitor through: Self-reporting: Requiring that the private operator submit periodic financial and operational reports. We recommend that the contract require monthly reporting to the PMU and CMU. The CMU will review, verify and approve these reports Collecting Farmer Feedback: Serving as a clearinghouse for farmer complaints about service and checking complaints against information provided by the private operator. As noted above, the private operator will also be required to keep data on farmer complaints Auditing and inspections: Conducting as-needed inspections of the private operators facilities to investigate specific customer complaints, or as a random check on performance. We recommend that any enforcement action allowed under the contract be limited to imposition of financial penalties (fines) for failure to deliver water as scheduled.21 The private operator should pay these fines to farmers as compensation for services not delivered. We recommend that fines be assessed as the cost to each farmer of replacing the water not delivered, for example, through truck deliveries. The CMU will be responsible for determining the cost of replacement water for a given year, based on a survey of providers prices. We further recommend that the private operator be required to waive the monthly fixed tariff applicable to the farmer whose service was interrupted, pro-rated for however many days service were actually lost. We do not recommend penalties which seek reparation of damages based on crop values because such fines: Require subjective decisions about revenue lost as a result of insufficient irrigation. Such subjectivity is likely to scare away many investors or attract significantly higher tariff bids

21

There is no need to set performance standards for customer complaints, capital works or other aspects of system operation, as the tariffs and customers service standards will be specified in the DBO contract.

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Fail to reflect actual damages suffered, as farmers will seek alternative sources of water rather than let their crops deteriorate. 9.5.3 Design of Regulatory Institution As discussed in Section 9.4, the economic regulatory functions of the CMU will primarily consist of: Analyzing periodic financial and operational reports from the private operator Hearing any arguments from the private operator, farmers or the government for tariff or service quality adjustments not specified in the contract Monitoring and Enforcement Combining the roles of the CMU and RO has the advantage of consolidating scarce sector and regulatory expertise in a single agency. In order to carry out these functions, we recommend a small, tightly integrated unit with employees representing a mix of disciplines. Figure 9.5 shows how the CMU could best be organized. The hashed ovals and accompanying descriptions indicate principal areas of responsibility for the staff. Sample job descriptions follow the organizational chart. We note that this design assumes the CMU will outsource construction management functions, as is common practice in such projects.

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Figure 9.5: Suggested Organization of the CMU22


Final decision on enforcement of contract sanctions Principal liaison with IPE deferral to IPE for advice and/or hearings as necessary Principal liaison with PMU and MOWR Review of private operator application of pass-through formula Review of financial and operational reports

Handing and routing of farmer complaints Liaison with operator on contractual questions and disputes

CMU Director

Legal Analyst

Technical (Engineering) Analyst

Financial/ Accounting Analyst

Economic Analyst

Review of operational reports Assessments of service complaints Inspections as necessary

Director: The Director serves as principal liaison to the PMU, MOWR and IPE. The Director makes the final decision, based on his or her analysts recommendations, of whether and to what extent the private operator is in compliance with the contract terms, whether enforcement of contract sanctions is necessary, and whether to seek informal advice or a formal hearing by the IPE on any issue. The Director may have expertise in law, economics or finance, and should ideally have some contract management or large infrastructure project implementation experience. The Director should have at least 10 years experience and a graduate degree. Legal Analyst: The legal analyst is the principle liaison with the farmers and operator. He or she is responsible for receiving farmer complaints about private operator performance, and overseeing resolution of, or response to, those complaints. He or she is also responsible for discussing and resolving with the private operator any questions, doubts, or complications related to the contract. This analyst should have at least 10 years legal experience in either the public or private sector, have a law degree and be

22

Diagram does not include administrative/secretarial support staff.

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licensed to practice. He or she must have exceptional skills in dispute arbitration and negotiation. Sector-specific experience is desirable but not essential. Economic Analyst: The economic analyst works with the financial and accounting analyst to review all financial and operational reports from the private operator, including a review of the private operators proposed application of the tariff passthrough formula. This analyst should have at least 10 years experience and a graduate degree in economic regulation, applied microeconomics or industrial organization in either the public or private sector. Some experience with regulated network industries is essential. Financial/Accounting Analyst: The financial/accounting analyst works with the economic analyst to review all financial and operational reports from the private operator, including a review of the private operators proposed application of the tariff pass-through formula.. This analyst should have at least 10 years experience and an MBA or comparable graduate degree in financial methods or accounting. Accountants must have appropriate certification. Some experience with regulated network industries is essential. Technical Analyst: The technical analyst reviews the private operators operational reports and checks for consistency against farmer complaints. He or she is responsible for investigating and verifying farmer complaints through communication with farmers, and site visits or inspections as necessary. This analyst should have at least 10 years experience in the irrigation or water service sector and a graduate degree in civil engineering. Appendix K contains an estimated budget for the CMU/RO, as well as an itemized budget for technical assistance the CMU/RO will need to effectively carryout its functions.

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10

Action Plan

Implementing PPPs for the three irrigation schemes involves a number of steps. In this section we outline the steps required implement them and an approximate timetable for doing so. For the process below to be successful, the Government must be firmly committed to implementing the PPPs. To cement this commitment and ensure that the process of implementing the PPPs moves along as smoothly as possible, the Government may wish to designate a championthat is, a high-level official to oversee the transaction preparation and implementation process and help resolve any difficulties along the way. The components of the action plan that run the greatest risk of difficulties or delay are preparing the legal framework for the transaction, creating the trust account, and creating the Contract Monitoring Unit and Independent Panel of Experts. The official overseeing the transaction preparation and implementation process should have enough political influence to ensure that these, and other, items are completed in a timely manner. We estimate that it will take 19 months starting from May 2008 to prepare and implement transactions to engage a private operator for the Megech, Ribb, and Anger irrigation schemes under a PPP contract. This is assuming that feasibility studies are readyas the Government plansby July or August of 2008, and that the legal framework for the transactions is in place no later than September 2008. However, the projects face significant risks of delay during the preparation of the legal framework. The sub-sections below present the action plan, including indicative timing. Figure 10.1 presents the steps in a Gantt chart. In determining the steps to be followed and their timing, we have not taken into account approvals required from the World Bank, as we do not know what this would entail. 1. Transaction Preparation The Government must complete a number of steps before the PPPs Megech, Ribb, and Anger irrigation schemes are ready to be tendered to a private operator. They are as follows: 1.1 Finalize feasibility studies. The feasibility studies will update the cost estimates for the Megech and Ribb irrigation schemes and provide cost estimates for the Anger scheme. They will also include important information such as the number of farmers in each command area, and whether the dam to be built as part of the Anger project is suitable for hydroelectricity generation. This information will be needed to move forward in designing the O&M subsidy and preparing the financial information that potential private operators will require in preparing their bids for the PPP contracts. The Government expects the feasibility studies to be completed by July 2008. 1.2 Prepare legal framework for the transaction. As stated in Section 5, the legal basis for a PPP transaction and its credibility to investors could be greatly enhanced if the Government issues laws or regulations that set the basic principles needed to
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implement these PPP transactions or that clarify some of areas of uncertainty. These could include a PPP law, regulation or policy paper that includes the components listed in the Section 5.2, and the Water Code. This step in the process could be among the longest to complete and needs a very high degree of Government support. It is difficult to determine how long this process would take. In the Gantt chart in Figure 10.1, we assume that it would be completed by July 2008, but in practice it could take longer. This could be a critical area of involvement for the Government champion discussed above. 1.3 Prepare and implement communications strategy. The Ethiopian Nile Irrigation and Drainage Project will fund a communication strategy to inform and consult with farmers on the irrigation schemes and PPP model to be employed. We assume that this communication strategy will be ongoing throughout transaction preparation and implementation. 1.4 Create trust account. The Government will need to set up the trust account that will administer the payments to the private operator, including the operating subsidy, as described in Section 8.3. This requires drafting the legal framework for the account, creating the institutional structure of the account (including drafting contracts for its administration), and capitalizing the account. This step in the process could be among the longest to complete and needs a very high degree of Government support. This process may take 812 months. The Government could start this process as soon as the legal framework for the PPPs is established 1.5 Marketing with potential private operators. There are many ways to contact potential private operators for the irrigation schemes. The Government may contact companies that have bid on other irrigation PPPs, internationally-recognized infrastructure providers, agro-industry companies, and others. The Government should initiate and build a relationship with these companies in order to interest them in the transaction and facilitate transaction implementation. The idea is to build an ongoing relationship with potential private operators throughout the bidding process. 2. Transaction Implementation Transaction implementation involves preparing bidding documents and contracts, prequalifying bidders, ensuring that bidders have access to the information they need, carrying out the bidding process, evaluating bids, negotiating the final PPP contract, and financial close. We recommend that the transaction process include a prequalification stage. Governments implementing PPPs will usually use a prequalification process to assess whether the potential private operator is truly qualified to carry out the duties required of it. This includes assessing potential private operators technical and financial capacities. A pre-qualification stage requires bidders to submit information showing that they are technically and financially capable of performing the tasks required of them (such as designing, building, and operating an irrigation system over a given size of land). Alternatively, the Government could decide to move directly to the procurement stage without pre-qualification. The action plan has been written under the assumption that there will be a pre-qualification stage.
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Transaction implementation involves the following steps: 2.1 Draft pre-qualification documents. These are the templates that potential private operators will need to fill out and present during the pre-qualification stage. It may take up to a month to draft these. 2.2 Administer pre-qualification process and evaluate pre-qualification applications. This includes continuing to market the PPPs to potential private operators, sending information on the irrigation schemes and the pre-qualification documents to potential private operators, answering their questions, and receiving their pre-qualification applications. The marketing phase may take up to a month, while pre-qualification documents are being drafted, at the end of which the prequalification documents would be sent out. To attract quality responses, bidders need at least four weeks to prepare and submit their pre-qualification applications. Evaluating pre-qualification applications is a relatively straightforward process and may take up to two weeks. 2.3 Create data room and project information website. It is common for governments implementing PPP transactions to create a data room that potential private operators can visit to obtain all documentation that is relevant to the transaction. Information that should be available in the room includes the feasibility and pre-feasibility studies, laws and regulations that govern the projects and the transaction, market study, and others. We recommend that the data room be located in a secure space, and include photocopying facilities for bidders. The Government should also consider setting up a website containing relevant information about the project to facilitate bidders access to this information. Setting up the data room and website may take approximately three weeks and can be done while the prequalification process is ongoing 2.4 Prepare bidding documents and contracts. Preparing the bidding documents may require several phases. It is good practice to distribute preliminary versions of the documents to potential private operators for comment, and then modify the documents to reflect both the Governments policy concerns and the potential private operators feedback. The bidding documentation should include: The Request For Proposals (RFP), which sets out the process and criteria that will be used to evaluate proposals The Information Memorandum, which contains technical and financial information on the irrigation schemes to be developed, a draft version of the PPP contract. It is used as a basis on which to begin discussions with private operators. Because of the iterative nature of this process, it may take up to six months to prepare the bidding documents and contracts. 2.5 Administer the bidding process and evaluate bids. This includes issuing the RFP, the Information Memorandum, and draft contracts; holding in-depth

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consultations with bidders; and receiving bids. Qualified bidders should be given the opportunity to carry out their own due diligence during the bidding process. This means the Government should be available for extensive consultations with the bidders as they conduct a detailed financial analysis of the opportunities. The Government should be prepared to provide detailed financial information on the schemes to be developed. Bidders need at least two months to prepare and submit their bids. It may take up to 3 weeks to evaluate the bids received and select the preferred bidder (the private operator) using the criteria defined in the bidding documents. 2.6 Negotiate the contract and financial close. The preferred bidder may seek to negotiate amendments to the transaction documentation. If so, the Government will enter into a period of negotiations with the preferred bidder. The preferred bidder will also need to negotiate and secure financing for its part of the capital costs. This may take up to six months to complete. 2.7 Create Contract Monitoring Unit and the structure of the Independent Panel of Experts. The role and functions of these regulatory institutions were described in Section 9. Creating them involves: Refining the budget and obtaining funding for their operations Setting up their institutional structure (the CMU would be within the MOWR Recruiting CMU staff Implementing the training program suggested in Section 9. The CMU must be established, and the training program begun, at least one year before the private operator begins providing service. It may take several months to create the CMU and the structure of the IPE, including recruitment of staff. Because it may take over a year to build the irrigation schemes, the Government does not need to begin establishing the CMU and the structure of the IPE until after financial close of the PPP transaction.

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Figure 10.1: Action Plan Gantt Chart


Indicative Months 1 May-08 2 June 3 July 4 Aug 5 Sept 6 Oct 7 Nov 8 Dec 9 10 11 12 13 14 15 16 17 18 19 20 21 22 Jan-09 Jan-10 June Sept May July Aug Nov Dec Mar Feb Feb Oct Apr

1 Transaction Preparation 1.1 Finalize feasibility studies 1.2 Prepare legal framework 1.3 Prepare and implement communications strategy 1.4 Create trust account 1.5 Marketing with potential private operators 2 Transaction Implementation 2.1 Draft pre-qualification documents 2.2 Administer pre-qualification process and evaluate pre-qualification applications 2.3 Create data room and project information website 2.4 Prepare bidding documents and contracts 2.5 Administer the bidding process and evaluate bids 2.6 Negotiate the contract and financial close 2.7 Create Contract Monitoring Unit and structure of the Independent Panel of Experts cont

? ? ?

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Appendix A: Meetings with Government Officials


This appendix presents the list of meetings that the Castalia project team held with Government officials in Ethiopia from September 24-October 4, 2007.
Date 24-Sep Stakeholder Ministry of Water Resources Contact Abera Mekonnen Chief Engineer Teshome Atnafie Tefera Beyene 25-Sep 25-Sep 25-Sep Ethio Agri-CEFT Oromia Irrigation Development Agency Development Bank of Ethiopia Yilma YemaneBerhan Abera Chala Teka Yibrah Client Relation Department Manager Head, I&D Department Head, Boundary & Transboundary Rivers Affairs Department General Manager Title

25-Sep

Ministry of Agriculture Dr. Bateno and Rural Development Kabeto Dr. Tadesse Bekele

Head, Crop Development Department Senior Irrigation Agronomist Coordinator

26-Sep

Ministry of Trade and Industry - Private Sector Development Capacity-Building Project Privatization and Public Enterprises Supervising Agency Privatization and Public Enterprises Supervising Agency Ministry of Finance

Milkias Teklegiorgis

26-Sep

Daniel Benti

Head, PPP Project department

26-Sep

Wondafrash Assefa Samuel Gebre Egziabher Sisay Worku

Head, Information and Public Relations Office Team Leader, Water, Energy and Mines Studies and Development Head, Economic Sector Budget Department

27-Sep

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27-Sep 27-Sep

Ethiopian Power Company (EPCO) Koga Dam and Irrigation project (MoWR office) Moges Ayele Coordinator

Berhanu Haileselassie * ANRS = Amhara National Regional State 1-Oct Regional Project Coordinator, and Head of Amhara Bureau of Culture and Tourism Investment Promotion Agency of ANRS* Amhara Bureau of Water Resources Amhara Bureau of Agriculture EPLAUA (ANRS Environmental Protection Land Administration and Use Authority) ANRS Cooperative Promotion Agency Mulugeta Seid Damtew

Team Leader KIWMP

Meetings in Bahar Dar - Regional Agencies in the Ribb and Megech Project Area

Regional Project Coordinator, and Head of Bureau of Culture and Tourism Manager Bureau Head Department Head, Crop Development and Production Land Administration Team Leader

1-Oct 1-Oct 1-Oct

Dereje Seyoum Desta Muluken Lakachen Alemu Bita Melese

1-Oct

Gebeyehu Belay

1-Oct

Ayenew Belay

General Manager

Degu Addis Mengistu Cidey 1-Oct Koga Dam and Irrigation project (field office) Fogera woreda Chris Hall

Planning and Information Department Consultant's Irrigation Engineer and head of the Koga field office Chief Woreda Administrator Head woreda agriculture and rural development office

2-Oct

Tewabe Getu Mogess Asfaw

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Lakew Messele 2-Oct Farmers in Fogera woreda - Abua Kokit kebele Libokemkem woreda (contact through Tewabe)

Woreda Administrative Office Head

2-Oct

Mengistu Amsalu Chief Woreda Administrator Alemayehu Gebremedhin Addis Tefera Deputy Woreda Administrator Head, Woreda Agriculture and Rural Development Office Kebele Administrator

2-Oct

Farmers in Libokemkem woreda Bura kebele Gida Ayana Woreda

Tarekegne Adugna

Meetings in Anger Project Area 3-Oct Mengistu Alemayehu Mogess Asfaw Chief Woreda Administrator Head, Woreda Agriculture and Rural Development Office Woreda Administrative Office Head Administrator Store Manager OIDA Head Head Investment Promotion Expert Head, East Wellega Rural and Agriculture Development Office Head, Woreda Agriculture and Rural Development Office Deputy Head, Woreda Agriculture and Rural Development Office

Lakew Messele 3-Oct ODA Plc (commercial farm) Oromia Irrigation Development Agency East Wellega Investment Office Fikad Bekele Kebede Afta 4-Oct 4-Oct Gemet Temessen Kebede Geleta Alem Muleta 4-Oct Agriculture Bureau Jigi Kitesa

4-Oct

Sibu Sire woreda

Chimdesa Kusa

Abdu Ibsa

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Appendix B: Project Brief Presented to Potential Private Partners


This appendix contains the brief of the three irrigation schemes presented to the potential private partners as a basis for our discussion on their perception of the projects, associated risks, and PPP models. This brief was shared with the National Project Coordinator, of the Ethiopian-Nile Irrigation and Drainage Project before being sent to the potential private partners.

