document of the world bank for official use only report no: 35747-tu project appraisal document on a...

Document o f The World Bank

FOR OFFICIAL USE ONLY

Report No: 35747-TU

PROJECT APPRAISAL DOCUMENT

ON A

PROPOSED LOAN

IN THE AMOUNT OF EUR 280 MILLION

(USS3 3 6 MILLION EQUIVALENT)

TO

ELEKTHK W T I M A. 8. (EUAS)

WITH THE GUARANTEE OF THE REPUBLIC OF TURKEY

FOR THE

ELECTRICITY GENERATION REHABILITATION AND RESTRUCTURING PROJECT

M a y 5,2006

Infrastructure Department Europe and Central Asia Region

This document has a restricted distribution and may be used by recipients only in the performance o f their off icial duties. I t s contents may not otherwise be disclosed without World Bank authorization.

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CURRENCY EQUIVALENTS (Exchange Rate Effective March 3 1,2006)

Currency Unit = New Turkish Lira (YTL) YTL1.35 = US$1 US$1.20 = €1

FISCAL YEAR

ABBREVIATIONS AND ACRONYMS January 1 - December 31

Portfolio generating company (to be created from the restructuring o f EUAS) containing the Afgin- Elbistan power stations Adaptable Program Loan Build Own and Operate Power Plants BORU HATLARI ILE PETROL TASIMA A.S. (Turkish Pipeline and Petroleum Transmission

Build Operate and Transfer Power Plants Country Assistance Strategy Country Financial Accountability Assessment Distribution company(ies) formed by restructuring TEDAS Devlet Su I g l e r i (State Hydraulic Works) Environmental Assessment European Commission Energy Community o f South Eastern Europe Environmental Impact Assessment Energy Market Law, No. 4628,2001 Environmental Management Plan Energy Market Regulatory Authority Enerji Piyasasi Diizenleme Kurumu (EMRA in Turkish) Enterprise Resource Planning program Electrostatic Precipitator European Union Elektrik Uretim A,$. (Electricity Generation Corporation, Turkey) Flue Gas Desulphurization Unit Financial Monitoring Reports - Interim un-audited financial statements Portfolio generating companies to be created from the restructuring o f EUAS International Bank for Reconstruction and Development International Development Association International Finance Corporation Liquefied Natural Gas Ministry o f Energy and Natural Resources Ministry o f Environment & Forestry Ministry o f Finance Privatization Administration Power Purchase Agreement Public-Private Mastructure Advisory Facility RWE Power International State Economic Enterprise Specific Investment Loan State Planning Organization Tiirkiye Elektrik A$. (Turkish Electricity Corporation, Predecessor o f EUAS and TEhS) Tiirkiye Elektrik Dagitlm A.S. (Turkish Electricity Distribution Corporation) Tiirkiye Elektrik Kurumu (Turkish Electricity Corporation, Predecessor o f existing Corporations) Tiirkiye Elektrik I let im A.S. (Turkish Electricity Transmission Corporation) Union for the Coordination o f Transmission o f Electricity in Europe

Company)

Afyin GENCO

APL BOOS BOTAS

BOTS CAS CFAA DISCO(s) D S I EA E C ECSEE EL4 EML EMP EMRA EPDK ERP ESP EU EUAS FGD FMR GENCO(s) IBRD IDA IFC LNG MENR MOEF MOF P A PPA PPIAF RWE SEE SIL SPO TEAS TEDAS TEK TEhS UCTE

Vice President: Shigeo Katsu

Sector Director: Peter D. Thomson Country ManagerDirector: Andrew N. Vorkink

Task Team Leader: Ranj i t J. Lamech

TURKEY ELECTRICITY GENERATION REHABILITATION AND RESTRUCTURING

CONTENTS

Page

STRATEGIC CONTEXT AND RATIONALE ................................................................. 1 Country and sector issues .................................................................................................... 1

Rationale for Bank involvement ......................................................................................... 4

Higher level objectives to which the project contributes .................................................... 5

PROJECT DESCRIPTION ................................................................................................. 6

A . 1 . 2 . 3 .

B . 1 . 2 . 3 . 4 . 5 .

Lending instrument ............................................................................................................. 6 Project development objective and key indicators .............................................................. 6

Project components ............................................................................................................. 6

Lessons learned and reflected in the project design ............................................................ 8 Alternatives Considered and Reasons for Rejection ........................................................... 9

Partnership arrangements (if applicable) ............................................................................ 9

Institutional and implementation arrangements ................................................................ 10

4 . Sustainability ..................................................................................................................... 10

Critical risks and possible controversial aspects ............................................................... 11

Loadcredit conditions and covenants ............................................................................... 13

D . APPRAISAL SUMMARY ................................................................................................. 14

C . IMPLEMENTATION .......................................................................................................... 9

1 . 2 . 3 . Monitoring and evaluation o f outcomeshesults ................................................................ 10

. . .

5 . 6 .

1 . 2 . 3 . 4 . 5 . 6 . 7 .

Economic and financial analyses ...................................................................................... 14

Technical ........................................................................................................................... 17

Fiduciary ........................................................................................................................... 18

Social ................................................................................................................................. 19

Environment ...................................................................................................................... 19

Safeguard policies ............................................................................................................. 20 Policy Exceptions and Readiness ...................................................................................... 21

This document has a restricted distribution and may be used by recipients only in the performance o f their official duties . I t s contents may not otherwise be disclosed without Wor ld Bank authorization .

Annex 1: Country and Sector or Program Background ......................................................... 22

Annex 2: Major Related Projects Financed by the Bank and/or Other Agencies ................ 27

Annex 3: Results Framework and Monitoring ........................................................................ 29

Annex 4: Detailed Project Description ...................................................................................... 31

Annex 5: Project Costs ............................................................................................................... 40

Annex 6: Implementation Arrangements ................................................................................. 41

Annex 7: Financial Management and Disbursement Arrangements ..................................... 42

Annex 8: Procurement Arrangements ...................................................................................... 49

Annex 9: Economic and Financial Analysis ............................................................................. 53

Annex 10: Safeguard Policy Issues ............................................................................................ 72

Annex 11: Project Preparation and Supervision ..................................................................... 78

Annex 12: Documents in the Project File ................................................................................. 79

Annex 13: Statement of Loans and Credits .............................................................................. 80

Annex 14: Country at a Glance ................................................................................................. 83

Annex 15: Map IBRD 34704 ...................................................................................................... 85

TURKEY

22.34


122.58 144.92

PROJECT APPRAISAL DOCUMENT

DEVELOPMENT Total:

EUROPE AND CENTRAL ASIA

122.53 213.47 336.00 144.88 336.05 480.92

INFRASTRUCTURE DEPARTMENT

Date: May 5, 2006 Country Director: Andrew N. Vorkink Sector Managermirector: Peter D. Thomson

Team Leader: Ranjit J. Lamech Sectors: Power (1 00%) Themes: Infrastructure services for private sector development (P);Debt management and fiscal substainability (S)

Project ID: PO85561 Environmental screening category: Full Assessment

Lending Instrument: Specific Investment Loan Safeguard screening category: Project Financing Data

[XI Loan [ ] Credit [ ] Grant [ ] Guarantee [ ] Other:

For Loans/Credits/Others: Total Bank financing (EURO million.): 280.00

I BORROWER INTERNATIONAL BANK FOR RECONSTRUCTION AND I I I

Borrower: Elektrik Uretim A.$. (EUAS) Gene1 Mudurliigii Inonii Bulvari No. 27 Bahgelievler Ankara, Turkey Tel: 90-3 12-2 12-69-00 muzaffer . b as aran@euas . gov . tr www.euas.gov. tr

Fax: 90-312-213-88-73

Responsible Agency: EUAS

Annua l Cumulat ive

[ ]Yes [XINO D o e s the project depart from the CAS in content or other significant respects? Re$ PAD A.3

33.60 134.40 112.00 56.00 0.00 0.00 0.00 0.00 0.00 33.60 168.00 280.00 336.00 0.00 0.00 0.00 0.00 0.00

Does the project require any exceptions from Bank policies? Re$ PAD D. 7 H a v e these been approved by Bank management? I s approval for any p o l i c y exception sought from the Board? Does the project include any cr i t ical r isks rated “substantial” or “high”? Re$ PAD C.5 Does the project meet the Regional cr i ter ia for readiness for implementat ion? Re$ PAD D. 7 Project development object ive Re$ PAD B.2, Technical Annex 3

T o improve supply security during the reform transition and restructure the state- owned generation business into corporatized entities.

Project description [one-sentence summary of each component] Re$ PAD B.3.a, Technical Annex 4 Component 1 - Afsin-Elbistan A Rehabilitation: The main component o f this project i s the rehabilitation o f Afsin-Elbistan A Power Plant. This component will focus on: (a) the repair, replacement and upgrade o f power plant systems to restore reliability, availability and power output, and improve plant efficiency; (b) the upgrade o f environmental protection systems and environmental monitoring; (c) the improvement o f operational and maintenance practices - particularly maintenance monitoring systems, predictive maintenance based on historical data analysis, and maintenance planning/scheduling; and (d) investments to meet U C T E standards for primary and secondary frequency control required to integrate with the South East European market.

[ ]Yes [XINO [ ]Yes [XINO [ ]Yes [XINO

[ X I Y e s [ ] N o

[ X I Y e s [ ] N o

Component 2 - Support for restructuring o f the generation business: This component will focus on supporting EUAS in restructuring i t s generation business into financially and operationally viable portfolio companies and a hydro corporation. W h i c h safeguard pol ic ies are triggered, if any? Re$ PAD D. 6, Technical Annex 10 Environmental Assessment (OP/BP/GP 4.0 1) Significant, non-standard conditions, if any, for: Re$ PAD C. 7 Board presentation: N o n e

Conditions for Loan Effectiveness: Publication in the Official Gazette o f the Amendment to the Regulation on the Control o f Air Pollution f rom Industrial Sources to al low a transition period for existing thermal plants, including Afsin-Elbistan A Power Plant, to install flue gas desulhrization controls to meet sulfur dioxide emission standards.

Covenants applicable to project implementation:

Covenants in the Loan Agreement addition to the standard covenants relating to audits, accounts, procurement plans, mid-term reviews etc.

I.

The following covenants are included in the loan agreement, in

Assignment of Obligation; Disposition of Assets (a) The Borrower shall consult with the Bank prior to the finalization o f any strategy related to

the sale, lease, transfer, assignment or disposal o f the Afsin-Elbistan power sector assets, comprising power plant A, power plant B and the mining assets in the Afsin Elbistan area owned by the Borrower.

11. Financial Covenants (a) EUAS will maintain a debt service coverage ratio o f not less than 1.2 every year starting on

2006. (b) EUAS will achieve a self financing ratio (funds f rom internal resources as a proportion o f the

three-year average capital expenditure) o f not less than 25% in every year starting on 2006.

111. Financial Management Covenants (a) EUAS will maintain a financial management system acceptable to the Bank. (b) EUAS wil l install and make functional the enterprise resource planning program (ERP) by

December 3 1,2007. I

A. STRATEGIC CONTEXT AND RATIONALE

1. Count ry and sector issues

Country Economic Overview . The Turkish economy has rebounded from the 2001 crisis which had serious economic and social impacts. By the end of 2001, the currency had devalued by 50 percent, nominal interest rates were about 100 percent, and the banking system had virtually collapsed. GNP growth has been strong since 2001 - 8 percent in 2002, 6 percent in 2003, 10 percent in 2004 and about 7.6 percent last year. Inflation i s under control reaching single digits (7.7 percent) in 2005, the lowest in Turkey for 35 years. Several factors contributed to the improved macroeconomic performance - key amongst them are: strong fiscal discipline which has allowed the maintenance o f a large primary surplus on the order o f 6.5 percent o f GNP; on-going structural reform; and political stability since 2002. The EU’s decision to open accession negotiations with Turkey in October 2005 -has been an important signal to financial markets and has created a firm anchor for the country’s development and structural reforms in the years ahead.

.

. Impetus for Electricity Sector Reforms The economic crisis o f 2001 led to the crystallization and recognition o f several structural and planning deficiencies in the electricity sector, the most important o f which were:

A build-up o f public contingent liabilities as a result o f the Government guaranteeing debt for a substantial amount o f privately financed generation capacity. These generation projects have imposed a heavy take-or-pay burden o n the electricity system and have complicated the transition to a structure where the commercial risk can be shifted to private investors. A rising quasi-fiscal burden on the budget stemming f rom growing consumer nonpayment and electricity theft problems at the distribution level. The non-payments worsened as a consequence o f the economic crises. Although an attempt was made at offering private sector concessions for the distribution sector in the period 1999-2001, most o f these concessions involved guaranteed distribution margins with the supply risk borne by the Government. This approach was abandoned due to legal challenges to the approach and the nature o f r isk sharing. Political influence o n operating, planning and pricing decisions that made operational decision making more difficult.

.

. Reform Direction - Electricity Market L a w and the EU M a r k e t Integration Process . The Government has embarked upon a comprehensive reform and restructuring program

o f the electricity sector t o create a liberalized, efficient and economic sector. This was initiated by the Electricity Market L a w (Law No. 4628) promulgated in February 2001. The principles and goals o f the reform program defined by this L a w are substantially in line with EC Directives (1996/92/EC and 2003/54/EC) concerning rules for the internal market for electricity. Turkey i s a signatory o f the Athens Memoranda o f 2002 and 2003 that the EC initiated to develop the regional electricity market in South East Europe and eventually integrate it with the internal electricity market o f the European Union. The 2002 Athens Memorandum initiated the regional market development process commonly referred to as the “Athens process”. A more detailed version o f the memorandum was signed in 2003,

.

1

which i s referred to as the Athens Memorandum 2003, and supersedes the 2002 document. Whi le other regional members signed the Treaty o n October 25,2005, Turkey did not, owing to reservations on some o f the Treaty provisions (Annex 1). With the EU decision o f October 3, 2005 to begin negotiations for full accession, some reservations o n the Treaty now become intertwined with the negotiations on the Energy Chapter o f the Acguis Communautaive. Turkey however remains committed to, and continues to implement the provisions o f the 2003 Athens Memorandum.

Reform Implementation

Functional and corporate restructuring of the sector - The electricity sector has been restructured into a generating corporation EUAS, a trading corporation TETAS, a transmission corporation TEIAS, a distribution corporation TEDAS and regional distribution companies (DISCOS). The regional distribution companies are being prepared for privatization. See Figure A. 1 below on the currently planned transitional sector structure. Regulatory Authority - Turkey has set up an independent regulatory authority, the Energy Market Regulatory Authority (EMRA) with jurisdiction over electricity, gas and petroleum. EMRA has powers over licensing, tar i f f setting and customer service issues. Retail Competition in Electricity - Consumers whose annual consumption exceeds 6.0 GWh can choose their own supplier - this represents more than 30% o f the total Turkish electricity market. Competitive Market Structure - Market simulations are in progress to introduce a competitive bilateral contract market with a balancing and settlement system. TEIAS, the transmission company i s the independent system operator, and will also be the market operator. The market i s expected to provide the necessary price signals for potential new generation.

Figure A.1: Transitional Electricity Sector Structure

2

K e y M e d i u m - T e r m Sector Issues

The key medium term sector issues include:

(a) Ensuring supply security - Electricity demand has been growing at about 6 percent per annum between 2002 and 2005 and the Government anticipates that i t will accelerate over the next decade closer to the long term average o f about 8%. (The Government i s also considering a l o w growth case where demand growth remains about 6%) In any case, capacity increases on the order o f 1,500-2,000 MW per annum are required from around 2009-2010 onwards. The issue o f concern i s that although licenses have been issued for about 6,000 MW o f new capacity (of which 4,000 MW i s for small hydro and wind), presently very litt le new construction has been started. These problems are largely l inked to the on-going market implementation which has not yet led to the formation o f creditworthy private distributors who can contract for new capacity andor electricity offtake. In order to strengthen supply security, the implementation o f the market and privatization o f distribution are vital. The Bank team i s working with the Government o n a policy note on addressing supply security in parallel - this study focuses o n the near term solutions as wel l as more systemic solutions for the medium term.

(b) Accumulated arrears in the electricity utilities - Operating revenues at a l l the publicly- owned electricity and gas sector companies in Turkey are inadequate to meet their longer term level o f operating costs and expenditures. The problem i s mainly in the distribution business managed by TEDAS. As o f 2004, the theft and loss percentage i s 18.5% o f purchases by TEDAS. Due to these problems there i s a 25-27% shortfall in payments for purchased electricity by TEDAS which in turn cascades as revenue shortfalls to a l l the upstream electricity and gas businesses. The Government i s studying various alternatives to deal with the problem o f accumulated arrears (See Annex 9).

(c) Reconciling independent economic sector regulation with the Government’s economic stabilization controls - Presently, the Government exercises certain economic controls and constraints o n pricing o f energy services/outputs and investment decisions, in order to maintain fiscal prudence, achieve a healthy primary surplus, and restrain inflationary pressures. There remains a fine l ine between economic stabilization controls and other forms o f economic controls that prevent the development o f institutions essential to a functioning market economy. T o mitigate regulatory risk for private investment i t will be important that the economic stabilization restraints are relaxed to al low timely pass-through o f costs to consumers - specifically: (i) wholesale gas prices should be adjusted to reflect the market terms in the underlying contracts; (ii) electricity prices are adjusted to reflect operating cost changes at the distribution level; (iii) electricity produced by state-owned hydro power plants which i s sold into the market ,is priced at levels that send appropriate signals o f scarcity and water value so as not to distort wholesale market price signals. In addition, the regulator should approve investment programs consistent with established performance targets.

(d) Transition to compliance with European internal market and environmental standards - Turkey i s committed to the principles o f the Athens memorandum, even though it did not s ign the Treaty in October 2005. Although Turkey has begun implementing fundamental structural reforms in i t s power sector, some o f which are far more advanced than required from the EU’s perspective, there are several areas, such as the timeframe for complete retail market opening that Turkey has reservations on, for good reasons. Turkey has already allowed significant retail market opening with eligibil i ty for consumers whose annual consumption exceeds 6.0 GWh (this i s more than

3

30% o f the total Turkish market). Turkey i s perhaps second only to Romania in the degree o f market opening amongst a l l SEE countries. The results have been positive f rom the point o f v iew o f attracting new capacity and ensuring better supply quality for these consumers. However, in order to free up al l the existing consumers, several fundamental changes are required in the sector, most critical among these being the improvement in distribution system losses and payment discipline. The Government i s currently preparing for the privatization o f distribution, which i s seen as an important solution for these improvements. Privatization, however, has been delayed for several reasons, chief among them being the delays in creation o f the electricity market, and the finalization o f a privatization mechanism that i s consistent with the market structure and operation, as well as legally permissible.

A key area where Turkey has reservations i s with regard to compliance with the timetable in the Treaty to meet EU environmental standards. In July 2005 EU consultants produced a report o n Turkey’s investment needs in order for i t to be in compliance with the EU Large Combustion Plant Directive which limits emissions by these plants (Directive 2001/80/EC). Almost al l o f the plants covered by the Directive are thermal power plants and the estimated cost o f bringing them into compliance with the EU Directive i s 1.5- 1.9 B i l l i on Euro (US$ 1.8-2.3 Billion). This i s a large investment requirement for Turkey, and, in the absence o f concessional financing, will require a number o f years to implement, given the lack o f adequate fiscal space for incremental investment.

Rationale for Bank involvement

World Bank’s support under the proposed Electricity Generation Rehabilitation and Restructuring Project i s predicated o n four elements o f critical importance to the economy and the sector. These are to:

2.

Th

.

. . . Achieve security o f supply over the medium-term (specifically energy shortages in the 2009-20 10 period). Prevent further deterioration and enhance value o f an important state asset. Improve environmental quality and environmental compliance. Advance the implementation o f reforms in the electricity generation sector in a manner consistent with the overall reform program.

Achieving security of supply over the medium term As noted above and discussed in detail in the economic analysis in Annex 9, Turkey i s l ikely to face growing shortages of energy in the 2009-2010 period depending o n the pace of growth in demand. Large scale private sector investments in new generation capacity are not occurring at the required pace largely because the competitive market system i s sti l l in trial stage and the distribution sector i s s t i l l in the process o f being restructured for subsequent privatization. Furthermore, the Government has constraints o n the provision o f guaranteed long-term off-take agreements. The rehabilitation o f existing generation capacity by EUAS i s therefore, considered the fastest alternative for increasing necessary energy supplies. The economic and financial analyses demonstrate that the rehabilitation o f Af9in-Elbistan A power plant i s the least cost alternative for incremental generation and can be completed in about 2.5-3 years. Through engaging in this rehabilitation project therefore, the Bank would support one o f the most critical investments in the sector at this stage. In parallel the Wor ld Bank i s supporting the Government in devising private-public options to bringing in new capacity over the medium term in a manner consistent with the market structure.

4

Prevent further deterioration and enhance value of an important state asset Af$in-Elbistan A power plant requires urgent rehabilitation. I t has deteriorated significantly and pre-maturely owing to a lack o f maintenance management and investment which was exacerbated due to operational responsibility uncertainties f rom 1998-200 1 '. The rehabilitation project will stem further deterioration by putting in improved operating and maintenance practices, and will extend the l i fe o f the plant significantly.

Improve environmental quality and compliance The project will include investments which will substantially reduce dust and particulate emissions, a significant problem in the area. These investments will bring the plant into compliance with Turkish and most international standards. In addition, through its dialog with the Government, the Bank has helped accelerate a review o f SO2 pollution controls on existing thermal plants, which has led to the Government to provide a reasonable transition period to implement flue gas desulphurization units (FGDs), provided that such plants continue to meet air quality standards.

Advance the implementation of reforms in the generation sector The reform components o f the project will support the Government in restructuring the generation sector in a manner consistent with the overall reform program. The project can focus on several aspects o f financial, accounting, operational and organizational restructuring which will have to be completed to establish the generation companies (Gencos) and prepare them for privatization. Based on the conclusions o f the supply security work being carried out in parallel, the Bank will also provide assistance to explore options for bringing in additional generation consistent with the evolving competitive market over the medium term.

Synergies with the Wor ld Bank Energy Program in Turkey From the perspective o f the Wor ld Bank's energy program in Turkey, the proposed Electricity Generation Rehabilitation and Restructuring Project i s an important part o f the Bank's ongoing lending and advisory support to the Turhsh energy sector (See Annex 2). The overall assistance o f the Bank supports the implementation o f structural reforms, bridges gaps in electricity and gas service delivery needs during the transition, and assists in meeting EU integration challenges. T h i s loan in particular will support reforms in the generation sector.

3. Higher level objectives to which the project contributes

The electricity reform strategy o f the Turkish Government, which i s formalized in the Electricity Market L a w o f February 2001 and the Strategy Paper o f March 2004, envisages the restructuring of the electricity sector and the eventual privatization o f the distribution and generation businesses over the medium term. The privatization o f distribution, and the restructuring o f the generation business into separate companies, has been delayed. This in turn i s affecting the implementation o f the competitive market. Through the project, the Bank will assist in the restructuring o f the generation sector, thus supporting ultimately the successful transition to a competitive market.

The Project i s consistent with the Country Assistance Strategy (CAS) for Turkey, and i s listed in the Progress Report for the CAS for Turkey for the period FY 2004-07 (Report No. 33995-TU, dated November 8,2005).

' T h i s was the period when a Concession contract for the plant was signed with a private operator but not implemented owing to inability to reach agreement on commercial and operational parameters.

5

B. PROJECT DESCRIPTION

1. Lending instrument

This project will use a Specific Investment Loan (SIL). The loan will be borrowed directly by EUAS, under a sovereign guarantee fiom the Republic o f Turkey. The loan will be a variable spread loan (VSL) - with level repayments o f principal, and a 15-year maturity including a grace period o f 5-years.

2. Project development objective and key indicators

Project development objective: To improve supply security during the reform transition and restructure the state- owned generation business into corporatized entities.

Achievement o f these objectives will be monitored through the following indicators: (a) Progress in rehabilitation o f Afyin-Elbistan A Power Plant; (b) Progress in creation o f generation companies (Gencos) f rom EUAS and finalization o f

transitional contracts with distribution companies; and (c) Improvement in dust emission levels by the Afyin Elbistan A Plant.

3. Project components

The Project has two components (Table B. 1 below shows summarized cost estimates):

Component 1 - Afyin-Elbistan-A Rehabilitation The main component o f this project i s the rehabilitation o f Afyin-Elbistan A Power Plant. The Afyin Elbistan generation complex which includes Afyin Elbistan A and the newly commissioned Afyin Elbistan B, i s the largest thermal generation complex in Turkey. Afyin Elbistan A has a capacity o f 1,355 MW (3x340 MW + 1 x335 MW) and i t s four units were commissioned between 1984 and 1987. Performance o f the Afyin Elbistan A units in terms o f efficiency and availability has deteriorated sharply because o f inadequate maintenance. Current available capacity i s about 85% o f i t s original installed name-plate capacity.

This component will include:

(a) Repair, replacement and upgrade of the power plant systems to restore reliability, availability, power output and improve plant efficiency.

(b) Implementation of environmental protection systems and monitoring - new electrostatic precipitators (ESPs) will be installed to reduce and bring dust and particulate emissions within the Turkish Emission limits. Power plant dust emission from Afyin Elbistan A i s the most significant environmental problem from the complex. In addition, continuous environmental monitoring and data logging equipment wil l be provided and implemented. Environmental monitoring practices will be revised and training will be provided.

(c) Improvements in plant operation and maintenance practices that are critical to keep the plant in good operating condition with high availability after rehabilitation. These will include procedures and systems for: equipment monitoring; historical data analysis for predictive maintenance; and maintenance scheduling. In addition, staff training programs to enhance operational and maintenance practices will be implemented.

6

(d) Implementation of control systems to meet UCTE standards for primary and secondary frequency control - these systems would allow the power plant to meet the standards established by the Union for the Coordination o f Transmission o f Electricity in Europe (UCTE). Meeting these standards would help Turkey in being certified to operate synchronously with the South East European Electricity network.

This component wi l l also include support services for project implementation. This will be in addition to the project management services that will be provided by RWE International.

Component 2 - Support for Financial and Operational Restructuring of the Generation Business This component will focus on supporting EUAS in restructuring i t s generation business into financially and operationally viable portfolio generation companies and a hydro corporation. This work will create the basis for undertaking the future privatization o f these generation entities. The PHRD grant for the preparation o f this Project has been utilized to begin this work. Consultants have analyzed different portfolio configurations based o n criteria such as fuel mix, load following capabilities and financial viability, and have also prepared draft transition contracts between GENCOs and TETAS/ distribution companies. Based o n this work, the Government has decided on 6 portfolio companies, and these have been earmarked as separate uni ts within EUAS, in addition to the residual EUAS Hydro. The Project proposes to assist in completing this work, focusing o n aspects o f financial and operational restructuring o f the companies to create them as viable business units.

The Project will also provide support, if necessary, t o EUAS and the Government to implement mechanisms to address generation supply security needs in the period beyond 2008. The init ial work o n assessing options and strategies i s being funded through separate grant funds.

