Documet ofThe World Bank

Report No: 19672 EE

PROJECT APPRAISAL DOCUMENT

ONA

PROPOSED LOAN

IN THE AMOUNT OF EUR24.8 MILLION (US$25 MILLION EQUIVALENT)

TO THE

REPUBLIC OF ESTONIA

FOR A

TRANSPORT PROJECT

February 23, 2000

Infrastructure Sector UnitEstonia, Latvia, Lithuania, Poland Country UnitEurope and Central Asia Region

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CURRENCY EQUIVALENTS

(Exchange Rate Effective November 30, 1999)

Currency Unit = EURO (EUR)EUR 1= US$ 1.01055

US$ 1 = EUR 0.98956

FISCAL YEARJanuary 1 - December 31

ABBREVIATIONS AND ACRONYMSASYCUDA - Automated System for Customs DataCAS - Country assistance strategyEBRD - European Bank for Reconstruction and DevelopmentEDI - Electronic data interchangeEDIT - Estonian Infrastructure and Transit Development FoundationEMP - Environmental management planENRA - Estonian National Road AdministrationESA - Equivalent standard axleEU - European UnionFSU - Former Soviet UnionGDP - Gross domestic productHDM - Highway Development & Management (software)IAS - International accounting standardsIBRD - International Bank for Reconstruction and Development[CB - International competitive biddingICR - Implementation completion reportIRI - International roughness indexISA - International standards of auditingLACI - Loan Administration Change InitiativeMOF - Ministry of FinanceMOTC - Ministry of Transport and CommunicationsNBF - Not Bank-financedNCB - National competitive biddingPIP - Project implementation planPIU - Project implementation unitPMR - Project Management ReportPMS - Pavement Management SystemSOE - Statement of expenditureTINA - Transport Infrastructure Needs AssessmentTOR - Terms of referenceUNCTA - United Nations Conference on Trade and DevelopmentUNDB - United Nations Development BusinessWCO - World Customs Organization

Vice President: Johannes F. Linn, ECAVPCountry Director: Basil G. Kavalsky, ECCO9

Sector Director: Ricardo A. Halperin, ECSINProgram Team Leader: Cesar Queiroz, ECSIN

EstoniaTRANSPORT PROJECT

CONTENTS

A. Project Development Objective Page

1. Project development objective 22. Key performance indicators 2

B. Strategic Context

1. Sector-related Country Assistance Strategy (CAS) goal supported by the project 22. Main sector issues and Government strategy 33. Sector issues to be addressed by the project and strategic choices 7

C. Project Description Summary

1. Project components 82. Key policy and institutional reforms supported by the project 93. Benefits and target population 94. Institutional and implementation arrangements 10

D. Project Rationale

1. Project alternatives considered and reasons for rejection 112. Major related projects financed by the Bank and other development agencies 113. Lessons learned and reflected in proposed project design 124. Indications of borrower commitment and ownership 125. Value added of Bank support in this project 12

E. Summary Project Analysis

1. Economic 122. Financial 133. Technical 134. Institutional 135. Social 146. Environmental assessment 147. Participatory approach 14

F. Sustainability and Risks

1. Sustainability 152. Critical risks 153. Possible controversial aspects 16

G. Main Loan Conditions

1. Effectiveness Condition 162. Other 16

H. Readiness for Implementation 17

I. Compliance with Bank Policies 17

Annexes

Annex 1: Project Design Summary 18Annex 2: Project Description 21Annex 3: Estimated Project Costs 23Annex 4: Cost Benefit Analysis Sumnnary 24Annex 5: Financial Summary 26Annex 6: Procurement and Disbursement Arrangements 29Annex 7: Project Processing Schedule 35Annex 8: Documents in the Project File 36Annex 9: Statement of Loans and Credits 37Annex 10: Country at a Glance 39Annex 11: Procurement Capacity Assessment 41Annex 12: Procurement Action Plan 48

MAP(S)IBRD 30317

ESTONIA

TRANSPORT PROJECT

Project Appraisal Document

Europe and Central Asia RegionECSIN

Date: February 23, 2000 Team Leader: Cesar QueirozCountry Manager/Director: Basil G. Kavalsky Sector Manager/Director: Ricardo A. HalperinProject ID: P035775 Sector(s): TY - Other TransportationLending Instrument: Specific Investment Loan (SIL) Theme(s):

Poverty Targeted Intervention: N

Project Financing DataZ Loan El Credit O Grant Dl Guarantee El Other (Specify)