Irrigation Opportunity in Ethiopia

23

The Government of Ethiopia (the Government) is committed to developing three irrigation schemes in the countrys Nile Basin through public-private partnerships (PPPs). The irrigation schemes cover a total of 37,000 hectares. These PPPs are an opportunity for a private company (the private partner) to be involved in a range of activities related to the development and operation of the irrigation schemes, including: operation and maintenance, design and construction, financing, and possibly related services such as commercial farming and marketing. Business Climate The Government of Ethiopia is committed to supporting a business environment that facilitates economic growth led by the private sector. According to the World Banks 2007 Doing Business rankings, Ethiopia has the second-most favorable business climate in East Africa, behind Kenya. Ethiopia has shown substantial improvements in tax administration, transportation costs, control of corruption, access to finance, and access to land since 2002. Economic growth has been strong since 2003, and the Economist Intelligence Unit projects GDP growth of 8 percent in 2008 and 2009. Some commercial farmers have already committed capital to develop large-scale irrigation schemes on the land that they farm. The Government wants to attract more private companies to the agriculture services sector, and it wants to improve the provision of infrastructure throughout the country. The commercialization of agriculture and the promotion of non-farm private sector growth is one of the main elements of the Governments Plan for Accelerated and Sustained Development to End Poverty (PASDEP). Infrastructure is another main element of the PASDEP. Government Commitment to Expanding Irrigation Developing large-scale irrigation systems is a high priority for the Government. Irrigation responds to the Governments goals of improving infrastructure and supporting growth in the agriculture sector. Agriculture contributes half of GDP, 90

23

This note was developed by Castalia. It is subject to amendment by the Government of Ethiopia and is intended for informational purposes only.

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percent of exports, and 80 percent of total employment in Ethiopia. A lack of sufficient and effective irrigation is a constraint to economic growth. The Government plans to support the development of irrigation for over 260,000 hectares in the Nile Basin by 2016. This means doubling the amount of land under irrigation there in less than 15 years. The Government expects the amount of land under irrigation to increase by 4.5 percent annually in the short term, and 6.5 percent annually in the long term. PASDEP and the Governments strategy for meeting the Millennium Development Goals identify irrigation as a key intervention. Donors such as the World Bank support the Governments plans to expand irrigation. The World Bank has given the Government of Ethiopia a US$100 million loan (Ethiopian Nile Irrigation and Drainage Project, or EIDP) to develop 20,000 hectares of ground and surface water irrigation and conduct feasibility and design studies for an additional 60,000 hectares, all in the Nile Basin. The Irrigation Schemes The Government and the World Bank are fully committed to developing three irrigation schemesMegech, Ribb, and Angerincluded in the EIDP as PPPs. They cover the 20,000 hectares that will be developed by the EIDP plus another 17,200 hectares for which the EIDP will finance feasibility and design studies. The Megech and Ribb schemes are in the Amhara region, the vicinity of Lake Tana in northern Ethiopia. They will serve smallholder farmers. The Anger scheme is in the Oromia region, in western Ethiopia. It will serve a combination of commercial and smallholder farmers.

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Figure B.1: Location and Characteristics of Irrigation Schemes

Megech Pump 5,254 hectares 4,000 farm households (approx.) Average landholding: 0.75 ha

Ribb 14,460 hectares 11,000 farm households (approx.) Average landholding: 0.75 ha

Anger 17,200 hectares 15,000 farm households (approx.) Average landholding: 2 ha Land available for commercial farming

Ethiopias irrigation potential has been estimated at up to 3.7 million hectares, of which up to 2.2 million hectares are located in the Nile Basin. Given the Governments plans to increase the amount of land under irrigation and promote private sector participation in irrigation and other agricultural activities, the three PPP projects under preparation are an opportunity to become involved in a sector where there is significant potential for growth. Economics of the PPP Schemes An important consideration in the three irrigation schemes is that the smallholder farmers in the project areas do not have the capacity to pay the full cost of service. In order to make the irrigation schemes attractive to private investors and operators seeking a return on their capital, the Government is committed to financing up to 100 percent of the capital costs of the projects. The EIDP will finance capital costs for the Megech and Ribb projects. The Government is committed to securing financing for the capital costs of the portion of the Anger project that will serve smallholder farmers. The Government is also open to considering a range of options to mitigate demand and payment risk. For example, the Government could pay the private partner directly to mitigate the risk of non-payment by farmers. This payment could be based on expected demand or another measure to mitigate the risk that actual demand is lower than expected.
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Costs of the Schemes Prefeasibility studies for Megech and Ribb have determined the approximate capital and operating and maintenance costs for these schemes. Table B.1: Costs for Megech and Ribb
Capital Costs (canals) Megech Ribb 15.9 44.9 Capital Costs (dam) 0* 76.9 O&M Costs (per year) 0.4 1.0

In millions of 1998 dollars

* The Megech scheme will use water pumped from Lake Tana. Source: Abbay River Basin Master Plan Prefeasibility Studies Megech, produced by BCEOM, 1999 and Abbay River Basin Master Plan Prefeasibility Studies Ribb, produced by BCEOM, 1999.

Range of Areas for Private Sector Involvement The Government is considering a range of options for involving the private sector in the development and operation of the Megech, Ribb, and Anger irrigation schemes. The options range from an operation and maintenance contract in which the private partner is paid directly by the Government and thus is insulated from demand risk and payment risk, to a full concession-type agreement in which the private partner has capital at risk and bears both demand and payment risk. Table B.2 presents the range of PPP options under consideration. Table B.2: Range of PPP Options
Option 1 2 3 4 5 6 Illustrative Contract Type Operation and Maintenance Design-Build + O&M Design-Build + O&M Capital Costs Public Public Public Private (Contract 1) Private (Contract 1) Private Private Design and Construction Operation and Maintenance Private Private (Contract 2) Private (Contract 2) Demand Risk Public Public Public Public Private Private Payment Risk

Lease-Affermage Public Lease-Affermage Public Concession Private

Given that farmers will not be able to pay the full cost of service, the Government is prepared to provide support to the schemes in order to make them financially viable.
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In the case of the concession model, for example, this could mean an upfront subsidy to cover capital costs. There are also opportunities for the private partner to engage upstream and downstream in the agriculture value chain. The private partner may develop commercial agriculture on the land served by the irrigation projects. This is a likely possibility in Anger, where there are large tracts of unoccupied land in the project area. The private partner may also engage farmers served by the irrigation projects as outgrowers. The private partner may also provide marketing services and infrastructure (such as cold chain and processing facilities) to farmers served by the irrigation projects. These activities would diversify the private partners sources of revenue. They would also help to strengthen vital links in the agricultural value chain, which would help to increase farmers incomes and indirectly reduce the risk of non-payment by farmers. Land Ownership Under Ethiopias Constitution, all land belongs to the Government. Land may be leased to a private company under a lease of up to 70 years. When developing the irrigation PPPs, the Government will ensure that the private partner has adequate authorization to use the land on which the irrigation infrastructure is built. If the PPPs give the private partner the right to develop commercial agriculture, the Government will also ensure that the private partner has adequate and secure authorization to use for the farmland it uses. The most feasible form of authorization would be a long-term lease. A number of private investors have successfully developed large-scale commercial agriculture ventures under long-term leases. For example, an Italian company has developed a 60,000 hectare palm oil plantation, including three processing plants, with a US$3 billion investment in the southwest of the country. Status and Timing Prefeasibility studies were completed for Megech and Ribb in 1999. A general study has been carried out for Anger that identifies the approximate cost of the dam that will be used based on three possible dam capacities. Feasibility studies for the three schemes began in October 2007, and detailed design studies will be carried out when the feasibility studies are completed. Castalia is currently developing PPP models for each of the three schemes. The recommended PPP models will be presented to key stakeholders in February 2008. The transaction structure will be developed in detail during 2008. Feedback from Potential Private Partners In order to recommend PPP models for each scheme, we want to gauge the degree of interest that potential private partners have in the various components of this project. We also need to identify the key issues that must be resolved in order to make the PPP

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transactions and the projects successful from the perspective of the potential private partners. We would like to know your views on the following: What degree of interest would you have in doing business in Ethiopia, and why? What degree of interest would you have in participating in the development of the three irrigation schemes, and why? What is your core business, and in which region(s) of the world do you have operations? Which PPP option would be the most attractive to you? Why? Would you be interested in developing commercial agriculture in conjunction with the irrigation scheme? If you would not develop it directly, would you be interested in forming a consortium with a company that would? Would you be interested in contracting smallholder farmers that use the irrigation as outgrowers? Would you be interested in providing marketing services and infrastructure in conjunction with the irrigation scheme? If you would not provide these directly, would you be interested in forming a consortium with a company that who would? Do you have any concerns regarding the irrigation opportunities as presented here?

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Appendix C: Profiles of Potential Private Investors


This appendix presents brief profiles of the potential private investors whose feedback we obtained on the range of possible PPP structures. Cadman Power (Canada) Cadman Power Equipment Ltd., founded in 1952 is a recognized leader in the field of irrigation and nutrient management equipment and design. Located strategically in the Southern Ontario town of Courtland, Cadman has easy access to the North American market via the Highway 401 corridor and the U.S. border points of Buffalo, New York and Detroit, Michigan. Experienced and caring employees backed by a committed management team ensure that Cadman Power Equipment products surpass todays quality and reliability standards. Attention to market needs and user friendly operation make the Cadman Hard Hose Irrigation Travellers and M-Series Drag Hose Reels, winners in todays demanding market place. Utilization of the latest in technology merged with simplified design features and ease of operation makes Cadman a leader in its field. Our product range includes complete and tailored system design, as well as equipments such as irrigation travelers, booms, pumps, power units, pipes, valves, and more. Ethio Agri-CEFT (Ethiopia) Ethio Agri-CEFT PLC, established in September 1997, is one of MIDROC Group Companies engaged in agro-industry. Its products include highland grown coffee and tea, spices and food crops, flowers, herbal medicinal plants, and biopesticides. The companys mission is to establish and operate large and medium size, economically viable and sustainable farms for production, processing and marketing of agricultural products. It focuses on producing coffee, tea and other cash crops, and processing and marketing these crops locally and abroad. It also produces cereals, vegetables, and soybeans. Additional focuses are on establishing business relations with foreign companies, individuals and state enterprises; participating in acquisition of shares; and establishing new companies. Ethio Agri-CEFT currently cultivates approximately 18,000 hectares in eight locations around Ethiopia. Hydrosult (Canada) Hydrosult is a Canadian-based consulting firm operating internationally since 1980. Hydrosult Inc. provides a broad range of planning, management and engineering services in all areas of the water sector. Our clients are national governments around the world, bilateral and multilateral development agencies, as well as private enterprise and institutions. Our highly experienced core specialists possess wide-ranging knowledge and bring hands-on-experience in the principle themes of water resource development and
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management to our projects. In addition to our in-house team, we pride ourselves on an impressive network of associates, strategic allies and partners. This has enabled us to widen the scope of our activities and services to better serve the requirements of our clients seen particularly in cases with highly diversified, multidisciplinary projects. Isrex (Israel) Over 35 years since its establishment in 1968, Isrex (94) Ltd. has acquired great experience in the export of leading security equipment, telecommunications, water management technology, computerized government systems and agriculture input. Isrexs staff also provides technical consulting, support and after-sales services, ensuring that items meet the customers needs and specifications. Isrex is an agricultural solution house that offers turnkey programs and systems based on the know-how and experience of some of the worlds leading institutes of agricultural research. Many of the breakthroughs in agricultural practice that Isrex markets around the world were originally achieved in Israel, a country with global reputation for its agricultural achievements. The hi-tech agricultural systems developed in Israel have been installed in tens of countries worldwide with outstanding success. Isrex specializes in research, design, provision, installation and operation of agricultural projects around the world. Isrex researchers, engineers, technicians and extension service field workers provide a comprehensive service including consultancy, research, design, provision, installation, project management, operation and marketing of complete agricultural projects and production know-how. Netafim (Israel) An Agri-Business pioneer and global leader, Netafim delivers innovative solutions that increase crop yields and preserve water resources. With over 40 years of global experience Netafim leverages cutting-edge, irrigation technologies, advanced Crop Management Technologies and extensive agronomic expertise providing customers with tailored solutions from initial feasibility studies to post harvesting. Netafim provides solutions for Biofuel energy projects, open-field crops, orchards and groves, greenhouse projects and more. Netafim's Agro Division supplies worldwide customers with agro-technical guidance, support and diverse solutions backed by global and local expertise. Netafim is active today in over 110 countries on 5 continents, employing over 2200 employees, has more than 30 subsidiaries and 14 manufacturing facilities in 11 countries NUTEKA (Spain) NUTEKA is an exporting consortium formed by a group of leading companies from the agricultural technology sector, joined up after the success shown in a number of projects carried out together worldwide. By means of joining our forces and know-

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how, we can offer the necessary agricultural technology competitively in order to maximize the crop performance, minimizing costs and resources. Therefore, at Nuteka, we provide our clients with the ultra modern means to wisely develop any agricultural land. A technically advanced study made by our specialists allows us to offer the necessary infrastructure to create ideal conditions for the crop, fully suited to each case and with performance optimized to a maximum. Therefore, NUTEKA is a specialist in Ready-to-work projects: a set of highlypersonalized integrated services which include a series of technical and specific factors that are ideal for each land surface. So we offer integral projects that meet our client's needs and preparation of land for agricultural use. Schaffer (United States) Schaffer Global Group is a U.S.-based, privately owned, professional services firm providing international and domestic project development, implementation and management services to the sugar, rice, aquaculture, agro-industrial, petrochemical, energy and infrastructure sectors. SNC-Lavalin (Canada) SNC-Lavalin is one of the worlds leading groups of engineering and construction companies, a key player in facilities and operations management, and in the ownership, operation and management of infrastructure Founded in 1911, SNC-Lavalin has been active internationally for nearly 40 years, establishing a multicultural network that spans every continent. The SNC-Lavalin companies have offices across Canada and in 34 other countries around the world and are currently working in some 100 countries.

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Appendix D: Willingness-to-Pay Methodology and Full Results


The Government of Ethiopia and the World Bank are implementing the Ethiopian Nile Irrigation and Drainage Project. This project seeks to increase incomes and reduce the effects of climate variability on agricultural productivity by financing irrigation development, and by strengthening the Governments strategy for irrigation and drainage. The development objective of the project is to increase irrigated area through investments that are cost effective, environmentally and socially sound, and beneficial to the rural poor. Research Objectives As part of the Ethiopian-Nile Irrigation and Drainage Project, Castalia has been engaged by the World Bank to: Prepare public-private partnership (PPP) transaction models to help the Government of Ethiopia to engage the private sector in irrigation infrastructure development in Ethiopia. This includes: Stakeholder identification and consultation Commercial and financial due diligence Legal due diligence Identification of PPP models Definition of the preferred PPP model and technical option. Prepare an Action Plan and relevant background documentation aimed at implementing the identified PPP models for the development of infrastructure irrigation in Ethiopia, and specifically for the Megech. This includes: Develop contract monitoring arrangements Prepare an action plan to implement the critical steps. As part of this project, Castalia has implemented a willingness-to-pay survey in the Megech, Ribb and Anger areas, with the following three objectives: To determine at what tariff levels large, medium, and small-scale farmers are willing to connect to the irrigation system, and what tariffs they are willing and able to pay for irrigation To determine the attractiveness of certain aspects of PPP options to the different categories of farmers To determine geographic patterns of willingness to connect and pay, as well as preferences.

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Appendix Structure This appendix is organized into five sections: Section 2: Methodology Section 3: Household Farmer Sample Description Section 4: Household Farmer Willingness to Connect to Irrigation Section 5: Household Farmer Partnerships with the Irrigation Operator Section 6: Commercial Farmer Results. Appendix E provides the household farmer questionnaire and Appendix F provides the commercial farmer questionnaire.