Financing Plan The proposed Bank loan will finance the main rehabilitation contract. This contract will cover a l l the major critical aspects o f the rehabilitation included in Component 1 such as the rehabilitation o f the boiler and firing system, the electrostatic precipitators (ESPs), the main cooling water and condensate water system (covered under the Balance o f Plant Mechanical), control and instrumentation, and ash and coal handling.

The remaining portions o f Component 1 will be financed from EUAS’ operating and maintenance budget since these elements are either currently ongoing or are logically covered by the annual maintenance budget. The most important sub-component covered by EUAS is the ongoing rehabilitation o f the steam turbines and generators. EUAS’ maintenance budget will also cover elements such as the switchgear, transformers and other general instrument supplies (Balance o f Plant Electrical), cooling tower coating and reinforcement, and environment monitoring. The bidding documents for the main contract will contain suitable provisions to reflect the fact that some works are ongoing, and that EUAS will provide some components f rom i t s own resources.

The operational and maintenance practice improvement services, and specialized project management services will be funded through the Bank loan.

Under component 2 the Bank loan will be used for services to facilitate the financial and operational restructuring o f EUAS in to multiple generation companies. In addition, provision will be made under component 2 to utilize the earmarked resources to implement mechanisms to address generation supply security needs in the medium-term.

7

Table B.1: Project Costs (€ million)

Project Cost By Component andlor Activity Local Foreign Total Emillion Emillion €million

Component 1 - Afsin Elbistan A Rehabilitation 99.9 228.3 328.2 1. Rehabilitation of A$in Elbistan A 92.1 160.4 252.5 2. Rehab of Turbine and Generators (funded from EUAS Maintenance Budget) 33.0 33.0 3. On-going Maintenance Works (funded from EUAS Maintenance Budget) 7.8 31.3 39.2 4. Environmental Monitoring Systems (funded from EUAS Maintenance 0.9 0.9

5. Operational and Maintenance Practice Improvement Services 1.7 1.7 6. Project Management Services 1 .o 1 .o Component 2 - Financial and Operational Restructuring of 3.0 3.0 Generation Total Baseline Cost 99.9 231.3 331.2

Physical contingencies 10.0 23.1 33.1 Price contingencies 5.0 11.6 16.6

Total Project Costs 114.9 266.0 380.9 Interest during construction 5.8 13.3 19.2

Front-end Fee 0.8 0.8

Total Financing Required 120.7 280.2 400.9

Budget)

4. Lessons learned and reflected in the project design

Project design and preparation have benefited from the extensive experience that the Bank has in developing large infrastructure investment operations, and specifically in rehabilitation o f generating plants. These include:

(a) Comprehensive feasibility and technical review The scope o f the rehabilitation component has been developed based on a comprehensive feasibility study and technical review. The init ial pre-feasibility study was done by Chubu Electric from Japan in 2004. This study established the broad scope o f the rehabilitation needed based on a technical and economic assessment. This work clearly established the economic benefits o f the rehabilitation. The Bank’s power engineers reviewed the pre-feasibility report and assisted EUAS in defining the terms o f reference for the detailed engineering study. The detailed engineering study was undertaken by RWE Consulting Engineers, Germany. This consulting engineering firm i s an affiliate o f one o f the largest electric utilities in Europe, which operates a number o f lignite fired power plants and mines, and also has significant experience in lignite plant rehabilitation. The detailed engineering study provided a full assessment o f the power plant systems which require rehabilitation. The detailed feasibility study was reviewed by the Bank’s power engineering team. This review provided important inputs to the decisions on what i s required and what i s optional, and enabled EUAS to finalize the scope and cost estimates for rehabilitation.

(b) Focus on addressing environmental issues systemically The EIA for this project analyzed the current and forecast (modeled) performance o f the plant with regard to sulfur dioxide and dust emissions, and their impact o n ambient air quality, and the requirement for an FGD. Largely as a result o f this analysis, the Government has carried out a review o f existing thermal power plants and evaluated the alternative o f installing FGDs on them. The

8

Government has processed a regulation which wil l provide each thermal plant with a transition period for implementing the FGD. As a result, Afvin A wil l have a transition o f 5 years for installing the FGD (This i s considered as the next phase o f the project). The rehabilitation o f the plant will improve the plant’s environmental compliance especially in the area o f dust emission, which has been identified, during public consultations, as the most significant environmental problem from the power station in the vicinity.

(c) Flexibility in policy dialogue and recognition of macroeconomic priorities The project has chosen flexibility in carrying out the policy dialogue o n reforms in the Turkish electricity sector, as opposed to the use o f hard policy conditionality within the loan. Ongoing loans carry conditionality, and in recognition o f the fact that Turkey, as an EU candidate country, i s in the midst o f adopting the EU Acquis o n Energy, separate Bank conditionality in this loan was not considered critical. The project i s therefore designed to support the Bank’s overall dialogue on the reform program which i s consistent with the EU Acquis and being carried out in parallel (supported by ongoing loans and grants).

(d) Adaptation o f procurement arrangements to suit specific circumstances EUAS and the Bank team evaluated the option o f carrying out the rehabilitation using a number o f procurement packages, covering respectively, the firing system, piping, balance o f plant mechanical, balance o f plant electrical, electrostatic precipitator, control and instrumentation, ash and coal handling, c iv i l works, and plant chemistry. This option was deemed unsuitable and EUAS and the Bank team chose to adopt a single supply and installation contract for the entire rehabilitation (except the turbines which are being rehabilitated separately by the original manufacturer o f the turbines under a continuing service agreement), because this gives better control over implementation progress, and it reduces problems due to weaknesses, or delays, in integration across different packages.

5. Alternatives Considered and Reasons for Rejection

The following alternatives to the rehabilitation o f Afvin-Elbistan A were considered:

(a) The construction o f a new gas fired combined cycle power plant. Such a plant could be built rapidly but sti l l not as rapidly as the rehabilitation o f Afgin Elbistan A, and hence again would not respond to the immediate supply security situation. Generation f rom this plant was also expected to be more expensive than f rom a rehabilitated Afvin-Elbistan A (see Annex 9).

(b) Another alternative that was considered involved the construction o f a new lignite-fired plant at Af9in-Elbistan. The economic analysis for the project (Annex 9 ) however, showed that such a plant would be more expensive than the rehabilitation project, and would take a much longer time for commissioning. The Government therefore gave priority t o the rehabilitation of Afgin Elbistan A, and accordingly requested the Bank for support.

C. IMPLEMENTATION

1. Partnership arrangements (if applicable)

During project preparation the Japanese Government provided a PHRD grant for US$ 600,000 which was used for the init ial feasibility study and for preparation o f the EIA for the project. The Government o f Japan has also provided funds for the construction o f Afvin-Elbistan B power plant, adjacent to Afvin-Elbistan A. This former plant shares some o f the same infrastructure as Afvin Elbistan A. In addition, PPIAF grants and the Spanish Trust Fund are being used for

9

supporting the overall reform program, which also includes support for the init ial work on restructuring o f generation, and preparation o f transition contracts between the generation and trading businesses.

2. Institutional and implementation arrangements

The project wil l be implemented by EUAS and a special Project Management Team (PMT) has been established to oversee the implementation. Further, for Component 2, there i s l ikely to be significant oversight f rom the Ministry o f Energy and Natural Resources. The rehabilitation will be carried out by one contractor who wil l be overseen by the P M T aided by EUAS’ consultants, RWE, who will report to the PMT and EUAS top management. In addition, there will be considerable focus given to the monitoring o f the environmental impacts o f the project and the plant in general, either as part o f the implementation consultant contract, or as a separate contract. Because o f the importance o f this project to EUAS and to Turkey, EUAS management wi l l fo l low i t s progress closely.

I t i s l ikely that during project implementation, EUAS will be restructured into separate portfolio GENCOs. In this case, AfSin-Elbistan A wil l be transferred to the portfolio company which will contain the Afgin-Elbistan generation complex, hereinafter referred to as Afgin GENCO. The responsibility for rehabilitation and supervision will be transferred to this GENCO. The PMT, with adequate staff in Afgin GENCO, will be suitably enhanced to ensure that implementation does not suffer. The Bank loan will remain with the successor company o f EUAS, EUAS Hydro, with a back-to-back loan from EUAS Hydro to Afgin GENCO.

There i s also a possibility that while the rehabilitation i s ongoing, the operations o f the Afgin- Elbistan A power plant may be transferred to a private company, under an existing concession contract that i s however disputed at this time (See Section C.5 on Critical r isks later for more details on this issue). In this eventuality, the Government will ensure that the rehabilitation i s completed as planned, and that the new operator will ensure the continued operation and maintenance o f the plant.

3. Monitoring and evaluation of outcomesh-esults

The PMT, with the assistance o f the implementation consultant, will monitor progress against the agreed performance indicators specified in Annex 3. The PMT will provide, on a quarterly basis, 45 days after the end o f each quarter, consolidated reports on project implementation progress in the Bank’s FMR format. The Bank will conduct regular supervision missions about once a quarter for the f irst several years while the project i s under implementation. The PMT wil l prepare a detailed mid-term report to serve as the basis for a project mid-term review. The PMT will also help prepare the Borrower’s contribution to an Implementation Completion Report (ICR), so that the Bank could complete the I C R within six months o f the closing date o f the Loan. The I C R would involve a complete assessment o f project costs and benefits, project execution and performances o f the parties involved.

4. Sustainability

The project i s considered sustainable for the following reasons:

(a) Long-Term Competitiveness - the rehabilitation extend the plant’s economic l i f e by at least 20 years and result in AfSin-Elbistan A being one o f the least cost sources o f base load power in Turkey. Apart f rom being an important facility to provide incremental capacity and energy to mitigate anticipated supply shortfalls in the next few years, this

10

plant will be preferentially dispatched over the long-term, since it will have l o w incremental costs and therefore will rank very high in the merit order. Experienced Project Manager to Supervise Implementation -During implementation, EUAS will be assisted by RWE in supervision o f the works. RWE i s amongst the most experienced consulting engineers o n lignite plant maintenance and rehabilitation and this i s expected to speed decision making on technical issues and choices that arise during the rehabilitation process, thereby reducing delays and maintain the project o n schedule. Focus on O&M Practice Improvement - The project also includes in i t s scope, improvement in O&M practices in the plant, which wi l l ensure that the plant i s well- maintained after rehabilitation. Adequacy o f Fuel Reserves - The lignite reserves at AfSin-Elbistan are approximately 2.6 bi l l ion tons and both the AfSin-Elbistan A and B power plants together, operating at full capacity, are projected to use around 37 mi l l ion tons per year. Thus, the reserves at AfSin-Elbistan will be more than adequate for the two existing plants and also accommodate further capacity expansion. Completion o f Rehabilitation b y EUAq - the Government and EUAS will ensure that the rehabilitation i s completed by EUAS by 2009 to ensure that the needed incremental energy i s available to meet potential supply shortfalls.

(b)

(c)

(d)

(e)

Risk

5. Cr i t ica l risks and possible controversial aspects

Risk rating Mitigation Measure

A.l Disruption/ Delay in implementation owing to on-going restructuring of EUAS into portfolio Gencos.

A.2 Delay due to ongoing litigation.

~

A.3 Delay owing to increased scope of rehabilitation

A.4 Financing of the FGD

N

N

N

M

The restructuring of EUAS into portfolio generation companies (Gencos) may carry the risk of causing delays in the implementation of the project. The scope of the portfolio gencos has already been defined and they are gradually expected to become operationally more independent from the EUAg holding company. The Project Management Team, with adequate staff in Afsin GENCO, will be suitably enhanced to ensure that implementation does not suffer. Further, since the timely completion of rehabilitation is very critical due to security of supply considerations, the Government will monitor implementation closely.

As the timely rehabilitation of Afsin Elbistan A is a strategic priority of the Government to address medium-term supply security concerns, the Government has been actively discussing the resolution of the on-going dispute with the private concessionaire. The efforts by both parties to achieve successful resolution without impacting the rehabilitation, indicates that the risk of the on-going dispute impacting project implementation is moderate. The scope of rehabilitation may increase owing to the condition of the boiler, in particular, being worse than currently assessed. This is not a major risk. While some scope change is likely the risk of delay is not deemed very large. The contract will have adequate flexibility to accommodate scope change and the conservative cost estimates will cover such increases. Most importantly, these changes will be identified early in the process, allowing additional equipment to be ordered, delivered and installed to meet the rehabilitation schedule. The procurement process will result in a highly-qualified contractor being selected, and EUAS will use RWE to ensure that contract progress is routinely monitored. The FGD is an expensive investment, estimated at US$ 250 million, and may not be justified on economic parameters alone, given the remaining plant life even after rehabilitation. MoEF has prepared a regulation providing derogation from implementing an FGD to the Afqin-Elbistan A plant for 5 years, among all other thermal plants. The FGD will thus be installed at the end of the derogation period, in the absence of a further