For Loans/Credits/Others:Amount (US$m): 25.0

Proposed Terms: Fixed-Spread Loan (FSL)Grace period (years): 5 Years to maturity: 15Commitment fee: 0.75Front end fee on Bank loan: 1.00%Pinancirng'P-an: Source Local ;ForeTa lGovernment 13.97 8.68 22.65IBRD 0.00 25.00 25.00IDAEUROPEAN UNION 0.50 1.15 1.65GOVERNMENT OF FINLAND 0.00 0.20 0.20

Total: 14.47 35.03 49.50

Borrower: MINISTRY OF FINANCEResponsible agency: MINISTRY OF TRANSPORT, ESTONIAN NATIONAL ROAD ADMIN. (ENRA)

Estimated disbursements (Bank FYIUS$M):FY 2q000 2001 Z2002 2003 2,004 ~ 0

Annualf 0.2 f 2.0 6.0 I 66.0 .0 4.8Cumulative 0.2 2.2 8.2 14.2 20.2 25.0

Project implementation period: 5Expected effectiveness date: 06/30/2000 Expected closing date: 12/31/2005X9S PtD Fo,. 0Cdt 9.1999

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A. Project Development Objective

1. Project development objective: (see Annex 1)

The objectives of the Project are to:

(i) reduce road transport costs between Estonia's two largest cities and to the Latvian and Russian borders;

(ii) improve Estonia's road safety performance;

(iii) strengthen Estonia's road administration; and

(iv) improve the competitiveness of Estonia's trade supporting infrastructure and services.

Achievements will be measured by (i) reductions in road transport costs; (ii) reduced road accidents andfatalities; (iii) imnplementation of contracts for routine maintenance; and (iv) the increase in transit trafficand the implementation of specific administrative actions related to trade facilitation.

2. Key performance indicators: (see Annex 1)

For the Tallinn-Tartu-Luhamaa road improvements: (i) number of km of road improved; and (ii) averageroughness of entire road.

For road safety: traffic fatalities per 10,000 vehicles.

For institutional component: (i) installation of improved budgeting system; and (ii) percent of routinemnaintenance carried out by contract increases from 0 to 30 percent by 2005.

For trade and transit facilitation: (i) Estonia's non-bulk transit traffic increases by 10 percent per year from200 to 2005; and (ii) pilot electronic data interchange (EDI) system installed by 2003.

B. Strategic Context1. Sector-related Country Assistance Strategy (CAS) goal supported by the project: (see Annex 1)Document number: 13539-EE Date of latest CAS discussion: 09/21/94

Estonia, with an area of 45,227 square kilometers, is the northernmost of the three Baltic countries. It hasa population of 1.45 million people with per capita income of US$3,390 in 1998. Since regainingindependence in 1991, Estonia has initiated a far-reaching economic transformation from a centrallyplanned to an independent market oriented economy. Its small economy, with few natural resources, hadbeen severely distorted by a half century of central planning and heavy dependence on the former SovietUnion which accounted for about 90 percent of its trade. After an initial period of high inflation and asharp contraction of real gross domestic product (GDP) in 1991 and 1992, major econonic reforms wereintroduced. Estonia established its own currency in 1992, and carried out a successful stabilization effortthat reduced inflation, encouraged foreign and local private investment, and produced annual growth ratesaveraging 6 percent per year since 1993.

The key objective of the Bank's country assistance strategy (CAS), prepared and reviewed in 1994, was toalleviate the pockets of poverty that have developed during the transition process and to raise overall livingstandards through (i) sustaining the resumption of economic growth to alleviate the sharp decline in average

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incomes that occurred following Independence; and (ii) helping the government design and implementpolicies, programs and projects that will improve the living standards of those who have been left behind inthe transition process. The economy's engine of growth for improving income levels was expected to be theprivate sector, to be supported by adequate and efficient physical infrastructure and a supportiveadministrative and legal framework. No formal CAS has been prepared since that time, but the emphasisof the Bank's strategy has shifted to general support for national development. Nevertheless, the emphasison the private sector as the primary engine for growth has been an effective strategy, and is still relevant.

The project will contribute directly to this strategy through improvement in the adequacy and efficiency ofthe country's transport infrastructure and services. Specifically, it will make the private sector morecompetitive in world markets by lowering transport costs and reducing delivery times, thus encouraginginvestment, job creation and rising incomes, and value-added activities resulting from increased transittraffic.