D.1 Methodology
This section provides a description of the methodology used in developing and implementing the survey. The section is provided in five parts: Timetable Sample frame Questionnaire development Sample size and identification Survey management. Timetable Initial survey design work commenced in September-October 2007 with Castalias visit, including Mr. Gulilat Abebe, to a selection of the project areas. Mr. Douglas Thompson and Mr. Gulilat Abebe provided a further field trip to all project areas accompanied by Mr. Israel Tesema between 01 and 10 November 2007. Training of the supervisors and interviewers was undertaken including in the field between 02 and 09 December 2007 in Megech and Ribb, and between 11 and 14 December in Anger. Formal field work was completed between 10 and 22 December 2007. Data input and cleaning was then provided by 06 January 2008. Sample Frame The sample frame includes household farmers and commercial farmers in the three project areas. As with the rest of Ethiopia, the project areas are split into woredas which are in turn made up of kebeles. A woreda is an administrative ward, or local government, equivalent to a district. Kebeles are neighborhood associations and are the smallest unit of local government in Ethiopia. There is no complete and accurate data on which kebeles definitely lie within the project areasespecially in the Anger project area. For Megech and Ribb, the information on kebeles and their population was provided by Mr. Hayalsew Yilma

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Wube24 and through meetings with the relevant woreda and kebele local representatives in the field. The information on kebeles and their population in Anger was provided through meetings with the relevant woreda and kebele local representatives in the field. The tables below shows the kebeles that were identified as fully or partially lying within the three project areas. Table D.1: Kebeles Identified as Lying Within Megech Project Area
Kebele 1. Dembia Woreda 1a) Dembia Woreda Fully Lying Within Project Area Deder Abanob Alwe Abbo Tana Debere Zuria Serba Serba Guraba Bate Guramba Michael We Daleko Arebia Kesgie Diba Saleja Woina Tera Jerjer Seraba Dablo 1b) Dembia Woreda Partially Lying Within Project Area Atakelet Teleft Fenka Barecha Jeneda Kobela Jangua Mariam Meskele Cheristos Chenker Cherkos Aberjeha Dahena 501 1,556 1,336 857 999 757 1,905 1,339 1,350 1,918 1,272 982 1,271 1,091 1,391 591 1,272 1,340 1,091 Household Population

24

From the Ministry of Water Resources and the National Project Coordinator for the World Bank Financed Ethiopian-Nile Irrigation and Drainage Project and Eastern Nile Irrigation and Drainage Project.

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Satankera Merewa Gubia

1,943

Table D.2: Kebeles Identified as Lying Within Ribb Project Area


Kebele 1. Libokemkem Woreda 1a) Libokemkem Woreda Fully or Over 50% Lying Within Project Area Gende Wuha Banbiko Shina Tsion Buranas egziabher ab Kab Giorgis Tibaga Tezamba Yfag Akababi 2. Fogera Wereda 2a) Fogera Woreda Fully or Over 50% Lying Within Project Area Abua Kokit Tina Dakena Shaga Mariam Shena Diba Sifatra Rib Gebriel Woreta Ketema (urban) Werota Zuria 1,957 1,437 1,254 1,662 1,437 1,297 4,051 1,128 869 1,000 817 1,153 1,475 784 835 734 Household Population

1b) Libokemkem Woreda Partially (Under 50%) Lying Within Project Area

2b) Fogera Woreda Partially (Under 50%) Lying Within Project Area

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Table D.3: Kebeles Identified as Lying Within Anger Project Area25


Kebele 1. Gida Ayana Woreda Gatira Doroba Andode Dicho Tulu Lencha Worebu Lelistu Anger 2. Abe Dongoro Woreda Village 24 Village 15 Village 21 Village 20 Cheru Galessa Garero 3. Guto Gida Woreda Anger Megersa Loko Metti Uke Gadisa Oda Haro Aleltu Jarso Tolera Kenaf 203 576 602 624 225 684 672 281 1,376 875 850 1,220 497 763 900 435 426 1,095 988 1,313 962 Household Population

25

Note there is no split available in Anger for kebeles that fully or partially lie within the project area.

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Questionnaire Development A draft questionnaire was developed and tested in the field in 01 10 November 2007. A number of issues with the draft questionnaire were raised during this initial field testing, including those in Table 2.4. Table D.4: Selection of Issues Raised with Draft Questionnaire
Issue Raised 1 Some farmers use the measure of oxendays to quantify the size of their land, rather than hectares. Solution in Updated Questionnaire The interviewer can allow the respondent to answer using oxen-days, and then update the answer into hectares, using the agreed oxen-day to hectares ratio for each project area. The question on ownership allows the answer of the farmer having land ownership/full use right. The individual categories of income and expenditure used to calculate the total household income and expenditure were updated to include all relevant ones. The questionnaire was updated so that farmers which stated they were only willing to pay less for connecting to the proposed irrigation system than they currently pay, so that these farmers were asked why this was the case and provided with an opportunity to update their answer. After discussion, it was decided to include a question on leasing land to the irrigation operator. The question was phrased to emphasize that the farmer had the opportunity to lease the land to the private irrigation system operator if they found it beneficial.

Farmers do not officially own the land. Instead, they tend to have been awarded full use rights for the land. The individual categories of income and expenditure used to calculate the total household income and expenditure do not cover all aspects of household activity. Some of the farmers which used irrigation sometimes stated that they would be willing to pay less for the proposed irrigation services than that they currently do for their irrigation.

Some of the farmers were understood to be worried about questions on the possibility of leasing land to the irrigation operator, as it may be thought this could give the impression that their land could be taken by the Government.

Further field testing was completed during the interviewer and supervisor training. This led to no significant content changes, although a number of local language updates were made. Sample Size and Identification The target sample size was 190 in each of the project areasresulting in a total target sample size of 570. The objective was, given logistical and financial restrictions, to maximize the geographical area and in particular the number of Kebelesincluded in the sample whilst ensuring a minimum of sample of 30 respondents in each Kebele.

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Such a minimum sample of 30 is often used as the minimum size at which the central limit theorem can be applied. The central limit theorem states that as the sample size increases, the distribution of the sample average approaches the normal distribution with a mean and variance, irrespective of the shape of the original distribution. The total actual number of interviews completed was 615. This includes 201 in Megech, 205 in Ribb and 209 in Anger. These interviews were provided in six kebeles in Megech, six kebeles in Ribb and seven kebeles in Angermaking a total of 19 kebeles. A minimum of 30 interviews were completed in each of these 19 kebeles (with the exception of one kebeleGalessain Anger). These 19 kebeles were randomly chosen from the list of kebeles for which at least half of their land area lies within the identified project area, as detailed in Table D.1, Table D.2, and Table D.30 above. The sampled kebeles were as follows:
Megech: Woina Tera Guraba Bate Guranba Michael Jerjer Seraba Dablo Debir Zuria Ribb: Shina Tsion Banbiko Genda Wuha Abua Kokit Diba Sifatra Shaga Mariam Anger: Lelistu Anger Worebu Tulu Lencha Village 15 Village 21 Galessa Uke

Within each sampled kebele, the individual respondents were identified by first preparing a list of households in the kebele from information provided by kebele officials. The total number of households in the kebele was then divided by that sample size to be used in the kebele (e.g. 30), to obtain the number X. A random number (Y) between 1 and X was then calculated. The sample was then identified as the household at position Y on the list of households and every Xth household this one. Survey Management Research work is managed most efficiently in conjunction with local partners. The survey was completed in conjunction with the local social research company Sustainable Development Consulting Associates (SuDCA). This company worked with Castalia on survey design and field testing. It also implemented the survey and provided data entry. Interviewer selection and training: The field manager was Mr. Gulilat Abebe an experienced engineer and social researcher. He led a team of three

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supervisors and the interviewers. The supervisors were experienced researchers based in Addis Ababa and the interviewers were all recruited locally with the assistance of the relevant local authorities. In addition to the field manager, all interviewers and supervisors took part in field tests during training. Data entry and cleaning: The data entry was performed by experienced operatives by SuDCA using CSPro (Census and Statistical Program). All questionnaires were double-entered to ensure consistency and accuracy.

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D.2 Smallholder Farmer Sample Description


This section provides a description of the characteristics of the farmers interviewed. The section is provided in two parts: Characteristics of smallholder farmers Importance of farm-based issues. Characteristics of Smallholder Farmers This section describes the smallholder farmers income, amount of land cultivated, crops cultivated and use of irrigation in each project area. Household Income In each of the project areasMegech, Ribb, and Angermost smallholder farmers incomes ranged between 1,000 and 6,000 ETB per year. On average, incomes were highest in Megech, followed by Anger. The average annual incomes in each of the project areas were as follows26: Megech: 4,750 ETB Ribb: 3,360 ETB Anger: 4,240 ETB. As illustrated in the following three figures, farmers incomes fell within a relatively wide range.

26

For the assessment of household farmer income, the highest and lowest 5% of responses from each of the project areas have been eliminated. This was done to limit the impact of outliers on the assessment.

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Figure D.1: Smallholder Farmer Income - Megech


20% 18% P e r 16% c e 14% n t a 12% g e 10% o f S a m p l e 8% 6.7% 6% 4% 2% 0% 0 - 1,000 1,000 2,000 2,000 3,000 3,000 4,000 4,000 5,000 5,000 6,000 6,000 7,000 7,000 8,000 8,000 9,000 9,000 10,000 Above 10,000 3.7% 3.0% 2.4% 2.4% 17.7% 16.5% 15.2% 19.5%

12.8%

9.8%

Annual Amount (ETB)

Figure D.2: Smallholder Farmer Income - Ribb


25% 24.5%

P e r 20% c e n t a 15% g e o f 10% S a m p l e

20.1%

16.8% 14.7% 14.7%

5% 3.3% 1.6% 0% 0 - 1,000 1,000 2,000 2,000 3,000 3,000 4,000 4,000 5,000 5,000 6,000 6,000 7,000 7,000 8,000 8,000 9,000 2.7% 1.6% 0.0% 9,000 10,000 0.0% Above 10,000

Annual Amount (ETB)

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Figure D.3: Smallholder Farmer Income Anger


20% 18.6% 18% P e r 16% c e 14% n t a 12% g e 10% o f S a m p l e 8% 6% 4.8% 4% 2% 0% 0.0% 0 - 1,000 1,000 2,000 2,000 3,000 3,000 4,000 4,000 5,000 5,000 6,000 6,000 7,000 7,000 8,000 8,000 9,000 9,000 10,000 Above 10,000 1.6% 3.2% 5.9% 17.0% 18.6% 17.6%

11.7%

1.1%

Annual Amount (ETB)

Cultivated Land Area Worked and Certification The average smallholder farmers cultivated land area worked was lowest in Ribb (1.2 hectares). The average smallholder farmers cultivated land area worked in Anger was 1.7 hectares, and 2.0 hectares in Megech.27 The distribution of cultivated land area worked is provided in more detail in the following figure.

27

For the assessment of land area worked, the highest and lowest 5% of responses from each of the project areas have been eliminated. This was done to limit the impact of outliers on the assessment.

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Figure D.4: Land Area Worked


55% 50% 45% 40% 35% 30% 25% 20% S a 15% m p 10% l e 5% 0% 0 - 1.0 1.0 - 2.0 2.0 - 3.0 Amount (Hectares)
Megech Ribb Anger

49.5% 46.3% 43.4%

50.0%

P e r c e n t a g e o f

33.5% 29.2%

15.9%

16.1%

7.1% 4.2% 0.0% 3.0 - 4.0 4.2% 0.0% 0.0% 0.5% 4.0 - 5.0

In Anger, virtually all (96%) of respondents had been certified to have full right of use over all the land they worked. The situation was somewhat different in Megech and Ribb: In Megech, although all respondents had full right of use over some/all of the land they worked, over 60% also rented some of the land they work In Ribb, 97% of respondents had full right of use over some/all of the land they worked, with 26% also renting some of the land they work. Crops Cultivated There was a wide variety of crops cultivated in all three project areas, although a few crops were cultivated by the majority of farmers in each project area. Megech: Over 70% of farmers cultivate chick peas, teff, finger millet and/or sorghum Ribb: Over 70% of farmers cultivate rice, chick peas and/or vetch Anger: Over 90% of farmers cultivate maize and/or sorghum. Figures Figure D.5, Figure D.6, and Figure D.8 provide more details on the crops cultivated by at least 10% of farmers in each project area. Unless specified, the crops are produced using rain-fed methods. For Ribb (Figure D.6), some crops were cultivated under irrigationthese are indicated in Figure D.6. Additionally, Figure D.7 shows the distribution of crops cultivated by only the farmers that use irrigation.

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Figure D.5: Crops Cultivated Megech


90% 89.1% 82.1% P 80% e r c 70% e n 60% t a g 50% e o 40% f S a m 20% p l e 10% 30% 18.9% 73.6%

71.6%

52.2%

51.2%

50.7%

34.3%

32.8%

16.4% 13.4% 10.4%

0%

Figure D.6: Crops Cultivated Ribb


80% P e 70% r c e 60% n t a 50% g e 40% o f 30% S a 20% m p l 10% e 0% 76.6% 71.7% 71.7%

46.8%

44.4%

32.2%

31.2% 27.3% 22.9% 18.5% 18.0% 15.6% 11.2% 11.2%

Details of the crops produced under irrigation by farmers that stated that they use irrigation in Ribb are provided in Figure D.7. Thus, for instance, 42% of farmers that stated that they use irrigation in Ribb produced onions under irrigation.
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Figure D.7: Crops Cultivated under Irrigation Ribb


45% 42.0% 40% P e r 35% c e n 30% t a g 25% e o 20% f S a m 10% p l e 5% 15%

26.1%

26.1%

15.9% 12.5% 10.2% 8.0% 8.0%

0%

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Figure D.8: Crops Cultivated Anger


100% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 52.2% 50% 40% 30% 20% 10.5% 10% 0% 26.3% 47.8% 47.4% 45.0% 98.1% 93.8%

25.8%

25.8%

Use of Irrigation Only a small proportion of farmers in Anger (8%) and Megech (11%) stated that they currently use irrigation on all or some of their land. In Ribb, however, 43% of farmers stated that they use irrigation. More details of the use of irrigation in Ribb are illustrated in the following figure.

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Figure D.9: Irrigation of Land - Ribb


60% 57.1%

P e 50% r c e n 40% t a g e 30% o f S 20% a m p l 10% e 22.4%

10.7% 5.4% 2.0% 2.4%

0% None Irrigated Up to 0.25 0.25 - 0.5 0.5 - 0.75 0.75 - 1.0 Over 1 Land Irrigated (Hectares - Ribb)

As seen in the figure, approximately 57% of the respondents in Ribb did not irrigate their land. A total of 22% of farmers in Ribb stated that they irrigate up to (and including) 0.25 hectares, 11% stated that they irrigate between 0.25 0.5 hectares, and 5% stated they irrigate 0.5 0.75 hectares. The remaining 4% stated that they irrigate more than 0.75 hectares. The source of irrigation for these farmers in Ribb was mainly pumped from river (approximately half of farmers that irrigate) and diversion from river (nearly 4 in 10 of farmers that irrigate). Approximately half of farmers in Ribb that use irrigation on average report an annual cost associated with these irrigation services. The average of this cost for these farmers was 670 ETB per year. Most of the costs relate to hire of pumps and fuel for pumps. This amount equates to a cost of 1,970 ETB per hectare per year. There was a relatively large distribution in these cost amounts as shown in the following figure.

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Figure D.10: Annual Irrigation Cost per Hectare Irrigated - Ribb


60% 52.3%

P e 50% r c e n 40% t a g e 30% o f S 20% a m p l 10% e

18.2% 15.9%

3.4% 0% No Annual Expense 0 - 1,000 1,000 - 2,000 2,000 - 3,000

3.4%

3.4%

3.4%

3,000 - 4,000

4,000 - 5,000

Above 5,000

Annual Amount per Hectare (ETB - Ribb)

Virtually none of the respondents in any of the project areas were members of a water user association or irrigation cooperative. However, over half (56%) of respondents in Anger were members of some type of groupalmost all of producers service cooperatives. The vast majority of these respondents in Anger stated that their experiences had been positive. Farm-based Problems All the respondents were asked about their main farm-based problems. The respondents were asked whether they perceived a series of issues to be a major problem, a problem or not a problem. These issues were as follows: Access to credit Access to farm inputs Access to storage facilities, including cold storage Access to training Access to vehicles for transporting your products Land tenure Pests and livestock diseases Physical access to markets - e.g. roads Prices obtained for your products are low Prices obtained for your products are volatile

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Sufficient irrigation The trader/intermediary takes a large cut of the revenue. In all three project areas, sufficient irrigation and pests and livestock diseases were regarded as the most important problems. In all three project areas land tenure was regarded as the least important problem to farmers. The following three figures illustrate the importance of the problems in each of the project areas. In each figure, the individual problems have been sorted by the proportion of farmers that responded the problem was very important. Figure D.11: Farm-based Problems Megech
100%
P e r c e n t a g e o f S a m p l e

90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

Major Problem

Problem

Not a Problem

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Figure D.12: Farm-based Problems Ribb


P e r c e n t a g e o f S a m p l e

100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

Major Problem

Problem

Not a Problem

Figure D.13: Farm-based Problems Anger


100%
P e r c e n t a g e o f S a m p l e

90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

Major Problem

Problem

Not a Problem

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It is informative to classify the individual problems into the following three categories: Market Issues: Access to vehicles for transporting your products Physical access to markets - e.g. roads Prices obtained for your products are low Prices obtained for your products are volatile The trader/intermediary takes a large cut of the revenue. Finance/Legal Issues: Access to credit Land tenure. Production Issues: Access to farm inputs Access to storage facilities, including cold storage Access to training Pests and livestock diseases. Figure D.14 illustrates the average proportion of farmers in each project area that assessed the issue as very important in each of the categories. The figure shows that: In Megech, 76% of respondents stated that market issues were very important, 58% of respondents stated that finance/legal issues were very important and 86% of respondents stated that production issues were very important In Ribb, 64% of respondents stated that market issues were very important, 24% of respondents stated that finance/legal issues were very important and 66% of respondents stated that production issues were very important In Anger, 57% of respondents stated that market issues were very important, 59% of respondents stated that finance/legal issues were very important and 75% of respondents stated that production issues were very important.