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Risk

~~~~~~

4.5 Inadequate maintenance

A.6 Constraint on mine capacity

4.7 Procurement

Risk rating

M

N

H

Mitigation Measure extension of time, and financing will have to be arranged for this investment. The team will assist the Government in finding grants or subsidized financina for this eauipment. in order to help reduce the costs. The project includes a significant level of support for improving operations and maintenance of the plant after rehabilitation. It is expected that this will assist in ensuring that the plant continues to operate efficiently. This risk therefore, is moderate. Based on a study by RWE on mine extension for Afgin-Elbistan B which currently uses the mine for the A plant, EUAS has decided to extend the existing mine over the next 2-3 years. Potential constraints on mine capacity are possible, but this is not a big risk, since significant investments in developing and extending the mine are already underway, and the lignite seam has significant reserves. EUAS does not have experience of using the Bank’s procurement guidelines and procedures. The main contract under the project is also expected to be a very large and complex contract. EUAS therefore, will use the two-stage bidding process, and the Bank’s procurement staff have been providing training and significant guidance on the bid documentation. EUAS is also being assisted by RWE in the preparation of the specifications and the bid document.

B. Financial and market-related issues B. l Impact of competition

B.2 Impact of significant outstanding debt

~~

B.3 Financial constraints on account of continued nonpayment of EUAS bills, inadequate tariffs. etc.

Overall Project Risk

N

M

H

S

Given the high debt burden carried by the Afgin GENCO (due largely to the debt acquired in the construction of Afgin-Elbistan B), it is possible that prior to rehabilitation, the costs of Afgin GENCO will be uncompetitive. This may in turn imply that Afgin GENCO will be at risk in the market. This risk is being mitigated by ensuring reasonable transition contracts. Further, once the rehabilitation is complete, Afgin GENCO is likely to be at an advantage vis-a-vis the competition, because its costs, and hence, the required tariff, will reduce significantly (See Annex 9 for the financial forecasts for the company). As mentioned above, Afgin GENCO carries about US$ 1.4 billion of debt associated with the Afgin B plant. The rehabilitation will require additional debt. Afgin GENCO is thus likely to require a higher initial tariff than other GENCOs. However, as discussed above, after rehabilitation, the tariff reauired will be reduced, and this risk is therefore likelv to be low. EUAS had about US$ 2 billion of outstanding receivables in 2004. W h G these have not hampered its ability to invest largely because the investment program has been severely curtailed, this is still a serious problem afflicting the entire sector. While it is difficult for this project to mitigate this risk entirely, the Government is working towards improving payments by Government departments, which are the main defaulters, through various measures including legislative means. Treasury is also working with MENR and the utilities to resolve the issue going forward. The present regulatory regime is considered robust and ELSA$’ tariffs cover operating and debt servicing costs. Upon the restructuring of EUAS, the existing market arrangements will be replaced by transition contracts with the distribution companies and TETAS, with tariffs set so as to allow continued recovery of costs. Upon the establishment of the balancing market, EUAS companies are expected to be competitive, given their cost profiles and given that demand is expected to continue growing at a fast pace (See Annex 9). Based on risks discussed above, the overall project risk is assessed to be “Substantial”.

H = High; S = Substantial; M = Modest; N = Negligible or Low

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World Bank Financing of the AfSin-Elbistan A Power Plant - The Government entered into a concession contract with a private company in December 1999 for the Afvin-Elbistan A Thermal Power Plant, pursuant to a 1994 Council o f Ministers Decree. The scope o f the concession included rehabilitation o f the existing four units, construction o f two new units at the site, and the operation o f the plant for 20 years. However, the concession contract could not be made operational as the principal implementation agreements (i.e. the energy sales agreement and the transfer contract) could not be finalized.

Owing to the inability o f the two parties to finalize the agreements, the private company f i led a lawsuit with the Council o f State against the successors o f TEAS ( ie . EUAS and TETAS respectively responsible for the transfer contract and energy sales agreement), stating an implicit denial f rom EUAS and TETAS to s i g n the contracts. The Council o f State upheld the statement o f the private company in February 2004. Both TETAS and EUAS (as successors o f TEAS) have appealed this judgment and the judicial process i s s t i l l in progress.

The Government considers the rehabilitation to be o f paramount importance given the supply security issues and given the requirement to improve the plant’s environmental compliance. I t i s therefore a priority investment included in the Government’s investment plan for 2006, and the Government aims to ensure that EUAS completes the planned rehabilitation to mitigate supply problems that are forecast in 2009/10.

6. Loadcredit conditions and covenants

There are n o conditions for presentation to the Board.

Condition for Effectiveness condition will apply for Effectiveness:

In addition to standard procedural requirements, the following

- The amendment to the Regulation on the Control o f Air Pollution f rom Industrial Sources to allow a transition period for existing thermal plants, including AfSin- Elbistan A Power Plant, to install flue gas desulphurization controls to meet sulfur dioxide emission standards, have become effective upon publication in the official gazette.

Covenants in the Loan Agreement The following covenants are included in the loan agreement, in addition to the standard covenants relating to audits, accounts, procurement plans, mid-term reviews etc.

I. Assignment of Obligation; Disposition of Assets (a) The Borrower shall consult with the Bank prior to the finalization o f any strategy

related to the sale, lease, transfer, assignment or disposal o f the AfSin-Elbistan power sector assets, comprising power plant A, power plant B and the mining assets in the Afgin Elbistan area owned by the Borrower.

11. Financial Covenants (a) EUA$ will maintain a debt service coverage ratio o f not less than 1.2 every year

starting o n 2006. (b) EUAS wil l achieve a self financing ratio (funds from internal resources as a

proportion o f the three-year average capital expenditure) o f not less than 25% in every year starting on 2006.

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111. Financial Management Covenants (a) EUAS wil l maintain a financial management system acceptable to the Bank. (b) EUAS will install and make functional the enterprise resource planning program

(ERP) by December 3 1,2007.

D. APPRAISAL S U M M A R Y

1. Economic and financial analyses

(a) Economic Analysis Supply and Demand Projections Electricity consumption in Turkey grew over 8% per year in each o f the decades from 1970-2000. However, it has slowed during the past five years in spite o f continuing rapid growth in GDP. Since the deep recession o f 2001 electricity consumption has grown 5.9 % per year (s t i l l a fairly high rate by international standards) while GDP has increased 7.2% per year. Two demand forecasts have been prepared by the Government. The official forecast, which i s based on a 5.5% GDP growth, projects an 8.3% per year average growth in electricity consumption. This forecast i s based on a standard electricity forecasting model (MAED) which uses GDP growth to estimate electricity consumption growth and i s consistent with the past three decades. An alternative but unofficial government forecast calls for about 6.3% per year average growth in electricity consumption using the same GDP growth rates but altering the MAED model to better reflect a shift o f Turkish manufacturing towards less energy intensive industries. Table D. 1 below shows these demand forecasts.

Whi le Turkey currently has adequate generating capacity, very l itt le new capacity i s due on l ine after the end o f this year. Capacity i s currently expected to rise less than 1% per year f rom 2005 to 2010. Moreover, while additional major new plants could be announced in the future, n o such plants are anticipated and given the long lead times for large coal, lignite or hydro plants, construction needs to start immediately for completion in 2010. In addition, given the large role o f hydro plants (35% o f total capacity) the Turhsh electricity supply situation depends very heavily o n whether it i s a dry or wet year. In dry years, hydro power generation can be 40% below normal hydropower years due to the lack o f rainfall.

As a result o f the continuing growth in electricity demand and the slow growth in generating capacity, Turkey i s expected to face supply shortages between 2008 and 201 1 depending o n the assumptions made. Under the official Government forecast and assuming a dry year, Turkey would have an electricity shortage in 2008. Under the l o w demand case and dry conditions or the official case and normal hydro conditions, the shortage would occur in 2009 while under the l o w demand case and normal hydro conditions the shortage occurs in 201 1. The rehabilitation o f AfSin Elbistan delays these shortages by around a year.

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Table D.l: Electricity Demand and Supply Forecasts (TWh)

2006 2007 2008 2009 2010 201 1

DEMAND

Official Government Case

Low Case

176.4 190.7 206.4 223.5 242 262

169.5 180.2 191.7 203.8 216.7 230.4

SUPPLY

Dry Conditions 192.2 199.3 199.4 199.4 198.9 198.1

Normal Hydro Conditions 213.4 222 222.4 223.2 223.7 222.9

Normal Hydro with Af$n A Rehabilitation 213.4 222 224.9 228.3 228.8 229

Scenario 1: Official case and dry conditions

Scenario 2: Low case and dry conditions

Scenario 3: Official case and normal

Scenario 4: Low case and Normal Hydro

Shortage in 2008

Shortage in 2009

Shortage in 2009

Shortage in 201 1

Least-cost generation option The economic analysis shows that the least-cost and fastest ways to provide additional electricity in time to avert shortages i s for EUAS to rehabilitate the Af9in Elbistan A power plant. Given the poor condition o f the plant, rehabilitation would init ially provide about 5.1 TWh o f incremental generation rising to around 8 TWh. This i s based on the assumption that the plant would not be able to continue operating for very long without rehabilitation.

The cost o f electricity f rom the rehabilitated Af9in- Elbistan A Plant i s estimated at about 3.8 U S centskWh o n a levelized basis including the FGD. These costs are in economic terms, and the levelized tar i f f i s discounted at a conservative 10%. Electricity f rom a new gas fired combined cycle power plant i s estimated at about 4.4 U S cents/ kwh on a levelized basis and imports would currently cost around 4.6 U S cents/ kwh although they may not be available in adequate amounts in the longer term.

The rehabilitation i s expected to be completed in a l itt le over 2-3 years after contract award, implying that the rehabilitated plant can be back online by 2009 - it i s unlikely that any other option can result in this quick a turnaround.

In addition to these significant benefits, the rehabilitation o f the plant will also have significant environmental and social benefits. Once the rehabilitation i s complete, i t i s expected that the extremely high level o f dust produced by the plant when it i s operating at capacity would be reduced to wel l below the current emission limits. The smaller particles would be reduced which would mitigate any adverse health impacts o n the local population. A lso the rehabilitation will reduce the emission o f large dust particles which, while they are less o f a health hazard, the local population says are damaging their crops. These benefits however, have not been quantified in determining the ERR o f the project.

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The ERR for the project depends on the value assigned to the additional electricity produced as a result o f the rehabilitation o f AfSin-Elbistan A. If the electricity generation f rom the rehabilitated Afgin A i s valued at the cost of unserved energy (electricity), usually taken to be between 40 U S cents per kWh and U S $ 1.00 per kWh in Europe, then the ERR i s very high and the payback period i s about 4 months, which i s however, a notional calculation. More realistically, if the value o f the electricity i s taken to be the estimated level o f wholesale prices in Turkey after a functioning market i s established, which i s about 5 .O U S centskWh, the ERR from rehabilitating the plant i s 25%. The ERR wil l be even higher if the value o f the electricity i s taken to be the cost o f electricity generation from single cycle gas turbines (around 5.9 U S centskwh) which would be the alternative for many industries, or diesel generators (around 8-8.5 U S centskwh). (Refer to Annex 9 for more details)

(b) Financial Analysis

The Government has decided to create 7 companies f rom EUAS (including the successor company o f EUAS, EUAS Hydro, which will operate the large hydros). One o f these companies - Afgin GENCO - will contain the Afgin-Elbistan A and B plants. AfSin GENCO also includes the Hopa (Fuel Oil) and Altinkaya, Derbent, and Karkamis (Hydro) plants, with the total installed capacity o f 3,548 MW before rehabilitation, and 3,788 MW after rehabilitation. Annex 9 contains a detailed discussion o f the historical and forecast financial condition o f EUAS, as wel l as the estimated future financial condition o f AfSin GENCO. The timeline for the creation o f Afgin GENCO has not been finalized, but the accounts o f the company have been separated and these are used to forecast the financial condition.

Historical financial performance of EUAS EUAS’S profitability has been reasonable through the period since i t s creation in 2001. The large increase in revenue (and average sales per unit) from year to year i s primarily because o f the impact o f favorable changes in the generation mix, and not because o f an increase in tariffs. EUAS’ cash flow, due to i t s receivables being at a significant level and increasing somewhat, i s a concern for the future (see discussion o n arrears in Annex 9). In the past, EUAS has managed primarily due to i t s non-payment to suppliers and due to the l o w level o f investments that have been permitted by the Government.

Receivables and Payables Outstanding trade receivables have accumulated to about 9 months’ o f sales by end o f 2004 (although EUAS books also show an amount o f about US$900 mi l l ion as Other Receivables, which are dues from TEAS carried over f rom the time o f i t s restructuring and includes dues for electricity sales). EUAS has financed these large receivables with payables, which have accumulated to over a year o f fuel purchases. Again, the payables are with public economic enterprises that supply fuel, such as TKI, TTK and BOTAS. Currently the longer payable period allows EUAS to generate sufficient cash flow, but also i s a r i s k factor in the future cash f low and financial projections as these entities work to collect their receivables.

The single-largest financial concern for EUAS i s i t s poor collection efficiency, almost entirely due to the collection problems at TEDAS. For TEDAS the main defaulters are government agencies such as municipalities, although there are cases o f private consumers who have large accounts outstanding as well. The Government i s evaluating several options for addressing the problem o f arrears including: legislative measures to enable utilities to enforce collections against municipalities and government agencies, and settlement o f cross-dues among government agencies. The outcome of these attempts however, i s diff icult to quantify at this stage, but the Bank wil l remain in dialog with the Government o n this issue.

Forecast financial performance of EUAS The impacts f rom the rehabilitation project are factored in (these impacts are discussed separately, whi le discussing the finances o f Afgin

16

GENCO). The forecasts are based on conservative assumptions regarding commercial efficiency improvements such as collections. N o significant gains f rom privatization o f distribution or generation are factored in. The forecasts also assume that EUAS will n o longer be able to defer i t s fuel and other purchases, and that payables will reduce significantly over time. Due to the forecast electricity shortage in 2009, EUAS will have to ramp up generation f rom i t s high-cost plants which will raise variable costs.

EUAS will as a result need to manage i t s cash f low due to the conservative assumptions, as wel l as i t s debt service requirements. The forecasts show that EUAS i s able to maintain reasonable financial health, and i s able to service i t s workmg capital and debt servicing requirements.

Investments The investment requirement for EUAS i s large in the medium term, with most o f the investments in rehabilitation and maintenance. The investment needs in the next five years amount to more than U S $ 2 billion, adding further to the existing debt service burden.

Forecast Financial Performance of Afyin GENCO Afqin GENCO includes Af$n Elbistan A and B, Hopa (Fuel Oil), AltinkayalDerbentiKarkamis (Hydro) plants, with a total effective capacity o f about 3,400 MW. After rehabilitation, the effective installed capacity wil l increase to 3,788 MW, as the effective installed capacity o f Afvin Elbistan A wil l increase from 1,000 MW to 1,360 MW. The forecasts for Af$n GENCO are prepared o n the basis o f the same assumptions as in the case o f EUAS forecasts.

The main risk that Af9in GENCO faces i s i t s large debt service l iabil i ty and required investment amount in the near future. The large l iabil i ty i s due to the construction o f Af$n Elbistan B lignite plant (commissioned in 2005), which was financed through a JBIC syndicated loan o f JPY 5.85 b i l l ion (approximately US$494 million), and other funds. Additionally, it i s expected that a large amount o f other investments will be required by Afvin GENCO in the near future. Major investments are the lignite mine expansion (EUR 424 mill ion) and FGD installation in Af$in Elbistan A (EUR 181 million). As a result, the debt servicing obligation (interest and principal repayment) i s expected to increase f rom US$ 121 mi l l ion in 2005 to US$293 mi l l ion in 2015.

Debt service requirements and assumptions on trade receivable and payable (average annual cash outflow o f US$33 million) poses a significant burden for AfSin GENCO. However, i t s cash f low i s expected to remain reasonably comfortable due to the high depreciation and increase in generation output as result o f the rehabilitation. The Debt Service Coverage Ratio i s expected to be at 2.6 in 2008, but will settle down at 1.3 f rom 2013 onwards, owing to the increased debt repayments. The leveraging i s also at a conservative 0.6 in 2006 but increases to 0.7 in 2009, as result o f the investments above and their financing.

The rehabilitation i s expected to increase the effective installed capacity o f Af$n Elbistan A plant from 1,000 MW to 1,360 MW. It i s also expected to not only improve the efficiency o f the plant, but also to improve the consistency o f the lignite fuel through improvements in the lignite feeder system.

2. Technical

EUAS has carried out a pre-feasibility study which done by Chubu Electric, and this was followed up by a detailed engineering study which was undertaken by RWE International, Germany. This consulting engineering firm i s an affiliate o f one o f the largest electric utilities in Europe, which operates a number o f lignite fired power plants and mines, and also has significant experience in lignite plant rehabilitation. The project i s therefore, based o n very sound

17

engineering work, and has been reviewed and supported by Bank power engineers. The project i s considered satisfactorily prepared from a technical standpoint.

Each rehabilitation sub-component was selected based on an economic and technical assessment o f options ranging from doing no rehabilitation, to repairinghenewing the system or replacing the system entirely. The finally selected scope was defined based on an overall least-cost solution that would achieve a guaranteed power plant performance that the engineering contractors could be held accountable to. The scopes o f the environmental pollution control systems were defined based on regulatory requirements.

The rehabilitation work i s expected to improve the plant performance as follows: rn

rn

rn

Plant output o f each unit will be increased from about 260 MW net to 300 MW net; Capacity factor wi l l be increased from 40% or below to 75%; and Net plant efficiency will be increased from 27% to 3 1% (30.6% with the FGD).

Performance parameters such as availability, steam output, boiler efficiency and auxiliary power consumption will be guaranteed by the rehabilitation contractor.

EUAS has considerable experience in thermal, and specifically lignite plants, and their rehabilitation. EUAS has continuously carried out and supervised rehabilitations in their plants over the past few years. The rehabilitation in this case will be carried out by an experienced contractor selected under Bank procedures. The work will be overseen by the EUAS Project Management Team aided by RWE. In addition, there will be considerable focus given to the monitoring o f the environmental impacts o f the project and the plant in general, either as part o f the implementation consultant contract, or as a separate contract.

Project costs are summarized in Annex 5. Cost estimates have been derived f rom the feasibility study. The cost estimates are considered conservative, which i s appropriate for a facility o f this magnitude, and accordingly, include reasonable price as well as physical contingencies.

3. Fiduciary

The Bank’s standard fiduciary requirements apply to this project. Procurement for the proposed project would be carried out in accordance with the Wor ld Bank’s “Guidelines: Procurement under IBRD Loans and IDA Credits” dated M a y 2004; and “Guidelines: Selection and Employment o f Consultants by Wor ld Bank Borrowers” dated M a y 2004, and the provisions stipulated in the Legal Agreement.

An assessment o f the financial management arrangements for the project was undertaken in October 2005. The assessment determined that EUAS has financial management arrangements acceptable to the Bank and these systems wil l be relied upon for project financial management purposes. However the main system wil l be supplemented by excel sheets for project reporting and monitoring on a foreign currency basis. There will be a designated account for the project to assist disbursements f rom the Wor ld Bank loan. This account will be in Euro and wil l be located in a government-owned commercial bank. The commercial bank will be selected by EUAS. Payments to the contractors, suppliers and consultants for the project will be made from this account (except direct payments). See Annex 7 for further details on financial management aspects.

EUAS wil l finance part o f the equipment for Component 1, taxes (except the withholding tax on consulting services), interest during construction, land and contingencies. The Bank loan will

18

finance about 73% o f the total project cost since EUA$ will finance the taxes, VAT, interest during construction, and other local expenses such as land (See Annex 4 and 5 for detailed Project Costs).

4. Social

There are n o major adverse social issues involved with the project. The project entails the rehabilitation o f an existing plant, and n o land acquisition i s required. The rehabilitation wi l l have a positive social impact since it will lower dust emissions by the plant very substantially compared to what they would be if it were to operate at capacity without rehabilitating the ESPs. This wil l help the local population. First it will reduce any potential health impact. Second, it wi l l remove the problem o f large dust particles settling on crops which the local population has been complaining about. Further, in the absence o f rehabilitation, the plant would gradually cease operating, which would have an adverse impact in terms o f loss o f jobs and requirements for ancillary services in the area.

5. Environment

The Environmental Impact Assessment (EIA): E U A $ used a PHRD grant for the environmental impact assessment (EM), which was carried out by a consortium comprising Cinar and KEMA. Though Turkish EL4 regulations did not require an EIA for this project, the EIA was carried out per Turkish and Wor ld Bank guidelines. The Ministry of Environment and Forestry (MOEF) reviewed and approved the EIA on September 9,2005 (EM Positive Certificate Issued). The EIA concluded that:

The rehabilitation o f the ESPs on the main stack gas and the Bruden stacks i s essential to address the dust and particulate emission problems. The Af9in-Elbistan A Power Plant operating at full load after rehabilitatiodupgrade wil l meet both the long-term and short-term Turkish air quality standards for SO2.

The Af8in-Elbistan A Power Plant operating at full load will however, not meet Turkish SO2 emission standards. In the evaluation o f the EIA by MoEF, i t was recognized that plant performance does not affect compliance with Turhsh air quality standards for SO2 in the plant vicinity. Since the plant exceeds emission standards for SOz, the Government has evaluated the option o f installing an FGD o n AfSin Elbistan A, along with a l l the other existing thermal plants. M o E F has decided to provide each thermal plant with a transition period (derogation) for complying with air pollution limits, and has prepared an amendment to the Regulation for the Control o f Air Pollution Caused by Industrial Facilities. This amendment provides an extension o f time by 5 years for installing the FGD in order to comply with SO2 emission requirements. Providing transition periods for FGD installations i s not unusual because o f the substantial investment costs. The EU has granted such transition periods to candidate members such as Romania (for 8 to 10 years) as wel l as newly joined members, such as Poland (for 5-12 years).

During public consultations as part o f the EIA process, dust emissions were cited by the local populace as the most significant environmental impact in the vicinity o f the plant. The project therefore, includes rehabilitation o f the electrostatic precipitators (ESPs) which will reduce dust emissions from current levels o f 400-6000 mg/Nm3 to 100 mg/Nm3 in accordance with Turhsh regulations. The Turkish standard i s the same as the relevant EU standard as wel l as the Wor ld Bank guidelines for dust emission for a plant with the size and fuel type such as that o f Af$n Elbistan A - the ESPs are therefore designed to meet EU and Wor ld Bank standards on dust emission.

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The Af5in-Elbistan A plant uses local lignite, which has very high sulfur content. Currently, the plant operations meet Turlush ambient air quality standards for SO2 in the area. Air quality modeling results carried out as part o f the environmental assessment (EA) show that after rehabilitation, AfSin Elbistan area airshed will continue to comply with Turlush short term and long term limits. The Af$n Elbistan area airshed will also comply with EU standards and wil l also be consistent with the World Bank indicators for good air quality (annual average concentration above 80 pg/Nm3 i s considered as moderately degraded air quality; average concentration above 100 pg/Nm3 i s considered as poor air quality)’ in the impact area o f the project. Whi le over the project impact area, air quality i s within international standards and guidelines, modeling indicates that at two locations out o f 12 villages in the project impact area, air quality falls outside the levels provided in the Bank guidelines, and that at an additional three villages the air quality may not comply with the stricter WHO guidelines ( 5 0 ~ g / N m ~ ) ~ . When the FGD unit i s installed at the end o f the transition period a l l international standards for ambient levels o f sulfur dioxide wil l be in compliance. The current power station emissions o f sulfw dioxide (SO,) however, exceed Turkish regulations which specify an emission limit o f 1000 pgmm3.

Lignite mine extension The Af$n Elbistan A plant i s supplied by an existing mine at Kislakoy near the plant. This mine currently has a capacity o f 18 M i l l i o n tons per year - it i s currently primarily supplying the B Power Plant because the A Plant i s operating at a very l o w level. The mine i s an open pit mine which was built using Wor ld Bank funds in the 1970s. It has an operational license from MENR and i s inspected periodically by various government agencies.

(a) MENR inspects the mine to see whether it i s conforming with the Mining L a w (which

(b) The Ministry o f Labor (MOL) carries out inspections for worker safety issues; and (c) M o E F inspections focus on adherence with environmental safeguards.

prescribes overburden and waste disposal guidelines);

Overburden f rom the mine and the ash f rom the power plant are used as backf i l l in the mine and covered over with soil. Over 400,000 trees have been planted o n the backf i l l area which i s now wooded as a result.

After rehabilitation o f AfSin A, the existing mine will revert t o supplying the A plant and EUAS wil l expand the mine in order to continue supplying lignite to Af5in B.

6. Safeguard policies

Safeguard Policies Triggered by the Project Yes No Environmental Assessment (OP/BP/GP 4.01) [XI [I Natural Habitats (OP/BP 4.04) [I [XI Pest Management (OP 4.09) [I [XI Cultural Property (OPN 11.03, being revised as OP 4.1 1) [I [XI Involuntary Resettlement (OP/BP 4.12) [I [XI Indigenous Peoples (OD 4.20, being revised as OP 4.10) [I [XI Forests (OP/BP 4.36) [I [XI Safety o f Dams (OP/BP 4.37) [I [XI Projects in Disputed Areas (OP/BP/GP 7.60) [I 1x1 Projects on International Waterways (OP/BP/GP 7.50) [I [XI

Pollution Prevention and Abatement Handbook, 1998 These are indicative statistics, and do not represent a non-compliance, since the guidelines and standards

referred to here apply over a wide geographic area and no t specifically t o a particular point o f measurement.

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Project construction activities will present minor potential environmental issues associated with the movement o f men, equipment and materials. Typical issues are dust, exhaust gases from combustion engines, noise, disposal o f materials (hazardous and non-hazardous), etc. All o f these issues are o f l imited duration, confined to the plant boundaries, andor are readily managed with standard good engineering and construction practices. During operation, environmental issues are largely beneficial, particularly the benefits accrued with more efficient particulate removal. When the FGD system i s installed, disposal o f gypsum may be an issue i f markets in the construction materials sector do not develop to the extent o f uti l izing al l the generated waste. Depending o n the FGD technology selected, water consumption and wastewater discharge are potential environmental issues requiring effective mitigation. However, the gypsum is non- hazardous and in fact, i t s alkaline matrix will effectively inhibit mobilization o f most trace metals preventing their migration into the environment.

7. Policy Exceptions and Readiness

N o pol icy exceptions are sought for the project,

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Annex 1: C o u n t r y and Sector o r P r o g r a m Background

TURKEY: ELECTRICITY GENERATION REHABILITATION AND R E S T R U C T U R I N G