2. Main sector issues and Government strategy:

Transport Infrastructure. Of the major transport infrastructure in Estonia, the ports and air transportfacilities are considered adequate and not in need of public investment at this time. The railway system,which is being privatized, is receiving assistance from the European Bank for Reconstruction andDevelopment (EBRD). For the road infrastructure, the government has identified major roads supportingits transit and development strategy as the Via Baltica in the western part of the country, the Tallinn-Narvaroad connecting Tallinn to the St. Petersburg area in Russia, and the Tallinn-Tartu-Luhamaa roadconnecting Estonia's two largest metropolitan areas and extending east to Moscow. Via Baltica is receivingfinancial support from the European Union (EU) because of its link to European states, and funds from theIBRD-supported Highway Maintenance Project were used to improve the Tallinn-Narva road to anacceptable standard. The Tallinn-Tartu-Luhamaa road, however, is reaching its maximnum capacity, and insome sections is already creating bottlenecks during rush periods. Therefore, upgrading of this road isconsidered by the government to be of high priority.

Road Management and Financing Issues. The Estonian National Road Administration (ENRA) isresponsible for the road network of the Republic of Estonia. The ENRA was established on November 1,1990. It is a government institution operating under the jurisdiction of the Ministry of Transport andCommunications (MOTC). The ENRA is responsible for the national road network of 16,430 kilometersincluding: 1,357 kilometers of main roads; 2,666 kilometers of basic roads; and 12,494 kilometers of localroads. The ENRA manages 15 district road offices and a Technical Center. Within the district roadoffices there are 48 roadmaster districts and 17 work sites. The ENRA is a non-profit governmentalorganization operating in accordance with the Roads Act (adopted on February 17, 1999) and the Statuteof the Road Administration (approved January 10, 1997). The ENRA has been undergoing reforms since1998 by (i) including the use of economic analysis as a basis for maintenance planning; (ii) shifting most ofits periodic maintenance from force account operations to contracting with private contractors throughcompetitive bidding; (iii) introducing the use of new road maintenance technology and equipment; (iv)strengthening its laboratory and quality control procedures; (v) reducing the amount of state propertyowned by the road offices; and (vi) improving the administrative procedures of the road offices. TheENRA was the implementing agency for the Bank's first transport project in Estonia, through which itreceived assistance in implementing these reforms.

Estonia does not have a dedicated road fund. The ENRA receives a budget each year comprised offinances from the general state funds, foreign loans, and the government reserves. The budget for roads

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does not allow for carry over amounts into the next year's program. The Roads Act adopted by Parliamenton February 17, 1999 (replacing the Highway Act of December 19, 1991) specifies the amount ofearmarked funds, from the excise taxes paid into the state budget, that would be for roads. Prior to this lawthere was no correlation between the road budget and the excise taxes collected. This act allows for 75percent of the motor fuel excise and 100 percent of the motor vehicle excise to be put to road financing.The Roads Act was supposed to go into effect on January 1, 2000, but was revised recently to delay itseffectiveness until January 2001. The percentage of motor fuel excise for road maintenance will now be 55percent for 2001, increasing to 65 percent and 75 percent for the years 2002 and 2003, respectively. For2000, before the Roads Act financing goes into effect, the ENRA's budget is expected to be 794 millionEEK (US$53 million), which is approximately the same level as the budget level for 1999 in constantprices. The budget for 2000 may be augmented by about 25 percent from a loan for the Via Baltica Projectfrom the European Investment Bank (EIB). The budget level for 2001 is estimated to rise to 1,134 millionEEK (US$76 million) when the Roads Act goes into effect, and will be further augrnented by the remainderof the EIB loan and by the Transport Project. An additional source of financing for roads, albeit minor, isthe fines collected from users breaking road laws. This money is then distributed among the budgets for thenetworks of national roads, local roads, and urban streets and roads.

The Motor Vehicle Excise is paid one time by the producer or importer of the vehicle. The amount paid isdetermined by the cylinder capacity and age of the vehicle.

In June 1999, the Fuel Excise tax composed about 50 percent of the average gasoline price and 47 percentof the average diesel price.

Table 1. June 1999 Fuel Prices and Taxes in Estonia

Average price/liter Tax/liter Percent of fuel price for excise tax

Gasoline 7.0 EEK 3.50 EEK 50%

(US$0.47)' (US$0.23)

Diesel fuel 5.4 EEK 2.52 EEK 47%

(US$0.36) (US$0.17)

a. Percentage calculated using values in EEK.b. US$I = 15 EEKSource: World Bank mission (June 1999) and Fuel Excise Duty Act (June 17, 1993)

There is a Motor Vehicle Tax which is paid into the local government budget for repair of streets androads. It is an annual tax, but presently it is established only in Tallinn. The tax charged is 5 EEK(US$0.33) per kilowatt of motor power.