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Figure D.14: Farm-based Problems Market, Financial/Legal and Production Issues


90% 86.4%

P e r c e n t a g e

80%

75.9%

74.7% 66.3% 57.4% 58.7%

70% 64.1% 60% 58.2%

50%

o 40% f 30% S a m 20% p l e 10%

23.7%

0% Megech Ribb Project Area Market Issues Finance/Legal Issues Production Issues Anger

Overall, the analysis illustrates that production issues were regarded as the most important in all three project areas. Market issues were regarded as more important than finance/legal issues in Megech and, in particular, Ribb. In Anger, market and finance/legal issues were regarded as broadly equally important.

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D.3 Smallholder Farmer Willingness to Connect to Irrigation


This section provides an assessment of the willingness to connect to the proposed irrigation system of the farmers interviewed. The section is provided in two parts: Description of irrigation scenario Willingness to connect results. Description of Irrigation Scenario Each of the farmers interviewed was provided with the following scenario: There has been a proposal that the Government of Ethiopia and World Bank provide investments to increase the irrigated area in this Kebele. The resulting irrigation system would provide sufficient water for you to irrigate your land at whatever time you wish. The Government is considering the idea of having a private firm operate the irrigation system. If you wish to use the proposed irrigation systems, then you would be expected to pay a fee to use the irrigation system. A study on the market benefits of irrigation has been conducted in your region. It has concluded that the following crops can be successfully produced under irrigation in your Kebele including tomatoes, onions, cabbage. I would like to ask you how much you think you would be willing to pay on an annual basis to the operator of the irrigation system. If you tell me a lower amount than you would really be willing to pay you could get a worse service than you actually want. On the other hand, if you tell me a higher amount than you could really afford you could get a system that is too expensive to operate and maintain. Such a system would fail because people could not pay for it. So, please answer these questions as carefully as you can. As you know, there are many other things apart from irrigation that you need to spend money on. The respondents were then asked the following questions: Would you be interested in using the irrigation system? (and if not, why not)? There would likely be an annual charge for use of the irrigation system. Would you be willing to pay an annual charge? What amount are you willing to pay per hectare per year for use of the irrigation system? In addition, there may be a one-off charge to register with the irrigation system. Would you be willing to pay such a one-off registration charge? (and if not, why not)? What is the most that you would be willing to pay as one-off registration charge to connect to the irrigation system?

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Willingness to Connect Results This section presents the degree of farmers willingness to connect to the irrigation systems in all three project areas. General Willingness to Connect Over 95% of respondents in all three project areas expressed an interest in being connected to the irrigation system. The results in each of the project areas were as follows: Megech: 96% interested in connecting Ribb: 98% interested in connecting Anger: 99% interested in connecting. Of those respondents in Megech that stated they were not interested, around half stated the reason was that they did not have land suitable for irrigation and half stated they did not have the capacity to use irrigation. Of those which expressed an interest in connecting, virtually all agreed that they would pay an annual charge to be connected. The results for each project areas were as follows: Megech: Of those 96% interested in connecting, 97% were willing to pay an annual charge (thus, in total, 93% of the sample were willing to pay an annual charge to be connected) Ribb: Of those 98% interested in connecting, all were willing to pay an annual charge (thus, in total, 98% of the sample were willing to pay an annual charge to be connected) Anger: Of those 99% interested in connecting, 98% were willing to pay an annual charge (thus, in total, 96% of the sample were willing to pay an annual charge to be connected). This is clearly a very positive result with the vast majority of respondents both willing to be connected to the proposed irrigation system and willing to pay an annual charge for its use. Annual Amount Willing to Pay Each respondent that expressed a willingness to pay an annual charge was then asked what annual maximum amount they would be willing to pay per hectare of irrigated land. For ease of analysis, the respondents were provided with a range of valuesETB 100, ETB 200, ETB 300, ETB 400, ETB 500, ETB 600, ETB 700, ETB 800, or more ETB. In the case that the respondent answered ETB 800 or more, then they were asked for the exact amount. The average amount per hectare in each project area that the farmers stated they were willing to pay were as follows: Megech: ETB 310 per hectare per year
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Ribb: ETB 294 per hectare per year Anger: ETB 216 per hectare per year. The following three figures illustrate the cumulative proportion of respondents that stated they were willing to pay between ETB 100 and ETB 800 and over per year. Thus, for instance, in Megech, 93% of respondents stated they were willing to pay at least ETB 100 or more per year.

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Figure D.15: Annual Amount Willing to Pay per Hectare Megech


100% C u m u l a t i v e S a P m e p r l c e e n t a g e o f 93% 90% 80% 70% 60% 50% 40% 30% 20% 14% 11% 10% 0% 100 200 300 400 500 600 700 800 and Over Annual Amount per Hectare (ETB) 8%

56%

36% 29% 22%

Figure D.16: Annual Amount Willing to Pay per Hectare Ribb


100% C u m u l a t i v e S a P m e p r l c e e n t a g e o f 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 100 200 300 400 500 600 700 800 and Over Annual Amount per Hectare (ETB) 38% 30% 98%

66%

20% 11%

9% 3%

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Figure D.17: Annual Amount Willing to Pay per Hectare Anger


100% C u m u l a t i v e S a P m e p r l c e e n t a g e o f 90% 80% 70% 60% 51% 50% 40% 30% 20% 10% 0% 100 200 300 400 500 600 700 800 and Over Annual Amount per Hectare (ETB) 30% 96%

15% 8% 3% 2% 1%

It can be seen from the figures that over 50% of respondents in each project area were willing to pay at least ETB 200 per hectare per year (with 66% willing to pay at least this amount in Ribb). However, only around one-third (between 30-38%) of respondents in each project area were willing to pay at least ETB 300 per year. It is thus clear that while interest in the irrigation system and willingness in principle to pay an annual charge was very high, the amount that many of the farmers were willing to pay annually was relatively low. It should be noted that there were a number of farmers that stated they were willing to pay more. For example, in total 22% or respondents in Megech and 20% of respondents in Ribb were willing to pay ETB 500 or more per hectare per year. This figure was, however, lower in Anger at under 8%. Of those respondents that answered they would be willing to pay ETB 800 or more per hectare, the average amount they were willing to pay were as follows: Megech: ETB 1,080 per year Ribb: ETB 1,160 per year Anger: ETB 950 per year. Comparison of Annual Charge with Current Irrigation Payments For those respondents that already use and pay for irrigation services, a comparison was made between the annual amount that they currently pay and the annual amount they stated they were willing to pay for the proposed irrigation services.

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A total of 17% of respondents in Ribb provided a lower annual figure for the proposed services than they currently pay for irrigation. These 17% of respondents in Ribb were asked why this was the case. Their responses were as follows: We will adjust after seeing the benefits: 33% (of those that provided a lower annual figure for the proposed services than they currently pay for irrigation) I was renting a pump from the Government: 24% Government should pay as I cannot: 21% Since the system will not use a pump and fuel, the amount stated should be sufficient: 18% Desire to check the real payment before committing to an amount: 3%. In these cases, the respondents were also asked whether they would like to update the amount they were willing to pay for the proposed irrigation services. In approximately half of these cases, the respondents increased the amount they were willing to pay for the proposed irrigation services. Regional Analysis As noted in section D.2, interviews were provided in six kebeles in both Megech and Ribb, and seven kebeles in Anger. Below, the kebele-specific results of these interviews are provided. For clarity, the following data are reported for each kebele: % Not willing to pay: Percentage of sample not willing to pay an annual charge to connect Average annual amount: Average amount willing to pay per hectare per year (of those that are willing to pay an annual charge in principle) % Willing to pay ETB 200/hectare/year: Percentage of sample that are willing to pay an annual charge in principle that are willing to pay at least ETB 200 per hectare per year % Willing to pay ETB 400/hectare/year: Percentage of sample that are willing to pay an annual charge in principle that are willing to pay at least 400 ETB per hectare per year. % Willing to pay ETB 600/hectare/year: Percentage of sample that are willing to pay an annual charge in principle that are willing to pay at least ETB 600 per hectare per year. % Willing to pay ETB 800/hectare/year: Percentage of sample that are willing to pay an annual charge in principle that are willing to pay at least ETB 800 per hectare per year.

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The results are provided in the following tables. Overall there are few substantial differences between the individual results in the Kebeles and the total results from the project area in which they lie. Table D.5: Kebele-specific Data - Megech
Woina Tera % Not willing to pay Average annual amount % Willing to pay 200 ETB / hectare / year % Willing to pay 400 ETB / hectare / year % Willing to pay 600 ETB / hectare / year % Willing to pay 800 ETB / hectare / year 6% 371 65% Guraba Bate 3% 275 53% Guranba Michael 9% 317 59% Jerjer 3% 294 61% Seraba Dablo 15% 232 54% Debir Zuria 6% 324 67%

48%

28%

21%

27%

21%

36%

16%

16%

14%

12%

7%

21%

10%

3%

10%

9%

4%

15%

Table D.6: Kebele-specific Data - Ribb


Abua Kokit % Not willing to pay Average annual amount % Willing to pay 200 ETB / hectare / year % Willing to pay 400 ETB / hectare / year % Willing to pay 600 ETB / hectare / year % Willing to pay 800 ETB / hectare / year 3% 400 71% Diba Sifatra 3% 306 66% Shaga Mariam 0% 303 79% Shina Tsion 3% 275 63% Banbiko 3% 241 65% Genda Wuha 3% 238 62%

41%

38%

35%

28%

15%

26%

21%

19%

12%

6%

9%

3%

9%

3%

0%

3%

6%

0%

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Table D.7: Kebele-specific Data - Anger


Lelistu Anger % Not willing to pay Average annual amount % Willing to pay 200 ETB / hectare / year % Willing to pay 400 ETB / hectare / year % Willing to pay 600 ETB / hectare / year % Willing to pay 800 ETB / hectare / year 10% 296 81% Worebu 6% 231 53% Tulu Lencha 0% 200 50% Village 15 3% 224 53% Village 21 0% 226 62% Galessa 9% 150 30% Uke 4% 137 30%

41%

16%

6%

18%

15%

10%

0%

0%

9%

3%

3%

3%

0%

0%

0%

3%

3%

0%

0%

0%

0%

Registration Charge Each respondent that expressed an interest in being connected to the irrigation system, irrespective of whether they were willing to pay an annual charge, were asked whether they would be willing to pay a one-off registration charge for the irrigation services. Almost all of these respondents stated they were willing to pay such a registration charge: Megech: 97% were willing to pay a registration charge Ribb: 99% were willing to pay a registration charge Anger: 98% were willing to pay a registration charge. However, the amount that these positive respondents were willing to pay was relatively low. On average, respondents that were willing to pay a registration charge in Megech were willing to pay ETB 34, and those in Ribb were willing to pay an average of ETB 22. Those in Anger were willing to pay an average of ETB 26. When calculated per hectare of cultivate land worked, these results are as follows: Megech: ETB 18 (per hectare of cultivated land) Ribb: ETB 20 (per hectare of cultivated land) Anger: ETB 18 (per hectare of cultivated land). The distribution of the amounts is illustrated in the following three figures.

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Figure D.18: Amount Willing to Pay for Registration Megech


50% 45% P e r 40% c e 35% n t a 30% g e 25% o f 20% S a 15% m p 10% l e 5% 0% 0 - 10 10 - 20 20 - 30 30 - 40 40 - 50 50 - 60 Over 60 Amount (Per Hectare - ETB) 48.8%

26.5%

10.0% 6.5% 2.9% 1.2% 4.1%

Figure D.19: Amount Willing to Pay for Registration Ribb


50% 45% P e r 40% c e 35% n t a 30% g e 25% o f 20% S a 15% m p 10% l e 5% 0% 0 - 10 10 - 20 20 - 30 30 - 40 40 - 50 50 - 60 Over 60 Amount (Per Hectare - ETB) 14.6% 44.3%

25.9%

6.5% 4.3% 2.2% 2.2%

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Figure D.20: Amount Willing to Pay for Registration Anger


50% 45% P e r 40% c e 35% n t a 30% g e 25% o f 20% S a 15% m p 10% l e 5% 0% 0 - 10 10 - 20 20 - 30 30 - 40 40 - 50 50 - 60 Over 60 Amount (Per Hectare - ETB) 44.6%

32.6%

8.2% 6.0% 4.3% 1.1% 3.3%

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D.4 Smallholder Farmer Partnerships with the Irrigation Operator


This section provides an assessment of the willingness of farmers to form a partnership with the irrigation service operator beyond that of using the irrigation services. The respondents were asked the following questions: In general, would you be interested in assistance in the following assistance? (series of options provided) If these assistance services were offered specifically by the private irrigation system operator, would you still be interested? (and if not, why not)? It could also be possible that you have the opportunity to become an outgrower to the private sector organization. Would you be interested in considering this? (and if not, why not)? Would you be interested in leasing some or all of your land to the private irrigation system operator? (and if not, why not)? General Interest in Partnerships All respondents were asked whether they were interested in general in receiving a series of assistance possibilities: Provision of storage facilities Provision of processing facilities Provision of selling services for your crop output to traders and/or consumers Provision of inputs, such as seeds and fertilizer Provision of training in how to cultivate the varieties Provision of assistance in determining standards which the crops must meet Provision of assistance in determining the highest-value crops and varieties you could produce. Interest in most of the assistance types was high in all three project areas. In Megech, over 90% of respondents stated they were very interested or interested in each of the assistance types. Similarly in Ribb, over 90% of respondents stated they were very interested or interested in each of the assistance types with the exception of provision of inputs, such as seeds and fertilizer. In Anger, nearly 98% of respondents stated they were very interested or interested in each of the assistance types. When sorted by the proportion of respondents that stated they were very interested in a form of assistance, there was some difference between the project areas: Megech: Interest was highest for provision of assistance in determining the highest-value crops and varieties that could be produced and provision of assistance in determining standards which the crops must meet. As previously noted, interest was very high for all the assistance types, with
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90% of respondents very interested or interested in even the least valued assistance type provision of storage facilities. Ribb: Interest was highest for provision training in how to cultivate the varieties and provision of processing facilities. However, interest was lower for the provision of inputs, such as seeds and fertilizer, with only 35% very interested and 48% interested in this assistance type. Anger: Interest was highest in the provision of storage and processing facilities. As previously noted, interest was very high for all the assistance types, with 98% of respondents very interested or interested in even the least valued assistance type provision of selling services for the crop output to traders and/or consumers More details are provided in the following three figures. Figure D.21: General Interest in Partnerships Megech
100% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Provision of Provision of Provision of Provision of Provision of assistance in assistance in training in how to inputs, such as selling services determining the determining cultivate the seeds and for your crop highest-value standards which varieties fertilizer output to traders crops and the crops must and/or varieties you meet consumers could produce Very Interested Interested Not Interested Provision of processing facilities Provision of storage facilities

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Figure D.22: General Interest in Partnerships Ribb


100% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Provision of training in how to cultivate the varieties Provision of processing facilities Provision of Provision of Provision of Provision of Provision of assistance in storage facilities assistance in selling services inputs, such as determining the determining for your crop seeds and highest-value standards which output to traders fertilizer crops and the crops must and/or varieties you meet consumers could produce Interested Not Interested

Very Interested

Figure D.23: General Interest in Partnerships Anger


100% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Provision of storage facilities Provision of processing facilities Provision of Provision of Provision of Provision of Provision of assistance in inputs, such as assistance in training in how to selling services determining the seeds and determining cultivate the for your crop highest-value fertilizer standards which varieties output to traders crops and the crops must and/or varieties you meet consumers could produce Interested Not Interested

Very Interested

Interest in Partnerships with the Irrigation Operator The respondents were asked whether they would still be interested in receiving the same series of assistance possibilities as in the section above if they were provided in

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partnership with the private sector irrigation operatormeaning that they would be expected to pay for them. In Anger and Megech, interest was very high for all the assistance types. In Anger, over 96% of respondents stated they were interested in each of the assistance types. In Megech, over 93% of respondents stated they were interested in each of the assistance types, with the exceptions of the provision of storage facilities and provision of processing facilitiesin which between 88-89% of respondents stated they were interested. Approximately one-third of respondent in Megech which did not express interest in the provision of storage and/or processing facilities stated this was because of financial constraints. The figures below provide more details for Megech and Anger. Figure D.24: Interest in Partnerships with Private Sector Irrigation Operator Megech
100% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Provision of Provision of Provision of Provision of Provision of assistance in assistance in training in how to inputs, such as selling services determining the determining cultivate the seeds and for your crop highest-value standards which varieties fertilizer output to traders crops and the crops must and/or varieties you meet consumers could produce Interested Not Interested Provision of processing facilities Provision of storage facilities

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Figure D.25: Interest in Partnerships with Private Sector Irrigation Operator Anger
100% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Provision of storage facilities Provision of processing facilities Provision of Provision of Provision of Provision of Provision of inputs, such as training in how to assistance in assistance in selling services seeds and cultivate the determining the determining for your crop fertilizer varieties highest-value standards which output to traders crops and the crops must and/or varieties you meet consumers could produce Interested Not Interested

In Ribb, overall interest was slightly less, especially in relation to the following: Provision of storage facilities Provision of selling services for your crop output to traders and/or consumers Provision of processing facilities Provision of inputs, such as seeds and fertilizer.