C o u n t r y Economic Overv iew The Turkish economy has rebounded from the 2001 crisis which had serious economic and social impacts. By the end o f 2001, the currency had devalued by 50 percent, nominal interest rates were about 100 percent, and the banking system had virtually collapsed. GNP growth has been strong since 2001 - 8 percent in 2002, 6 percent in 2003, 10 percent in 2004 and about 7.6 percent in 2005. Inflation i s under control reaching single digits (7.7 percent) in 2005, the lowest in Turkey for 35 years. Net public debt has decreased significantly - at the end o f 2004 i t reached 64 percent o f GNP compared to 79% percent in 200 1. Several factors contributed to the improved macroeconomic performance - key amongst them are: strong fiscal discipline which has allowed the maintenance o f a large primary surplus on the order o f 6.5 percent o f GNP; on-going structural reform; and political stability since 2002. The EU’s decision to open accession negotiations with Turkey in October 2005 -has been an important signal to financial markets and has created a firm anchor for the country’s development and structural reforms in the years ahead.

Impetus for Electricity Sector Reforms The economic crisis o f 2001 led to the crystallization and recognition o f several structural and planning deficiencies in the electricity sector, the most important o f which were:

A build-up o f public contingent liabilities as a result o f the Government guaranteeing debt for a substantial amount o f privately financed generation capacity. These generation projects have imposed a heavy take-or-pay burden on the electricity system and have complicated the transition to a structure where the commercial r isk can be shifted to private investors. A rising quasi-fiscal burden on the budget stemming from growing consumer nonpayment and electricity theft problems at the distribution level. The non-payments worsened as a consequence o f the economic crises. Although an attempt was made at offering private sector concessions for the distribution sector in the period 1999-200 1, most o f these concessions involved guaranteed distribution margins with the supply risk borne by the Government. This approach was abandoned due to legal challenges to the approach and the nature o f risk sharing. Political influence on operating, planning and pricing decisions that made operational decision making more difficult.

.

.

Reform Direction - Electricity Market L a w and the EU M a r k e t Integration Process . The Government has embarked upon a comprehensive reform and restructuring program o f the electricity sector to create a liberalized, efficient and economic sector. This was initiated by the Electricity Market L a w (Law No. 4628) promulgated in February 2001 and this path reflected in the Strategy Paper accepted by the High Planning Council in March 2004, accelerated the reform process. The principles and goals of the reform program defined by this L a w are substantially in line with E C Directives (1996/92/EC and 2003/54/EC) concerning rules for the internal market for electricity. Turkey i s a signatory o f the Athens Memoranda o f 2002 and 2003 that the EC initiated to develop the regional electricity market in South East Europe and eventually integrate i t

m

22

with the internal electricity market o f the European Union. The 2002 Athens Memorandum initiated the regional market development process commonly referred to as the “Athens process”. With the inclusion o f natural gas, a more detailed version o f the memorandum was signed, which i s referred to as the Athens Memorandum 2003, and supersedes the 2002 document. Whi le other regional members signed the Treaty o n October 25, 2005, Turkey did not, owing to reservations o n some o f the Treaty provisions. With the EU decision o f October 3, 2005 to begin negotiations for full accession, some reservations on the Treaty now become intertwined with the negotiations o n the Energy Chapter o f the Acquis Communautaire. Turkey however remains committed to, and continues to implement the provisions o f the 2003 Athens Memorandum.

R e f o r m Implementat ion . Functional and corporate restructuring of the sector - Pursuant to the l aw TEAS, the former integrated generation and transmission corporation, was restructured into a generating corporation EUAS, a trading corporation TETAS and a transmission corporation TEIAS. TEDAS, the Government-owned distribution corporation had been earlier separated from TEAS’ predecessor, TEK. In 2004, TEDAS was restructured into separate companies (DISCOS) in preparation for their privatization. The generation sector i s also in the process of being restructured into six separate portfolios o f generation assets that will be later formed into companies (portfolio companies) that would be privatized once distribution i s substantially privatized. EUAS however, wil l continue to own the large multipurpose hydroelectric projects amounting to about 7,000 MW. See Figure 1.1 below o n the currently planned transitional sector structure. Independent Regulatory Framework - Turkey has set up an independent regulatory authority, the Energy Market Regulatory Authority (EMRA) with jurisdiction over electricity, gas and petroleum. EMRA has powers over licensing, tar i f f setting and customer service issues. EMRA i s currently involved in setting multi-year tar i f f principles for the distribution business, and a tar i f f equalization mechanism across regions in order to enable national uni form retail tari f fs. The L a w will be amended to allow uniform national tariffs and to enable an equalization mechanism. EMRA has also conducted the privatization o f gas distribution reasonably successfully over the last few years. Privatization of Distribution and Generation - Turkey’s p lan i s to privatize i t s distribution companies in phases over the next two years. The regional companies have been created in preparation for privatization, which i s expected to commence in mid- 2006. This process i s delayed from the original timeline since Turkey i s keen to avoid a repeat o f earlier difficulties in privatization4. At present, the privatization o f distribution i s delayed as key preparatory tasks such as medium-term (i.e. 5-year) regulated tar i f f profiles and performance benchmarks, and the tar i f f equalization mechanism have not been completed. In addition, there are delays in market implementation. Turkey i s preparing the implementation o f the balancing and settlement system pr ior to privatization, in order to enable private investors to understand the market in its entirety before they bid. Turkey also plans to privatize i t s existing generating assets, once a substantial part o f the distribution business i s privatized. The configuration of the generation portfolio companies has been decided, and EUAS will be restructured into 7 companies, one o f which will retain the large hydroelectric projects and i s not expected to be privatized in the medium term.

.

Turkey attempted to privatize distribution in the 1998-2000, but the process was challenged in Court and the transactions resulted in being cancelled.

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. Retail Competition in Electricity - Consumers whose annual consumption exceeds 6.0 GWh can choose their own supplier - this represents more than 30% of the total Turkish electricity market. Competitive Market Structure - Market simulations are in progress to introduce a competitive bilateral contract market with a balancing and settlement system. TEIAS, the transmission corporation i s the independent system operator, and wil l also be the market operator. The market i s expected to provide the necessary price signals for potential new generation. Turkey’s Regional Interconnection Efforts - Turkey first applied for UCTE (Union for the Coordination o f Transmission o f Electricity in Europe) membership in March 21, 2001. Since then several studies financed by the European Commission within the framework o f the TEN (Trans-European Networks) Program, have assessed different scenarios for connecting the Turkish power system to the UCTE power system through Bulgaria and Greece. O n September 28, 2005, a technical study was initiated by U C T E to complete transmission assessments including static and stability analyses to determine the technical conditions under which the Turhsh power system will be synchronized with the power system o f the UCTE. Turkey already has two lines to Bulgaria, and will complete i t s section o f the linkage to Greece [The Greek section has been delayed but i s expected to be completed in 20071.

.

Figure 1.1 Transitional Electricity Sector Structure

Key Medium-Term Sector Issues

(a) Delays in implementation of the competitive market in electricity - Turkey has begun implementation, o n a trial basis, o f a competitive bilateral contract market with a balancing system for energy, as la id out in the Government strategy paper o f March 2004. This process however, i s delayed significantly largely for the following reasons:

- Unwillingness o f existing market participants, the distribution companies primarily, to participate in the market on a cash basis.

- Delay in finalization o f transitional contracts for existing generation between EUAS, TETAS and distribution companies. Delay in finalization o f the equalization mechanism for retail tariffs to enable uniform tariffs in the country. Delay in approval o f market regulations and related amendment o f legislation.

- -

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The challenge facing Turkey i s to achieve coordinated and timely implementation o f the multiple activities integral t o the creation o f the market, and generally, to the overall reform process. Most implementation activities are very closely l inked - for example, the output by one implementing agency (e.g. tar i f f profiles prepared by TEDAS) needs approvals (from EMU) and also serves as inputs to the preparation o f vesting contracts (by TETAS and MENR). Effective coordination i s therefore critical. The r i sk to the Government with implementation delays resulting f rom inadequate coordination i s the increasing levels o f direct and contingent liabilities owing to: (i) a non-functioning market mechanism with impacts o n supply security (see point (b) below); (ii) continued cash-flow shortfalls at the distribution level (see point (c) below); and (iii) negative signals and perceptions created in the private investor community o f the Government’s commitment and ability to implement the reform agenda. The Bank has been providing support to the Government in the design, preparation and implementation of electricity reforms, through ongoing lending operations, as wel l as through grant-funded panels o f international advisors.

(b) Ensuring supply security - Electricity demand has been growing at about 6 percent per annum between 2002 and 2005 and the Government anticipates i t will accelerate over the next decade closer to the long term average of about 8%. The Government has also prepared a l o w growth case where demand growth remains about 6%. In any case, capacity increases o n the order o f 1,500-2,000 MW per annum are required from around 2009-2010 onwards. The issue o f concern i s that there although licenses have been issued for about 6,000 MW o f new capacity (of which 4,000 MW i s for small hydro and wind), presently very l itt le new construction has been started.

The problems are largely l inked to the on-going market implementation which has not yet led to the formation o f credit-worthy private distributors who can contract for new capacity and/or electricity offtake.

The Bank i s collaborating with the Government on a pol icy note addressing the problem o f supply security. This study aims to evaluate both near term as wel l as medium to long term solutions for supply security. Upon i ts finalization, the Government may seek further support f rom the project to assist in implementing the recommendations o f the study.

(c) Accumulated arrears in the electricity utilities - Operating revenues at a l l the publicly- owned electricity and gas sector companies in Turkey are inadequate to meet their longer term level o f operating costs and expenditures. The problem i s mainly in the distribution business managed by TEDAS. As o f 2004, the theft and loss percentage i s 18.5% o f purchases by TEDAS. Bill collection i s about 90%. Due to these problems there i s a 25- 27% shortfall in payments for purchased electricity by TEDAS which in turn cascades into revenue shortfalls to al l the upstream electricity and gas businesses (Refer to Annex 9 for a detailed discussion o n the current situation o f bill collection and accumulated arrears).

(d) Reconciling independent economic sector regulation with the Government’s economic stabilization controls - Presently, the Government exercises certain economic controls and constraints o n pricing o f energy services/outputs and investment decisions, in order to maintain fiscal prudence, achieve a healthy primary surplus, and restrain inflationary pressures. There remains a fine l ine between economic stabilization controls and other forms o f economic controls that prevent the development o f institutions

25

essential to a functioning market economy. T o mitigate regulatory risk for private investment i t will be important that the economic stabilization restraints are relaxed to al low timely pass-through o f costs to consumers - specifically:

wholesale gas prices should be adjusted to reflect the market terms in the underlying contracts; retail electricity prices should be adjusted to reflect operating cost changes at the distribution level as wel l as changes in wholesale prices; and electricity produced by state-owned hydro power plants which i s sold into the market i s priced at levels that send appropriate signals o f scarcity and water value so as not to distort wholesale market price signals.

In addition, the regulator should approve investment programs consistent with established performance targets.

-

-

-

(e) Transition to compliance with European internal market and environmental standards - Turkey i s committed to the principles o f the Athens memorandum, even though it did not s i g n the Treaty in October 2005. Although Turkey has begun implementing fundamental structural reforms in its power sector, some o f which are far more advanced than required fkom the EU’s perspective, there are several areas, such as the timeframe for complete retail market opening that Turkey has reservations on, for good reasons. Turkey has already allowed significant retail market opening, and the results have been positive f rom the point o f v iew o f attracting new capacity and ensuring better supply quality for these consumers. However, in order to provide choice o f supplier to all the existing consumers, several fundamental changes are required in the sector, most critical among these being the improvement in distribution system losses and payment discipline. The Government i s currently preparing for the privatization o f distribution, which i s seen as an important solution for these. improvements. Privatization however, has been delayed for several reasons, chief among them being the delays in creation o f the electricity market, and the finalization o f the strategy for privatization.

A key area where Turkey has reservations i s with regard to compliance with the timetable in the Treaty to meet EU environmental standards. In July 2005 EU consultants produced a report o n Turkey’s investment needs in order for it to b e in compliance with the EU Large Combustion Plant Directive which limits emissions by these plants (Directive 2001/80/EC). Almost a l l o f the plants covered by the Directive are thermal power plants and the estimated cost o f bringing them into compliance with the EU Directive i s 1.5- 1.9 B i l l i on Euro (US$ 1.8-2.3 Billion). This i s a large investment requirement for Turkey, and, in the absence o f concessional financing, wil l require a number o f years to implement, given the lack o f adequate fiscal space for incremental investment.

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Annex 2: Major Related Projects Financed by the Bank and/or Other Agencies TURKEY: ELECTRICITY GENERATION REHABILITATION AND

RESTRUCTURING

An Overview of the World Bank Program in the Energy Sector

Advisory Support The Bank has a strong advisory support program to help the Government and the utilities in the gas and electricitv sector.

The Bank supported the government in structuring and establishing the Energy Market Regulatory Authority in 200 1 and in defining the detailed electricity market design. A Bank technical assistance loan supports specific implementation tasks, such as distribution sector unbundling, definition o f tar i f f review rules, and preparation o f init ial vesting contracts to prepare for privatization. An independent expert panel o f leading international specialists in market implementation, regulation and privatization provides the government guidance on challenging implementation trade-offs and choices. In the gas sector a comprehensive gas development strategy was completed in 2004 to set a framework and process for introducing competition in wholesale supply. The Bank i s also beginning i t s support to key energy utilities in achieving a credit quality and rating that wi l l enable them to access capital markets without sovereign guarantees. Presently, financial advisors financed by PPIAF (Public Private Infrastructure Advisory Facility) are working with BOTAS in preparing for a credit review by a rating agency.

In addition to the continuing work on reform implementation, the Bank will continue i t s advisory work focusing on issues o f energy supply security, EU market integration and helping the institutional development o f various utilities in the energy sector.

Project Lending The current program o f lending in the energy sector aims to: (a) bridge gaps in gas and electricity service delivery needs during the reform transition; (b) meet EU integration challenges; and (c) ensure that essential infrastructure that can affect energy supply reliability i s implemented. The projects include: (a) National Transmission Grid Project (NTGP): This project loan o f US$270 mi l l ion was

approved in 1998 to the then integrated transmission and generation corporation, TEAS. Project objectives are to: (i) develop adequate transmission grid capacity in a timely and environmentally sustainable manner; (ii) continue the reform o f the power sector by establishing the independent operation o f the transmission gnd system; and (iii) maintain the financial viability o f the state institution responsible for the grid development and operation. The project was restructured in 2002, after TEAS was restructured into three corporations - TEIAS (transmission), EUAS (generation) and TETAS (trading and contracting). TEIAS i s the successor and has taken o n the obligations under NTGP, but US$ 20 M i l l i on o f the loan was assigned to the Government for helping fund the implementation o f the reform process. The project i s rated satisfactory both on a Development Objectives (DO) and Implementation Progress (IP) basis. Whi le construction o f transmission lines has been slower than anticipated, capacity shortages have. been avoided, TEIAS has been designated the independent operator o f the transmission grid and TEIAS itself remains financially viable. In addition, the loan supports the creation o f an electricity market and ongoing efforts to

27

privatize distribution and generation, and capacity development within the independent regulatory agency.

(b) Renewable Energy Project: The project loan o f US$ 202.3 mi l l ion was approved in M a y 2004. The objective o f the project i s to increase privately owned and operated power generation f rom renewable sources without the need for government guarantees, and within the market-based framework o f the Electricity Market Law. The Treasury has on-lent the funds to the Turkish Development Bank (TKB) and the Turkish Industrial Development Bank (TSKB). The two development banks in turn are on-lending the funds to private developers o f renewable electricity generation projects. The PHRD grant was used to support the government in the preparation o f the renewable energy l aw approved in June 2005.

(c) E C S E E APLZ: As Turkey gets closer to i t s negotiations with the EU for accession, it i s in the process o f integrating i ts energy markets with those o f Europe. Under the Athens Process, Turkey i s liberalizing i t s electricity market and linking i t s market to the electricity markets o f other countries in South East Europe. The Wor ld Bank established a regional adaptable program loan in FY05 to support the eight non-EU members in meeting their technical and institutional obligations. This regional program provides Bank investment support by using the adaptable program lending (APL) instrument. T h i s loan o f EUR 50.6 mi l l ion i s the f irst loan to Turkey under this program. The specific objectives o f APL2 are to: (i) assist with the creation o f a market management system for the electricity market; (ii) strengthen the SCADA system to enable TEIAS to operate more efficiently; and (iii) strengthen the transmission grid. This loan became effective in September 2005.

(d) The Gas Sector Development Project: This project loan o f US$325 mi l l ion to Turkish Gas Pipeline Corporation (BOTAS) finances a gas storage facility for Turkey as wel l as part o f i t s transmission system expansion. In addition, the project will support the restructuring o f BOTAS and help i t achieve access to capital market financing in the future. This project results f rom the Gas Distribution Strategy and the Gas Sector Strategy Note completed by the Bank for the Turkish Government in July and September 2004. These studies indicated inter alia that peak demand for gas would increase rapidly with the expansion o f gas distribution and therefore storage i s increasingly needed. This storage would make gas supplies more reliable, thereby improving the investment climate for gas using companies. The system expansion and the storage would also assist with Turkey’s increasing role as a gas transit country. The loan agreement was signed o n February 2,2006.

(e) ECSEE-APL3: This loan i s the second regional adaptable program loan to Turkey. I t s objectives are to increase the safety, reliability, efficiency and capacity o f the bulk power transmission system in Turkey and to improve market access for consumers and suppliers o f electricity. The project will support the strengthening and expansion o f the transmission network to reliably meet the growing electricity demand. I t wil l also help upgrade the transmission network in dense urban areas to minimize the risk to public safety posed by urban encroachment on existing overhead lines.

Proposed Electricity Distribution Rehabilitation Project: In addition to the above projects, the Bank i s also currently preparing a distribution rehabilitation project with TEDAS. The distribution sector in Turkey has not completed essential investments in system upgrades and rehabilitation for several years, for two reasons. First, f rom 1997-2002 the sector went through an unsuccessful attempt at privatization. Second, the Government faced budget pressures during repeated fiscal crises and curtailed investments in the distribution sector. The proposed project will finance system rehabilitation and upgrading investments to improve reliability. The project i s expected to be presented for Board consideration in calendar 2006.

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Annex 3: Results Framework and Monitoring

TURKEY: ELECTRICITY GENERATION REHABILITATION AND RESTRUCTURING

Results Framework

PDO

To improve supply security during the reform transition and restructure the state-owned generation business into corporatized entities.

~

Intermediate Outcomes

Component One Rehabilitation of the Af9in- Elbistan A Power Plant is completed.

~~

Component Two EUAS Portfolio generation companies (GENCOs) are operated as viable business units in the power market.

Project Outcome Indicators

(1) Rehabilitation of Afsin-Elbistan A Power plant occurs so that its generation capacity, its efficiency and its ability to reliably generate electricity are enhanced to provide up to 5 TWh of incremental energy.

(2) EUAS Portfolio Generation Groups are established and operating as separate generation entities.

Intermediate Outcome Indicators

EUAS and Contractors make regular progress in rehabilitating the plant. (Schedule will be monitored based on the agreed plan presented in Annex 4).

New operational and maintenance management practices are implemented.

Portfolio generation companies (GENCOs) are functioning as separate entities in the power market.

Use of Project Outcome Information (1) Turkey would have a more reliable and efficient generation plant, which would help mitigate the supply security concern, and which would operate more efficiently and in an environmentally friendly manner.

(2) Turkey has multiple generating entities which can subsequently be privatized and which provide some degree of competition in the emerging electricity market.

Use of Intermediate Outcome Monitoring

Progress towards completion of rehabilitation is assessed and remedial measures if necessary identified.

As rehabilitated units are put into service, capacity and generation from plant will rise.

Will enhance the financial and operational capacity of the GENCOS to operate independently in the market, and will assist with competition in the market.

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Annex 4: Detailed Project Description


Component 1: AfSin-Elbistan A Rehabilitation (Estimated Cost EUR 328.2. million) The main component o f this project i s the rehabilitation o f AfSin-Elbistan A Power Plant. This component w i l l focus on: (a) the repair, replacement and upgrade o f power plant systems to restore reliability, availability and power output, and improve plant efficiency; (b) upgrade o f environmental protection systems and environmental monitoring; (c) improvement o f operational and maintenance practices - particularly maintenance monitoring systems, predictive maintenance based on historical data analysis, and maintenance planningkcheduling; and (c) environmental regulations; and (d) meeting UCTE standards for primary and secondary frequency control required to integrate with the South East European market.

Component 2: Support for Financial and Operational Restructuring of the Generation Business (Estimated

This component w i l l focus on supporting EUA$ in restructuring i ts generation business into financially and operationally viable portfolio companies and a hydro corporation. This work w i l l create the basis for undertaking the future privatization o f these generation entities. The PHRD grant for the preparation o f this Project has been utilized to begin this work. Consultants have analyzed different portfolio configurations based on criteria such as fuel mix, load following capabilities and financial viability, and have also prepared draft transition contracts between GENCOs and TETA$/ distribution companies. Based on this work, the Government has decided on 6 portfolio companies, and these have been earmarked as separate units within EUAS, in addition to the residual EUA$ Hydropower company. The Project proposes to assist in completing this work, focusing on aspects o f financial and operational restructuring o f the companies to create them as viable business units.

The Project w i l l also provide support, if necessary, to EUAS and the Government to implement mechanisms to address generation supply security needs in the period beyond 2008. The initial work on assessing options and strategies i s being funded through separate grant funds.

cost EUR 3.0 million)

Financing Plan The proposed Bank loan w i l l finance the main rehabilitation contract. This contract w i l l cover all the major critical aspects o f the rehabilitation included in Component 1 such as the rehabilitation o f the boiler and firing system, the electrostatic precipitators (ESPs), the main cooling water and condensate water system (covered under the Balance of Plant Mechanical), control and instrumentation, and ash and coal handling.

The remaining portions o f Component 1 w i l l be financed from EUA$’ operating and maintenance budget since these elements are either currently ongoing or are logically covered by the annual maintenance budget. The most important sub-component covered by EUAS i s the ongoing rehabilitation o f the steam turbines and generators. EUAS’ maintenance budget w i l l also cover elements such as the switchgear, transformers and other general instrument supplies (Balance o f Plant Electrical), cooling tower coating and reinforcement, and environment monitoring. The bidding documents for the main contract w i l l contain suitable provisions to reflect the fact that some works are ongoing, and that EUAS wi l l provide some components from i ts own resources.

The operational and maintenance practice improvement services, and specialized project management services w i l l be funded through the Bank loan.

Under component 2 the Bank loan w i l l be used for services to facilitate the financial and operational restructuring o f EUAS in to multiple generation companies. In addition, provision w i l l be made under component 2 to utilize the earmarked resources to implement mechanisms to address generation supply security needs in the medium-term.

3 1

Component 1 - Afqin Elbistan A Rehabilitation

Af7in-Elbistan i s Turkey's largest thermal power generation complex. The complex uses domestic l ign i te which i s mined adjacent to the two generation stations:

Af9in-Elbistan A with a nominal capacity o f 1,355 MW (3x340 + 1x335). The four u n i t s were commissioned between 1984 and 1987; and Afvin Elbistan B, with a capacity o f 1,440 MW (4x360). Two units were commissioned in 2005 and the remaining two units will be commissioned in 2006.

The output and performance o f AfSin-Elbistan A has deteriorated significantly over in the last 20 years and the plant i s in need o f major rehabilitation. . Capacity Derating - Available capacity i s currently about 1,000 MW o f the original name-plate

capacity o f 1,355 MW - or about 74% o f the design capacity. a

a Availability - has declined from 85% to below 40%. Plant efficiency - has declined fi-om 36.6% to about 27%.

Several factors have contributed to this pre-mature decline in performance in addition to general wear and tear.

(a) Variation in Lignite Quality from Design Specification (1987-1994) - the boiler was designed for lower lignite quality than was init ially made available to the plant by the mining company (which was then separate). The lignite f i o m the mine has a l o w calorific value, typically 1000-1,500 kcalkg. With dryer and higher calorific value lignite, the control systems in the bruden system were not able to maintain the necessary re-circulation o f combustible particles to the burners, which led to boiler combustion temperatures not being stabilized at the design level. This in turn led to excessive slagging and fouling o f tube surfaces and led to severe damage to boiler pressure parts. The ownership o f the mine was transferred to the power company in 1994, which improved coordination and quality control o f the lignite supplied. However, irreversible damage to the boiler had already been done.

(b) Maintenance Practices - The power station maintenance practices have not been up to the required

Planned and predictive maintenance - Plant maintenance was generally carried out in response to operating problems and equipment failures, with inadequate attention to systematic monitoring at each maintenance event followed by historical data analysis. Scheduling o f periodic maintenance inspections and work was not done as it should have been, partly owing to the budget restrictions on maintenance. Budget provision for spare parts - Budget allocation practices led to phases when essential spare parts and maintenance materials could not be procured. Equipment wear increased substantially during these phases. Departures o f experienced and qualified staff - Over 200 trained staff who left the station for postings within the company or for alternative employment were not replaced.

standards owing to the shortcomings in:

.

Plant Performance after Rehabilitation The rehabilitation work i s expected to improve the plant performance as follows: . Plant output o f each unit will be increased from about 260 MW net to 300 MW net

Capacity factor will be increased from below 40% to 75% Plant efficiency wi l l be increased f i om 27% to 31% (30.6% with the FGD)

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Performance parameters such as: availability, steam output, boiler efficiency and auxiliary power consumption) wi l l be guaranteed by the rehabilitation contractor.

