The World Bank / OECD

The World Bank
INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT
INTERNATIONAL DEVELOPMENT ASSOCIATION
Private Sector Participation
in Municipal Water Services
in Central and Eastern Europe and Central Asia
Facing A Crisis Of Confidence In Private Sector Participation In The Water Sector: Measures To Overcome Obstacles To More Effective PSP
Conference Proceedings
Vienna, 02-03 July 2003
October 2003

C:\Temp\Conference Proceedings-Final Report.doc

The World Bank / OECD

PSP in Municipal Water Services

in the ECA Region

Preface

This report sums up the presentations and papers presented at the Conference on Private Sector Participation in Municipal Water Services in Central and Eastern Europe and Central Asia (ECA), held from 2nd to 3rd July, 2003 in Vienna, at the Austrian Federal Economic Chamber. The conference was designed as a follow-up to the Paris conference organized by the World Bank and OECD in April 2002, and is part of a larger global consultation with statkeholders involved in the Water and Sanitation Sector (the Sector).

The conference brought together Private and Public operators, donors, International Financial Institutions, and members of civil society active in the Sector, as well as representatives of some client government’s to share their experiences and emerging lessons with private Sector Participation (PSP) in the Sector, changes in business strategy for investing in the ECA region in view of the changes in the global political and business environment, and discuss ways of maximizing the flow of investment capital and technical know-how to the ECA countries. Representatives of public sector utilities also discussed achievements in the sector under public sector management as a viable alternative to PSP in some cases. The meeting was organized by the World Bank and the OECD, and hosted by the Austrian Federal Economic Chamber (WKO), the main sponsors being Bank Austria Creditanstalt and the Austrian Consultants Association (ACA).

The contents of this report are set out in the same order as the presentations at the conference. The first one and a half days were devoted to discussion of specific topics and experiences related to Public Private Partnerships (PPPs) and PSP in the ECA region, including regulation, financing, risks, and international and domestic market development, as well as some of the lessons learntlearned as seen from the perspective of the donors, IFIs, the public and the private sector. On the second day, participants divided into two working groups, which focused on discussion of two key topics: (i) the potential role of domestic PSP in ECA, and (ii) The potential for improved Public Private Partnerships (PPPs) in water supply service provision in ECA – Measures to overcome obstacles. A summary of the discussions from each of the group sessions was presented to the plenary session at the end of the day. A summary of the key findings and lessons from the conference was also presented before the closing remarks from the conference co-chairs and sponsors. The Conference was chaired by Mr Jamal Saghir (World Bank, Water and Energy Director) and Mr Brendan Gillespie (OECD Environment Directorate, Head of the Non-member Countries Division).

Jamal SaghirBrendan Gillespie

DirectorHead

Energy and Water DepartmentNon-Member Countries Branch

World BankEnvironment Directorate

Co-chairmanOrganization for Economic

Co-operation and Development (OECD)

Note: The views expressed in this report are those of conference participants, and do not necessarily reflect those of the World Bank, OECD or their Member countries.

Table of Contents

1Executive Summary

2Introduction

2.1Scope of Conference

2.2Conference Objectives

3Summary Day 1

3.1Presentations Day 1

3.1.1Session 1 (Opening RemarksIFIs’ experience and others)

3.1.2Session 2 (Ooperators’Eexperiences)

3.2Discussion and Concluding Remarks of Day 1

3.2.1Discussions

3.2.2Concluding Remarks

4Summary Day 2

4.1Presentations Day 2

4.1.1Session 3 (donors’ experiences and others)

4.2Concluding Remarks on theTHE Presentations of Day 2

4.3Working Groups Session

4.3.1Working Group 1: Increasing the Potential for Domestic PSP in Water Supply Service Provision in ECA

4.3.2Working Group 2: Opportunity and Risks of Opening up Competition for Management Contracts to a Wider Array of Firms

5Lessons LearnTLearned, Conclusions and NExt Steps

6Annexes

6.1Annex A: List of Participants

6.2Annex B: Presentations

1

The World Bank / OECD

PSP in Municipal Water Services

in the ECA Region

ABBREVIATIONS

EAPEnvironmental Action Plan for Central and Eastern Europe

EBRDEuropean Bank for Reconstruction and Development

EC European Commission

ECAEurope and Central Asia Region

EIBEuropean Investment Bank

EUEuropean Union

EUREuros

IFCInternational Finance Corporation (World Bank Group)

IFIInternational Financial Institution

ISPAInstrument for Structural Policies for Pre-accession

MDGsMillennium Development Goals

OBAOutput-based Aid

ODAOfficial Development Assistance

OECDOrganization for Economic Co-operation and Development

PFIPrivate Finance Initiative

PPPPrivate Public Partnership

PQPre-qualification

PRGPartial Risk Guarantee

PSPrivate Sector

PSPPrivate Sector Participation

SAPARDSpecial Accession Programme for Agriculture and Rural Development

STANCentral Asian Countries

TORTerms of Reference

UFWUnaccounted-for Water

WSSWater Supply and Sanitation

1Executive Summary

One of the Millennium Development Goals (MDGs), elaborated at the Millenium Summit in September 2000___ and reaffirmed at the Johannesburg Earth Summit in ___, 2002, is to reduce by half the proportion of people without access to safe drinking water and basic sanitation by 2015. With the expected growth in population, an additional this implies providing water to an additional 1.5 billion people will need to be provided with basic water supply, and and basic sanitation to an an additional 2 billion people with sanitation, by the target date. . For the ECA region alone, this implies this would mean an increase in coverage of 3 million and 2 million people per year for water supply and sanitation, respectively. However, fewer than one in ten developing and transition countries is on track for achieving these goals.