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Figure D.26: Interest in Partnerships with Private Sector Irrigation Operator Ribb
100% P e r c e n t a g e o f S a m p l e 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Provision of Provision of Provision of assistance in assistance in training in how to determining determining the cultivate the standards which highest-value varieties the crops must crops and meet varieties you could produce Interested Provision of processing facilities Provision of Provision of Provision of selling services storage facilities inputs, such as for your crop seeds and output to traders fertilizer and/or consumers

Not Interested

In some cases, this lower interest was a result of respondents in Ribb stating they would be interested in general in an assistance type but not if the assistance were to be provided in partnership with the private sector irrigation operator. Figure D.27 illustrates the proportion of respondents in Ribb which stated they whilst they would be interested in general in an assistance type, they would not if the assistance were to be provided in partnership with the private sector irrigation operator. Thus, nearly 18% of respondents in Ribb stated that they whilst they would be interested in general in the provision of storage facilities, but not if in partnership with the private sector irrigation operator.

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Figure D.27: Difference in Interest in Assistance when in Partnership with Private Sector Irrigation Operator Ribb
20% P e r c e n t a g e o f S a m p l e 18% 16% 14% 12.7% 12% 10% 8% 6% 4% 2% 0%
Provision of storage facilities Provision of processing facilities Provision of selling Provision of Provision of services for your inputs, such as training in how to crop output to seeds and fertilizer cultivate the traders and/or varieties consumers Provision of Provision of assistance in assistance in determining the determining highest-value standards which the crops must crops and varieties you could produce meet

17.6% 16.6%

11.7% 9.8%

9.3%

9.3%

In the main, the reasons provided by the respondents in Ribb for not expressing interest in these assistance types were a general financial constraint (especially for provision of storage and processing facilities). In addition, over half of those respondents in Ribb that did not express interest in the provision of selling services for their crop output to traders and/or consumers stated this was because the cost to the farmers would be too high. Interest in Outgrowing Respondents were asked whether they would be interested in becoming an outgrower to the private sector irrigation operator. Over 90% in all three project areas answered positively to this option, as illustrated in the following figure.

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Figure D.28: Interest in Becoming an Outgrower to the Private Sector Irrigation Operator
100% 90% P e r c e n t a g e o f S a m p l e 80% 70% 60% 50% 40% 30% 20% 10% 3.0% 0% Interested Megech Ribb Anger Not Interested 8.8% 97.0% 91.2% 93.7%

6.3%

Interest in Leasing Land to the Irrigation Operator The respondents were asked whether they would be interested in leasing some or all of their land to the private sector irrigation operator. In Megech and Ribb a significant majority (63% in Megech and 76% in Ribb) stated that they were not interested in leasing their land. Respondents in Anger were more positive, with just over half (52%) of them stating they were willing to lease some or all of their land. More details are provided in the following figure.

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Figure D.29: Interest in Leasing Land to the Private Sector Irrigation Operator
80% 76.0%

P 70% e r c 60% e n t 50% a g e 40% o f 30% S a m 20% p l e 10% 4.5% 0% Yes - for all of my land 3.4% 20.6% 15.8% 32.8%

62.7%

48.3%

35.9%

Yes - for some of my land Megech Ribb Anger

Not Interested

As can be seen in the figure, of those respondents that answered positively, substantially more of them were willing to least some of their land, but not all of it. Of those that were not willing to lease land, the majority in each project area stated that the land was small and/or they wanted to use it themselves and so were not interested in leasing their land.

D.5 Commercial Farmer Results


This section provides an assessment of the opinions of commercial farmers within the project areas. In total, 18 commercial farmers were interviewed. The section is provided in two parts: Characteristics of commercial farmers Willingness to connect to irrigation system. Characteristics of Commercial Farmers The characteristics of the commercial farmers were as follows: Organization Ownership: All commercial farmers were owned by private individual(s) or were formed as a company Land Area: Five of the commercial farmers cultivated up to 100 hectares, four cultivated between 100 to 200 hectares, four cultivated between 200 to 300 hectares, two cultivated 300 to 400 hectares, one cultivated 400 to 500 hectares and two cultivated over 500 hectares. One commercial farmer also had a large amount (400 hectares) of forest land

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Land Ownership: All the commercial farmers, with one exception, had a long-term lease for their land. The one exception has a short-term lease (this is the commercial farmer with the smallest cultivated land area of 15 hectares) Irrigation Use: Only three of the commercial farmers practiced irrigation farming. One of these commercial farmers sourced their irrigation as pumped from river, and another sourced their irrigation from an irrigation pond/spring and from river diversion. The third of these commercial farmers sourced their irrigation from river diversion28 Crops: The main crops produced were maize (all commercial farmers), soya beans (83% of commercial farmers), sorghum (78% of commercial farmers) and sesame (50% of commercial farmers) Other Activities: In addition to crop production, eight of the commercial farmers provided some sort of livestock farm activities. In addition, four provided seed/improved crop services and three provided horticultural products. Two commercial farmers provided farming machinery and one provided training services Staff Numbers: The permanent and temporary staff numbers for each of the commercial farmers are provided in the following figure. Each of the commercial farmers has a relatively small number of permanent staff (up to 30) and a higher number of temporary staff (generally up to 300, with two farmers claiming between 4,500-5,000 temporary employees). Figure D.30 illustrates the commercial farmers number of temporary staff.

28

These commercial farmers did not provide data for the cost of their irrigation use.

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Figure D.30: Temporary Staff Numbers of Commercial Farmers


10

9 N u m b e r F o a f r m C e o r m s m e r c i a l

0 0 - 50 51 - 100 101 - 200 201 - 300 Above 300

Source: Castalia Willingness-to-Pay Survey

Main Customers: There was a large range of types of main customers for the commercial farmers, including the following: Companies Local consumers Local and national traders Local institutional organizations (such as universities) Ethiopian Seed Enterprise National/international institutions (such as OXFAM, Save the Children, FAO and DPPA - Disaster Prevention and Preparedness Agency) Relationship with Local Farmers: All commercial farmers worked with local farmers. The relationship included hiring them for temporary labor, providing improved seeds and training, purchasing products from them, and providing services, technology and machinery. In addition, one commercial farmer had share cropping arrangements through the provision of tractors and seeds.

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Willingness to Connect to Irrigation System All commercial farmers expressed interest in connecting to the proposed irrigation system, although two of the commercial farmers did not provide a value they would be willing to pay for an annual charge. The amount the remaining commercial farmers were willing to pay is shown in Figure D.31. Figure D.31: Commercial Farmers Annual Amount Willing to Pay per Hectare
60%

P e 50% r c e n 40% t a g e 30% o f S 20% a m p l 10% e

50%

25%

13%

13%

0% 0 - 250 250 - 500

0% 500 - 750 Amount (per Hectare - ETB) 750 - 1,000 Above 1,000

Source: Castalia Willingness-to-Pay Survey

In addition, all but one of the commercial farmers were prepared to pay a one-off registration charge. The amount they were willing to pay for this registration charge is shown in Figure D.32.

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Figure D.32: Commercial Farmers Registration Fee


50% 47% 45% P e r 40% c e 35% n t a 30% g e 25% o f 20% S a 15% m p 10% l e 5% 0% 0 - 1,000 1,000 - 2,000 2,000 - 3,000 Amount (ETB) 20%

13%

13%

7%

0% 3,000 - 4,000 4,000 - 5,000 Above 5,000

Source: Castalia Willingness-to-Pay Survey

All of the commercial famers also expressed an interest in being a client of the irrigation operator. Approximately three-quarters expressed interest in receiving services such as processing, storage and marketing services and nearly two-thirds expressed interest in being a partner of the irrigation operator, sharing some of the risks and benefits of operating the irrigation system. In addition, nearly three-quarters also expressed interest in being the provider of the irrigation services responsible for all aspects of operating the irrigation system.

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Appendix E: Smallholder Farmer Questionnaire


QUESTIONNAIRE ON IRRIGATION SERVICES
QUESTIONNAIRE NUMBER INTERVIEWER NAME INTERVIEWER NUMBER

DATE WEREDA KEBELE VILLAGE TIME OF START TIME OF FINISH INTERVIEWER: PLEASE READ OUT . We have been commissioned by the Ministry of Water My name is Resources and World Bank and to investigate the irrigation situation in your region. Your household has been selected for an interview. You may have heard about possible new investments by the Government of Ethiopia and the World Bank in the irrigation system. We wish to ask you some questions about your irrigation situation. Your answers will be completely confidential. The general survey results will be communicated to the Ministry of Water Resources and the World Bank. Please remember that your participation in this survey is not compulsory. It would, however, be very beneficial to the project if you were able to take part in the survey. It is likely that the survey will take under 30 minutes to complete. INTERVIEWER IF THE RESPONDENT DOES NOT WANT TO TAKE PART IN THE SURVEY, THEN SHOW INTERVIEW AS REFUSED AND CONTACT THE SUPERVISOR TO CHOOSE A FURTHER INTERVIEW We would like to start by asking some simple questions about your household. PART 1 GENERAL QUESTIONS 1) Yes No Are you the head farmer of the household? 1 2

IF NO, ASK FOR THE HEAD FARMER OF THE HOUSEHOLD. IF THEY ARE NOT PRESENT, ARRANGE TO CALL BACK 2) Male Female Sex 1 2

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3) a. b. c. 4) Yes No

Number of family members by age 0-14 years 15-64 years Over 64 years Are you the head farmer of the household? 1 2

IF NO, ASK FOR THE HEAD FARMER OF THE HOUSEHOLD. IF THEY ARE NOT PRESENT, ARRANGE TO CALL BACK 5) Male Female 6) a. b. c. 7) a. b. c. d. e. f. g. h. i. j. k. l. m n. Number of family members by age 0-14 years 15-64 years Over 64 years Please estimate your household income for last year Crop production Sale of livestock Sheep and goats Pack animals Chicken Sale of livestock products Egg Honey Skin and hides Dung cake Sale of labor Off-farm activities Remittance Other Description 1 Other 2 Description Sex 1 2

o.

p.

TOTAL

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8) a. b. c. d. e. f. g. h.

Please estimate your household expenditure for last year Food Clothing Salt, sugar, oil, fuel, etc Soap and sanitation Medical treatment Education Farm inputs Other Description 1 Other 2 Other 3 Description

i.

j.

Description

k.

TOTAL

9) Yes No

Are you the head farmer of the household? 1 2

IF NO, ASK FOR THE HEAD FARMER OF THE HOUSEHOLD. IF THEY ARE NOT PRESENT, ARRANGE TO CALL BACK 10) Male Female 11) a. b. c. 12) a. b. c. d. Number of family members by age 0-14 years 15-64 years Over 64 years Please estimate your household income for last year Crop production Sale of livestock Sheep and goats Pack animals Sex 1 2

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Confidential e. f. g. h. i. j. k. l. m n. Chicken Sale of livestock products Egg Honey Skin and hides Dung cake Sale of labor Off-farm activities Remittance Other Description 1 Other 2 Description

o.

p.

TOTAL

13) a. b. c. d. e. f. g. h.

Please estimate your household expenditure for last year Food Clothing Salt, sugar, oil, fuel, etc Soap and sanitation Medical treatment Education Farm inputs Other Description 1 Other 2 Other 3 Description

i.

j.

Description

k.

TOTAL

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Confidential PART 2 CROP PRODUCTION Let us now talk about your crop production. 10) How much land does your household work (Hectares)? INTERVIEWER, IF REQUIRED USE THE AGREED OXON-DAY TO HECTARE CONVERSION RATE Grazing Cultivated Other Description 1 Other 1 Description

a. b. c. d.

11)

Is this your own land? 1 2 3 4

Yes I own the land / Yes - I have full right of use No I rent the land No I have a share arrangement (labor / crop exchange) Other (Description)

12) Yes No 13) Yes No 14)

Do you use farm labor from outside your family? 1 2 Do you practice irrigated farming? 1 2 If Yes, how much of the land your household works is irrigated? INTERVIEWER, IF REQUIRED USE THE AGREED OXON-DAY TO HECTARE CONVERSION RATE

19)

Amount of land (Hectares) 15) a. b. c. d. e. If Yes, what is the source(s) of the irrigation? Ground water Pond / Spring River diversion Pumped from river Other Description 1 Yes / No 1 / 2 1 / 2 1 / 2 1 / 2 1 / 2

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f.

Other 2

Description

1 / 2

16) a. b. c. d.

How much does it cost per year to irrigate your land (ETB)? Rent for pump Fuel for pump Maintenance for pump Other Description 1 Other 2 Description

e.

f.

TOTAL

17) a. b. c. d.

Overall, how much did you spend in purchasing and implementing your irrigation systems (not including annual costs asked in Q. 16) above) (ETB)? Purchase of pumps Purchase of other irrigation infrastructure Implementation of irrigation infrastructure Other Description 1 Other 2 Description

e.

f. 18) a. b. c. d. e. f. g. h. i.

TOTAL If you use a pump to irrigate, can you tell us how many times per year you pump and for how long each time? Number of times per year Time 1 (Hours) Time 2 (Hours) Time 3 (Hours) Time 4 (Hours) Time 5 (Hours) Time 6 (Hours) Time 7 (Hours) Time 8 (Hours)

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19)

a. b. c. d. e. f. g. h. i. j. k. l. m n. o. p. q. r. s. t. u. v. w . x. y.

Which crops do you produce? INTERVIEWER WRITE IN CROPS AND DO NOT PROMPT (I) Rain-fed Yes / No Cereals Teff 1 / 2 Finger Millets 1 / 2 Maize 1 / 2 Sorghum 1 / 2 Wheat 1 / 2 Rice 1 / 2

(II) Irrigated Yes / No 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 / / / / / / / / / / / / / / / / / / / / / / / 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2

Pulses
Haricot Beans Faba Beans Field Peas Chick Peas Vetch Gibto Vegetables Onion Tomato Garlic Cabbage Fruits and other Crops Papaya Orange Banana Avocado Sugar Cane Chat Coffee Other 1 Other 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 / / / / / / / / / / / / / / / / / 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2

1 / 2 1 / 2

1 / 2 1 / 2

20) a. b. c. d. e. f. g.

What are your farm-based problems? Physical access to markets e.g. roads Access to vehicles for transporting your products Prices obtained for your products are low Prices obtained for your products are volatile The trader/intermediary takes a large cut of the revenue Land tenure Sufficient irrigation

Major Problem 1 1 1 1 1 1 1

Problem 2 2 2 2 2 2 2

Not a Problem 3 3 3 3 3 3 3

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Confidential h. i. j. k. l. m Access to storage facilities, including cold storage Access to credit Access to farm inputs Pests and livestock diseases Access to training Other 1 (Description) 1 1 1 1 1 1 n. Other 2 (Description) 1 2 3 2 2 2 2 2 2 3 3 3 3 3 3

21) a. b. c. d.

Are you a member of a water user association, irrigation cooperative or other group? Water user association Irrigation cooperative Other Description 1 Other 2 Description Yes / No 1 / 2 1 / 2 1 / 2 1 / 2

22)

a. b. c. d.

If Yes, has your experience been positive, negative or neither positive or negative? Neither Positive Negative Positive or Negative Water user association 1 2 3 Irrigation cooperative 1 2 3 Other 1 Description 1 2 3 Other 2 Description 1 2 3

PART 3 IRRIGATION SCENARIOS Let us now talk about irrigation. There has been a proposal that the Government of Ethiopia and World Bank provide investments to increase the irrigated area in this Kebele. The resulting irrigation system would provide sufficient water for you to irrigate your land at whatever time you wish. The Government is considering the idea of having a private firm operate the irrigation system. If you wish to use the proposed irrigation systems, then you would be expected to pay a fee to use the irrigation system.