The budget for roads in Estonia has been steadily increasing, but the amount estimated by the ENRA toreflect the needs in roadkeeping exceeds the actual amount allocated. With the Roads Act, the estimatedneeds and revenues are more closely matched.

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Table 2. Estonia: National Roads Budget and Needs

140 ;

120

t 1 100

0 Acceptable le%i80 0~~~~~~~~~~~~~~~~~~~~~ Loans

U Total budget

20

0

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Source: ENRA, 1999

Road Safety. The safety level of road traffic in Estonia is poor and continues to deteriorate in absolutenumbers of injuries and fatalities. Some 1990 people were injured and 284 were killed in traffic crashes in1998 compared to 1547 injured and 213 killed in 1996. The present rate of fatalities per 10,000 vehiclesas well as the rate of injuries per 10,000 vehicles in Estonia is approximately three times higher than inFinland. This shows that the consequences of car crashes are extremely severe in Estonia. During the lastfive years the growth of motorization in Estonia has been one of the highest in Europe. There were 295vehicles per 1,000 inhabitants in 1998 compared to 376 vehicles per 1,000 inhabitants in Finland, and theforecast shows that there will be some 440 vehicles per 1,000 inhabitants in the year 2010. The growth inmotorization will substantially increase the risk of death and injury for all groups of road users. The annualsocio-economic cost of car crashes (about US$100 million) already exceeds 2.5 percent of GDP.

The Estonian Ministry of Transport and Communications (MOTC) has delegated the responsibility forroad traffic safety development to the ENRA. The Traffic Police Department is working in closecollaboration with the ENRA with the aim of gradually curbing the gro'wth in accident numbers andseverity that has taken place since 1996. The ENRA has also assumed the responsibility for developingpublic road safety information, education programs for vulnerable road users, and formulating road trafficlegislation. A program called Plan 100, which is targeted at reducing the number of fatalities caused by carcrashes to 100 by year 2015, has been drafted and debated. Well planned and determined actions arerequired to meet this goal. The first key issue is to create a sense of commitment among decision makers toimplement the actions proposed in Plan 100. This sense of commitment already exists within the MOTC,as evidenced by a letter dated November 17, 1999, from the Minister of Transport and Communications(see files).

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Trade Facilitation. Foreign trade represents a major part of Estonia's gross domestic product (GDP).Exports of goods and services reached 83 percent of GDP in 1997, while imports were 97 percent.Transport, transit, and trade play a significant role in the Estonian economy, accounting for 29 percent ofGDP in 1997, compared to 19 percent for manufacturing. In 1998, transit traffic represented 70 percent ofport and rail throughput and about 50 percent of turnover of logistic and transport companies. Estoniantrade has been characterized since 1990 by a shift of trade towards the European Union (EU) at theexpense of Russia and the Commonwealth of Independent States.

The recent reorientation of trade towards processing of EU inputs for re-export enables Estonia to reach anew category of clients, more demanding quality-wise but also more rewarding in terms of value added.The quality and reliability of the logistic services supporting trade have become parameters by whichEstonian companies will be increasingly judged. As illustrated by the trade statistics, the dependence onRussia has sharply decreased, although the Russian crisis is partly responsible for the slowing of theeconomy in 1999. Given the precarious position of Russia, an objective of this project is the improvementin logistic services to stimulate export and re-export after processing.

Estonia has come a long way on the privatization of its transport services. The port of Tallinn is a landlordport, with leasing agreements for the private operators. The concessioning of a new container terminal isunder evaluation. The railway operators are in the process of being privatized and the trucking industry isalready private.

Administrative barriers arising from customs or standards requirements are still substantial. These barrierspenalize Estonian companies in their effort to compete effectively and reduce the ability of Estonia toattract increased foreign direct investment. Despite noticeable improvements in customs administration,companies report that undue delays occur and that the non-acceptance of electronically transmitteddocuments as official documents generates a significant excess cost to trade. The understaffmg of customs,the insufficient quality of communications with banks, and the paper-based procedures are the core issues.The customs administration is proceeding with its plan to introduce ASYCUDA (a computerized customsinformation system introduced by UNCTAD and installed in about 70 countries) by October 1999. Theintroduction of critical modules allowing for direct trader input (Broker's Module) will be delayed until theLaw on Electronic Commerce is adopted. This law is expected to validate the use of electronicallytransmitted documents for official purposes such as the submission of documents for customs clearance.