However, based on a reality check less than one in ten low income and transition countries are on track for water supply and sanitation. This being off-track is the challenge the international community has to face.

Today, tThe annual investment needs for the sector in developing and transition economies total about is roughly US$ 80 billion worldwide, and this will but this will have to more than double within the next 20 to - 25 years. All possible sources of financing— i.e. nNational gGovernments, international financial institutions (IFIs), donors, and funds, International Financing Institutions (IFIs), donors and the national and international private sectors— (PS) will need to be utilizsed to the maximum extent possible, in order to be able to meet the MDG challenge. And yet there is a decreasing interest among the private sector in providing investment financing to investing in? the sector, and an increasing tendency to focus purely on operation issues.

To understanding the reasons for their decreasing interest, tThe World Bank and the Organization for Economic Co-operation and Development (OECD), together with other international organisations, have initiated a listening and learning process as, and a way to talk to service providers directly. The first event in this series was a conference in Paris in April 2002, focusing on Private Sector Participation (PSP) in Municipal Services in the ____ECA region. The second conference, held in Vienna in July 2003 and summarized in these Proceedings, focuses on the crisis in private participation in the water sector in Central and Eastern European and Central Asia. , in order to learn the reasons for decreasing attractiveness and thus investments. After the Paris conference last year, the Vienna conference is the second in this series.

The ECA region has shows unique problems. There are highly developed urban systems and a high service coverage in rural areas, but at cost being beyond current income level. Tthe aging infrastructure is collapsing due to lack of maintenance, resulting in high losses; a decline in the provision of safe water, . As a result, the services are now characterized by a declining provision of safe water, particularly in smaller cities and rural areas;,increasing unreliability of services; and rising costs to consumers. high losses and a lack of reliable operation at increasing cost being not affordable by the consumers.

The conference revealed several key issues related to private sector participation (PSP) in the sector, PSP which fall into five main categories: can be synthesized and categorized under the following 5 main topics:

A. Shifts in Business Strategyies of the PS

After the experiences of Argentina, September 11, and other cataclysmic other similar events, the PSprivate sector investors has shifted their business strategies is shifting its business strategies towards less "risky" countries and projects, and are demanding that and requests donors and IFIs to take over all risks not directly related to operations, including such as currency risk, regulatory risk, payment risk, sub-sovereign risk, and affordability risk. IFIs and donors respond that state that they cannot assume all these risks for take on all of these risks for the PSprivate sector, and therefore therefore will be more selective in choosing countries in which to support PSP projects. in future choose carefully and very selectively countries for PSP projects.

The Within the ECA region can be categorized into, three tiers of countries and markets with regard to PSP: can be identified:

• First-tier (i) The existing market (1st tier European Union (EU) accession countries accession countries) , where no help is needed by the PSprivate sector. The main driver in this market is EU legislation, to be adopted by these countries (aquise communautaire) with support from , which is supported by EU grant financing instruments such as the Instrument for Structural Policies for Pre-accession (like ISPA) and the Special Accession Programme for Agriculture and Rural Development (SAPARD), which are available to support these countries in preparing for accession. . However, these financing instruments have in some cases actually hindered private sector participation, PSP due to their lack of practical procedures to combine PSprivate sector with public grant money. The private sector considers this market to be pretty much saturated.

Second-tier EU accession c

• (ii) Countries such aslike Turkey, Romania, and Bulgaria, and the Balkans, for which fall into the second tier of markets, for which the PSprivate sectorhas asked the requests IFIs and donors to provide assistance in opening up their markets. Turkey for example is quite advanced in this process.

• Third-tier c(iii) Countries such as Russia, Ukraine, and Kazakhstan,, is where new markets still could be created. fall within the third tier region, e.g. Russia, Ukraine, Kazakhstan. This requires behaviour change, and learning about the mentality differences to be overcome, scale up the behaviour change; inform on and communicate technical, operational, financial, and management aspects of private sector participation in the water sectorPSP by a . A critical mass of technicians and policyy makers. The Bank has proposed the establishment of needs to be reached to understand modern utility methods. There is a proposal to establish an appropriate training centerre for ECA countries based in Poland.

B. Sector Financing Issues

The international PSprivate sector is currently attempting to struggling to restructure, shed it is shedding global portfolios, and reduce downgrading project debt, in response to the growing risk aversion of their shareholders following . Risk aversion has notably increased following 9/11, the Argentina crises, and corporate bankruptcies. However, and the question of how to close revenue cycles are to be closed has not been answered so far. Only l

It is evident that very little funding is available and the PS is basically retreating from financial engagements as their shareholders have become much more risk averse. Limited funding for developing the sector is available from the World Bank (IBRD/IDA US$D 960 million over in the next 3 years from IBRD and IDA) and and other donors. This will require requires a much more selective and stringent targeting of the funding, and far in terms of developing PSP and needs far better co-ordination between the major donors and IFIs.