236

Confidential A study on the market benefits of irrigation has been conducted in your region. It has concluded that the following crops can be successfully produced under irrigation in your Kebele tomatoes, onions, cabbage, garlic, among others. I would like to ask you how much you think you would be willing to pay on an annual basis to the operator of the irrigation system. If you tell me a lower amount than you would really be willing to pay you could get a worse service than you actually want. On the other hand, if you tell me a higher amount than you could really afford you could get a system that is too expensive to operate and maintain. Such a system would fail because people could not pay for it. So, please answer these questions as carefully as you can. As you know, there are many other things apart from irrigation that you need to spend money on. INTERVIEWER ASK IF RESPONDENT WISHES TO HEAR THE EXPLANATION AGAIN. IF SO, RE-READ THE EXPLANATION Suppose that the new investment was made, and that could access the described irrigation services. 23) Would you be interested in using the irrigation system? 1 2 99 25) 25)

Yes No Dont know 24) Why are you not interested? INTERVIEWER DO NOT PROMPT

34)

25)

There would likely be an annual charge for use of the irrigation system. Would you be willing to pay an annual charge? 1 2 99 27) 27)

Yes No Dont know 26) Why are you not willing? INTERVIEWER DO NOT PROMPT

31)

27)

What amount are you willing to pay per hectare per year for use of the irrigation system? INTERVIEWER NOTE THAT THE CHARGE IS PER HECTARE THIS MUST BE

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Confidential EXPLAINED TO THE RESPONDENT INTERVIEWER DO NOT SUGGEST ANSWERS ALLOW THE RESPONDENT TIME TO CONSIDER THEIR ANSWER 100 ETB 200 ETB 300 ETB 400 ETB 500 ETB 600 ETB 700 ETB 800 ETB or More 28) If 800 ETB or More, what is the most that you would be willing to pay as an annual charge for the irrigation system? 1 2 3 4 5 6 7 8

Maximum amount per year (ETB) INTERVIEWER: IF THE RESPONDENT CURRENTLY PAYS FOR IRRIGATION (Q. 16), THEN CHECK IF THE TOTAL AMOUNT CURRENTLY PAID (Q. 16) IS HIGHER THAN THE MAXIMUM WILLINGESS TO PAY FOR THE IRRIGATION SYSTEM (Q. 27). IF THE ANSWER TO (Q. 16) IS LESS THAN OR EQUAL TO (Q. 27), THEN GOTO (Q. 31) IF THE ANSWER TO (Q. 16) IS GREATER THAN FOR (Q. 27), THEN ASK (Q. 29) AND (Q. 30)

29)

The amount you currently pay for irrigation is higher than the amount you stated you were willing to pay as an annual charge for the irrigation system. Why is this? INTERVIEWER DO NOT PROMPT

30)

If you would like, you can change the amount you stated as the most that you would be willing to pay as an annual charge for the irrigation system?

Updated maximum amount per year (ETB) 31) In addition, there may be a one-off charge to register with the irrigation system. Would you be willing to pay such a one-off registration charge? 1 2 99 33) 33)

Yes No Dont know 32) Why are you not interested?

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Confidential INTERVIEWER DO NOT PROMPT 34)

33)

What is the most that you would be willing to pay as one-off registration charge to connect to the irrigation system?

Maximum amount (ETB) PART 4 PARTNERSHIPS WITH OTHER ORGANIZATIONS 34) a. b. c. d. e. f. g. In general, would you be interested in assistance in the following assistance? Very Interested Interested Provision of storage facilities 1 2 Provision of processing facilities 1 2 Provision of selling services for your crop output to 1 2 traders and/or consumers Provision of inputs, such as seeds and fertilizer 1 2 Provision of training in how to cultivate the varieties 1 2 Provision of assistance in determining standards which the 1 2 crops must meet Provision of assistance in determining the highest-value 1 2 crops and varieties you could produce If these assistance services were offered specifically by the private irrigation system operator, would you still be interested? Remember that under any such option, you would give either a percentage or fixed amount of the revenue from your crops to the private irrigation system operator: a. b. c. d. e. f. g. Provision of storage facilities Provision of processing facilities Provision of selling services for your crop output to traders and/or consumers Provision of inputs, such as seeds and fertilizer Provision of training in how to cultivate the varieties Provision of assistance in determining standards which the crops must meet Provision of assistance in determining the highest-value crops and varieties you could produce Yes / No 1 / 2 1 / 2 1 / 2 1 / 2 1 / 2 1 / 2 1 / 2 Not Interested 3 3 3 3 3 3 3

35)

36)

If you are not interested in receiving this assistance from the private irrigation system operator, can you please tell us why? INTERVIEWER DO NOT PROMPT

239

Confidential Provision of storage facilities

Provision of processing facilities

Provision of selling services for your crop output to traders and/or consumers

Provision of inputs, such as seeds and fertilizer

Provision of training in how to cultivate the varieties

Provision of assistance in determining standards which the crops must meet

Provision of assistance in determining the highest-value crops and varieties you could produce

37)

It could also be possible that you have the opportunity to become an outgrower to the private sector organization. Would you be interested in considering this? 1 2 99

Yes No Dont know 38) If you are not interested, can you please tell us why? INTERVIEWER DO NOT PROMPT

39)

It could also be possible that, if you chose, you have the opportunity to lease your land to the private irrigation system operator. Would you be interested in leasing some or all of your land to the private irrigation system operator?

240

Confidential Yes for all of my land Yes for some of my land No 40) If you are not interested, can you please tell us why? INTERVIEWER DO NOT PROMPT 1 2 3

THE INTERVIEW IS NOW FINISHED. PLEASE THANK THE RESPONDENT AND READ THE FOLLOWING Your cooperation with this survey will help the Ministry of Water Resources and the World Bank with their analysis. I would like to thank you for the time you have given me and I am grateful for your help in this important task. FOR THE INTERVIEWER ONLY 41) Yes No 42) a. b. c. 43) Good Fair Poor Do you think the respondent made an effort to answer carefully? Interview in general (excluding Part 3 - WTP) Part 3 WTP Income and expenditure questions (in Part 1) How would you rate the overall quality of the interview? 1 2 3 Was the respondent cooperative during the interview? 1 2

Yes / No 1 / 2 1 / 2 1 / 2

IF YOU HAVE ANY COMMENTS TO MAKE ABOUT THE INTERVIEW, PLEASE WRITE THESE ON THE QUESTIONNAIRE. NOW PLEASE CHECK THROUGH THE ANSWERS TO CHECK FOR UNANSWERED QUESTIONS. MAKE SURE THAT GAPS ARE EXPLAINED

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Appendix F: Commercial Farmer Questionnaire


STRUCTURED INTERVIEW ON IRRIGATION SERVICES FOR COMMERCIAL FARMERS IN PROJECT AREA
INTERVIEW NUMBER INTERVIEWER NAME: Gulilat Abebe

DATE NAME OF RESPONDENT POSITION OF RESPONDENT ORGANIZATION NAME ADDRESS

PHONE NUMBER FAX NUMBER E-MAIL ADDRESS WEBSITE TIME OF START TIME OF FINISH Project Background: You may have heard about possible new investments by the Government of Ethiopia and the World Bank in the irrigation system. Three sites have been selected by the Government of Ethiopia for investment through the Ethiopian Nile Irrigation and Drainage Project, which seeks to increase incomes by reducing the effects of climate variability on agricultural productivity through irrigation development and strengthening strategy on irrigation and drainage. The three sites selected for the study and their respective areas are: Seraba Pump Ribb Anger dam

We wish to ask you some questions about your organizations irrigation situation and opinions on the potential irrigation investments. Your answers will be completely confidential. The general survey results will be communicated to the Ministry of Water Resources and the World Bank. In summary, the purpose of interview is to: Provide your organization with information on the project Provide the project team with relevant information about your operations and irrigation situation Discuss the potential for interaction between the project and the commercial farmer

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Confidential

PART 1 INFORMATION ON ORGANIZATION 14) Who owns the organization?

15) a. b. c.

How much land does your organization work (Hectares)? Grazing Cultivated Other Description 1

d.

Other 1

Description

16)

What land tenure does your organization have? 1 2 3 4

Owns land Short-term lease Long-term lease Other (Description)

17) Yes No 18) a. b. c. d. e.

Does your organization practice irrigated farming? 1 2 If yes, what is the source(s) of the irrigation? Ground water Pond / Spring River diversion Pumped from river Other Description 1 Yes / No 1 / 2 1 / 2 1 / 2 1 / 2 1 / 2

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Confidential f. Other 2 Description 1 / 2

19)

Which crops does your organization produce? WRITE IN CROPS AND DO NOT PROMPT (I) Rain-fed Hectares (II) Irrigated Hectares

a. b. c. d. e. f. g. h. i. j. 20) How many hectares does your organization use for livestock grazing?

Number of hectares 21) a. b. c. d. How much does it cost per year to irrigate your land (ETB)? Electricity costs Salary costs Maintenance costs Other Description 1

e.

Other 2

Description

f. 22) a. b.

TOTAL Overall, how much has your organization invested in purchasing and implementing its irrigation systems (not including operating costs) (ETB)? Purchase of pumps Purchase of other irrigation infrastructure

244

Confidential c. d. e. Implementation of irrigation infrastructure Other Description 1 Other 2 TOTAL Which other activities does your organization provide? WRITE IN AND DO NOT PROMPT Description

f. 23) a.

b.

c.

d.

e.

f.

24) a. b. 25)

How many employees does your organization have? Number of permanent employees Number of temporary employees What was your organizations total income last year?

Total Income last year (ETB) 26) a. Who are your organizations main clients?

b.

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Confidential c.

d.

e.

27) a. b.

Does your organization work with local farmers? Yes / No If yes, describe the relationship

Yes / No 1 / 2

28) a. b. c. d. e. f. g. h. i. j. k. l. m

What are your organizations problems? Physical access to markets e.g. roads Access to vehicles for transporting your products Prices obtained for your products are low Prices obtained for your products are volatile Difficulty in finding customers Land tenure Sufficient irrigation Access to storage facilities, including cold storage Access to credit Access to farm inputs Pests and livestock diseases Access to training Other 1 (Description) Major Problem 1 1 1 1 1 1 1 1 1 1 1 1 1 Problem 2 2 2 2 2 2 2 2 2 2 2 2 2 Not a Problem 3 3 3 3 3 3 3 3 3 3 3 3 3

n.

Other 2 (Description) 1 2 3

29)

What relationship does your organization have with the local and national agricultural development offices and other government departments?

246

Confidential

30)

What are the plans for the future of the organization?

PART 2 RELATIONSHIP WITH THE PROJECT Let us now talk about the possible relationship between the project-funded irrigation system and your organization. As previously described, there has been a proposal that the Government of Ethiopia and World Bank provide investments to increase the irrigated area in this region. The resulting irrigation system would provide sufficient water for you to irrigate your land at whatever time you wish. The Government is considering the idea of having a private firm operate the irrigation system. If you wish to use the proposed irrigation systems, then you would be expected to pay a fee to use the irrigation system. Suppose that the new investment was made, and that could access the described irrigation services. 31) Would you be interested in using the irrigation system? 1 2 99

Yes No Dont know 32) If No, why are you not interested? DO NOT PROMPT

33)

If Yes or Dont Know, how much would be willing to pay as an annual charge for the irrigation system?

Maximum amount per year (ETB) CHECK IF THE TOTAL AMOUNT CURRENTLY PAID FOR IRRIGATION (Q. 21) IS HIGHER THAN THE MAXIMUM WILLINGESS TO PAY FOR THE IRRIGATION SYSTEM (Q. 33). IF THE ANSWER TO (Q. 21) IS LESS THAN OR EQUAL TO (Q. 33), THEN GOTO (Q. 36)

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Confidential

IF THE ANSWER TO (Q. 21) IS GREATER THAN FOR (Q. 33), THEN ASK (Q. 34) AND (Q. 35) 34) The amount you currently pay for irrigation is higher than the amount you stated you were willing to pay as an annual charge for the irrigation system. Why is this? INTERVIEWER DO NOT PROMPT

35)

If you would like, you can change the amount you stated as the most that you would be willing to pay as an annual charge for use of the irrigation system?

Updated maximum amount per year (ETB) 36) In addition, there may be a one-off charge to register with the irrigation system. Would your organization be willing to pay such a one-off registration charge? 1 2 99

Yes No Dont know 37) If No, why are you not interested? DO NOT PROMPT

38)

If Yes or Dont Know, what is the most that you would be willing to pay as one-off registration charge to connect to the irrigation system?

Maximum amount (ETB) 39) What kind of relationship would your organization like to have with the operator of the projects irrigation services? CAN ANSWER MORE THAN ONE Client of the irrigation operator, receiving irrigation services Client of the irrigation operator, receiving irrigation services and other services such as processing, storage and marketing services Partner of the irrigation operator, sharing some of the risks and benefits Yes / No 1 / 2 1 / 2 1 / 2

a. b. c.

248

Confidential of operating the irrigation system Provider of the irrigation services i.e. your organization would be responsible for all aspects of operating the entire irrigation system Other Description 1 Other 2 Description 1 / 2

d. e.

1 / 2 1 / 2

f.

40) a.

Are there any other issues you would like to discuss? Issue 1

b.

Issue 2

c.

Issue 3

d.

Issue 4

THE INTERVIEW IS NOW FINISHED. PLEASE THANK THE RESPONDENT Your cooperation with this survey will help the Ministry of Water Resources and the World Bank with their analysis. I would like to thank you for the time you have given me and I am grateful for your help in this important task.

249

Confidential FOR THE INTERVIEWER ONLY 41) Good Fair Poor How would you rate the overall quality of the interview? 1 2 3

IF YOU HAVE ANY COMMENTS TO MAKE ABOUT THE INTERVIEW, PLEASE WRITE THESE ON THE QUESTIONNAIRE PLEASE CHECK THROUGH THE ANSWERS TO CHECK FOR UNANSWERED QUESTIONS. MAKE SURE THAT GAPS ARE EXPLAINED

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Appendix G: Encouraging Private Investment in Ethiopia


The Government has made significant efforts to encourage private investment in the Ethiopian economy. This section describes these efforts, and Section 5.3 explains the implications and opportunities of these efforts for investors interested in the Megech, Ribb, and Anger irrigation projects. In mid-1974, large political, economic, and social changes began to take place in Ethiopia. The monarchy was abolished, and a wave of new legislation changed the economy from a market to command economy. In 1975, the military Government consistent with its Marxist economic policiesnationalized a substantial portion of the means of production, including: Insurance and banking29 Rural land30 Mineral prospecting, exploration, and mining31, and Urban land and extra houses.32 By 1990, about 85 percent of the economy was directly managed by the state organs under Workers Party supervision. In 1991, the current Government overturned the Workers Party (Derg) regime and began a series of economic reforms including: Transforming the Ethiopian economy from a command to market economy Integrating the economy into the world economy, and Encouraging greater private sector participation. As one part of the attempt to encourage private sector participation, the Government introduced its first Investment Code in 1992. The Investment Code provided incentives for investment in broad sector categories (mainly agriculture, manufacturing, and natural resource development). To further encourage investment, the Government then established the Ethiopian Privatization Agency (EPA) in 1994 to lead the process of privatization of public enterprises. Overseen by the Ministry of Trade and Industry, the EPA was given the powers and duties to transfer state-owned enterprises to private ownership.

29 30 31 32

Proclamation Number 26/1975 Proclamation Number 31/1975 Proclamation Number 39/1975 Proclamation Number 47/1975

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Though these initiatives did bring private investment to Ethiopia, the Government wanted to encourage more. Accordingly, in 1996, changes were made to the Investment Code33 that among other things: Reduced capital entry requirements for joint ventures Included additional sectors into the incentive scheme (like health, education, tourism, and consultant services) Allowed duty free entry of capital goods (except computers and vehicles) Cut the capital gains tax from 40 to 10 percent, and Gave priority to investors in obtaining land for lease. In 1998, the Government introduced further changes to the Investment Code.34 These changes redefined domestic investors35, allowed private-Government joint investment in the defense and telecommunications sectors, and opened up hydropower generation to local and foreign investment. Further changes occurred in 2002, mainly reducing the number of areas solely reserved for Government or domestic investment (these are outlined in Table G.1). Figure G.1 illustrates the increase in foreign investment following these initiatives.

33 34 35

Through issuing Investment Proclamation No.37/1996 Through issuing Investment Proclamation No.146/1998 Ensuring the Domestic Investor does not include the Government and public enterprises.