Rehabilitation Scope EUAS has finalized the feasibility report prepared by RWE International, and has approved the scope o f work after a comprehensive review jo int ly with the Bank's power engineers. The key sub-components o f the rehabilitation scope and cost estimates are summarized below. Each rehabilitation sub-component was selected based o n an economic and technical assessment o f options ranging from doing no rehabilitation, to repairinghenewing the system or replacing the system entirely. The finally selected scope was defined based on an overall least-cost solution that would achieve a guaranteed power plant performance that engineering contractors could be held accountable for. The scope o f the environmental pollution control systems were defined based o n regulatory requirements.

Table 4.1 : Rehabilitation scope and cost estimates (E million)

Rehabilitation Sub-component

_ _ _ _ ~

Boiler The interior and exterior of the boiler will be cleaned. Detailed inspection and repair work of the boiler waterwall, superheater, reheater and economizer tubes, headers and other pressure parts. The waterwall bottom section of the boiler (hopper) and the lower economizer will be replaced. Damaged parts, the superheater, and reheater tubes will be repaired to the extent possible or otherwise replaced. A new boiler cleaning system and soot blowing system will be installed. This will improve the boiler efficiency as well as preventing slugging which causes tube failures.

Steam Turbine Rehabilitation The high pressure (HP), intermediate pressure (IP) and low pressure (LP) inner casing and blades will be overhauled and replaced in selected units in order to achieve efficiency improvements and plant output increases. The turbine governors will be replaced for better frequency control. The boiler feed water pump turbine will be overhauled to prevent unexpected failures and unplanned outages, thus increasing the availability and reliability of the plant. The steam turbine system is funded by EUAS separately (and not financed by the Bank) because the turbine overhaul has already been scheduled under the periodic maintenance agreement negotiated with Alstom: the original equipment supplier (OEM).

High Pressure Piping Damaged pipe hangers will be replaced and repaired. Boiler pressure parts and major piping including main steam, cold and hot reheat, and feed water pipes will be inspected and non-destructive testing (NDT) will be carried out to maintain safe operation of the plant.

Balance of Plant Mechanical This includes inspection, overhaul, repair and replacement work of the following main systems: ' 1 circulating water system,

1 fire suppression system, ' gland steam system,

8 condenser re-tubing, 9 other system pumps.

Balance of Plant Electrical This includes inspection, overhaul, repair and replacement work on the following; transformers, large motors, general instrument supplies, 6kV switchgear, 380V switch gear, generator protection and control system, automatic voltage regulator, high voltage system, medium and low voltage systems, uninterruptible power supplies, emergency generators and DC systems, power metering and fire protection.

the main cooling water system,

condensate water system (LP feed water heater replacement),

condenser air extraction system,

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Rehabilitation Sub-Component

Precipitator An additional compartment will be added to the main boiler flue gas and the bruden vapor Electrostatic Precipitators (ESPs) to achieve the required particulate emission level (100 mglNm3). This is necessary to comply with the Turkish environmental regulations for Afsin (1 50 mglNm3) and the Bank's environmental guidelines for rehabilitated existing plants.

Control and Instrumentation The complete boiler and turbine control system will be upgraded to the modern Distributed Control System (DCS). The existing control panels in the control room will be replaced by computer display panels which will allow the operator to access plant control, monitoring and alarm systems. All the boiler and turbine measurement transmitters will interface with the new DCS and all the actuators required for the new DCS will be overhauled, modified or added. Continuous water quality monitoring and emissions monitoring systems will be added. These measures will enable more flexible operation of the plant, record keeping, and thus helping improvement of operation and maintenance practice, and improve efficiency, availability and reliability. After the rehabilitation, the plant will be able to participate in the primary and secondary frequency control systems required by UCTE.

Ash and Coal Handling A dry bottom ash handling system (the Magaldi system) will replace the existing system which has had severe problems in the past, causing plant outages, high water requirements and pollution around the power plant. There is experience with dry bottom ash handling systems in Turkish imported coal plant, and at lignite fired plants in Portugal, Italy, and Macedonia. Analysis conducted by RWE during the feasibility study has shown that the dry bottom ash handling system will be suitable for Afsin-Elbistan A. The fly ash handling system will be changed to a pneumatic transport system, and new filters for the pneumatic system will be installed. These measures will improve availability and reliability of the plant, as well as environmental problems caused by the current ash disposal system. Enhancement of the coal handling system including covering tops of conveyers and lighting systems, will improve availability of the plant.

Civil Works The reinforced concrete, steel structure for the boiler, turbine and balance of plant will be repaired and replaced The civil works also include exterior and interior painting, earthquake safety (additional walls) repair of damaged clear covers, and exposed reinforcement, protective coatings and new foundations for concrete structure.

Plant Water Chemistry Systems for new Condensate polishing, demineralization, decarburization, ammonia and oxygen injection, water steam circuit, cooling water treatment and sewage treatment will be installed andlor renewed.

Environmental Monitoring Environmental monitoring systems will be installed to monitor the environmental quality near the power plant so that the emission and ambient levels are within the limit of the regulations and guidelines.

Operation and Maintenance Practice Improvement Operation and maintenance practices are critical to keep the plant in a good operating condition and to ensure availability after rehabilitation. Priority will be given to improving performance and maintenance monitoring, as well as maintenance planning. A comprehensive program of improved operation and maintenance practice including systematic monitoring, historical data analysis, regular overhaul, predictive maintenance and non destructive testing (NDT) of materials will be introduced. A plan for rationalization of the O&M budget and staff numbers etc will be developed for both the power plant and lignite mine. Training on the blending system at the mine side will also be included in the TA.

Project Management Services

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z 0 Lo

_ _

! I j;

iaure 4.2: ScoPe Boundarv of Rehabilitation Work and FGD Installation

- = - . - Boundary of imtial Rehabi1i:ation and

Flue Gas Desulphurization (FGD)

The f lue gas desulphurization (FGD) unit i s not included in the init ial phase o f the rehabilitation project given the five year transition period granted by the Ministry o f Environment and Forests (MOEF). In accordance with this transition period granted by MOEF, EUAS will need to install the FGD by the end o f 2010. The FGD retrofit project i s estimated to cost U S $ 250 mi l l ion and will be funded separately by EUAS and the Government.

A wet limestone FGD system will be used. The basic design for the system has recommended that the treated flue gas be emitted from the cooling tower instead o f the chimney. This design requires polymer coating and reinforcement of the cooling tower. There i s adequate space for the FGD and connection ducts (See Figure 4.3 below).

The scope o f work will include: construction and installation o f the FGD, Bruden flue gas ducts to connect to the FGD, replacement of the ID fans - new ID fans with approximately twice the capacity o f existing fans are necessary as the Bruden flue gas will need to be directed into the FGD unit in addition to the main f lue gas from the boilers, ducts connecting to cooling towers, facilities for limestone preparation, gypsum treatment and storage.

-

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:igure 4.3: Site Plan Indicating Location of FGD and Connection to Cooling Towers

7 he FCD {r...j ,huutd be located after the stacks (S.. 1 which will be kept fo: t?>-pass operation. Emergency sto:age tanks (La) shall be indalkd in the same a m . f,imestonc storage and griqding as well asfhe process water systcrn and electricat system hase to be erected in thc: : m e hejogld the cuoiing towers. Thc acz i next 10 h i rers i s m t s\ailahle &e :O plans for

fit:ure extension ofthe power pian1

Lignite M i n e Development

To ensure adequate lignite for the new AfSin-Elbistan B Station and the rehabilitated Af$n Elbistan A, l ignite production capacity has to be almost doubled in the mine. Based on the planned rehabilitation schedule (i.e. 3 units commissioned in 2008 and 1 unit in 2009), and FGD installation in 2010 lignite demand for Afqin Elbistan A and B power stations i s shown in the table below:

Table 4.2: Lignite Demand for Afsin Elbistan A and B Power Stations (Million tons)

Af9in-Elbistan A Af9in Elbistan B Total 2006 7.2 14.6 21.8 2007 7.2 17.3 24.5 2008 8.4 17.3 25.7 2009 16.9 17.3 34.2 201 0 16.9 17.3 34.2 201 1 16.9 17.3 34.2 2012 18.6 17.3 35.9

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To produce the required amount of l ignite, two options were assessed by EUAS and RWE International - these options are shown in the mine area map in Figure 4.4:

Option 1 : expansion o f the existing Kislakoy M i n e and Option 2: development o f a new mine for Afvin Elbistan B (Collolar mine).

Both options require around EUR 424 mi l l ion investment and extensive use o f contractors for overburden removal, estimated at 30 mi l l ion tons per year at the Kislakoy mine. The second option requires additional boxcut overburden removal o f about 30 mi l l ion tons annually at the Collolar mine. If the new mine i s developed by a private entity as EUAS i s expected, significant amount o f upfront investment cost i s required for opt ion 2. Further, given that the development o f a new mine would require 5-6 years to complete, in order for both plants to operate at full capacity in 3 years, the existing mine would have to be extended even in option 2. Thus, although the development o f a second mine will improve supply reliability and increase employment in the mine, the costs o f this option i s not justified. A levelized lignite production cost in option 2 i s about EUR 0.5-1.5/ ton higher than that o f option 1. Therefore, the available analysis shows that option 1 (i.e. extension o f the Kislakoy mine) i s the most economic option for increasing l i g n i t e production to meet the demand o f rehabilitated Afvin A and plant B. Coal production and demand are shown in the table below.

1 Reserve from Existing annual Increase in Total annual Afgin A + B previous year capacity annual capacity availa bit ity demand

2006 2007 2008 2009 2010 201 1 2012

9.5 18.6 0 28.1 21.8 6.3 18.6 7 31.9 24.5 7.4 18.6 12 38.0 25.7

12.3 18.6 12 42.9 34.2 8.7 18.6 12 39.3 34.2 5.1 18.6 12 35.7 34.2 1.5 18.6 16 36.1 35.9

The production capability o f Kislakoy mine has to be increased f rom the present 18 mi l l ion todyear to a maximum o f 34.6 mi l l ion ton by 2012 by means o f contracts for overburden removal, a performance improvement program, 2 additional compact size bucket wheel excavators (2 x 10 mi l l ion m3 p.a.) and 2 additional medium size bucket wheel excavators (2 x 28 mi l l ion m3 p.a.) with a total investment of EUR 324 million. In addition, rehabilitation investment o f EUR 100 mi l l ion has to be made to maintain the existing capacity o f excavators and other equipment. The capacity increase will be carried out more effectively and efficiently by a private entity as EUAS expected, considering the engineering and management capacity of EUAS at the existing mine. After the installation o f the FGD at Afvin Elbistan A plant due to the net efficiency reduction o f the power plant, the mine capacity needs to be further expanded to 36.0 mi l l ion ton by 20 1 1.

To achieve this capacity increase, the following milestones have to be met: Contract with overburden removal contractor by the middle o f 2006; Engineering and procurement o f mine equipment and belt conveyors by the middle o f 2007; Manufacturing, delivery and start o f erection o f the f i rs t equipment in the second hal f o f 2008; Commissioning o f the first equipment in the second ha l f o f 2009; Last equipment to be commissioned in the second ha l f o f 201 1.

The above milestones will be supervised during Project implementation.

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From the point o f view o f the long-term strategic need to increase the electricity generation capacity, EUAS i s continuing i t s technical and feasibility study for opening the new Collolar Mine along with i t s plans for a 3'd lignite fired power plant (Af9in Elbistan C). These studies w i l l be shared and discussed with the Bank team during implementation. If consideration i s given to developing a new mine (Collolar) rather than expand production in Kislakoy, EUAS will present a comprehensive economic case for such a choice.

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Annex 5: Project Costs TURKEY: ELECTRICITY GENERATION REHABILITATION AND

RESTRUCTURING

Project Cost By Component andlor Activity Local Foreign Total €million €million Emillion

Component 1 - Afqin Elbistan A Rehabilitation 99.9 228.3 328.2 1. Rehabilitation of Af$n Elbistan A 92.1 160.4 252.5

'2. Rehabilitation of Turbine and Generators (funded from EUAS 33.0 33.0

3. On-going Maintenance Works (funded from EUAS Maintenance 7.8 31.3 39.2 Maintenance Budget)

Budget)

Budget) nvironmental Monitoring Systems (funded from EUAS Maintenance 0.9 0.9

5. Operational and Maintenance Practice Improvement (Consultant 1.7 1.7 ervices) roject Management (Consultant Services) 1 .o 1 .o

Component 2 - Financial and Operational Restructuring of 3.0 3.0 Generation Business Total Baseline Cost 99.9 231.3 331.2

Front-end Fee 0.7 0.7 Total Financing Required 120.7 280.1 400.8

'Identifiable taxes and duties are US$26 million (excluding VAT).

FGD Project

Project Cost By Component andlor Activity Local Foreign Total Cmillion Cmillion €m i I I ion

FGD equipment and installation Cost 36.3 144.9 181.2 Physical contingencies 3.6 14.5 18.1

Price contingencies 1.8 7.2 9.1 Total Project Costs 41.7 166.7 208.3

Extension of the existing mine

Project Cost By Component andlor Activity Local Foreign Total €million €million €million

Mine development cost 84.8 339.2 424.0 Physical contingencies 8.5 33.9 42.4

Price contingencies 4.2 17.0 21.2 Total Project Costs 97.5 390.1 487.6

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Annex 6: Implementation Arrangements


Implementation Agency The project will be implemented by EUAS, the Government-owned generating company owning and operating about 24,000 MW o f thermal and hydro plants. A special Project Implementation Team (PMT) has been established to oversee the implementation o f the Project. The PMT i s managed by and staffed with engineers and other staff experienced in thermal plant operations and rehabilitation. The rehabilitation will be carried out by a contractor chosen based o n ICB procedures o f the Bank. The contractor will be overseen by the PMT aided by RWE who will report to the PMT and EUAS top management. In addition, there will be considerable focus given to the monitoring o f the environmental impacts o f the project and the plant in general, either as part o f the implementation consultant contract, or as a separate contract. Because o f the importance o f this project to EUAS and to Turkey, EUAS management wi l l fo l low i t s progress closely.

I t i s l ikely that during project implementation, EUAS will be restructured into separate portfolio GENCOs. In this case, AfSin-Elbistan A will be transferred to the portfolio company containing the AfSin-Elbistan complex, hereinafter referred to as AfSin GENCO. The responsibility o f rehabilitation and supervision will be transferred to AfSin GENCO. The PMT, with adequate staff in Afgin GENCO, will be suitably enhanced to ensure that implementation does not suffer.

The Bank loan will remain with EUAS’ successor, EUAS Hydro. EUAS Hydro will enter into a back-to- back loan with AfSin GENCO.

Implementation Schedule The rehabilitation o f Afgin-Elbistan A i s expected to take about 33 months after contract award. The two- stage bidding process and contracting i s l ikely to take about 11 months after preparation o f technical specifications, with contract signature estimated by end-March 2007. Thereafter, as shown in Figure 4.1 in Annex 4 above, contract implementation will start with the delivery o f materials, which will take about 14 months, and rehabilitation will be carried out for each unit sequentially. This i s an ambitious timeline, and will require very close and regular monitoring to be implemented. Based o n this schedule, the f i rs t rehabilitated unit will be commissioned in mid-2008, and the entire plant will be re-commissioned in the second ha l f o f 2009. Under an alternative compressed schedule project duration i s estimated at 22 months, with the assumption that work wil l continue during winter months and that several units can be rehabilitated in parallel. This will have cost implications.

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Annex 7: Financial Management and Disbursement Arrangements


1. Implementing Entity 2. Funds flow 3. Staffing

4.Accounting Policies and procedures

A. An assessment o f the financial management arrangements for the project was undertaken during October 20-3 1, 2005 and the assessment wi l l be updated during appraisal and before Board. The current financial management arrangements for the project are marginally satisfactory to the Bank and an action plan i s developed to bring the arrangements to a satisfactory level for the Bank.

Summary of Financial Management Arrangements

RATING

Satisfactory Satisfactory Marginally Satisfactory Marginally Satisfactory

Detailed financial management questionnaire i s presented as an annex to this report. A summary o f the conclusions are as follows:

8. Information systems

OVERALL FM RATING

Marginally Satisfactory Marginally Satisfactory

Satisfactory

7. Reporting and Monitoring Satisfactory

COMMENTS

Additional qualified staff will be assigned to the project by May 15, 2006. A draft financial management manual will be prepared and accounts relating to project transactions will be opened in the main accounting system by April 30,2006. No reliance will be placed on internal audit. The project will start in 2006. Therefore, the auditors for the project will be assigned by November 30, 2006. The Financial Affairs Department will prepare the TOR for the annual audit of project financial statements as well as for the audit of entity financial statements. The format and the contents of the interim un- audited financial reports (or the Financial Monitoring Reports - FMRs) have been determined.

Country Issues State Economic Enterprises in Turkey are subject to basic accounting and auditing obligations which apply to companies in Turkey. These are la id down in the Commercial Code, which was last revised in 1956. More detailed requirements were introduced in the Tax Procedures L a w o f 1950 (which has since been consolidated into the Tax Procedures Code). Under the powers granted to i t by the Code, the Ministry o f Finance (MOF) introduced a Uni form Chart o f Accounts which became effective on January 1, 1994. This prescribes certain fundamental accounting concepts, a code o f accounts, and a format for the presentation o f financial statements. The main purpose o f these requirements i s to provide information to the taxation authorities, there i s n o obligation to publish the financial statements, nor are they subject to a mandatory financial statement audit.

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Risk Analysis A summary o f the risk assessment for the project i s as follows

I Risk I Comments

7. Reporting and Monitoring

8. Information Systems Overall Control Risk

Board Draft FMRs will be prepared by EUAS prior to Board

Moderate

Moderate Moderate

Risk Mitigation Strategy Country financial management risk -the project will be implemented by EUAS, a state owned enterprise which has adequate financial management arrangements in place.

Control risk - an action plan i s agreed with EUA$ to reduce the control risk to a negligible level before Board.

Implementing Entity The project implementation will be carried out by EUAS. There will be a Project Management Team (PMT) responsible for the daily implementation o f the project. Overall project coordination will be carried out by the deputy general manager responsible for power plants. The technical departments will be responsible for the procurement o f goods and services and the physical progress o f the project. The financial management functions will be performed by the Loans Directorate under the Financial Affairs Department o f EUA$.

Currently there i s one manager and two assistant managers working in the Loans Directorate which requires the support o f an additional staff with the necessary qualifications.

The related technical departments, together with a consultancy firm, will prepare the technical specifications or Terms o f References (TORs) for the goods, works, and services required. The evaluation committee will be made up o f representatives f rom EUAS power plants and other departments o f EUAS e.g. the finance department. The acceptance and oversight o f the related items procured will be the responsibility o f the technical department. The consultancy firm will supervise the implementation o f the project in line with the TORs. The Loans Directorate will make the payment fi-om the Designated Account following the approval o f the technical departments.

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The Loans Department wi l l document the format and the contents o f the information required from technical departments to make payments following the project financial management manual.

The risk associated with implementing entity i s negligible. EUAS i s a well established SOE.

Funds Flow There wil l be one designated account for the project for disbursements. The Designated Account will be in EUROS and wil l be at an acceptable commercial bank. All payments to the contractors, suppliers and consultants will either be made directly f rom the loan account or from the Designated Account wi th the authorization o f the responsible personnel.

EUAS obtained a budget allocation o f YTL 52 M i l l i o n for the AfSin-Elbistan Plant Rehabilitation. The State Planning Organization approved the feasibility studies o f the project o n March 27, 2006. Accordingly, the project funds can be utilized when they become available.

The r i s k associated with funds f low i s considered as negligible.

Staffing The Loans Directorate, which will be responsible for the financial management functions, i s currently staffed wi th a manager and two assistant managers. The department i s responsible for the financial management functions o f all foreign loans o f the company. Considering the additional work that will be introduced by the project it i s important that an additional staff with the necessary linguistic sk i l ls and computer literacy i s assigned to the Loans Directorate.

The risk associated with staffing i s assessed as moderate. EUAS wil l assign an additional staff with satisfactory qualifications and experience to the Loans Department by M a y 15,2006.

Accounting Policies and Procedures The project transactions wi l l be entered into the main accounting system o f EUAS however the accounting system does not have the capability o f having detailed sub accounts or codes for transactions relating to the Wor ld Bank loan to facilitate project reporting. Therefore, EUAS will assign a specific ledger code for the project under the relevant accounts and at the same time i t will make use o f supplemental Excel spreadsheets to account for transactions based on activities and disbursement categories. Those spreadsheets will be reconciled with the main accounting records on a regular basis.

EUAS i s a well-established SOE and the current accounting policies and procedures are acceptable to the Bank. The company uses the Uni form Chart o f Accounts and applies the accounting policies as required by the Ministry o f Finance. The financial management procedures relevant for the project wi l l also be included in the financial management manual for the project. The financial management manual will cover (a) the financial and accounting policies and procedures for the project (b) organization o f the financial management functions (staff responsibilities) (c) the financial management information system (d) disbursements (e) budgeting and financial forecasting and (f) project to be finalized. The draft project financial management manual will be prepared by M a y 30,2006.

Currently, EUAS has a partially centralized accounting system. Thermal power-plants, hydraulic power- plants and other similar directorates have the responsibility for recording their own transactions into the accounting software. The accounting data i s then sent on a quarterly basis to the Financial Affairs Department in the General Directorate, where the control and consolidation work i s done. EUAS plans to replace the existing accounting system with a fully integrated ERP system, the tendering process for

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which i s completed. EUAS expects that the project wi l l be completed by the end o f 2007. The project financial management wi l l than be fully integrated into EUAS system and therefore the successful implementation o f ERP will be a dated loan covenant.

The r isk associated with accounting policies and procedures i s considered as moderate. EUAS will generate the excel worksheets to facilitate accounting in foreign currency and project reporting by M a y 30,2006.

Internal Audit There i s not an internal control department which undertakes regular audits o f the departments within EUAS and therefore n o reliance will be placed on internal audit.

EUAS does not fa l l within the scope o f the enacted Public Financial Management and Control L a w which requires internal control departments to be established at Government institutions. However, since EUAS i s committed to modernize i t s financial management systems it i s important that the Organization considers the establishment o f a modern Internal Audit Department.

Reporting and Monitoring The Loans Directorate will maintain records and will ensure appropriate accounting for the funds provided. Financial statements for the project will be prepared by the Loans Directorate. The interim un- audited financial reports - also expressed as Financial Monitoring Reports (FMR), will be prepared quarterly and wil l be submitted to the Bank n o later than 45 days after the end o f the quarterly period.

The format and the contents o f the FMR have been discussed and agreed between the Bank and the Loans Directorate. The financial management manual o f the project will include a section on the FMR. The FMR will include financial reports, output monitoring reports and procurement reports. The responsible units for the preparation o f each o f these reports have also been agreed.

The financial accounting software i s not capable o f producing the financial reports. Excel based spreadsheets satisfactory to the Bank will be prepared by the Loans Directorate by M a y 30,2006.

The r i sk associated with reporting and monitoring i s assessed as moderate.

Information Systems EUAS uses an in-house developed accounting software. The project transactions will be recorded using the current software and the Loans Directorate will prepare separate financial reports based o n Excel spreadsheets. Currently, EUAS has a partially centralized accounting system. Thermal power-plants, hydraulic power-plants and other similar directorates have the responsibility for recording their own transactions into the accounting software. The accounting data i s then sent on a quarterly basis to the Financial Affairs Department in the General Directorate, where the control and consolidation works are done. EUAS plans to replace the existing accounting system with a fully integrated ERP system, the tendering process for which is completed. (See above.)

The r isk associated with information systems i s assessed as moderate. EUAS will generate excel worksheets to support project and will successfully implement the ERP by December 31,2007.

Strengths and Weaknesses The significant strengths that provide the basis for reliance o n the project financial management system include (a) experience o f the staff in the Loans Directorate under the Financial Affairs Department in

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World Bank projects, (b) preparation o f a financial management manual for the project satisfactory to the Bank before Board.

A weakness in the project’s financial management system i s the staffing issue which will be addressed by EUAS by assigning additional qualified staff with CVs satisfactory to the Bank to the Loans Directorate before Board

Action Plan I t i s concluded that the financial management arrangements for the project marginally satisfy the B a n k s minimum requirements. The following action plan i s proposed to develop the financial management system to a satisfactory level before the loan i s submitted to Board:

ctorate for the financial management of the

ended Decembe; 31,2006. 7. Financial Monitoring Reports integrated to the 1 December 31, 2007 I ERPsystem

Supervision Plan During project implementation, the Bank will supervise the project’s financial management arrangements in two main ways: (i) review the project’s quarterly financial management reports as wel l as the project’s annual audited financial statements and auditor’s management letter; and (ii) during the Bank’s supervision missions, review the project’s financial management and disbursement arrangements (including a review o f a sample o f SOEs and movements o n the Designated Accounts) to ensure compliance with the Bank’s minimum requirements. A s required, a Bank-accredited Financial Management Specialist will assist in the supervision process.

External Audit EUAS was established in 2001. As there was no legal obligation for having i t s accounts audited by external auditors, the company didn’t receive such services until 2005. Considering the fact that the external audit will be mandatory with the starting o f the project in 2006, the company decided to have its accounts for the years ended 2002,2003,2004 and 2005 be audited prior to that date. Accordingly, EUAS has completed the tendering process for the audit services and assigned external auditors who will audit the company’s financial statements for 2002, 2003, 2004 and 2005 in accordance with International Financial Reporting Standards (IFRS) and International Standards on Auditing .(ISA). The audit firm assigned by EUAS to carry out the audit o f the financial statements for the years ended 2002 to 2005 i s a local firm however it i s included in the Capital Market Boards l i s t o f accepted audit companies. Once the loan becomes effective the audit TOR will be revised for 2006 and onwards to include the audit o f project financial statements.

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State Owned enterprises in Turkey are subject to the audit o f Higher Audit Board (YDK). YDK was established in 1938 to audit State Owned Enterprises (SOEs) o n behalf o f the Parliament. The YDK reports for the years 2003 and 2002 were reviewed. The main findings relating to financial management issues are that inventory and registration procedures relating to the fixed assets transfers f rom other government institutions to EUAS are not completed.

The IFRS financial statements audited in accordance with I S A will be reviewed once they are received. If the results o f the audits reveal any weaknesses in the financial management o f EUAS, an action plan will be agreed with the company to address the issues identified and progress will be monitored during supervision.

The risk associated with external audit i s considered moderate. EUAS’ IFRS and I S A financial statements are not available but the YDK report has been reviewed and no major internal control issues were identified. EUAS wil l assign the auditors acceptable to the Bank for the year ended December 31, 2006 by November 30,2006.