Furthermore, the “easy investment opportunities are already being supported, and y projects” have been picked up and the PSprivate sector seems to be running out of markets with a tolerable level of risk. During the past few years, tOver the last years thehe market hasfocused concentrated on the largebig cities. P rivate investors consider however smaller cities and rural areas are less attractive for the PS for investment; and are instead focusing on operations, while depending on . Apparently, operators are retreating from providing financing and are focusing on operation (“… this is what we can and what we want to do …”) requesting from the donors and /IFIs to provide financing.

The private sector considers concessions in ECA highly unlikely, and tPS shows now considerably less interest in getting involved in concessions and not in bringing in fresh capital. here is a very limited appetite even feven foor LLease (AAffermage) contracts. Management Contracts are now considered the safest way of entering into new markets, and t. The donor community, including the World Bank, will continue to support the use of such arrangements where appropriate. However, use MCs, but risk mitigation cannot be done in vacuum. In the future, operatorsin a vacuum nor through institution building thus, operators should also, in future, be used as an instruments of change, supported by a more pro-active role of the donor community that plays a more active role in in terms of resolving difficulties between the PSprivate sector and the client.

C. Regulatory Issues

Private investors attribute the failure of mMany setback and failures of PSP projects can be attributed to absent or unclear regulations, or to over-regulation when the government wants to use businesses to achieve social goals. They deficiencies in regulation issues in terms of public control over private business, in order to achieve socially desired goals. Proper regulations are considered a prerequisite for a clear, transparent and without conflict project implementation. Operators complain that there is no proper mix of a set of clear rules existing, thus they have to deal with situations where no regulations exists on the one hand and, on the other hand, with over regulation. In addition the PS also complain about the absence of calls for a more stable and transparent contract administration, and want a clearer statement from of IFIs and donors about their readiness to to be ready to mitigate attendant risks.

It was suggested that the IFI/donor community should be prepared to developing procedures to combine output- based aid (OBA) with PSprivate sector engagement; and should improve M. PS also asked for more advanced MCsanagement Contracts to give operators more control, including control over personnel. In addition, with delegated management including control over personnel. the Bank should simplify its procurement requirements; and IFIs and donors should combine should be simplified and PS would consider it advantageous to accompany PS Llease and aAffermagearrangements with IFI/donor grants and loans.

D. Market Development for New Entrants and Domestic OperatorsPS

GGenerally there are market opportunities for there are market potentials for smaller operators in the Region, but some difficulties need to be overcome. however, Smaller operators a set of difficulties need to be overcome. To do so operators tend to focus more on small MMCsanagement Contracts, which in many cases amount to little more than the provision of consulting services. even MCs of smaller volumes which means basically some of the operators go back to pure consulting services. However, the municipalities often are not interested in advice; se and consulting services - they expect cash flow to solve surrender their problems. Thus So there is a substantial need for some form of facilitation to help the client understand that or, mediator to explain the client that a step- by- step approach is needed to overcome their problems; i.e., that e.g. good management performance is a key to attracting issue to better attract international financiers.

To increase the attractiveness of smaller cities, the PSprivate sector proposed to amalgamate smaller cities into viable packages and to lower the barriers (e.g. prequalification requirements for size of cities managed, and firm’s annual turnover).

For the domestic PSprivate sector, the market potential is generally large, and local participation is key for long-term sustainability. H, however, the capacity of local companies is in many cases very low; businesses in the sector are often unprofitable; and the . Local participation is considered a key element for long term project sustainability. The key to involving full domestic PS potential is that the business must be profitable for them. Ddomestic PSprivate sector cannot take over the political and financial risks involved. Dand donors can play a key role if they coordinate their efforts to support the creation of a better climate for dbetter co-ordinate themselves as well as creating a climate for development of the domestic PSprivate sector.

E. The Role of Key Message from the Donors

The donor’s role in improving competition in the sector lies in providing transparent transactions, determined through: supporting sector framework conditions; thorough project preparation, design, tendering, and execution; and provision of appropriate financing instruments.

The problem of The limited available funding for PSprivate sector projects requires a more concerted action on the part of the IFI/of the IFI / donor community. Participants discussed the The need to improve their coordination among the different organizations, with a single donor in a country taking the lead, since ncould act as a leading organization. Non-coordinated activities can weaken all of the efforts. of the IFI / donor community in a country weakens severely their positive intentions.

The IFI/donor community view PSP as one vehicle for improving water supply service provision, but not as a panacea. They will continue to support with PSP projects, where appropriate, as instruments of their development work, and are however, PSP is only one of the tools for their policy work. The interest in PSP projects is there, but models need to be adopted, not only MCs and PSP is not an objective per se. Donors clearly stated that PSP is just one instrument among many which they are willing to take on, if it looks to be the most appropriate solution. They call upon the PS to improve its image.