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Figure G.1: Foreign Direct Investment into Ethiopia, 19932006


600

500

400 US$ millions

300

200

100

0 1993 1994 1995 1996 1997 1998 2000 2001 2002 2003 2004 2005 2006 Year

Source: Castalia, with data from the United Nations Conference on Trade and Developments World Investment Report(s) (various years)

Table G.1: Industries Reserved for Investment by Government, Domestic Investors, or Ethiopian Nationals
Reserved for Government Investment Industries Transmission and supply of electrical energy through the Integrated National Grid System, and Postal services with the exception of courier services

Joint ventures Manufacturing of weapons and ammunition, and with Telecommunications services Government Retail trade and brokerage Wholesale trade (excluding supply of petroleum and its by-products as well as wholesale by foreign investors of their products locally produced) Import trade (excluding LPG, bitumen and up on the approval of the Council of Ministers; materials used as inputs for export products) Export trade of raw coffee, chat, oil seeds, pulses, hides and skins bought from the market and live sheep, goats and cattle not raised or fattened by the investor Construction companies excluding those designated as grade one Tanning of hides and skins up to crust level Hotels other than those star-designated, motels, pensions, tea rooms, coffee

Domestic Investors

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shops, bars, night clubs and restaurants (excluding international and specialized restaurants) Travel agency, trade auxiliary and ticket selling services Car-hire and taxi-cabs transport services Commercial road transport and inland water transport services Bakery products and pastries for the domestic market Grinding mills Barber shops, beauty saloons, and provision of smith workshops and tailoring services except garment factories Building maintenance and repair and maintenance of vehicles Saw milling and timber making products Customs clearance services Museums, theaters, and cinema hall operations Printing industries. Banking, insurance and micro credit and saving services Travel and shipping agency services Broadcasting services Air transport services using aircraft with a seating capacity of up to 20 passengers

Ethiopian Nationals

Source: Investment Proclamation No. 280/2002 as amended by Proclamation No.375/2003 Privatization of Public Enterprises Proclamation No. 146/1998

In 2002, the Government took two further steps to increase private investment. First, it issued the Sustainable Development and Poverty Reduction Strategy36, in which it publicly stated that the private sector will be an engine of development, and that private capital should play an important role in the economy. Of the eight major development thrusts, three are: Strengthening private sector growth and development especially in industry as a means of achieving off-farm employment and output growth (including investment in necessary infrastructure) Agricultural research, water harvesting, and small scale irrigation, and Focus on increased water resource utilization to ensure food security. Second, the Government established the Ethiopian Investment Authority (renamed the Ethiopian Investment Commission in 2003) as the main point of contact for foreign investors. The Ethiopian Investment Commissions (EICs) mandate is to promote, encourage, and facilitate private investments in general and foreign investment in particular. The EIC has continuously improved its services, and provides

36

The Ministry of Finance and Economic Development (FDRE), The Federal Democratic Republic of Ethiopia (FDRE) (2002), Ethiopia: Sustainable Development and Poverty Reduction Program, Addis Ababa, Ethiopia

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a one-stop-shop service that significantly cuts the time and cost of acquiring investment and business licenses.37 The EICs main functions are to: Provide pre- and post-investment services to investors Collect, compile, analyze, and disseminate information about investment opportunities in Ethiopia, and advise (upon request) on the availability of partners for joint ventures Identify specific projects and invite interested investors to participate Register and keep records of all technology transfer agreement relating to investments Initiate, organize, and participate in investment promotional activities such as exhibits, conferences, and seminars. To further facilitate investment, the EIC has a one-stop-shop to: Render pre-approval services Approve investment proposals and issue investment permits Provide company registration services to newly incorporated business organizations Issue all legal permits including investment, work, residence, and expatriate posts Issue operating licenses Review, evaluate, and forward policy recommendations to the concerned Government body for approval, and Facilitate the acquisition of land.38 While the changes discussed above increased private investment, the Government acknowledged that some state-owned enterprises were not competitive or profitable, and would therefore inevitably remain state-owned. With that in mind, in 2004 the Government amalgamated the EPA and the Public Enterprises Supervising Authority into one agency: the Privatization and Public Enterprises Supervising Authority (PPESA). The aim of this union was to provide guidance and support to help those state-owned enterprises to become competitive and profitable, and to align the supervision of public entities with the countrys privatization program. Between 1995

37 38

US Department of State (2007) Investment Climate StatementEthiopia From the Ethiopian Investment Commission website (www.ethiomarket.com/eic/)

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(a year after the EPA was formed) and 2000, a total of 209 large and small enterprises were privatized.39

39

Haile, T (2001) Ethiopian Investment Climate and Opportunities, Presentation by the General Manager of the Ethiopian Investment Authority, January 2001

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Appendix H: Laws and Policies Reviewed


Table H.1 provides a brief description of the laws and policies we reviewed. This is not intended to be a comprehensive review of the full scope of these laws, but rather a review of provisions that relate to this project. Table H.1: Laws Reviewed
Law or Policy Description This Proclamation establishes the Privatization and Public Enterprises Authority as an autonomous federal Government office. It lists the objectives of the Authority as: To implement the Privatization Programme in accordance with the privatization of public enterprises legislation and in a transparent and efficient manner To support public enterprises in attaining higher level of capacity utilization and the employment of better management systems and technology and thereby improve their performance and to maximize their achievements To cause the establishment of new enterprises in sectors where private investors could not participate for various reasons and which will be bottlenecks for the overall economic development To supervise the management of public enterprises, and To protect the ownership rights of the state in public enterprises and share companies. This sets out the regulations on: Exemptions from income tax, and Exemptions from the payment of customs duty.

Proclamation to Provide for the Establishment of the Privatization and Public Enterprises Supervising Authority No. 412/2004

Investment Incentives and Investment Areas Reserved for Domestic Investors Council of Ministers Regulations No. 84/2003 Investment (Amendment) Proclamation No. 375/2003

This proclamation renames the Ethiopian Investment Authority as the Ethiopian Investment Commission, as well as some nonsubstantive amendments.

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This proclamation sets out Ethiopias investment objectives40, areas of investment, and incentives for investment. Certain areas of investment are reserved exclusively for the Government41, some are reserved to joint ventures with the Government42, and some are reserved for domestic investors. It also sets out: Investment Proclamation Forms of investment and capital requirements for foreign investors No. 280/2002 as Details of investment permits amended by Rules relating to the transfer of technology, loans, utilization Proclamation of foreign currency, and remittance of funds No.375/2003 Investment guarantees and protections Investment administration The structure, powers, and duties of the Investment Board, and Reestablishes, and sets out the powers, duties, and organization of the Investment Authority. This proclamation was enacted to ensure that the water resources of the country are protected and utilized to the highest social and economic benefits of the people of Ethiopia, to follow up and supervise that they are duly conserved, ensure that harmful effects of water are prevented, and that the management of water resources if carried out properly. It sets out: The powers and duties of the Ministry of Water Resources How the inventory of water resources and registry of actions will be maintained Details on permits and professional licenses, and Fees and water charges.

Ethiopian Water Resources Management Proclamation No. 197/2000

40

The objectives of the investment policy of the Federal Democratic Republic of Ethiopia are designed to improve the living standards of the peoples of Ethiopia through the realization of sustainable economic and social development, the particulars of which are the following: 1. to accelerate the countrys economic development 2. to exploit and develop the immense natural resources of the country 3. to develop the domestic market through the growth of production, productivity, and services 4. to increase foreign exchange earnings by encouraging expansion in volume and variety of the countrys export products and services and the improvement of their quality as well as to save foreign exchange through production of import substituting products 5. to encourage balanced development and integrated economic activity among regions and to strengthen the inter-sectoral linkages of the economy 6. to enhance the role of the private sector in the acceleration of the development of the countrys economy 7. to render foreign investment play its proper role in the countrys economic development 8. to create wide employment opportunities for Ethiopians and to foster the transfer of technical know-how, of managerial skills, and of technology required for the progress of the country. These include transmission and supply of electrical energy through the Integrated National Grid System, and postal services with the exception of courier services These include manufacturing of weapons and ammunition and telecommunications services.

41

42

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This proclamation re-establishes the Ethiopian Privatization Agency and sets out the: Objectives of privatization Pre-privatization activities Modalities of privatization and issues incidental to Privatization of Public privatization (including the currency of payment, the Enterprises Proclamation depreciation of assets, stamp duties, applicability of investment No. 146/1998 laws, continuity of employees pension coverage, transfer of rights and obligations of enterprises, post-privatization monitoring, and the settlement of disputes) The objectives, powers and duties, and organization of the EPA. The Oromia Land Use Policy does not set any specific laws or policies relating to irrigation, but aims to develop and protect land resources, and the environment for sustainable and reliable use, to improve the living standard of the peoples of the region. It does not prohibit leasing land to private investors

Oromia Land Use Policy

The Amhara Revised Rural Land Administration and Use Amhara Revised Rural Determination states that private investors, and social Land Administration and organizations shall get access to use rural land based on the Use Determination development objectives.

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Appendix I: Government Ministries and Agencies


This appendix provides information on some of the Government ministries and agencies that oversee private participation in public enterprises, and the water sector (including irrigation). These agencies are: The Privatization and Public Enterprises Supervising Authority The Ethiopian Investment Commission, and The Ministry of Water Resources. The Privatization and Public Enterprises Supervising Authority The Ethiopian Privatization Agency (EPA) was established in February 1994 by Proclamations No. 87/1994 and 146/1998. Overseen by the Ministry of Trade and Industry, the EPA has become the agency leading the process of privatization of public enterprises, and has the powers and duties to transfer state-owned enterprises to private ownership. The EPA has thee principle objectives: To generate revenue required for financing development activities undertaken by the Government of Ethiopia (the Government) To change the role and participation of the Government in the economy to enable it to exert more effort on activities requiring its attention, and To promote Ethiopias economic development through encouraging the expansion of the private sector.43 The EPA is also the agency tasked with post-privatization monitoring, and ensuring the compliance of investors obligations. In 2004, the Government realized that, while it needed to continue promoting the privatization of public enterprises, it acknowledged that some enterprises would remain state-owned. The Government thought that these enterprises that would remain state-owned needed guidance and support so as to enable them to be competitive and profitable.44 In that vain, the Government amalgamated the EPA and the Public Enterprises Supervising Authority to coordinate the supervision of public entities and the countrys privatization program. This new entity was named the Privatization and Public Enterprises Supervising Authority (PPESA). The Ethiopian Investment Commission The Ethiopian Investment Authority was established in 200245 (EIA) and renamed the Ethiopian Investment Commission (EIC) in 2003. The EIC is the main contact point for foreign investors. The EICs mandate is to promote, encourage, and facilitate
43 44 45

Privatization of Public Enterprises Proclamation No. 146/1998 Proclamation No. 412/2004 Proclamation No. 280/2002

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private investments in general and foreign investment in particular in Ethiopia. In particular, the EIC has the following functions: Provide pre and post investment services to investors Collect, compile, analyze, and disseminate information about investment opportunities in Ethiopia, and advise (upon request) on the availability of partners for joint ventures Identify specific projects and invited interested investors to participate Register and keep records of all technology transfer agreements relating to investments Initiate, organize, and participate in investment promotional activities such as exhibits, conferences, and seminars Issue all legal permits including investment, work, residence, and expatriate posts Review, evaluate, and forward policy recommendations to the concerned Government body for approval, and Perform such other functions that would enhance the attainment of its objectives.46 According to the US Department of State, the EIA has improved its services as now provides a one-stop-shop service that significantly cuts the time and cost of acquiring investment and business licenses. The Ministry of Water Resources The Ministry of Water Resources was established in 1995. Its duties in relation to this project include: Determining the conditions and methods required for the optimum allocation and utilization of water that flows across or lies between more than one Regional Government among various uses and regions Preparing draft laws concerning the protection and utilization of water resources Issuing permits to construct and operate water works Making appropriate studies concerning water tariff and upon approval collect bulk charges for water use Undertaking studies pertaining to the utilization of the waters of transboundary rivers and upon approval, following up on their implementation

46

Ethiopian Investment Agency website (www.ethiomarket.com/eic)

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Preparing plans that help to properly utilize water resources for development purposes, and supervising their implementation upon approval Signing international agreements relating to Transboundary Rivers in accordance with the law.

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Appendix J: Key Contract

Drafting

Instructions

of

PPP

Key Definitions Execution datedate when contract is signed Effective datedate when contract becomes effective Commercial operations datedate when system has been tested and commences to deliver irrigation services to farmers Other key datescould include: construction commencement date, and construction milestones Parties and Partiesthe Ministry of Water Resources and private operator awarded Scope of contract Agreement Purpose of the agreementfor a private operator to build, operate and maintain irrigation system, and provide irrigation (and possibly nonirrigation) services to farmers Specific physical area covered by contractdefine boundaries of area and provide in attachment complete list of farmers (including contact details), and farm and irrigable land area for each farmer Conditions The following conditions should be met before the contract can be become Precedent to effective: Effective Date Private operator has raised the capital to finance its portion of the capital costsas demonstrated by executed loans agreements with credible lenders, or by cash balance in a project-dedicated bank account Private operator has received the right to use/lease the land where the irrigation system will be builtas demonstrated by certificate issued by the competent authority in Ethiopia Private operator has posted a performance security (surety bond/letter of credit)this security should in the form specified in the contract and issued by a reputable financial institution that meets certain conditions Private operator has secured applicable environmental permitsas demonstrated by letter/resolution issued by the competent authority in Ethiopia Government has the funds to cover its portion of capital costsas demonstrated by balance in bank account, or by a certification issued by the World Bank to this effect Government has issued construction and water use permits Government and each farmers in service area have signed service delivery agreement Others Term 20 years from effective date

Construction of Private operator has the right to modify design, as far as the new design the Project does not decrease the operating specifications of the system or the quality

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of the construction worksprivate operator would need to seek approval from MOWR on the new design Key dates and milestones for construction would be defined in the contract Certification of milestone completiona process would be defined for MOWR, or the party designated by MOWR, to certify that construction milestones have been achieved Testing and commissioninga process would be defined to test the system before it is commissioned. The system should perform according to specifications at the farm level Liquidated damages / penalties for delays in achieving milestones will be defined in the contractthe value of liquidated damages would be set at an amount that represents the cost to farmers of a delay in the commissioning of the system, or an amount that gives the private operator a strong incentive to achieve milestones

Operation and Scheduling proceduresprocedures will be defined for scheduling daily Maintenance or weekly delivery of water to every farm. The procedure will involve the private operator nominating how much water would be available, and farmers requesting a portion of that water to meet their needs Planned and unplanned outagesprocedures will be defined for scheduling planned outages and for dealing with unplanned outages, including penalties to the private operator Operating standardsstandards on the quality of water as well as the service delivery standards will be defined in the contract Availability standardsthis will be defined in the form of hours during which the system should be available at certain locations a certain capacities (measured in cubic meters per second). This will include maximum and minimum capacity of the system at various points, including intake, primary and secondary channels, as well as delivery point at every farm Meteringthe contract will define the procedures that the private operator and MOWR should follow to measure the volume of water delivered to each farm Rehabilitation / Refurbishment of the systemthe private operator will be responsible for maintaining and rehabilitating the system to meet the availability and operating standards Payment Payments from MOWR to private operator will include: Construction paymentsthese payments will be a fixed amounts (expressed in ETB) that will be disbursed when construction milestones are achieved and this has been certified by MOWR Availability payments these payments will be fixed amounts (expressed in ETB) that will be disbursed every month, if during the pervious month the operator met the availability standards defined in the contract Variable payment these payments will be made every month based on the volume of water that the private operator delivered to farmers during

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the previous month. This payment will be calculated using the volume of water measured according to the procedures set in the contract, and a tariff (expressed in ETB/m3) also defined in the contract Availability payments and tariffs will be adjusted as follows: Ordinary payment adjustmentsthe availability payment and the tariff used to calculate the variable payment will be adjusted periodically (for example, every six months) based on fluctuations in inflation, exchange rate and possibly the cost of fuel. The exact formula will depend on which are the key operating and maintenance costs Extraordinary payment adjustmentsthe contract will define a procedure for adjusting the tariff and availability payment if and when unforeseen events occur

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Appendix K: Projected Availability and Variable Payments


This appendix presents the projections we used in determining the schedule of collection incentive payments presented in Section 8.3.3. It is based on data from the pre-feasibility study of the Megech scheme. The projections assume that the PPP contract comes into force in 2008, that the contract has a duration of 15 years, and that it takes two years to build the system. It also assumes the tariff path recommended in Section 8.2. All amounts are in Ethiopian birr (ETB).