The government believes that Estonian growth and development in the years ahead can be encouraged bymaking Estonia a major transshipment point for goods passing through the region, with beneficial sideeffects in terms of value-added activities as goods transit the country. To accomplish this requires anefficient and competitive transport system, efficient transit procedures, and trade supporting services. Thestrategy adopted by the government aims at: (i) diversifying transit activities to other products than oil; and(ii) expanding the level of import-re-export and export activities.

During project preparation the government, in cooperation with the private sector and with technicalsupport from the Danish Government and the World Bank, prepared a comprehensive Strategic Plan and anAction Plan that would enable the development by the private sector of more competitive trade supportingservices. A team of foreign and local consultants prepared, in close cooperation with public and privatestakeholders, these two documents that were then presented by the Minister of Transport to the Cabinet ofMinisters and to a broad audience of 200 private-public participants. The Estonian Infrastructure andTransit Development Foundation (EDIT) was created to assist in implementing the Action Plan. The EDITis a non-profit organization that receives financial support from the government and from the private

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transport service community in Estonia. Its board includes private and public officials.

The government intends, through the Strategic Plan, to provide guidelines for the public sector to establisha competitive environment for trade and transport businesses. The Strategic Plan outlines five maindirections to ensure the establishment of an enabling environment: (i) laws and regulations ensuring thedevelopment of trade supporting services and infrastructure on an equal basis, taking into account the EUaccession process; (ii) efficient public private partnership, based on combined resources, close andobjective co-operation and perception of a common goal; (iii) access to capital for the Estonian economy onequal terms and conditions as competitors; (iv) provision of quality education, training and research ontrade supporting services; and (v) easy Estonian access to global markets and foreign access to theEstonian market.

The Action Plan goes one step further in identifying the activities to be carried out to implement theStrategic Plan, their level of priority (based on expert assessment), the government entity in charge, thebottleneck that will be alleviated, and the estimated human (local/foreign) and financial resources required.The Action Plan is an evolving document consisting of more than one hundred actions, and is available inproject files. Legal aspects include among other things the assessment of re-export/re-import under thecustoms law, the adoption of relevant international rules and convention (i.e. as first priority the CustomsConvention on Containers, the Multimodal Convention and the Kyoto Convention on simplification andharmonization of the Customs procedures) or the adoption of an electronic commerce law. Physicalaspects include items such as the upgrading of the Tallinn-Tartu-Luhamaa road and the introduction of anElectronic Data Interchange (EDI) system for transport activities. The cost of installing an EDI system,however, has been drastically reduced during the past year as the use of the Internet has elimninated the needfor expensive hardware. The proposed establishment of several Councils (relating to multimodal issues,EDI, and Trade Facilitation) will allow better coordination between parties involved in trade. Theimprovement of these services are expected to attract foreign companies as investors or partners and lead toan increase in trade and transit activities.

Some of these activities will be undertaken as part of the overall program of the government, while otherswill be implemented by the EDIT. The tentative work program of the EDIT includes research projects,strengthening of statistics, coordination of the Action Plan with other sectors, training, marketing andpromotion activities, and coordination with the private sector via councils and working groups.

3. Sector issues to be addressed by the project and strategic choices:

In order to achieve the government's objective of establishing a comprehensive system of tradesupporting infrastructure and services capable of moving goods through Estonia quickly and atcompetitive cost, it will be necessary to make improvements in all aspects of the movement of goods.As described above, each element of the system has been the object of detailed study to determine whatimprovements are necessary and how they should be accomplished, and how all of the elements of thesystem can be integrated into a comprehensive whole. The Action Plan that has been prepared willserve to guide project implementation. The overall program is being coordinated by the EstonianInfrastructure and Transit Development Foundation (EDIT), an inter-ministerial body that includesparticipation of and interaction with the private trade and transport sector. The government and theEDIT are capable of implementing the program for trade facilitation with their own resources exceptfor the purchase and installation of the EDI system. The government believes, however, that additionalinvestigation and research is needed before deciding on which type of EDI system is most suitable forEstonia, and has decided to limit its commitment to a pilot installation at this time.