B. Disbursement Arrangements

Designated account: EUAS will open and maintain a Designated Account (DA) in EURO at an acceptable commercial bank. The DA wil l be used following procedures to be agreed with the Bank, and will have an authorized allocation o f €20 million. T w o signatures indicated in the l i s t o f authorized signatures submitted by EUAS will be required on the withdrawal applications. The minimum application size for payments directly f rom the Loan Account for issuance o f Special Commitments i s €4.0 mill ion. Applications for replenishment o f the DA will be submitted to the Bank on a monthly basis, or when the balance o f the DA i s equal to about half o f the init ial deposit or the authorized allocation, whichever comes first, and will include a reconciled bank statement as wel l as other appropriate supporting documents.

Use o f statements of expenditure (SOEs): Disbursements will be made against Statements o f Expenditures for: (a) goods costing less than €5 mi l l ion equivalent per contract; (b) consulting contracts with firms, costing less than E 275,000 equivalent each; (c) consulting contracts with individuals, costing less than E 75,000 equivalent each. Full documentation in support o f SOEs would be retained by EUAS for at least one year after the Bank has received the audit report for the fiscal year in which the last withdrawal f rom the Loan Account was made. T h i s information will be made available for review during supervision by Bank staff and for annual audits which wil l be required to specifically comment o n the propriety o f SOE disbursements and the quality o f the associated record-keeping.

Utilization of Loan Proceeds: EUAS will finance the turbine rehabilitation expenditures, other elements such as the switchyard etc., taxes, interest during construction, and contingencies. The Bank loan will thus finance about 70% o f the total project cost (excluding VAT).

Retroactive Financing: Expenditures incurred for consulting services after April 30, 2006 may be financed, up to a maximum o f E 500,000.

47

Category

273,600,000

5,700,000

7oo,ooo

% of Expenditure to be financed Allocation Loan I

100% of foreign expenditures, 100% of local expenditures (ex-factory cost) and 85% of other items procured locally

100% Amount due under Section 2.04 of the Loan Agreement in accordance with Section 2.07 (b) of the General Conditions

1. Goods (including supply and installation)

Total

2. Consulting services

280,000,000

3. Front-end Fee’

Front-end Fee calculated on the basis o f 0.25% o f loan amount. T h i s wil l be applicable if the loan i s approved by the Bank Board by June 30,2006.

48

Annex 8: Procurement Arrangements


A. General Procurement for the proposed project would be carried out in accordance with the Wor ld Bank’s “Guidelines: Procurement Under IBRD Loans and IDA Credits” dated M a y 2004; and “Guidelines: Selection and Employment of Consultants by Wor ld Bank Borrowers” dated M a y 2004, and the provisions stipulated in the Legal Agreement. The general descriptions o f various items under different expenditure categories are described below. For each contract to be financed by the Loan, the different procurement methods or consultant selection methods, the need for two-stage bidding, estimated costs, pr ior review requirements, and time frame are agreed between the Borrower and the Bank project team and listed in the Procurement Plan. The Procurement Plan will be updated regularly t o reflect the actual project implementation needs and improvements in institutional capacity.

Procurement of Works: N o Works contracts are foreseen in the Project.

Procurement o f Goods/Supply and Installation: Goods procured under this project would include: Rehabilitation o f AfSin-Elbistan Lignite fired power plant including a l l equipment supply and installation. Because o f the size and complexity o f the rehabilitation works, two-stage bidding will be conducted in accordance with the provisions o f paragraph 2.6 o f the Procurement Guidelines. The Bank financed part of the rehabilitation works will include the rehabilitation o f boilers, firing system, piping, balance o f plant, electrostatic precipitators, instrumentation and controls, ash and coal handling, c iv i l works, chemistry plant. Turbine and generator rehabilitation will be done by EUAS’S own sources. The environmental monitoring will be financed by EUAS’S own sources under a separate contract including equipment supply.

Basically, there will be one large Goods/Supply Installation contract in this Project and i t will be conducted through two-stage International Competitive Bidding (ICB) procedures. The cost estimate for this big contract was done by German firm RWE which has been employed by EUAS under the scope o f feasibility study. The cost estimate has been reviewed by the Bank’s technical experts and found conservative in order to allow for unforeseen situations during the rehabilitation works. I t has been estimated that overall uncertainty does not exceed 15% o f the base cost.

The procurement will be conducted using the Bank’s latest Standard Bidding Documents for Supply and Installation o f Plant and Equipment.

The Goods/Supply and Installation Contract will be subject to prior review by the Bank.

Procurement of non-consulting services: No non-consulting services are foreseen in the Project.

Selection of Consultants: Consulting f i r m s would be required for Financial and Operational restructuring o f EUAS, improvement o f O&M practices o f EUAS, and assistance to EUAS Project Management Team during the implementation o f the project regarding the specialized subjects. Short l i s t s of consultants for services estimated to cost less than €160,000 equivalent per contract may be composed entirely o f national consultants in accordance with the provisions o f paragraph 2.7 o f the Consultant Guidelines. Individual consultants may also be required for highly specialized subjects and for support t o the Project Management Team.

49

The envisaged procurement methods for the Selection o f Consultants in this project are: - Quality and Cost Based Selection (QCBS); - Selection Based on the Consultants Qualifications (CQS) for the services estimated to cost

less than €1 60,000; - Individual Consultants.

Consultancy services estimated to cost above €275,000 per contract and Individual Consultants estimated to cost above €75,000 per contract will be subject to prior review by the Bank. Regardless o f the estimated cost, the f i rs t two contracts for each selection method and the Terms o f References o f a l l individual consultancy contracts will be subject t o prior review by the Bank.

Operational Costs: The project will not finance any operational cost.

B. Assessment o f the agency’s capacity to implement procurement

Procurement activities will be carried out by EUAS.

Assessments o f the capacity o f the Implementing Agency to implement procurement actions for the project has been carried out by the Bank team between September 2004 and October 2005, and updated in February 2006. The assessments reviewed the organizational structure and procedures for implementing the project.

EUAS has established a Project Management Team (PMT) under the coordination o f Deputy General Manager responsible from Department o f Thermal Power Plants and Mining Areas. The PMT composition i s as follows: the Department Head, Deputy Department Heads, one Mechanical Engineer, one Environmental Engineer. The PMT will be supported by the procurement staff experienced in public procurement and other international procurement procedures during the procurement process. EUAS’ existing consulting firm, RWE, which prepared the feasibility study and basic design, wil l help EUAS in preparing the bidding documents for the main supply and installation contract. This firm will also conduct the site supervision o f the rehabilitation works and wil l be continued to be financed by EUAS’ own sources.

EUAS as an institution has experience in the procurement and implementation o f large international contracts. However, EUAS does not have experience under the Bank’s procurement Guidelines (except the selection o f consultants under PHRD Trust Fund).

Considering that the EUAS staff has l itt le experience in the Bank’s procurement procedures the following action plan for reducing procurement risk was agreed:

1. During the project preparation stage between September 2004 and February 2006, the Project Management team staff was informed about the Bank’s procurement Guidelines, Standard Bidding documents and the procedures.

2. The Project Management Team Staff participated in the procurement training given on June 24, 2005 by the Bank’s procurement specialist in the Bank’s Ankara office.

3. Since EUAS intends to initiate the procurements before the Loan negotiations, in the preparation o f the bidding documents EUAS’ staff and the Bank’s procurement specialist agreed to work closely.

4. EUAS staff will participate in regular monthly procurement meetings arranged by the Bank’s procurement specialist.

The overall project r i sk for the procurement i s high.

50

C. Procurement Plan The Borrower has developed a Procurement Plan (Attachment 1 to this Annex) for project implementation which provides the basis for the procurement methods. This plan has been agreed between the Borrower and the Project Team o n April 26,2006 and i s available at the Project Management Team’s office in EUAS. I t will also be available in the Project’s database and in the Bank’s external website. The Procurement Plan will be updated annually in agreement with the Project Team to reflect the actual project implementation needs and improvements in institutional capacity.

D. Frequency of Procurement Supervision In addition to the prior review supervision to be carried out f rom Bank offices, the capacity assessment o f the Implementing Agency has recommended semi-annual supervision missions to visit the field to cany out post review o f procurement actions.

The Project Management Team in EUAS will keep a complete and up-to-date record o f a l l procurement documentation and relevant correspondence in i t s files which will be reviewed by the Bank staff during supervision missions.

Monitoring reports and on procurement progress in the form o f completed-ongoing-planned procurements wil l be submitted semi-annually as an integral part o f the Financial Monitoring Report on Project implementation.

E. Other EUAS may initiate procurement o f consulting services scheduled in 2006 (or before the Loan effectiveness date) in accordance with the Bank’s Consultant Guidelines [Refer to paragraph 1.12 o f the Consultant Guidelines]. The contracts which will have been reviewed by the Bank may retroactively be financed by the Bank as described in the Loan Agreement.

51

z L

8

IC 0 L

2

W ; 0

Annex 9: Economic and Financial Analysis TURKEY: ELECTRICITY GENERATION REHABILITATION AND

RESTRUCTURING

Summarv a

a

a

a

a

I.

The hovernment forecasts electricity demand growing by about 8.3% per annum till 2010 (and gradually slowing thereafter) whereas supply from existing plants and those under construction i s expected to grow only marginally after 2005. Supply shortages are expected to start in the period 2008 to 2010, depending on the actual growth in demand in the intervening period. It i s prudent to prepare for a shortage starting in

Rehabilitating Af9in-Elbistan A i s the fastest response that the Government can provide for mitigating the risks to supply security. Rehabilitation can be completed in 2-3 years, and about 8 TWh o f energy can be generated once the plant i s re-commissioned. The increased generation from Af$n A will defer the shortages by around a year, giving the Government more time to arrange for the construction o f new plants to meet the shortage. A rehabilitated Af9in-Elbistan A power plant i s also the least cost option for additional generation in this time frame. After rehabilitation, the plant can generate at a discounted price o f about 3.8 U.S.cents/kWh with an FGD. The next lowest cost option i s a combined cycle gas plant using imported natural gas which will cost about 4.4 U.S.cents/ kWh (discounted). The rehabilitation will reduce the dust emissions significantly - dust emissions have been reported by the local population as being their most important concern with the plant. While this benefit i s not quantified in the economic analysis, the health benefits are clearly significant.

2008-09.

ECONOMIC ANALYSIS

Main economic benefits of the rehabilitation The rehabilitation o f Af9in-Elbistan A has been analyzed from two broad aspects - one, from the point o f view o f i t s importance for ensuring supply security, and second, from the point o f view of whether the rehabilitation i s the least cost generation option for Turkey. The main benefits from the rehabilitation o f Af9in Elbistan A are summarized here, and discussed in detail thereafter:

Security of supply - The rehabilitation o f Af9in-Elbistan A can be completed very quickly, in 2-3 years, just in time to meet the shortages anticipated in 2009-10. The incremental generation from Af$n A will defer the shortages by around a year, giving the Government critical time to arrange for additional capacity. Least cost source of generation - At a levelized price o f about 3.8 cen tskWh with the FGD, the rehabilitated Af9in-Elbistan A i s the least cost option for additional generation. A combined cycle gas plant using imported natural gas will cost about U S cents 4.4/ kWh (levelized). Reduction in dust emissions - Dust emission has been reported by the local population as being their most important concern with the plant, and rehabilitation wil l reduce dust significantly.

53

A. Security of supply The analysis o f demand and supply forecasts shown below indicate that Turkey may begin facing growing shortages starting in 2008-2009 under the scenario o f high demand growth with or without dry conditions, and 2009 under a more conservative scenario o f dry conditions and l o w demand growth. The rehabilitation o f AfSin Elbistan A i s critical to meeting the shortages.

Electricity Growth

Electricity demand and supply in Turkey Table 9.1 below shows the growth rates o f GNP and electricity consumption for the past two decades In the 1980s and 1990s, electricity demand grew at a rapid average rate o f 8.6 % but varying from 4% to 13% per year. The implied electricity demand to income/GDP elasticity in these two decades ranged from an average o f 1.00 to a high o f 5.56 but averaged 2.0. In the current decade, demand growth has slowed owing to the economic crisis o f 2001. However, demand has since then grown at 5.9% per year which - although representing a healthy rate o f growth - implies an electricity demand to income/GDP elasticity averaging about 0.83.

8.1 9.4 8.5 8.4 -0.8 4.7 6.9 6.2 6.9

Table 9.1 : GNP and Electricity Consumption Growth Rates (1980-2005)

1 Percentage I 1980-85 I 1985-90 I 1990-95 I 1995-‘00 1 2001 I 2002 1 2003 I 2004 I 2005 1 IGNPGrowth I 4.7 I 5.7 1 3.2 1 3.8 1 - 9 . 6 I 8 1 5.8 1 9.9 I 7.6 I

Demand forecasts The Government has prepared two forecasts for growth o f electricity demand. These are based on economic growth scenarios prepared by SPO and the forecasting i s done using the MAED model (Model for Analysis o f Energy Demand) that i s run by MENR.

High Case: Electricity demand growth o f 8.6% per year - based o n a GDP growth o f 5.5% per year. This implies electricity demand to income/GDP elasticity o f slightly over 1.5. Low Case: Electricity growth rate in demand o f about 6.3% per year. This i s based on the same forecast o f GDP growth but makes different assumptions in the MAED model about the composition o f manufacturing. I t assumes that Turkish manufacturing moves towards less energy intensive industries compared to the high case. T h i s implies an income elasticity o f about 1.0.

.

These forecasts are in Table 9.3 as the “high case” and the “low case” respectively.

Energy Intensity The Bank reviewed the energy intensity o f the Turkish economy as part o f the Energy and Environment Review work. Turkey has been below the OECD average energy intensity measured as total primary energy supplied divided by GDP measured o n a purchasing power parity basis. If instead o f using purchasing power parity, GDP were measured based on an exchange rate basis, Turkey would be at or a l itt le above the OECD average intensity although considerably lower than some developed OECD countries. Whi le this leaves considerable room for growth in energy demand, unlike most o f Eastern Europe Turkey has not had subsidized energy and therefore has not developed the high degree o f energy intensity so common in Eastern Europe.

There were some negative elasticities also when electr ici ty demand continued to grow during recessions.

54

The Government i s endeavoring to improve energy efficiency over time through various demand side means as wel l as supply side efforts such as improvement o f power plant operations. However, electricity demand i s l ikely to witness an offsetting factor in the rapid growth o f urbanization (and especially the rapid growth o f air conditioning loads especially along the Aegean and Mediterranean coastal areas). The high growth anticipated in demand forecasts discussed above therefore, seem consistent with comparable energy intensity across countries.

Existing Capacity and Addition Projections As o f end 2004 Turkey had 36,822 MW o f installed generating capacity, o f which about 60% i s owned and operated by EUA$ and i t s affiliates, with the remaining under private operation. The last 4 years (2000-2004), have seen a steady increase in generating capacity, a compounded average growth o f 8% per annum. Almost this entire increase in capacity (99%) came from the private sector, and EUAS’ share o f total capacity declined from 80% in 2000 to about 59% in 2004.

Generating capacity i s adequate to meet the current level o f demand and there i s adequate reserves capacity to meet the anticipated increase in demand over the next few years. A significant amount o f capacity (2,573 MW) has been completed in 2005 (mostly lignite fired power plants’ and hydro power plants being built by EUAS) taking the total capacity to about 39,000 MW. However, after that there are few additions to capacity anticipated, and compounded average annual growth f rom 2005 to 2010 i s expected to be only 1% (the growth in energy availability i s even lower). Table 9.2 below shows the growth in existing installed capacity, and the forecast 20 10 capacity.

Table 9.2: Growth in Installed Capacity in Turkey (2000-2010) 2010 Capacity based on existing plants and those under construction

(Capacity in MW) 2000 2005 201 0 EUAS and Affiliates 21,682 24,276 26,346

(% of total) 80% 59% 64% Hydro 10,587 11,721 13,791 Lignite 6,090 7,461 7,461

- Natural Gas and others 5,005 5,094 5,094 Private 5,582 15,032 15,110

(% of total) 20% 41% 36% Hydro 587 1,621 1,658 Lignite 829 1,204 1,204

- Natural Gas and others 4,166 12,207 12,248 Total 27,264 39,308 41,456 Capacity Reserve Margin* 57% 6%

17,0001 Expected Capacity Need (High Demand) CAGR’ (2000 to 2005,2005 to 2010) 7.6% 1%

Energy output sensitivity to hydro conditions The Turkish electricity system i s very dependent on hydropower output. The present share o f hydropower capacity i s about 34% and this i s expected to increase to 37% by 2010. In a normal rainfall year, hydro energy contributes

’ Primarily the Afsin- Elbistan B lignite plant with 1440 M W of power, the Can l ignite power plant with 320 M W and two hydropower plants, Borcka (306 MW) and Muratli (1 17 MW). N o other lignite fired plants are under construction but hydropower plants will s t i l l be coming into operation including Deriner (670 MW) in 2007.

(Installed Capacity MW- Peak Demand MW)/Peak Capacity M W Compounded annual growth rate

55

around 30% o f total energy availability. In dry periods therefore, which occur very regularly in Turkey, hydropower production drops sharply and can reduce the ability o f the country to produce hydro electricity by as much as 40%.

Supply Forecasts This analysis has used three forecasts o f supply growth (shown in Table 9.3 below). These forecasts are based on estimates by the TEIAS Planning Group o f the expected generation abil ity o f existing plants and plants under construction:

Dry conditions supply forecast assumes lower than average rainfall in each year in the future and that Af$n Elbistan A i s not rehabilitated, Normal hydro conditions forecast assumes average rainfall in the future also without rehabilitation o f Afgin Elbistan A, and The last forecast assumes normal hydro and rehabilitation of Afyin-Elbistan A as planned.

Because o f the continuing growth o f demand and the slower growth in new capacity after 2005, Turkey i s expected to begin experiencing shortages of energy in the latter part o f this decade unless additional capacity, which i s not currently planned, i s provided. In the scenario with “dry conditions”, Turkey would start to run short o f electricity in 2008 in the “high demand case”, and in 2009 in the “low demand case”. Under a scenario with “normal hydro conditions”, the shortfall occurs in 2009 in the “high demand case”, and in 201 1 in the “low demand case”. These results are shown in Table 9.3 below. While i t i s more realistic t o anticipate shortages in 2009- 10, i t i s prudent to be conservative and to prepare for a shortage starting in 2008-09.

.

.

.

Peaking shortage In addition to the energy shortages shown in the table below, Turkey will also face peaking shortages in the future under current demand and supply forecasts. Additional capacity to meet peak demand i s thus also required, but this requirement i s less urgent than that for base load generating capacity to meet energy requirements. For example, in the “high case”, additional peaking capacity i s not required until 2010 compared with the requirement for additional energy in 2008. This delay in the requirement for peaking capacity relative to the requirement for energy occurs because Turkey has a l o t o f hydropower which can provide peak load in times o f peak requirements but provides much less annual generation since water supplies for generation are limited.

Table 9.3: Forecast supply and demand balance for Turkey (2006-2011)

2006 2007 2008 2009 2010 201 1

DEMAND

Official Government Case

Low Case

176.4 190.7 206.4 223.5 242 262

169.5 180.2 191.7 203.8 216.7 230.4

SUPPLY

Dry Conditions - Lignite

- Natural Gas

-Hydro - Other (oil, wind, etc.)

Normal Hydro Conditions

- Lignite

- Natural Gas

192.2 199.3

63.5 68.3

88.9 88.9

28.6 30.9

11.2 11.2

213.4 222

63.5 68.3

88.9 88.9

199.4

68.0

88.9

31.3

11.2

222.4

68.0

88.9

199.4

68.2

88.9

31.1

11.2

223.2

68.2

88.9

198.9

68.0

88.9

31.2

10.8

223.7

68.0

88.9

198.1

68.0

88.9

31.2

10.

222.9

68.0

88.9

56

2006 2007 2008 2009 201 0 201 1

- Hydro

- Other

49.8 53.6 54.3 54.9 56.0 56.0

11.2 11.2 11.2 11.2 10.8 10

Normal Hydro with A$in A Rehabilitation 213.4 222 224.9 228.3 226.8 229

- Coal /ignite 63.5 68.3 70.5 73.3 73.1 73.1

- Natural Gas 88.9 88.9 88.9 88.9 88.9 88.9

-Hydro 49.8 53.6 54.3 54.9 56 56

- Other 11.2 11.2 11.2 11.2 10.8 10.8

Scenario 1: Official case and dry conditions

Scenario 2: Low case and dry conditions

Scenario 3: Official case and normal

Scenario 4 Low case and Normal Hydro

Shortage in 2008

Shortage in 2009

Shortage in 2009

Shortage in 2011

The main benefit f rom the rehabilitation o f Afqin-Elbistan A i s that the plant will be able to supply substantial additional electricity to meet the potential supply shortages shown above. Currently, the plant generates around 2.6 TWh-3.0 TWh at a capacity factor o f about 30% (based o n the net effective capacity o f 1,040 MW). Further, i t i s a strong possibility that in the absence of major overhaul, the plant’s capacity wi l l deteriorate, and i t s generation wi l l decline over time until it cannot run anymore. After rehabilitation o n the other hand, the capacity o f Afqin A i s expected to go back to design conditions o f about 1360 MW gross and 1200 MW net. Generating at a capacity factor o f about 75%, Afyin A will thus be capable o f producing at least 8 TWh per year while being used as a base load plant. The rehabilitation will further extend the remaining economic l i fe significantly, enabling this high level o f generation to continue for a much longer time than i s presently possible.

The rehabilitation o f Afqin-Elbistan A provides the Government with the quickest source o f additional energy at a time to meet the impending shortages. On i t s own, the rehabilitation can prevent shortages for about a year. Thereafter, other sources o f generation will be required. Given however, that most types o f generating plant will take 3-5 years to construct, the rehabilitation o f Afyin Elbistan A gives very critical breathing space for additional capacity to be planned and implemented.

B. Least cost source o f generation

The rehabilitation o f Afyin-Elbistan A i s the least cost means o f providing additional electricity generation in Turkey. The Bank team’s estimate o f the economic cost o f generation f rom a rehabilitated AfSin Elbistan A i s a levelized cost (discounted at 10%) o f 3.8 U S centskWh with an FGD. These calculations are based on a cost o f rehabilitation excluding VAT o f US$ 453 mi l l ion and a cost for the FGD o f U S $ 250 mill ion. The rehabilitated plant i s expected to have a capacity factor of 75%.

57

The key factor in determining the cost o f generation from the rehabilitated plant i s the cost o f the lignite. Lignite costs f rom the Afgin Elbistan mine were US$ 5.9 per ton for the f i rs t 10 months o f 2005. Currently the mine i s operating at about 15 M i l l i on tons per year, compared to capacity o f 18 mi l l ion tons, and it i s primarily supplying the Afgin Elbistan B Power Plant. For the past five years (1999-2004) costs have varied between US$ 3.27 per ton and US$ 11.46 per ton depending almost entirely on capacity utilization at the mine. Most o f the costs in the mine are fixed and when production i s down, as for example in 2004 (6.1 mi l l ion tons), then costs are high at US$ 11.46 per ton. When the mine i s operating at close to full capacity, as in 1999 (17.5 mi l l ion tons), then the cost i s l o w at US$3.27 per ton.

Looking ahead the current mine will need to be upgraded at an estimated cost o f US$ 140 mi l l ion spread over 10 years. Also the mine will need to be expanded or a new mine built so that there will be adequate capacity to supply not only the Afgin Elbistan A Power Plant but also the Afgin Elbistan B Power Plant . The mine expansion or new mine wil l have to have capacity also o f 18 mi l l ion tons per year. Based on an RWE study on mine expansion options, i t appears that the least cost approach may be to expand the existing mine, as opposed to developing a new mine. RWE has estimated that an expansion o f the existing mine would cost about US$ 354 mill ion. The team made a simulation o f the economic cost o f coal f rom an expanded and upgraded mine based on the estimated capital costs indicated above as wel l as current mining costs including labor, electricity, materials etc. Over a 20 year period the levelized economic cost o f the coal would be about US$ 5.80 in 2006 dollars, and this was used for estimating the cost o f generation f rom the rehabilitated Afgin Elbistan A Power Plant.

The heating value o f the coal f rom the Afgin Elbistan M ine i s quite low. The power plant was designed on the assumption that the heating value i s about 1050 kcalkg. However, the actual heating value has been somewhat higher with the mining staff claiming it i s close to 1200 kcalkg. T o be on the conservative side the Bank team assumed 1100 kcal/kg. If 1200 K c a l k g were used it would reduce the levelized cost o f generation by about 0.1 U S cents.

Given that the rehabilitated plant will be the least cost option for Turkey under any scenario and have l o w incremental costs, it will rank very high in the merit order, and will begin dispatching from the moment it i s commissioned. Afgin Elbistan A i s thus l ikely to displace some higher cost plants such as plants run on expensive fuel o i l or natural gas that currently have to be dispatched to meet the energy demand. This will result in fuel cost savings for EUAS, but these benefits are not currently factored into the economic analysis.

Other alternative sources o f generation Table 9.4 below gives the respective discounted cost o f production for different new generating plants. The next least cost alternative would be a combined cycle gas generation plant using imported natural gas. The cost o f power f rom a new combined cycle i s estimated as 4.4 U S cents per kwh (levelized). T h i s estimate assumes capacity utilization at SO%, construction costs o f $600kW excluding interest during construction (IDC) and a technical efficiency factor o f 55%.

Currently, EUAS pays US$277 per thousand cubic meters for gas. If gas costs were to remain at this high level a new combined cycle plant would generate at a cost o f over 6 U S centskwh. However, natural gas prices paid by EUAS fol low crude o i l and product prices with a lag. They are in effect indexed to a moving average o f crude and product prices. The Bank’s forecast of crude o i l prices was used to forecast the sales price o f natural gas in Turkey to electricity generators. This price drops f rom US$277 per thousand cubic meters today to US$ 192 in 2015 after which it begins to rise slowly. Based on this forecast o f natural gas sales prices in Turkey the levelized cost o f generation from a combined cycle plant i s 4.4 U S cents/kwh.

58

A combined cycle plant can also be built quite rapidly. Most o f the equipment i s off-the-shelf and a new combined cycle plant could be available to operate in a few years. All o f the other alternative power plants discussed below would take longer because they have to be individually designed with most of the equipment specifically built for that particular plant.

For the imported coal plants, capital cost i s assumed at US$978/kW, fuel cost o f US$ 60 per ton, coal with a calorific value o f 6000 Kcalkg, 38% efficiency, and a 75% capacity utilization factor. The resultant levelized cost o f production i s 4.9 U S centskwh. (If coal prices were to fall to US$ 45 per ton then the cost o f generation would be reduced to around 4.3 cents.) In the unlikely scenario where an FGD i s required (the new imported coal plant at Iskenderun has one although it i s not required to meet Turkish emission standards if l o w sulfur coal i s used) i t raises the cost f rom 4.9 U S centsfkwh to 5.2 U S cents/ kwh.

Another alternative would be to build an entirely new plant at Afyin Elbistan (Afvin Elbistan C). This new plant would however, be substantially more expensive than the rehabilitation o f Afvin A. Based o n information provided by the TEIAS planning group, RWE and the actual cost o f Afqin B, it i s estimated that a new Afqin C with an FGD would cost around $ 1.98 bil l ion. Thus a new Afqin C would cost over twice as much as rehabilitation o f Afqin A. In addition the new plant would take longer to construct and would be unlikely to be available before 20 1 1. Finally the levelized cost of production f rom this plant (assuming the same coal costs as for Afvin A and 37% efficiency) is about 4.9 U S centsfkwh - significantly above the cost o f production f i om a rehabilitated Afqin A (including an FGD) o f 3.8 U S centskwh.

Table 9.4 below shows several other options. The f i r s t i s a fluidized bed plant, which does not need an FGD, and would cost around US$ 1416kW to build. The lignite cost i s assumed to be U S $ 2 1 per ton with a calorific value o f 2470 Kcalfkg., it i s assumed to have 38% efficiency and to operate at 75% capacity. At current coal prices it appears to have about the same cost as an imported coal plant. The estimated cost o f nuclear power o f 4.4 centsfkwh i s based o n a cost o f construction o f US$ 1750kW. The wind power cost depends on the capacity utilization factor which in turn i s site-specific and cannot be generalized. The estimated wind energy cost of 7.1 U S cents/ kwh i s TEIAS’ estimate for a new plant in a reasonable location.

The table also shows an estimated cost for electricity imports f i om Bulgaria. This cost i s based on what Bulgaria’s Balkan neighbors pay to import electricity since Turkey does not currently import any energy. Moreover, this source o f electricity i s limited. The Balkans are becoming power short and Bulgarian exports may not be available in substantial amounts when the nuclear units, Kozloduy 3 and 4 are closed as i s currently planned.