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2010 Operator Variable Payment Revenue Operator Availability Payment Revenue Total Operator Revenue 1,704,966

2011 3,409,932

2012 5,166,564

2013 5,166,564

2014 5,166,564

2015 5,166,564

2016 5,166,564

2017 5,166,564

2018 5,166,564

2019 5,166,564

2020 5,166,564

2021 5,166,564

2022 5,166,564

18,851,854 20,556,820

18,851,854 22,261,786

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

18,851,854 24,018,418

Tariff Revenue (Billed) Tariff Revenue/Total Operator Revenue Tariff Revenue/Operator variable Payment Revenue Incentive to Maximize Collection Collection within 30 days (% of collected) Collection between 30 and 90 days (% of collection) Collection more than 90 days (% of collection) Assumed Collection Scenario 1 Within 30 days Between 30 and 90 days More than 90 days Incentive Payment Total Incentive Payment Incentive/Operator Variable Payment Revenue

442,134

1,105,335

2,177,175

2,939,186

4,261,820

6,179,639

8,960,477

8,960,477

8,960,477

8,960,477

8,960,477

8,960,477

8,960,477

2% 26%

5% 32%

9% 42%

12% 57%

18% 82%

26% 120%

37% 173%

37% 173%

37% 173%

37% 173%

37% 173%

37% 173%

37% 173%

35% 25% 15%

30% 20% 10%

20% 15% 5%

15% 10% 3%

10% 5% 2%

7% 3% 1%

5% 2% 1%

3% 1% 0.5%

2% 1% 0.5%

2% 1% 0.5%

2% 1% 0.5%

2% 1% 0.5%

2% 1% 0.5%

70% 20% 10% 137,062 3,185,429 8%

70% 20% 10% 287,387

70% 20% 10% 381,006

70% 20% 10% 376,216

70% 20% 10% 349,469

70% 20% 10% 346,060

70% 20% 10% 358,419

70% 20% 10% 210,571

70% 20% 10% 147,848

70% 20% 10% 147,848

70% 20% 10% 147,848

70% 20% 10% 147,848

70% 20% 10% 147,848

8%

7%

7%

7%

7%

7%

4%

3%

3%

3%

3%

3%

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Appendix L: Rules and Procedures for Independent Panel of Experts


L.1 Composition of the Panel
a) The Independent Panel of Experts (IPE) shall comprise three Members experienced with the type of operation involved and with the interpretation of contractual documents. One Member shall be selected by each of MOWR and the Operator and approved by the other. If either of these Members is not so selected and approved within 28 days of the date of a Letter of Acceptance, then upon the request of either or both parties such Member shall be selected as soon as practicable by the International Center for Settlement of Investment Disputes (ICSID). The third Member shall be selected by the other two and approved by the parties. If the two Members selected by or on behalf of the parties fail to select the third Member within 14 days after the later of their selections, or if within 14 days after the selection of the third Member, the parties fail to approve that Member, then upon the request of either or both parties such third Member shall be selected promptly by the same International Center for Settlement of Investment Disputes (ICSID) who shall seek the approval of the proposed third Member by the parties before selection but, failing such approval, nevertheless shall select the third Member. The third Member shall serve as Chairman of the IPE. b) In the event of death, disability, or resignation of any Member, such Member shall be replaced in the same manner as the Member being replaced was selected. If for whatever other reason a Member shall fail or be unable to serve, the Chairman (or failing the action of the Chairman then either of the other Members) shall inform the parties and such nonserving Member shall be replaced in the same manner as the Member being replaced was selected. Any replacement made by the parties shall be completed within 28 days after the event giving rise to the vacancy on the IPE, failing which the replacement shall be made by the Appointing Authority in the same manner as described above. Replacement shall be considered completed when the new Member signs the IPE Member's Declaration of Acceptance. Throughout any replacement process the Members not being replaced shall continue to serve and the IPE shall continue to function and its activities shall have the same force and effect as if the vacancy had not occurred, provided, however, that the IPE shall not conduct a hearing nor issue a Decision until the replacement is completed.

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L.2

Conflict of Interest of IPE Members


a) Shall have no financial interest in any party to the contract between the Operator and MOWR (the Contract), or the CMU or a financial interest in the Contract , except for payment for services on the IPE; b) Shall have disclosed in writing to both parties prior to appointment to the IPE any and all recent or close professional or personal relationships with any director, officer, or employee of any party to the Contract , or the CMU, and any and all prior involvement in the project to which the Contract relates; c) Shall not, while an IPE Member, be employed whether as a consultant or otherwise by either party to the Contract , or the CMU, except as an IPE Member, without the prior consent of the parties and the other IPE Members; d) Shall not, while an IPE Member, engage in discussion or make any agreement with any party to the Contract , or with the CMU, regarding employment whether as a consultant or otherwise either after the Contract is completed or after service as an IPE Member is completed; e) Shall be and remain impartial and independent of the parties and shall disclose in writing to MOWR, the Operator, the CMU, and one another any fact or circumstance that might be such as to cause either MOWR or the Operator to question the continued existence of the impartiality and independence required of IPE Members; and f) Shall be fluent in the language of the PPP contract.

The IPE Members:

L.3

IPE Responsibility to Contract Parties


a) The IPE Members are independent contractors and not employees or agents of either MOWR or the Operator. b) Except for providing the services required hereunder, the Board Members shall not give any advice to either party or to the CMU concerning conduct of the operations. c) IPE Members shall not assign or sub-contract any of their work under these Rules and Procedures. However, the IPE may in its discretion decide to seek independent expert advice on a particular specialized issue to assist in reaching a Decision, and the cost of obtaining any such expert opinion(s) shall be shared equally by MOWR and the Operator in accordance with the procedure specified in [L.4]

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L.4

IPE Payment Terms

Payments to the IPE Members for their services shall be governed by the following provisions: a) Each IPE Member will receive payments as follows: (i) A retainer fee per calendar month equivalent to three times the daily fee established from time to time for arbitrators under the Administrative and Financial Regulations of the International Center for Settlement of Investment Disputes (the ICSID Arbitrator's Daily Fee), or such other retainer as MOWR and Operator may agree in writing. This retainer shall be considered as payment in full for: (A) Being available, on seven days' notice, for all hearings, Site visits, and other meetings of the IPE. (B) Being conversant with all project developments and maintaining relevant files. (C) All office and overhead expenses such as secretarial services, photocopying, and office supplies (but not including telephone calls, faxes, and telexes) incurred in connection with the duties as an IPE Member. (D) All services performed hereunder except those performed during the days referred to in paragraph (ii) below. (ii) A daily fee equivalent to the ICSID Arbitrator's Daily Fee or such other daily fee as MOWR and Operator may agree in writing. This daily fee shall only be payable in respect of the following days and shall be considered as payment in full for: (A) Each day up to a maximum of two days of travel time in each direction for the journey between the IPE Member's home and the Site or other location of an IPE meeting. (B) Each day on Site or other locations of an IPE meeting. (iii) Expenses. In addition to the above, all reasonable and necessary travel expenses (including less than first-class air fare, subsistence, and other direct travel expenses) as well as the cost of telephone calls, faxes, and telexes incurred in connection with the duties as IPE Member shall be reimbursed against invoices. Receipts for all expenses shall be provided. (iv) Reimbursement of any taxes that may be levied in the country of the Site on payments made to the IPE Member (other than a national or

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permanent resident of the country of the Site) pursuant to this paragraph 8. b) Escalation. The retainer and fees shall remain fixed for the period of each IPE Member's term. c) Phasing out of monthly retainer fee. Beginning with the next month after the Taking-Over Certificate (or, if there are more than one, the one issued last) has been issued, the IPE Members shall receive only one-third of the monthly retainer fee. Beginning with the next month after the IPE has terminated its regular activities pursuant to paragraph 4 (a) above, the IPE members shall no longer receive any monthly retainer fee. d) Payments to the IPE Members shall be shared equally by MOWR and the Operator. The Operator shall pay Members' invoices within 30 calendar days after receipt of such invoices and shall invoice MOWR for one-half of the amounts of such invoices. MOWR shall pay such Operator's invoices within the time period specified in the Contract for other payments to the Operator by MOWR. e) Failure of either MOWR or the Operator to make payment in accordance with this Agreement shall constitute an event of default under the Contract, entitling the nondefaulting party to take the measures set forth, respectively, in [the contract clauses related to default]. f) Notwithstanding such event of default, and without waiver of rights therefrom, in the event that either MOWR or the Operator fails to make payment in accordance with these Rules and Procedures, the other party may pay whatever amount may be required to finance the operation of the IPE. The party making such payments, in addition to all other rights arising from such default, shall be entitled to reimbursement of all sums paid in excess of one-half of the amount required to maintain operation of the IPE, plus all costs of obtaining such sums.

L.5

IPE Site Visits:


a) The IPE shall visit the Site and meet with representatives of MOWR and the Operator and the CMU at regular intervals, at times of critical operation events, at the written request of either party, and in any case not less than one time in any period of 12 months. The timing of Site visits shall be as agreed among MOWR, the Operator, and the IPE, but failing agreement shall be fixed by the IPE. b) Site visits shall include an informal discussion of the status of the operation of the system, an inspection of the facilities, and the review of any Requests for Decision made in accordance with paragraph 10 below. Site visits shall be attended by personnel from MOWR, the Operator, and the CMU.

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(c) At the conclusion of each Site visit, the IPE shall prepare a report covering its activities during the visit and shall send copies to the parties and to the CMU.

L.6

Conduct of Hearings:
a) Normally hearings will be conducted at the Site, but any location that would be more convenient and still provide all required facilities and access to necessary documentation may be utilized by the IPE. Private sessions of the IPE may be held at any cost-effective location convenient to the IPE. b) MOWR, the CMU, and the Operator shall be given the opportunity to have representatives at all hearings. c) During the hearings, no IPE Member shall express any opinion concerning the merit of the respective arguments of the parties. d) After the hearings are concluded, the IPE shall meet privately to formulate its Decisions. All IPE deliberation shall be conducted in private, with all Members' individual views kept strictly confidential. The IPE's Decisions, together with an explanation of its reasoning, shall be submitted in writing to both parties and to the CMU. The Decisions shall be based on the pertinent Contract provisions, applicable laws and regulations, and the facts and circumstances involved in the dispute. e) The IPE shall make every effort to reach a unanimous Decision. If this proves impossible, the majority shall decide, and the dissenting Member may prepare a written minority report for submission to both parties and to the CMU.

L.7

Authority of the IPE

In all procedural matters, including the furnishing of written documents and arguments relating to disputes, Site visits, and conduct of hearings, the IPE shall have full and final authority. If a unanimous decision on any such matter proves impossible, the majority shall decide.

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Appendix M: CMU Budget and Technical Assistance Needs


This appendix contains a detailed budget for the Contract Monitoring Unit (CMU) (Section M.1), as well as an itemized budget for technical assistance the CMU will need to effectively carry out its functions (Section M.2). It also contains a budget for the IPE (Section

M.1 CMU Budget


Table M.1 shows indicative expenditures for the CMU during its first three years. This table is meant to be indicative of rough magnitudes only. MOWR should review closely our assumptions about unit costs. We have made estimates of unit costs based on our experience elsewhere in the world, but with very little specific knowledge of local salaries, equipment and O&M costs. The reader should also note that the first 3 years budget includes estimates for training and technical assistance as significant cost components. Table M.2 and Table M.3 provide the basis for these estimates. We do not assume the same level of technical assistance will be made after Year 3. Without this training expense (after year 3), we estimate the CMUs budget will be close to US$400,000 per year. Aside from technical assistance costs, wages are the most significant expense item. We have assumed the following annual salaries for each of the positions. Professional Staff: Director (CMU-1): USD 50,000/year 4 Analysts (CMU-2): USD 30,000/year/analyst Administrative and other staff Office Manager/Administrator (CMU-3): USD 12,000/year Administrative Assistant (CMU-4): USD 8,000/year 2 Drivers and/or security personnel (CMU-5): USD 7,000/year/employee Table M.1: Summary of Expenditure for CMU During First Three Years
Unit Year1 OPERATING COSTS Staff costs Professional (CMU1 - CMU2) Administrative and other (CMU3 - CMU5) Total staff cost Non-Staff Operating costs US$ 170,000 197,600 205,504 US$ 34,000 14,560 15,142 204,000 212,160 220,646 Year2 Year3

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Office costs Activities Costs General Cost Travel Training and Development Non-staff operating costs Miscellaneous Consultancy Costs Other operating costs Consultancy costs as % of other operating costs Total consultancy costs Total Operating Costs CAPITAL COSTS Computers & IT Equipment Office Equipment Furniture Vehicles Total capital costs TOTAL COST

US$ US$ US$ US$

40,882 21,448 55,837 9,000

56,577 25,150 56,473 4,500

57,036 22,531 57,161 4,500

US$ 177,120 242,880 242,880 US$ 304,288 385,580 384,109

US$ 508,288 597,740 604,755 % US$ 10% 50,829 10% 59,774 10% 60,476

US$ 559,116 657,514 665,231

US$ US$ US$ US$

83,887 14,025 21,060 75,000

US$ 193,972 US$ 753,088 657,514 665,231

M.2 Technical Assistance Needs


The CMU will be staffed with skilled professionals, but the team will need some 1) Initial training, as well as 2) Ongoing support in certain technical areas in order to carry out its functions effectively. Table M.2 lists course material, suggested providers and the format and duration for training over the first three years. Table M.3 provides cost estimates for each training module. This training program assumes the CMU will be set up at least 1 year in advance of when the private operator begins providing service.

274

Table M.2: Three-Year Training and Technical Assistance for CMU


Year Material to be covered 1 Basic principles of economic regulation (overview course) Regulation of irrigation tariffs, including training on contract tariff pass-through formula, tariff re-basing and discretionary adjustments Service quality regulation with specific focus on performance parameters specified in the contract Suggested provider 1 international regulatory advisor Format/duration 1 week training course with annotated bibliography 1 week training course with quantitative exercises and case studies 1 week training course with case studies and sample worksheets for logging service quality problems 3 day training course with case studies 3 day training course 1 week training course with templates and sample worksheets for logging complaints As needed support but with international consultant visits to coincide with periodic PO financial and operational reports

1 international regulatory advisor

2 international regulatory advisors

Training on negotiation and mediation

1 international advisor with region-specific experience in negotiation and mediation, and 1 local advisor with negotiation expertise 2 international advisors 1 international regulatory advisors

1 1

Training on operation of Water User Associations Training on customer communication/complaints handling procedures

Assistance in reviewing POs financial and operational reports and reviewing pass-through formula

2 international advisors (one engineer and on financial expert) with 2 local counterparts

275

Year Material to be covered 3 Assistance in presenting material to, and interacting with IPE for the purpose of discretionary adjustments and rebasing Engineering technical assistance on site visits/inspections

Suggested provider 2 international regulatory advisors with 2 local counterparts

Format/duration As needed support

International engineer with local counterparts with As needed support extensive irrigation experience

276

Table M.3: Costing of 3-Year Training and Technical Assistance for CMU
Year Material to be covered Number of Consultants 1 1 Total Number of Consultant Days 40 60 1,300 Average Daily Fee per Consultant 1,300 78,000 19,500 97,500 Total Fees 52,000 13,000 65,000 Total Expenses Total Program Cost

1 Basic principles of economic regulation (overview course) 1 Regulation of irrigation tariffs, including training on contract tariff pass-through formula, tariff re-basing and discretionary adjustments 1 Service quality regulation with specific focus on performance parameters specified in the contract 1 Training on negotiation and mediation 1 Training on operation of Water

60

1,000

120,000

30,000

150,000

2 2 1

20 20 30

1,150 700 1,200

46,000 28,000 36,000

11,500 7,000 9,000

57,500 35,000 45,000

Users Associations

1 Training on customer communication/complaints handling procedures 2 Assistance in reviewing POs financial and operational reports and reviewing passthrough formula 3 Assistance in presenting material to, and interacting with IPE for the purpose of

60

1,200

288,000

72,000

360,000

40

1,000

160,000

40,000

200,000

277

discretionary adjustments and rebasing 3 Engineering technical assistance on site visits/inspections Total Cost Year Material to be covered 4 30 1,000 120,000 30,000 150,000 1,160,000 Total Program Cost

Number of Consultants 1 1

1 Basic principles of economic regulation (overview course) 1 Regulation of irrigation tariffs, including training on contract tariff pass-through formula, tariff re-basing and discretionary adjustments 1 Service quality regulation with specific focus on performance parameters specified in the contract 1 Training on negotiation and mediation 1 Training on operation of Water User Associations 1 Training on customer communication/complaints handling procedures

Total Number of Consultant Days 40 60

Average Daily Fee per Consultant 1,300 1,300

Total Fees

Total Expenses

52,000 78,000

13,000 19,500

65,000 97,500

60

1,000 120,000 30,000 150,000

2 2 1

20 20 30

1,150 46,000 700 1,200 28,000 36,000 11,500 7,000 9,000 57,500 35,000 45,000

278

2 Assistance in reviewing POs financial and operational reports and reviewing passthrough formula 3 Assistance in presenting material to, and interacting with IPE for the purpose of discretionary adjustments and rebasing 3 Engineering technical assistance on site visits/inspections Total Cost

60

1,200

288,000

72,000

360,000

40

1,000 160,000 40,000 200,000

30

1,000

120,000

30,000

150,000 1,160,000

279

M.3 Independent Panel of Experts


The cost of the Independent Panel of Experts will not be borne by the CMU, but shared by MOWR and the PO. We include in Table M.4 an estimate of what we believe it will cost, during each of the first three, years to convene the IPE. Table M.4: Estimate of Annual IPE Costs
Item Number of IPE Members Hearings/Year Cost per day/member Average days/hearing (includes preparation time) Total Fees Expenses/Hearing (assumed to be 20 percent of fees) Total Hearing Costs Unit Number Number US$ Days US$ US$ US$ Amount 3 3 1,500 10 135,000 27,000 162,000

280

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