Table 9.4: Levelized Costs of generation (US cents/ kWh) for different plant types

Capital Cost Fuel Cost Utilization PLANT TYPE COST (blkw) Centslkwh %

3.8 584 1.8 75 US centslkwh

Af$n -Elbistan A Rehabilitation with FGD

4.4 600 3.4 80 New Gas fired Combined Cycle 700 MW

Imported Coal, 600 MW

ImDOrted Coal 600 MW, FGD

4.9

5.2

978 2.3 75

1118 2.4 75

59

Capital Cost Fuel Cost Utilization PLANT TYPE COST ($lkW) Ce ntslkwh %

5.1 1416 1.9 75

5.0 1350 1.1 75 Lignite Fluidized Bed, 160 MW

Af$n C

7.1 1500 0 32

4.4 1750 1 .o 80 Wind

Nuclear, 1500 MW

Imported Power (Bulgaria) 4.6 N.A. N.A. MA.

Source: TEIAS Generation Planning Group, Bank staff estimates

C. Environmental benefits

The plant dust emissions are far in excess o f Turkish emission standards, even at i t s current l o w level o f utilization, and this i s a major problem for the population in the immediate area. Most o f the complaints in the area relate to the dust levels perceived to be caused by the plant. As part o f the project, the electrostatic precipitators (ESPs) at the plant will be rehabilitated and as a result dust emissions are expected to decline sharply. Whi le dust emissions exceed Turkish standards, the current ambient dust conditions for the smaller dust particles (PM,,) around the plant as measured by the EIA consultants were within the permissible daily limits (a maximum o f 300 micrograms per cubic meter 95% o f the time). However, the plant i s operating at a l o w level. If the plant were to operate at a higher capacity (which would be needed after 2008) without improving the ESPs, the ambient dust conditions are expected to exceed the Turkish Standards more than 5% o f the time. Modeling shows that after rehabilitation o f the ESPs, ambient dust (PM,,) levels are reduced by almost 99% and under the conditions o f full capacity Turkish ambient dust standards would be met. The main benefit f rom this i s l ikely to be a lower incidence o f respiratory disease. In addition, the local population argues that settleable dust which should be trapped by the ESPs are settling on crops and reducing productivity. This issue should also be minimized when the ESPs are rehabilitated. Neither o f these benefits, however, has been quantified in the economic analysis.

Economic Rate of Return (ERR) - The Project has an ERR of 25%. The economic value o f the incremental electricity f rom the plant i s considerable whether i t i s valued based on the wholesale price o f electricity, or i t i s valued based on the cost o f unserved energy. Unserved energy i s energy which i s in demand but i s not supplied because o f a shortage o f supply or transmission constraints etc. Given that the rehabilitated Afyin A will enable the existing demand to be met, it i s possible to assign an economic value to this electricity based on the cost o f unserved energy. Estimates" o f the cost o f unserved energy are typically in the range o f US$ 0.50 to U S $ 1.00 per kWh - this value derives f rom the cost that a shortage imposes o n consumers such as industries and relates to the costs o f coping mechanisms or the costs o f ceasing operations. Using a value o f 38.5 Euro cents/ kwh" for unserved energy, which was used by Bank consultants working in the Balkans, the additional electricity f rom the rehabilitated Afyin- Elbistan A would be worth about US$ 2 bi l l ion per year, providing the project with a payback period o f 4 months and producing an ERR o f more than 100%.

A more realistic estimation o f economic rate o f return i s however, based on the forecast level o f wholesale prices in Turkey once a market i s fully functioning. This has been assumed to be about 5.0 U S centskWh. Using 5.0 U S cents as the value o f the incremental electricity generated by the rehabilitation o f Afyin Elbistan A provides the rehabilitation project with an ERR o f 25%

" Estimated by consultants Red Electrica (Spanish Grid Company) for S.E. Europe

60

including the FGD. The financial rate o f return which includes taxes that would be paid by the plant, but otherwise has the same assumptions as the economic analysis, i s 22.1%.

Sensitivity Tests A number o f sensitivity tests were done on the project to ascertain the impact of variations in various parameters as follows:

Increase in lignite prices, Increase in rehabilitation costs, Reduction in electricity prices, Reduction in the estimated l i fe o f the plant after rehabilitation, and Reduction in the output o f the plant.

As can be seen from the table below, the rehabilitation project i s very robust to changes in these parameters and remains quite attractive under different sensitivities.

Table 9.5: Sensitivity Tests for Afsin Elbistan A Rehabilitation

Base Case Assumptions ERR FRR” Base Case 25% 22.1%

Lignite Prices Sensitivity 1 Sensitivity 2

US$5.90 per ton + 20% + 50%

Rehabilitation Costs US$454 million Sensitivity 1 + 20% Sensitivity 2 + 50%

Electricity Price Sensitivity 1 Sensitivity 2

US cents 51 kWh - 10% - 20%

Life Of Rehabilitated Plant Sensitivity 1 Sensitivity 2

20 years - 20% (- 4 years) - 50%(- 10 years)

21 % 17%

22% 18%

19% 14%

24% 16%

Output of Plant Average 8 TWhl year Sensitivity 1 - 10% 19% Sensitivity 2 - 20% 14%

18.5% 13.4%

18.8% 15.3%

16.5% 10.9%

21.7% 19.6%

16.5% 10.9%

11. FINANCIAL ANALYSIS

The Government has decided to create 7 companies f rom EUAS (including the successor company o f EUAS, EUAS Hydro, which will operate the large hydros). One o f these companies - Af9in GENCO - will contain the Afgin-Elbistan A and B plants. Afyin GENCO also includes the Hopa (Fuel Oil) and Altinkaya, Derbent, and Karkamis (Hydro) plants, with the total effective installed capacity o f about 3,400 MW before rehabilitation, and 3,788 MW after rehabilitation. Annex 9 contains a detailed discussion o f the historical and forecast financial condition of EUAS, as wel l as the estimated future financial condition o f Af9in GENCO. The timeline for the creation o f AfSin GENCO has not been finalized, but the accounts o f the company have been separated and these are used to forecast the financial condition.

Includes impact o f taxes

61

Past and Current Financial Performance - EUAS

Income Statement Summary

Revenues 524 2,488 2,160 2,693 2,964

Cost of Sales 350 1,445 1,238 1,110 1,492

Gross Profit 174 1,043 922 1,583 1,472

Operating Costs 28 143 217 242 325

Operating Income 115 71 1 536 1,100 901

Net Profit 134 227 301 91 1 410

Balance Sheet Summary

Current Assets 1,012 1,913 2,550 3,112 3,619

Fixed Assets 2,777 4,760 6,333 8,262 8,313

Total Assets 3,789 6,673 8,882 11,374 1 1,932 _____.-------------------.--------.--______________________________________----------~-~--

Capital and Reserves 71 4 2,980 4,372 6,778 7,573

Debt 2,120 2,715 3,023 2,773 2,168

Other Liabilities 955 978 1,488 1,822 2,192

Total Equity and Liabilities 3,789 6,673 8,882 11,374 1 1,932

Financial Ratios

Net Profit Margin 25.5% 9.1% 13.9% 33.8% 13.8%

____-------------------------..---.---...-------------------------------.--------------.--

Gross Profit Margin 33.3% 41.9% 42.7% 58.8% 49.7%

Annual Generation (gwh) 16,323 77,051 58,881 61,890 66,312

Average Sales Price (US$/Kwh) 0.03 0.03 0.04 0.04 0.04

Ave. Sales Price Change ( O h ) NA 0.6% 13.6% 18.6% 2.7%

Pre-Tax Return on Assets 8.0% 8.6% 6.6% 15.3% 8.3%

Return on Equity 18.7% 7.6% 6.9% 13.4% 5.4%

Return on Capital Employed 5.9% 4.3% 4.3% 9.9% 4.3%

Self-Financing Ratio 11.6% 54.1% 53.2% 141.4% 77.5%

Debt Service Coverage Ratio 0.6 1.2 1.3 2.4 2.0

Profitability and Cash Flow EUAS’S profitability has been reasonable through the period (the abnormal changes shown below f i om year to year are due to adjustments in foreign exchange and in inflation). The inordinate increase in revenues and average sales per unit in some years i s primarily on account o f the impact o f favorable changes in the generation mix, and not because o f increase in tariffs. EUAS’ cash flow, with i t s debt service amount and i t s receivables being at a significant level, i s a concern for the future, and in the past, EUAS has managed primarily due to i t s non-payment to suppliers and due to the l o w level o f investments that have been permitted by the Government. Table 9.6 below shows a summary o f EUAS’s historical financial performance (EUAS was created in 2001 and the income statement for that year i s thus only for 3 months).

In 2004, the Debt to Equity ratio improved from 0.7 to 0.4 with the increase in paid in capital f rom about U S $ 800 mi l l ion to U S $ 5.2 billion. Equity capital was increased by conversion o f accumulated capital reserve to equity capital, and does not involve cash infusions. Improvement in Debt to Equity ratio and Debt Service Coverage indicates that EUAS has room for additional financing. However, the vulnerability o f the cash f low from debt service and receivables should be kept in mind.

Table 9.6: Historical Financial Performance (2001 - 2005) - EUAS

62

Debt to Equity Ratio

Collection Efficienc NIP. 723% 732%

Arrears for Sale o f Electricity

At the end o f 2005, EUAS had an estimated US$2.8 b i l l ion o f outstanding trade receivables f rom TETAS, representing about 11 months o f electricity sales. There was also an additional U S $ 900 mil l ion o f Other Receivables carried over f rom the time o f the restructuring o f TEAS, which includes receivables for sale o f electricity. The rate o f accumulation o f receivables has decreased significantly in the past two years on account o f improvement in collection efficiency f rom 484%% in 2002 to 36% in 2004 (see Table 9.7). In the past, EUAS has financed these large receivables by building up payables, which have accumulated to over a year o f fuel purchases, primarily to public economic enterprises that supply fuel such as TKI, TTK and BOTAS. Currently the longer payable period allows EUAS to generate sufficient cash flow, but also i s a risk factor in the future cash f low and financial projections as these entities work to collect their receivables.

Table 9.7: Receivables and Payables - EUAS

EUAS’ receivable accumulation i s due to the collection shortfalls o f the Turkish Electricity Distribution Corporation, TEDAS. TEDAS receivables have been growing due to the following reasons: (a) TEDAS’ collections, although improving over time, currently average only 90% o f sales

revenue. (b) 50% o f the accumulated receivable i s from the public sector, which prevents aggressive

enforcement o f collection. Municipalities are particularly notorious for not paying their bills - they alone account for about U S $ 1.3 b i l l ion o f the accumulated receivables.

The burden o f receivables gets passed o n from one company to the next (see Figure 9.1 below), resulting in cash shortfalls being financed by increasing payables to the next company in the chain. The issue i s complicated further by the fact that at the time o f the break-up o f TEAS in 2001, the receivables were not settled but carried over to the newly restructured companies. The accounting systems of the SOEs do not indicate readily the actual “age” o f these receivables, thus i t i s diff icult to calculate the loss in NPV terms. Ideally, these receivables would be provisioned, and thereafter written off, but this has not been the practice in the government-owned electricity utilities.

63

The issue o f receivables f rom Government agencies has two facets to it - first, the stock or “overhang”, i.e., the accumulation o f receivables over the past, and second, the ongoing problems related with nonpayment o f current bills by public agencies. Receivables f rom the public sector including municipalities and street lighting make up about 47% o f the accumulated receivables as o f November 2005 - and these are receivables that TEDAS cannot pursue aggressively through the use o f disconnections and legal actions. Accumulated receivables inflate the balance sheet o f electricity utilities unrealistically, since there i s l i tt le prospect o f such dues being collected in their entirety.

Addressing the stock of accumulated receivables from all government agencies EUAS and the Government are evaluating solutions for addressing the issue o f accumulated receivables. Among the options being considered i s the settlement o f cross-dues among government agencies. The legal and fiscal implications o f such action are being carefully considered. Specific attention i s being given to avoiding the issue o f moral hazard which could result f rom a perverse incentive on the part o f the companies as well as consumers to not behave commercially. The Bank will remain engaged in this discussion with the Government through i t s policy dialog.

Specifically with regard to municipalities, which are the largest concern in terms o f nonpayment, the Government has processed new legislation which aims to improve payment discipline. The L a w on Municipality (Law No. 5393) , ratified in July 2005, provides for the establishment o f a “Reconciliation Committee” under the Undersecretariat o f Treasury. The Committee i s expected to focus on the restructuring o f accumulated receivables and debts to public institutions and authorities by municipalities, affiliates and companies in which a municipality owns shares more than 50%. One gas utility has already undergone this process, and the payment schedule has been agreed among al l parties. The process i s an important step in strengthening financial responsibility o f the public sector, although the fact that the participation to the process i s voluntary leaves room for doubt o n i t s enforceability.

Addressing the problem of poor collections from government agencies Even if the overhang i s resolved through a combination o f means, the real problem o f cash flows will continue, since this will not address the ongoing nonpayment by municipalities and other government agencies. The Government i s considering several mechanisms, including legislative changes that would allow SOEs to enforce collections against public sector entities. In addition, there wil l also be a need for adequate budgeting, especially for municipalities, for electricity bill payment on an ongoing basis.

64

Forecast Financial Performance of EUA$

Table 9.8 below shows the forecast financial performance o f EUAS. The impacts f rom the rehabilitation project are factored in (these impacts are discussed later, while discussing the finances o f AfSin GENCO). The forecasts are based on conservative assumptions regarding commercial efficiency improvements such as collections. N o significant gains f rom privatization o f distribution or generation are factored in. The forecasts also assume that EUAS will n o longer be able to defer i t s fuel and other purchases, and that gradually payables wi l l reduce to approach normal commercial levels. Due to the forecast electricity shortage in 2009, EUAS wil l have to ramp up generation from i t s high-cost diesel and fuel o i l plants, which will raise variable costs even after assuming that the diesel plant i s converted to LNG. The projections assume that the fuel o i l plants will begin operating in 2008, and the resulting increase in cost wi l l necessitate a marginal increase in tariffs - the current tariff regulations al low a pass through o f fuel costs. The diesel plant has not been factored in since there are plans to upgrade the plant to enable the use o f natural gas, and the timeframe for this investment i s not clear at this stage.

Table 9.8: Financial Forecast Summary - EUAS

Revenues

Cost o f Sales

Gross Profit

Operating Costs

Operating Income

Net Profit

Current Assets

Fixed Assets

Total Assets

Capital and Reserves

Debt Other Liabilities Total Equity and Liabilities

_ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _

____.._________________

Operations Net Cash Flow from Investments Net Cash Flow from Financing Net Change in Cash and Cash Equivalents

Beginning Balance

Ending Balance

__________------._----.

__________..-.--_------

_ _ _ _ _ _ _ _ _ - _ - _ - - - - - _ - - -

Net Profit Margin

Gross Profit Margin Annual Generation (GWh)

1,553 1,447 1,365 1,309 1,344 1.361 1,411 1,444 1,483 1,440

4,043 4,433 4,709 5,139 5,537 5,921 6,303 6,690 7,084 7,479

19,429 19,152 19,136 19,063 18,842 18,473 18.118 17,786 17,475 17,184

23,472 23,584 23,846 24.203 24,378 24,393 24,421 24,476 24,559 24,663

19,138 19,365 19,616 19,874 20,151 20,408 20,705 21,035 21,405 21,742

2,048 2.084 2,239 2,458 2,567 2,563 2,523 2,436 2,319 2,190

._______________________________________--------------------------------------------------------. 2,285 2,135 1,991 1,870 1,660 1,422 1,192 1,004 835 730

_____-__________________________________-----------------------------------------..-------------.

11.0% 7.4% 8.3% 8.4% 8.7% 7.9% 8.9% 9.7% 10.6% 9.7%

49.3% 47.5% 45.0% 42.4% 42.5% 42.0% 42.3% 42.4% 42.5% 41.3%

68,975 72,562 77,767 81,323 81,323 82,307 82,307 82,307 82,307 82,307

66

(US$ million) Per unit Revenue (USS KWh) Increase in ave re\enue

Pre-Tau Rerum on Assets

Retum on Equir). Return on Capital Employed

Self-Financing Ratio Debt Senice Coverage Ratio Debt to Equity Ratio Debt to Asset Ratio

Currenr Ratio

Collesrion Efficiency Days Trade Receivables

Days Trade Pa) ables Outstanding

Ourstanding

Profitability and Cash Flow As shown in the table above, despite the pressure o f increased investments and financing, EUAS' profitability i s projected to be sustained at current levels. Cash flows are projected to be constrained by the tightening o f credit terms and the increase in debt servicing requirements, but are expected to remain at reasonable levels. EUAS' internal resources are considered sufficient for financing the increase in the investment program, with the self-financing ratio remaining above 25% in the future. The debt service coverage ratio (DSCR) will decline over time as debt servicing increases, but i s expected to remain above 1.5 throughout the forecast period.

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

0.05 0.04 0.04 0.04 0.04 0 04 0.04 0.04 0 04 0.04

2 P 0 -8.1'0 -7.1'0 -2 6 " o 24". 13'0 2 8'0 2 2 ' 0 2 4 ' 0 00" .

2.2O. 1.6'0 1 . 8 O o 19'0 1 9 % 1 . 8 O 0 2 On. 7 7 O o 2.3O0 ? . Z o o

1 .80 . 1 2 0 . 1 3 0 0 1.3'6 I .4"o 1.3O0 1.400 16'0 1 700 1.6O0

I 7% 1.10. 1 2 0 . 1.20b 1.200 I 10. 1300 1 .too 16O0 1 4 0 "

730b 32"o 28'0 30°0 270. 280. 29'0 280" 2 7 0 0 2790

2.2 2.0 2 0 2.0 2.2 7 7 2.0 1 9 1 8 1 7

0. I 0 1 0 1 0 1 u. I 0. I 0. I 0.1 0.1 0 1

0 1 0 1 0 1 0 1 0. I 0.1 0 1 0. I 0 1 0 1

1 6 1 9 2 2 2 5 3 1 3.7 4 4 5 3 6 4 7 8

87O0 90°0 90° D ' X Y O 90'0 90° 90°0 90" o 900. 904 o

322 370 408 437 463 488 512 537 561 597

470 440 390 340 290 235 185 145 110 90

The decline in profitability f rom 2005 to 2006 i s attributable to the transfer o f hydro assets, as wel l as the commissioning o f Afgin Elbistan B (US$2.5 billion). Due to the forecast supply shortage in 2009, EUAS will have to ramp up generate f rom i t s high-cost hard coal and fuel o i l plants, which raises the costs. As a result, EUAS' profitability decreases slightly, and wil l require marginal tar i f f increases from 20 10 onwards. The commissioning o f the Afgin Elbistan A plant will assist in lowering operating costs and an increase in output, leading to a positive impact o n the bottom-line. Indeed, the rehabilitation wi l l offset some of the increases in costs f rom other factors, thus reducing the pressure o n the tariff.

The main assumptions driving the forecasts are briefly discussed below.

Demand Forecast The Government has prepared two forecasts for growth o f electricity demand. These are based o n economic growth scenarios prepared by SPO and the forecasting i s done using the MAED model (Model for Analysis o f Energy Demand) that i s run by MENR (Refer to the Economic Analysis section above for details).

The l o w case projection o f demand used in the financial projection as the base case.

Generation Projection Least cost dispatch i s assumed in projecting the generation projections, through the simulation o f a merit order dispatch based on unit variable cost. Based on the base case demand forecast, the hard coal and fuel o i l plants which are partially dispatched until 2008 are assumed to dispatch to their capacity thereafter, the diesel f ired plant (Aliaga) i s not assumed to be dispatched as conversion of the plant to LNG-f i red plant i s being planned due to i ts high cost o f generation (about $0.40/Kwh in fuel cost alone). Among the main factors here are the commissioning o f Afgin-Elbistan B in 2006 and the rehabilitation o f Afgin-Elbistan A.

67

Table 9.9: Generation Projection (base case demand scenario) - EUAS

(Gwh) 2005 Hydro Geothermal Lignite Natural Gas Hard Coal

TOTAL

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

1,459

9,197

38,777 24,385

1,900

9,197

42,861 24,385

1,900

9,197

42,861 24,385

1,900

9,197 64

42,861 24,385

1,900 3,900

82,307

9,197 64

42,861 24,385

1,900 3,900

82,307

Transfer of Hydro Assets Historically, D S I (State Hydraulic Works) has been responsible for the construction, and EUAS has been responsible for the operation, o f hydroelectric dams. Therefore, although EUAS had costs and revenues o f these dams o n i t s income statement, it did not have these assets on the balance sheet. In line with the market liberalization policies, these hydro assets (31 dams, total original book value o f US$ 11 billion) are planned to be transferred to EUAS in 2006. Although the details o f the transfer are uncertain at this stage, the forecasts assume that the transfer o f hydro assets to EUAS f ixed assets would be “balanced” with the injection o f equity capital.

Tariff Level Assumptions with regard to tar i f f increases are driven by cash (a target self financing ratio o f at least 25%) and debt servicing requirements (target DSCR o f at least 1.2). The financial burden o f debt service and receivables will require EUAS to increase i t s tariffs by about 3% in 2006. After this period, tariffs will ease up and decrease over time as a result o f the positive impact o f the rehabilitation. Thereafter, once debt servicing for the investments begin, tariffs wi l l require gradual increases from 20 10.

Investments The investment requirement for EUAS i s large in the medium term, with most o f the investments in rehabilitation and maintenance. The investment needs in the next five years amount to more than US$ 2 bi l l ion (including 15% contingency), adding to the debt service burden. The amount required for rehabilitation o f existing plants and FGD installations on thermal plants i s forecast at US$ 223 mi l l ion per year starting f rom 20 1 1, and in addition to the identified investments in the medium-term. No investment has been assumed for new plant construction, as there are n o current plans for EUAS to build new generating capacity.

Table 9.10: Investment Schedule - EUAS

(The above estimates include 15% contingency)

Capital Structure The increase in capital structure in 2004, along with capital increase expected from the transfer o f hydro assets will provide EUAS with the cushion it needs to manage i ts large liabilities, with the debt to equity ratio o f only 0.1 throughout the entire project period. Debt service coverage i s expected to be maintained at the range o f 1.7 and 2.2, fluctuating as debt service for mid term investments starts.

Trade Receivables and Payables Conservative assumptions have been taken in light o f the uncertainty surrounding the receivables. Collection efficiency i s assumed to gradually improve to 90% by 2007 and stabilize thereafter. On the other hand, the projections assume that the large accumulation o f payables

68

will not be tolerated in the future. Payables are assumed to decrease gradually to 90 days o f purchases by 2015.

(US0 million)

Income Statement Summa9

Forecast Financial Performance of Afgin GENCO

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

(Prelim.) (Proiechons)

Af$in GENCO i s vulnerable to r isks relating to collections, significant investment program in the near future, and the resulting increase in debt service liability. The large debt servicing l iabi l i ty i s primarily due to the construction o f Af$in Elbistan B over the past 5 years and i t s financing through a JBIC- syndicated loan o f JPY 5.85 b i l l ion (approximately US$ 494 million). In addition to the rehabilitation, additional investments will be required for Afyin GENCO in the near future, such as the lignite mine expansion (EUR 424 million) and FGD installation to Af$n Elbistan A (EUR 181 million). As a result, the debt servicing obligation (interest and principal repayment) i s expected to increase from U S $ 121 m i l l i on in 2005 to US$253 mi l l ion in 2015.

Cost o f sales

Gross Profit

Operating Costs

Operating Income ,.re. --c.

Although these risks pose a significant burden on AfSin GENCO financials, the cash f l o w i s expected to remain reasonable due to the cash cover f rom depreciation and increase in generation output as resul t o f the rehabilitation. The Debt Service Coverage Ratio i s expected to be at 1.3 in 2005, but will improve to 2.0 in 2007 then decline gradually to 1.3 f rom 2013 onwards, as debt servicing requirements start increasing. The self-financing ratio i s expected to remain above 25%, indicating an abil ity to finance the additional investments. The leveraging i s also at a conservative 0.7 in 2005 and will gradually decrease to 0.3 in 2015, as planned investments end at 2010.

(164) (257) (326) (338) (387) (345) (418) (417) (413) (409) (404) 224 352 340 392 447 419 397 399 410 439 443

(101) (185) (243) (231) (229) (231) (256) (249) (235) (223) (212) 122 167 97 161 21 8 188 140 150 175 21 6 231

57 85 31 68 93 63 30 42 67 105 125

Table 9.1 1 : Forecast Financial Performance (2005 - 2015) - AfSin GENCO

Net Profit Margin

Annual Generation

Average Revenue (vS%Kwh) Increase in aye. revenue (%) Pre-Tax Return on Assets

GrossProfitMar in

( G W

14.6% I 14.0% 4.6% 9.4% 11.1% 8.2% 3.7% 5.1% 8.1% 12.3% 14.8%

57.7% I 57.8% 51.0% 53.7% 53.6% 54.9% 48.7% 48.9% 49.8% 51.8% 52.3%

7,420 11,343 13,757 14,876 17,976 17,976 18,960 18,960 18,960 18,960 18,960

0.05 1 0.05 0.05 0.05 0.05 0.04 0.04 0.04 0.04 0.04 0.04

-16% i 3% -10% 1% -5% -8% 1 % 0% 1% 3% 0%

19.4% I 5.6% 3.5% 5.9% 7.9% 5.8% 4.5% 5.2% 6.6% 8.9% 10.4%

387 , 609 666 730 834 764 815 815 824 848 848 I I Revenues

..F, r l v l l , I

Balance Sbeet Summary

I

Financial Ratios

69

(USS million) 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Rerum on Equin Return on C3pt131 ' I n iphnd

Sell-Financing Ratio 51% 25% 27% 25% 26% NA NA NA NA NA NA

DSC n I 1 3 1 7 1 9 2 0 2 0 1 8 1 8 1 5 1 3 1 3 1 3

, Debt Io Fquit) Rdtio 0 7 0 6 0 6 0 7 0 8 0 8 0 7 0 7 0 6 0 4 0 3

3 0% 4 3% 1 540 3 3% 4 3% 2 8% 1 340 18% 2 8'9 4 2% 4 8%

1 8% 2 7% 0 9% 1 9% 2 4 % 1 5% 0 8% 1 1% 1 8% 2 9% 3 6%

0 4 0 4 0 4 0 5 0 5 0 5 0 5 0 5 0 5 0 5 0 4 ~ Debt to A,,et Ratio

The main assumptions used in the forecasts are discussed below briefly.

Heat Efficiency

Fuel Cost per unit

Improvements from Rehabilitation The rehabilitation i s expected to increase the effective installed capacity o f AfSin Elbistan A plant f rom 1,000 MW to 1,360 MW. I t i s also expected to not only improve the efficiency o f the plant, but also to improve the consistency o f the lignite fuel through improvements in the lignite feeder system. The net efficiency o f the plant i s expected to improve from 27% to 31%, though internal energy consumption o f the FGD unit lowers the efficiency to 30.6% from 201 1.

% 27.0% 27.0% 27.0% 27.0% 31.0% 31.0% 30.6% 30.6% 30.6% 30.6% 30.6%

$/KWh 0.021 0.021 0.020 0.021 0.018 0015 0.016 0.015 0.015 0.015 0.015

Table 9.12: Efficiency gains expected from Afqin Elbistan A rehabilitation

~

AfSin Elbistan A 2,681 2,681 3,800 6,900 6,900 7,884 7,884 7,884 7,884 7,884

AfSin Elbistan B 7,100 9,194 9,194 9,194 9,194 9,194 9.194 9,194 9.194 9,194

Hopa 0 320 320 320 320 320 320 320 320 320

Altinkaya 1,065 1,065 1,065 1,065 1,065 1,065 1,065 1,065 1,065 1,065

Derbent 25 1 251 251 251 25 1 251 251 251 25 1 251

KarkarniS 245 245 245 245 245 245 245 245 245 245

Genco 2 11,343 13,757 14,876 17,976 17,976 18,960 18,960 18,960 18,960 18,960

Generation Forecast For the projection o f generation by AfSin GENCO, the least-cost dispatch based on variable costs were assumed. Under this assumption, al l o f the plants under Afvin GENCO would be dispatched (hydro and lignite plants).

Table 9.13: Generation Projection (Gwh) - AfSin GENCO

2006 2007 2008 2009 2010 2011 2012 2013 2011 2015

Tar i f f Levels and Profitability Tariffs have been set to achieve break-even profits and positive cash flows. The commissioning o f Afvin Elbistan B, and the resulting increase in depreciation decreases the profitability ratios f rom 2007, but the significant increase in generation and efficiency gains f rom the rehabilitation o f the Afyin Elbistan A plant results in a significant decrease in costs, and hence in average tariffs, by about average o f 7 % in 2009 and 2010. The start o f repayment for the rehabilitation and other requirements will be off-set somewhat by the decrease in lignite price due to economy o f scale, as i t gradually decreases from U S $ 7/ ton to below U S $ 6/ ton by 2013 after the mine expansion.

70

Investment Plan The investment requirements for Genco in the medium term are significant. The lignite mine that supplies both Af$n Elbistan A and B, would need significant expansion to accommodate the lignite demand o f Af9in B after the rehabilitated Af$in Elbistan A plant i s re-commissioned. Lignite production i s expected to increase from the current 18 mi l l ion tons per year to 30 mi l l ion tons per year in 2008 after the expansion of the mine i s completed. The preliminary total investment amount estimate for the mine expansion i s EUR 424 mi l l ion (excluding 15% contingency). The FGD installation i s assumed to be required after the 5-year transition period. The estimated cost o f investment i s EUR 181 mill ion. The investment programs beyond 2010 have not been formulated yet.

Investment Plan (USD Xlio) Afyn Elbistan A Rehabilitation

FDG installation

Mine Extension

TOTAL

Table 9.14: Investment Plan (US$ million) - AfSin GENCO

2006 2007 2008 2009 2010 2011 2012 1617 185 3 61 8

25 0 I 5 0 0 75 0 29 3 43.9 116 3 234 0 128 7

29.3 208.6 356.6 445.8 203.7

Receivables and Payables As in the case o f EUAS, the collection performance i s expected to improve to 90% f rom 2007. Similarly, payables are expected to be decreasing over time to 30 days o f Cost o f Sales. As with EUAS, the cash f low shows robustness despite the conservative assumptions.

71

Annex 10: Safeguard Policy Issues TURKEY: ELECTRICITY GENERATION REHABILITATION AND

RESTRUCTURING

A. Environment

The Afvin-Elbistan A plant uses local lignite, which has a sulfur content o f 0.7% o n average13. Currently, the plant i s in compliance with the Turkish ambient air quality standards for SOz. The power station emissions o f sulfur dioxide (SO2) however, exceed Turlush regulations. Air quality modeling done as part o f the EIA shows that after rehabilitation, the plant will continue to comply with ambient air quality requirements for SO2.

During public consultations as part o f the EL4 process, dust emissions were cited by the local populace as the most significant environmental impact in the vicinity o f the plant. The project includes rehabilitation o f the electrostatic precipitators (ESPs) which will reduce dust emissions from current levels o f 400-6000 mg/Nm3 to 100 mg/Nm3 in accordance with Turkish regulations.

In addition to significant positive environmental impacts - by greatly reducing particulate emissions, the rehabilitation scope for Afvin-Elbistan A Thermal Power Station i s designed to improve the reliability, availability and efficiency, and to extend the plant's operating life.

The Environmental Impact Assessment (EIA)

EUAS used a PHRD grant for the environmental impact assessment (EM), which was carried out by a consortium comprising Cinar and KEMA. Though Turkish EL4 regulations did not require an EIA for this project, the EIA was carried out per Turkish and Wor ld Bank guidelines. The Ministry o f Environment and Forestry (MOEF) reviewed and approved the EIA o n September 9, 2005 (EIA Positive Certificate Issued). The EIA concluded that:

The rehabilitation o f the ESPs on the main stack gas and the Bruden stacks i s essential to address the dust and particulate emission problems. With Afvin-Elbistan A Power Plant operating at full load after rehabilitatiodupgrade, the Afvin Elbistan airshed will meet both the long-term and short-term Turlush air quality standards for SO2.

The Afvin-Elbistan A Power Plant operating at full load will not meet Turlush SO2 emission standards. In the evaluation o f the EIA by M o E F however, i t was recognized that plant performance does not affect compliance with Turkish air quality standards for SOz in the plant vicinity. Since the plant exceeds emission standards for SOz, the Government has evaluated the option o f installing an FGD on Afgin Elbistan A, along with a l l the other existing thermal plants. M o E F has decided to provide each thermal plant with a transition period for complying with emission limits, and has prepared an amendment to the Regulation for the Control o f Air Pollution Caused by Industrial Facilities (RCAP). This amendment provides an extension of time by 5 years for installing the FGD in order to comply with SO2 emission requirements. Providing time extensions for FGD installations i s not unusual because of the substantial investment costs. The EU has granted such extensions to candidate members such as Romania (for 8 to 10 years) as wel l as newly joined members, such as Poland (for 5-12 years).

l3 The chemical characteristics o f the lignite are highly variable: calcium oxide content in ash can vary f rom 8% to 78%, and sulfur content can vary from 0.5% to 2.5% as a result.

72

Compliance with Turkish environmental regulations Turhsh environmental regulations encompass ambient air quality standards as wel l as emission standards. The Regulation on Air Quality Protection (RAQP) provides the short term and long term ground level concentrations l imi ts (ambient air quality standards) to be observed in a defined impact area. The Regulation for the Control of Air Pollution Caused by Industrial Facilities (RCAP) defines the limits for stack gas emissions for specific industries.

Dioxide

The following table summarizes Turhsh ambient air quality standards and the modeled results (per the EM) for the existing situation, and post-rehabilitation for the plant running at full load. As a basis for comparison with Turkish standards, EU air quality standards are also presented in the table below.

Table 10.1 : Modeled Air Quality Characteristics of the AfSin-Elbistan Area (pg/Nm3)

7 (2.72/0/0.25) .4 (3.77/0/0.8)

Pollutant I--

Nitrogen (SO21

Oxides as NOz PMio

Annual Avera

ge

100 300(<5%) 200 12/1/2.96 300 (O/O/O) 18/1/4.8 (0.02/0/0.003)

150 300 (<5%) 150 300 (5% as 70/5/22.9 300 (2.28/0/0.34) 6.5/0/1.7 (O/O/O) (as TSP)

TSP)

Daily Maximum (allowable

exceedenceas % of days per

year)

Annual Avera

ge

Currently, the plant i s in compliance with Turhsh ambient air quality requirements for SOz. As indicated in the table above, air quality modeling results carried out as part o f the environmental assessment (EA) show that after rehabilitation, the Afgin Elbistan airshed will continue to comply with Turhsh short term and long term air quality limits. The plant will also generally comply with EU standards and will also be within the Wor ld Bank indicators for good air quality (annual average concentration above 80 pg/Nm3 i s considered as moderately degraded air quality; average concentration above 100 pg/Nm3 i s considered as poor air q ~ a l i t y ) ' ~ in the impact area o f the project. Whi le over the project impact area, air quality i s within international standards and guidelines, modeling indicates that at two locations out o f 12 villages in the project impact area, air quality falls outside the levels provided in the Bank guidelines, and that at an additional three villages the air quality may not comply with the stricter WHO guidelines (50pg/Nm3)'5. When the FGD unit i s installed at the end o f the transition period a l l international standards for ambient levels o f sulfur dioxide will be in compliance.

The plant currently does not comply with regulations regarding particulate emissions, though modeling shows that after rehabilitation, particulate emissions reduce dramatically and the plant begins complying with Turhsh regulations (100 pg/Nm3). The Turhsh standard i s the same as the relevant EU standard as wel l as the Bank's guideline for dust emission for a plant with the size and fuel type such as that o f Af8in Elbistan A - the ESPs are therefore designed to meet both EU and Wor ld Bank standarddguidelines on dust emissions for rehabilitated thermal power stations.

l4 Pollution Prevention and Abatement Handbook, 1998 l5 These are indicative statistics, and do not represent a non-compliance, since the guidelines and standards referred to here apply over a wide geographic area and not specifically to a particular point of measurement.

73

NOz emissions f rom the plant are also in compliance with the regulations and will remain in compliance after rehabilitation.

Stack emissions o f sulfur dioxide (SO2) however, are in the range o f 2,000-15,000 mg/Nm3 depending on the sulfur content o f the lignite, while Turlush regulations specify an emission limit o f 1000 mg/Nm3. The plant therefore, requires the installation o f flue gas desulphurization (FGD) units in the plant in order to enable compliance with emission regulations.

Time extension from meeting emission requirements of the RCAP The Government has evaluated the option o f installing FGDs on existing thermal power plants, including Afgin A. In the evaluation o f the EL4 for Afgin A by MoEF, i t was recognized that plant performance does not affect compliance with Turkish air quality standards for SO2 in the plant vicinity. MoEF has therefore, prepared an amendment to the RCAP allowing plants with a 5-year time extension from the requirement o f meeting emission standards. This amendment i s currently being processed and i s expected to be approved in early-2006. Thus, Afgin A i s currently required to install an FGD in 5 years. Providing time extensions i s not unusual because o f the substantial investment costs involved in retrofitting existing plants with FGDs. The EU has regularly granted such transition periods to candidate members as we l l as newly joined members. Turkey also hopes to negotiate the Environment and Energy chapters o f the EU Acquis Communautaire and hopes to be provided similar time extensions from the requirements o f these chapters.

The investment requirement in an FGD i s substantial, estimated to be in the range o f US$ 120-170 mill ion. The Task Team agrees with the Government decision to provide time extensions for installing FGDs, and believes that such an investment should be justified on the basis o f signifcant current and/or projected or potential environmental impacts f rom the sulfur dioxide emission levels. For this primary reason, the Task Team with concurrence o f the E C A Regional Safeguards Unit assigned the project Environmental Assessment (EA) Category A, in accordance with Wor ld Bank Environmental Assessment policies and procedures (OP/BP/GP 4.01). The chief objectives o f the EIA were to: (a) assess impacts to the human, physical and biological environment from current, past and future (post-rehabilitation) operations o f the Af$in-Elbistan A Thermal Power station, and (b) function as a decision document for both the Government o f Turkey and the Wor ld Bank to establish the need for an FGD with future operations o f the rehabilitated plant.

The EA process involved extensive monitoring o f existing air quality conditions and detailed modeling o f air quality under a variety o f scenarios aimed at examining the incremental effect o f the power station rehabilitation and installation o f an FGD unit. The EA consultants, Cinar and KEMA, utilized the U S EPA ISCST3 (Industrial Source Complex Short Term) model for forecasting air quality conditions under these scenarios.

The EA study determined that air quality impacts from: (a) the smallest particulates (PMlo) emitted f rom the power station and normally associated with human health effects are within the Turlush ambient air quality standards, (b) the larger particulates, possibly l inked to impacts upon agricultural production, are the main problem (as shown by the feedback during consultations), (c) sulfur dioxide levels and nitrogen oxides levels are within Turkish regulatory requirements for ambient air quality, (d) air quality modeling results for current plant operations are in agreement with the air quality measurements, and (e) n o impacts o n soils or water quality are evident from current plant operations. Furthermore, as mentioned above, air quality modeling results indicated that the plant, after rehabilitation, would be in compliance with regulatory requirements on ambient air quality with respect to sulfur dioxide even without the installation o f an FGD unit.

74

Transboundary Impacts The issue o f transboundary acid rain impacts was not analyzed as part o f the EA because o f several reasons, discussed br ief ly here. First, factors such as the relatively short stack heights (120-145 meters) and the location o f the plant inland in the south-westem part o f Turkey are expected to result in the deposit o f a majority o f the sulfur dioxide locally with litt le impact because o f the alkaline nature and buffering capacity o f the soils. Furthermore, the prevailing wind patterns are expected to carry any minor remaining sulfur dioxide to the Black Sea and thus SO2 i s not expected to reach other countries in any appreciable quantity. Lastly, the phenomenon o f transboundary impacts i s highly complex and depends on a wide range of factors (the formation i s favored by lower temperatures and humid conditions, and the presence o f water bodies i s l ikely to create complexities in the high altitude wind circulation patterns). These impacts therefore, were not considered significant enough to justify a long-term complex study involving significant resources.

Environmental Management Plan (EMP) The EIA included an Environmental Management Plan (EMP) that addressed the common issues associated with construction activities (dust, noise, disposal o f wastes, etc.). During operation, the chief issues addressed in the E M P are dust emissions, noise, waste management (hazardous and non- hazardous), and wastewater. The EMP also includes issues associated with operation o f the FGD (notably management o f the gypsum sludge produced), which would be effective when the derogation period ends and the FGD i s installed and i s fully operational. Table 10.2 i s the summary o f the EMP.

Table 10.2: Summary of the EMP

Issue 1 Mitigating Measure 1 Responsibility Construction Phase

Dust emissions from the excavation works

General vehicle traffic and heavy construction vehicles.

Fugitive emissions effecting air quality

Domestic waste water discharge

Domestic waste water treatment plant sludge disposal

Solid wastes

-Recyclable / Reusable Non-Hazardous & Inert Wastes -Non-Reusable / Non- Recyclable Non- Hazardous wastes -Hazardous Wastes -Medical Wastes

The materials will be enclosed and covered during stockpiling. The dust producing activities will be controlled for prevention of dust.

Water sprays will be applied for dust control at site when necessary.

The vehicles delivering materials will have a sped of maximum 30 km/h.

Engines will not be left running unnecessarily to reduce emissions from fuel from engines

Exhaust emissions of the vehicles will be measured. Exhaust emission sticker and exhaust emission license of the vehicles will be supplied.

Control of wastewater treatment plant units will be conducted regularly. Chemicals used in treatment plant will regularly be supplied. Discharge license will be taken for the power plant

Sludge from the treatment plant will be disposed in accordance with RSWC.

The wastes will be separately according to their contents.

Storage containers will be labeled. The medical wastes will be collected by red, hazardous wastes will be collected by orange and non hazardous wastes will be collected by blue bags.

Hazardous wastes will be transported by licensed company.

Rehabilitation wastes will be sold as scrap.

Contactor and

EUAS

Contactor and

EUAS

Contactor and

EUAS

Contactor and

EUAS

75

Issue Noise

Protected Species

Health and safety

Operations Phase

Emissions to air

Noise

Mitigating Measure Construction work will be conducted during the defined hours of the day these hours will not be exceeded. In case not required, all equipments will be switched off. All equipments used will be adequately maintained. The noise emissions will not be permitted to exceed the noise limits of Turkish and World Bank Limits. Any item of plant or equipment found to be emitting excessive noise levels due to a faulty silencer, broken or other reason, will immediately be taken out of service and be adequately serviced, repaired or replaced. Site personnel will be trained for proper use and maintenance of tools and equipment.

1- Regarding strictly protected species the following actions are prohibited: 9 all forms of deliberate capture and keeping and deliberate killing; 9 the deliberate damage to or destruction of breeding or resting sites;

the deliberate disturbance of wild fauna, particularly during the period of breeding, rearing and hibernation, insofar as disturbance would be significant in relation to the objectives of this Convention; the deliberate destruction or taking of eggs from the wild or keeping these eggs even if empty: the possession of and internal trade in these animals, alive or dead, including stuffed animals and any readily recognizable part or derivative thereof, where this would contribute to the effectiveness of the provisions of this article.

2- Regarding protected fauna species (Article 7), measures to be taken shall include:

closed seasons and/or other procedures regulating the exploitation; - the temporary or local prohibition of exploitation, as appropriate, in order to restore satisfactory population levels; the regulation as appropriate of sale, keeping for sale, transport for sale or offering for sale of live and dead wild animals

. -

Personnel protective equipments will be supplied for the personnel. Warning signs will be installed where the industrial accident risk Is high.

Personnel will be trained on Health and Safety measures.

Phase I Rehabilitated ESPs will be regularly maintained. Emitted gas discharge will be monitored by continuous emission monitoring system. Ambient air quality of the region will be monitored by installing measurement station at the point where the highest concentrations are indicated. Emission license will be taken for the power plant.

Phase II FGD unit retrofit to AEATPP will completed to decrease SO2 emissions. FGD unit and its auxiliary equipment will be maintained regularly.

Noise protection equipment will be provided for workers in high noise level areas. All equipments will be periodically maintained to Warning signs will be installed in high noise level areas.

Personnel will be trained in the proper use and maintenance of tools and equipment.

Responsibility

Contactor and

EUAS

Contactor and

EUAS

Contactor and

EUAS

EUAS AEATPP Operation

Management

EUAS AEATPP Operation

Management

76

Issue Waste Management

-Recyclable / Reusable non-hazardous & inert wastes -Non-Reusable / Non- Recyclable Non- Hazardous wastes -Hazardous Wastes -Medical Wastes

Wastewater Management

Health and Safety

Mitigating Measure The wastes will be separated according to their contents.

All storage containers will be labeled. The medical wastes will be collected by red, hazardous wastes will be orange and non hazardous wastes will be collected in blue bags.

Hazardous wastes will be transported by licensed company for disposal of the hazardous wastes. Sludge from wastewater treatment plants will be disposed according to RSWC. It will be sent to solid waste area of Municipality.

Gypsum from FGD operation will be sent to mine site after mixing with ash and slag by the closed conveyors.

Both process and domestic wastewater produced at the plant will be treated at the wastewater treatment plants and then discharged to receiving body. Wastewater discharge parameters will be monitored weekly. Discharge permit will be obtained.

As a standard application, Personnel protective equipments will be supplied Warning signs will be installed where the industrial accident risk is high. Personnel will be trained on Health and Safety measures.

Responsibility

EOA$ AEATPP Operation

Management

EUAg AEATPP Operation

Management

EOAS AEATPP Operation

Management

Public Consultations A public meeting to discuss the draft EIA was conducted on March 17, 2005. The chief issue raised was the dust that i s deposited on agricultural crops. The draft document was disclosed locally in Turkish on August 15, 2005 in the Municipalities of Cogulhan Town, Afvin and Elbistan Districts, Kahramanmaras Directorate of Environment, and also placed on the website o f the EA consultant, Cinar.

Lignite mine extension The Afvin Elbistan. A plant i s supplied by an existing mine at Kislakoy near the plant. This mine currently has a capacity o f 18 M i l l i on tons per year - it i s currently primarily supplying the B Power Plant because the A Plant i s operating at a very l o w level. The mine i s an open pit mine which was built using Wor ld Bank funds in the 1970s. It has an operational license from MENR and i s inspected periodically by various government agencies.

(d) MENR inspects the mine to see whether i t i s conforming with the Mining L a w (which prescribes

(e) The Ministry o f Labor (MOL) carries out inspections for worker safety issues; and (0 M o E F inspections focus o n adherence with environmental safeguards.

overburden and waste disposal guidelines);

Overburden fiom the mine and the ash from the power plant are used as backf i l l in the mine and covered over with soil. Over 400,000 trees have been planted o n the backf i l l area which i s n o w wooded as a result.

77

Annex 11 : Project Preparation and Supervision


Planned Actual P C N review 0610112004 06/09/2004 Init ial P I D to P I C Init ial ISDS to P IC Appraisal Negotiations BoardJRVP approval Planned date o f effectiveness Planned date o f mid-term review

0312 112006 0412412006 06/06/2006 0913012006 0613 0/2008

0610712004 0610712004 0312712006 0412712006

Key institutions responsible for preparation o f the project: EUAS

Bank staff and consultants who worked on the project included: Name Title Unit Ranjit Lamech Task Team Leader ECSIE Sameer Shukla Senior Energy Specialist ECSIE James Moose Economist ECSIE Gurhan Ozdora Senior Operations Officer ECSPF Shinya Nishimura Financial Analyst ECSIE

ECSIE Bernard Baratz Environment Specialist Masaki Takahashi Senior Power Engineer EWDEN Salih Kemal Kalyoncu Procurement Specialist ECSPS Devesh Chandra Mishra Senior Procurement Specialist ECSPS D i lek Barlas Senior Counsel LEGEC M a r k M. Moseley Senior Counsel LEGPS Yukari Tsuchiya Program Assistant ECSIE Ozlem Katisoz Team Assistant ECCU6 Selma Karaman Program Assistant ECCU6 Norval Stanley Peabody Lead Social Scientist ECSSD Ayse Seda Aroymak Sr. Financial Mgt Specialist ECSPS

Zeynep La l i k Mete

Andrina Ambrose

Financial Mg t . Specialist

Senior Finance Off icer

ECSPS

LOAG 1

Bank funds expended to date on project preparation: 1. Bank resources: 2. Trust funds: 3. Total:

1. Remaining costs to approval: 2. Estimated annual supervision cost:

Estimated Approval and Supervision costs:

78

Annex 12: Documents in the Project File TURKEY: ELECTRICITY GENERATION REHABILITATION AND

RESTRUCTURING

1. Pre-Feasibility Report for the Rehabilitation of Afyin-Elbistan A Power Plant, Chubu Electric (July 2004)

2. Final Feasibility Report for the Rehabilitation of Afyin-Elbistan A Power Plant, RWE (November 2005)

3. Environmental Impact Assessment (EIA) Report for the Rehabilitation o f the Afyin-Elbistan A Power Plant, Cinar and KEMA (January 2006)

4. Financial model for Project and Entity financial analysis, Shinya Nishimura (April 2006)

79

Annex 13: Statement of Loans and Credits


Original Amount in US$ Millions

Difference between expected and actual

disbursements

Project ID FY Purpose IBRD IDA SF GEF Cancel. Undisb. Orig. Frm. Rev'd

PO66149 2005 PO77328 2005 PO78359 2005 PO81880 2005 PO93568 2005 PO94167 2005 PO94176 2005 PO82801 2004 PO82996 2004 PO75094 2004 PO74053 2004 PO70950 2004 PO72480 2004 PO59872 2003 PO74408 2002 PO70286 2002 PO69894 2001 PO68368 2000

PO44175 2000 PO09073 1999 PO48852 1998

SEC EDUC RAIL RESTRUCT SEISMIC RISK MITIGATION

MUNICIPAL SERVICES EFIL 3 (CRL)

PSSP 2 ECSEE APL #2 (TURKEY) (CRL) EFIL 2 PFPSAL 3 WATERSHED REHAB (GEF) HEALTH TRANSIT (APL #1) ANATOLIA WATERSHED REHAB RENEW ENERGY BASIC ED 2 (APL #2) SRMP ARIP PRIV SOC SUPPRT

MARMARA EARTHQUAKE EMG RECON BIODIVh'TRL RES MGMT (GEF) INDUSTRIAL TECH NAT'L TRNSM GRID

Total:

104.00 184.70

400.00 275.00 305.00 465.40

66.00 303.10

1,000.00 0.00

60.61 20.00

202.03 300.00 500.00

600.00 250.00 505.00

0.00 0.00 0.00 0.00

0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

0.00 0.00 0.00 0.00

0.00 0.00 7.00 0.00

0.00 0.00 0.00 0.30 0.00 0.00 0.00 0.10 0.00 0.00 0.00 1.01 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

96.49 173.32 373.91

256.79 298.04 434.21 61.03

75.00 500.00

6.75 56.34 19.55

196.33 291.46 220.08 268.71

7.21 281.59

0.00 0.00 0.00

0.00 0.00 0.00

0.00 -155.10

0.00 0.25 7.22 0.15 7.31

283.05 184.7 1 268.71

7.21

281.59

0.00 0.00 0.00

0.00

0.00 0.00

0.00

0.00 0.00 0.00 0.00

0.00 0.00

80.46 -17.12

66.01 -28.79 37.37

0.00 0.00 0.00 8.19 0.00 4.12 3.52 0.18 155.00 0.00 0.00 0.00 0.00 13.35 13.35 0.00 270.00 0.00 0.00 0.00 34.48 111.81 146.28 73.96

5,965.84 0.00 0.00 15.19 35.89 3,746.09 1,048.25 212.07

TURKEY STATEMENT OF IFC's

Held and Disbursed Portfolio In Millions o f U S Dollars

Committed

IFC FY Approval Company Loan Equity Quasi

2005 Acibadem 20.00 0.00 0.00 Altematif Bank 0.50 0.00 0.00

1996/01/03/05 Arcelik 103.36 0.00 0.00 2000 Arcelik LG Klima 8.29 0.00 0.00

2002 Assan 22.50 0.00 0.00 2002 Atilim 6.50 0.00 0.00

Partic.

0.00 0.00

103.36 0.00

0.00 0.00

Disbursed

IFC Loan Equity Quasi Partic.

10.00 0.00 0.00 0.00

0.50 0.00 0.00 0.00 103.36 0.00 0.00 103.36

8.29 0.00 0.00 0.00 22.50 0.00 0.00 0.00 6.50 0.00 0.00 0.00

80

2000

2002

200 1 1994196197

2004 1994

1990102 2002 2004

1995 1999

2004 1999 200 1

1998 2005 1998100102 1990 1988190

2004 1991

2003 2004 2002 1998102 1991

2004 2004 2002 1998 2000

1999 1990 2002103

2002 2005

Banvit

Bayindirbank A.S

Beko

Bilgi

Borcelik

Borusan Holding

CBS Holding

Conrad

EKS

Ege Entek

Finansbank

Garanti Leasing

Gumussuyu Kap

Gunkol

Indorama Iplik

Intercity

Ipek Paper

Kepez Elektrik

Kiris

Koclease

Kula

MESA Group

Meteksan Sistem

Milli Re

Modem Karton

NASCO

OPET

Oyak Bank

Pasabahce

Pinar ET

Pinar SUT SAKoSa

Silkar Turizm

Sise ve Cam

Soktas

TSKB

1982/83/89191/96/99 Trakya Cam

2002 Turk Ekon Bank

2001 Turkish PEF

1999 Unye Cement

1999 Uzel 1998 Viking

8.33

1.50 32.75 8.00

8.18 30.00

3.50 3.15

10.96 10.00 19.00

2.22 10.00

4.00 4.53 4.38 15.00

10.85 2.43 11.33 30.00 5.20 1 1 .oo 0.00

50.00 8.33 10.18 25.00 50.00 3.75 3.14

1 1.45 9.91 1.89

43.93 2.00

0.00 0.00 11.11

0.00 8.22

8.40

7.62

5.00

0.00 0.00 0.00

3.21

0.00

0.00 0.00

0.00 0.00

0.00

0.00 0.00

0.00 0.00 0.00

5.00 0.00 0.00 0.00 0.00

0.00

0.00

0.00 0.00 0.00 0.00 0.00

0.00

0.00

0.00 0.00 0.00 0.00

0.00 0.00

0.00 0.36 0.00

9.59

0.00

0.00

0.00

0.00 0.00 0.00

0.00

0.00 10.00

0.00 0.00

0.00 0.00

0.00 0.00 0.00

3.66 0.3 1

0.00

0.00 0.00 0.00

0.00

0.00

0.00 0.00 8.50 0.00

0.00

0.00

0.00

0.00 0.00 0.00 0.00

6.61

0.00 18.18

0.00

50.00 0.00

15.00 0.00

0.00

0.00 0.00

0.00 0.00

28.07

0.00 0.00 0.00

0.00

0.00 0.00 8.00

9.94 0.00

0.00 0.00 0.00

0.00 27.75 0.00 0.00

0.00

0.00 0.00 0.00 0.00 0.00

0.00

3.55 40.00 0.00 0.00 0.00 0.00

6.64 2.15

36.56

0.00 0.00

0.00 0.00 0.00

0.00

4.95 0.00

8.33 1.50

32.75 8.00 8.18

30.00 3.50

3.15 10.96

10.00 19.00 2.22

10.00 4.00

4.53 4.38 4.44

10.85 2.43

11.33 30.00 5.20

11.00 0.00

0.00

8.33

10.18 8.33

50.00 3.75 3.14

1.77 9.91 1.89

43.93 2.00 0.00

0.00 11.11

0.00 8.22

8.40 7.62

5.00 0.00

0.00 0.00 3.21

0.00

0.00

0.00

0.00 0.00 0.00

0.00 0.00

0.00 0.00 0.00 5.00

0.00 0.00 0.00 0.00

0.00

0.00

0.00

0.00 0.00 0.00 0.00

0.00

0.00

0.00 0.00 0.00 0.00 0.00 0.00

0.00 0.36 0.00

2.17

0.00 0.00

0.00

0.00

0.00 0.00 0.00

0.00 10.00

0.00 0.00

0.00 0.00 0.00

0.00 0.00

3.66 0.3 1 0.00

0.00 0.00 0.00 0.00

0.00

0.00

0.00

8.50 0.00 0.00 0.00

0.00

0.00

0.00

0.00 0.00 6.61

0.00 18.18 0.00

50.00 0.00

15.00 0.00

0.00

0.00 0.00

0.00 0.00

28.07

0.00 0.00

0.00 0.00

0.00 0.00 8.00

9.94 0.00

0.00 0.00

0.00

0.00 8.21 0.00

0.00

0.00

0.00 0.00 0.00 0.00 0.00

0.00

3.55 25.00 0.00 0.00 0.00

0.00 6.64 2.15

36.56 0.00 0.00

0.00 0.00

0.00 0.00

4.95 0.00

Total portfolio: 662.39 23.16 112.26 270.97 571.48 15.74 112.26 236.43

81

Approvals Pending Commitment

FY Approval Company Loan Equity Quasi Partic.

2001 Akbank 0.03 0.00 0.00 0.00

2004 Akbank BLoan Inc 0.00 0.00 0.00 0.02

2005 Avea 0.12 0.00 0.00 0.30 2005 Bandima Dogalga 0.00 0.00 0.00 0.00 2005 Gemlik Dogalgaz 0.00 0.00 0.00 0.00 2002 Milli Reasurans 0.00 0.01 0.00 0.00

2005 PALEN 0.00 0.00 0.00 0.00 2005 Palgaz 0.01 0.00 0.00 0.00 2005 Sivas Dogalgaz 0.00 0.00 0.00 0.00 2002 TEB I11 0.00 0.00 0.00 0.05 2005 YUCE 0.00 0.00 0.00 0.00

Total pending commitment: 0.16 0.01 0.00 0.37

82

Annex 14: Country at a Glance TURKEY: ELECTRICITY GENERATION REHABILITATION AND

RESTRUCTURING

POVERTY and SOCIAL Turkey

2003 Population, mid-year (millions) 70.7

2,800 197.8

GNI per capita (Atlas method, US$) GN I (Atlas method, US$ billions)

Population (%) 17

Average annual growth, 1997-03

Laborforce (%) 2.3

M o s t recent est imate ( la tes t year available, 1997-03)

Poverty (% o f population belownatlonaipoverfyline) Urban population (%oftotalpopulafion) 66 Life expectancyat birth (years) 70 Infant mortality(per 1OOOlive birfhs) 35 Child malnutrition (%ofchildren under5) 8 Access to an improvedwatersource (%ofpopulation) 82 llliteracy(%ofpopulation age 59 w Gross primatyenroiiment (%of school-age population) 94

Male 98 Female 91

KEY ECONOMIC RATIOS and LONG-TERM TRENDS 1983 1993

GDP (US$ billions) 615 179.4 Gross domestic investrnentIGDP 6.3 27.6 Exports of goods and services/GDP 12.5 13.7 Gross domestic savings/GDP P.2 219 Gross national savingsiGDP 15.3 24.8

Current account balanceiGDP -3.1 -3.6 Interest paynents/GDP 2.9 2.2 Total debt/GDP 33.0 38.2 Total debt servicelexports 39.2 316 Present valueof debffGDP Present value of debtlexports

1983-93 1993-03 2002 (average annual growth) GDP 5.0 2.7 7.9 GDP per capita 2.8 0.9 6.2

Europe B Lower- Central middle-

As ia income

473 2,570 12 17

0.0 0.2

63 69 31

91 3

0 3 0 4 0 2

2002

83.9 213 29.2 B .8 20.8

-0.8 3.8

7 13 50.7 73.1

234.2

2,655 1,480

3,934

0.9 1.2

50 69 32 11 81 0 1P 113 I11

2003

240.4 22.8 27.4 B .5 e .5

-2.8 3.2

612 40.3

2003 2003-07

5.8 5.6 4.2 4.1

STRUCTURE o f the ECONOMY

(%of GDP) Agriculture Industry

Services

Private consumption General government consumption Imports of goods and services

Manufacturing

(average annual gro wth) Agriculture Industry

Services

Private consumption General government consumption Gross domestic investment Imports of goods andservices

Manufacturing

1983 1993

214 6 .2 25.0 29.8 6 .8 8 .3

53.6 54.0

78.4 65.0 9.4 13.0 6.6 8.3

1983-93 1993-03

15 10 6.7 2.2 6.9 3.0 4.3 3.0

4.7 19 4.0 3.9 7.7 10 11.4 7.8

2002 2003

13.0 13.4 23.7 219 14 .o 13.3

63.3 64.7

66.2 66.9 14.0 13.6

30.7 30.7

2002 2003

7.4 -2.4 5.6 5 .O 8.2 8 A 7.3 6 A

2.2 6 J 5.4 -2 A

35.9 20.4 25.8 27.1

D evelo prnent diamo nd' I Life expectan

-

GN I

capita enrollment per

-

Access to improved watersource

-Turkey

1 ~ Lower-middle-Income group I

E t o no rn i c rat ios '

Trade

Indebtedness

-Turkey

~ Lower-middle-income group

Growth o f inves tment and GDP (%)

I ~ Growth o f exports and impor ts (%) I

40 ~ ,

I -Exports -Inports

83

Turkey PRICES and GOVERNMENT FINANCE

D o m e s t i c p r ices (%change) Consumer prices 31.4 Implicit GDP deflator 26.3

1983

Government Finance (%of GDP, includes current grants) Current revenue Current budget balance Overall sumlus/deficit

T R A D E

(US$ millions) Total exports (fob)

Agricultural and livestock Mining and quarry products Manufactures

Total imports (cif) Food Fuel and energy Capital goods

Export price index (995-x)O) Import price index (995=00) Terms of trade (995=MO)

B A L A N C E o f P A Y M E N T S

(US$ millions) Exports of goods and services Imports of goods and services Resource balance

Net income Net current transfers

1983

5,905 1032

8 8 4.685 9,235

P 3 3,851 2,311

89 130 89

1983

7,865 0.118

-2,253

-t430 1760

Current account balance -t923

Financing items (net) Changes in net reserves

2,075 -152

Memo: Reserves including gold (US$ millions) 2,253 Conversion rate (DEC. loca//US$) 226.0

E X T E R N A L D E B T and RESOURCE FLOWS

(US$ millions) Total debt outstanding and disbursed

1983

20,324 IBRD 2,336 IDA 8 4

Total debt service IBRD IDA

Composition o f net resource flows Official grants Official creditors Private creditors Foreign direct investment Portfolio equity

World Bank program Commitments Disbursements Principal repayments

3,t38 274

4

98 327 t39 46 0

675 486 115

1993

66.4 67.8

8.0 -3.1

- E O

1993

15,345 1044 233

14.068 29.428

969 3,903 7,499

92 65 0 9

1993

26,264 33,721 -7,457

-2,744 3,768

-6,433

6,741 -308

l7.762 11046.7

1993

68,605 5,265

142

8,664 1 8 3

7

403 -740 6.134 622 189

207 354 753

2002

44.8 44.1

31.2 -5.1

-119

2002

40,P4 2,089

387 33,565 51,554

1,245 9,192 9.n3

75 73 132

2002

54,907 55,365

-458

-4,554 3,490

-1,522

7,675 -6.153

38,051 1509,471

2002

t31,058 5,367

89

29,092 708

7

224 6,901

863 -183

1,650 1031 443

2003

25.2 22.5

30 A -5.3 -0.1

2003

51.206 2,545

543 43,9P 69,340 2,006

11792

82 83 99

n,m

2003

70,231 73,760 -3,529

-5,427 2,136

-6.850

13.697 -4.047

44,957 l,496,668

2003

147,035 5214

83

29,l72 728

7

-12.R

1063 2,250

-5 n

0 276 502

I In f la t ion (%)

1-30 -

~ O ' 98 99 00 01 02 ,,I

I Expor t and i m p o r t leve ls (US$ mill.)

80,000 -

I 97 98 99 00 01 02 03

I Exports inports

Cur ren t a c c o u n t balance t o GDP ( O h )

4 -

' C o m p o s i t i o n o f 2003 debt (US$ mill.]

A 5,214 B 83 G 2 3 0 0

C 4,092

D 1.199

E 6.80

F: 86,624

E - Bilateral A ~ IBRD B - IDA D -Other rmitilatera F - hivate C-IMF G- Short-term

84

MAP SECTION

GEORGIA

ARMENIA

AZE

RBA

IJAN

AZER- BAIJAN

ISLAMIC REP. OF

IRAN

IRAQ

SYRIAN ARAB REPUBLIC

BULGARIA

GREECE

RUSSIAN FEDERATION

ROMANIA

Sakarya Nehri

Sakarya

Nehri

Koca

Çay

Porsuk Çayi

Ergene

Sim

av

Lake Manyas

Lake Apolyont

Nilüfer L.Sapanca

Eber Lake Karamik

Lake

Büyükmenderes

Nehri

Köycegiz Lake

Golcuk Lake

Nif

Lake Seyfe

Sultan Marsh

Göksu

Euphrates

Delice Ir

mak Yesil

`

Irmak

Kelkit Çayl

Kizil

Irmak

Çark

Ank

ara

Tigris Euph

rates

Ceyh

an

Neh

ri

Aci Gölü

Burdur Gölü

Hoyran Gölü

Egridir Gölü

Beysehir Gölü Sugla

Gölü ˘

Tuz Gölü

Çoruh

Çildir Gölü

Keban Reservoir

Black Sea

Black Sea

Aeg

ean

Sea

Mediterranean Sea

Dardanelles

Sea of Marmara (Marmara Denizi)

Bosporus

Lake Van

Gulf of Iskenderun

Göksu Delta

Gulf of Antalya

Finike Körfezi

Gökova Körfezi

Güllük Körfezi

Izmir Körfezi

Gediz Nehri

CATALAGZI

CAYIRHAN

HIRFANLI

SEYITOMER TUNCBILEK

GÖKCEKAYA SARIYAR

ORHANELI

BURSA

SOMA

18 MART CAN

ALIAGA

YATAGAN

YENIKOY

KEMERKOY

AFSIN-ELBISTAN (A)

KANGAL

KILICKAYA

TORUL

HASAN UGURLU

AFSIN-ELBISTAN (B)

BATMAN

ALPASLAN 1 KIGI

KEBAN

ÖZLÜCE

DERINER BORCKA MURATLI

KARAKAYA

DICLE

ATATÜRK

KARKAMIS

MENZELET

ASLANTAS

SIR BERKE

CATALAN

GEZENDE

AKKÖPRÜ

ERMENEK

HAMITABAD

AMBARLI AMBARLI

F. OIL

ENTEK ULUBAT/CINARCIK

ALTINKAYA

OBRUK

For Detail, See Inset, Above.

Hakkari Sirnak

Cizre

Siirt

Van

Bitlis

Mus

Agri

Igdir

Kars

Ardahan Artvin Rize

Bayburt

Erzurum

Trabzon

Gümüshane ¸

Giresun

Erzincan

Tunceli

Bingöl

Diyarbakir Batman

Mardin

Sanliurfa

Adiyaman

Malatya

Elazig

Ordu

Sivas

Tokat

Kayseri

Nigde

Kahraman Maras

Gaziantep

Hatay (Antakya)

Adana

Amasya

Samsun

Sinop

Çorum

Yozgat

Kirsehir

Nevsehir

Aksaray

Icel (Mersin)

Karaman

Konya

Kirikkale

Çankiri

Kastamonou

Zonguldak

Bolu

Sakarya (Adapazari)

Kocaeli (Izmit)

Istanbul

Kirklareli

Tekirdag

Edirne

Çanakkale

Balikesir

Bursa Bilecik

Eskisehir

Kütahya

Manisa

Izmir

Aydin Denizli

Mugla

Antalya

Burdur

Isparta

Afyon

Usak

Bartin

Karabük

Osmaniye

Kilis

Sütçüler

Yalova

ANKARA

44° 40° 28°

40° 40°

44° 44°

32° 36°

36° 36°

44° 40° 36° 32° 28°

TURKEY

ELBISTAN

Afsin ,

Örenli

Fakioglu ˘

Gökcek ,

Antas ,

Tanir

Izgin

Alemdar

Doganköy

PROJECTSITE

MAIN ROAD

SECONDARY ROADS

EARTH ROADS

This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of The World Bank Group, any judgment on the legal status of any territory, or any endorsement or acceptance of such boundaries.

0 50 100 150 200

KILOMETERS

TURKEY


PROVINCIAL CAPITALS

NATIONAL CAPITAL

RIVERS

PROVINCIAL BOUNDARIES

INTERNATIONAL BOUNDARIES

IBRD 34704

MAY 2006

EUAS HYDRO POWER PLANTS

EUAS HYDRO POWER PLANTSUNDER CONSTRUCTION

EUAS THERMAL POWER PLANTS

PROJECT THERMAL POWER PLANTS

100-500 MW 500-1000 MW >1000 MW