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Road improvements to be included in the Project will be limited to the sections of theTallinn-Tartu-Luhamaa road that will have only a limited impact on the environment, along with roadsafety and a continuation of the institutional strengthening of the ENRA that was begun under theprevious World Bank-financed Highway Maintenance Project. Sections of the Tallinn-Tartu-Luhamaaroad requiring substantial realignment and/or that would pass through Estonia's extensive peat swampswould be left out of this project and considered in a subsequent project after a Category Aenvironmental assessment has been completed and land acquisition issues have been resolved. Thiswill allow the project to move ahead rapidly, since only a Category B environmental review will berequired and there will be only minor land acquisition issues.

The project will contribute to traffic safety development in Estonia by improving the trafficenvironment along the Tallinn-Tartu-Luhamaa road, by addressing specific road traffic accident blackspots elsewhere on the national road network, and by providing assistance for arranging seminars,training, education and public campaigns as well as technical assistance for development of systemsand technology addressing road traffic safety problems typical for the traffic conditions and trafficbehavior in Estonia.

C. Project Description Summary

1. Project components (see Annex 2 for a detailed description and Annex 3 for a detailed costbreakdown):

1. Civil works to upgrade portions of Highways 43.30 87.5 22.00 88.0the Tallinn-Tartu-Luhamaa road.

2. The project will improve road safety Highways 4.35 8.8 2.65 10.6conditions along theTallinn-Tartu-Luhamaa road, andaddress specific accident black spotselsewhere on the national road network.The project will also provide assistancefor arranging seminars, training,education, and public campaigns aswell as tec'nical'assistance fordevelopment of systems and technologyaimed at addressing road traffic safetyproblems typical for the trafficconditions and traffic behavior inEstonia.

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3. Technical services to continue the Highways 1.50 3.0 0.00 0.0institutional strengthening of the ENRAthat was begun under the HighwayMaintenance Project, includingorganizational restructuring, improvedbudgeting, and adoption of proceduresthat will permit contracting out ofroutine maintenance.

4. Trade facilitation measures designed Other 0.10 0.2 0.10 0.4to increase Estonia's transit traffic and Transportationto expand the level of value-addedimport-re-export activities byimprovements in laws and regulations,public-private cooperation, access tocapital, education and research on tradesupporting activities, and easy accessto global markets, including an Internetweb site. The Bank-financed part ofthis component will include thehardware and software required toimplement a pilot electronic datasystem for providing one-stop borderclearances in Estonia.

Total Project Costs 49.25 99.5 24.75 99.0Front-end fee 0.25 0.5 0.25 1.0

Total Financing Required 49.50 100.0 25.00 100.0

2. Key policy and institutional reforms supported by the project:

(i) Adequate financing arrangements for road maintenance.(ii) Legal and regulatory changes identified as necessary for improving trade supporting infrastructure andservices.(iii) Active partnership between private and public parties involved in trade supporting activities.(iv) Improvements in road safety.(v) Institutional strengthening of the ENRA.

3. Benefits and target population:

Benefits. The overall benefits will be savings in transport costs and delivery times, thus facilitating bothinternational and local trade. This will help to establish Estonia as a major transit country for goodsmoving through and around the Baltic region, with benefits for the economy as a whole because oftrade-related economic activities that are expected to develop. The promotion of Estonia as a trade, transitand value-added partner will attract foreign direct investment and give a new dynamic to local serviceproviders. Also, the project will assist in preserving the considerable investments in infrastructure assets,improve traffic safety, enhance reliability of transport to and from Estonia, and generate employmentthrough the increased spending on road construction.

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Target Population. The beneficiaries will include the public as users of the transport system, and inparticular shippers, farmers, and manufacturers. Indirect beneficiaries will include a large number ofpeople affected by the increase in overall economic activity resulting from the improved infrastructure andEstonia's enlarged role in transshipments in the Baltic region.

4. Institutional and implementation arrangements:

Executing agencies. Project implementation will be managed by a Project Implementation Unit (PII)established within the ENRA, under the general policy guidance of the Ministry of Transport andCommunications. The PIU staffing will include persons recruited from the ENRA's regular staff, plusseveral persons recruited from outside of the ENRA structure, bearing in mind the requirements forfinancial management and procurement spelled out in the financial and procurement assessments. The roadupgrading components will be carried out by the regular staff of the ENRA under the guidance of the PIU,utilizing the experience with World Bank procedures learned during implementation of the HighwayMaintenance Project. Annual work plans will be submitted prior to the beginning of each calendar year,and quarterly progress reports will be sent to the Bank within 30 days after the end of each quarter. Thetrade facilitation component will be implemented by the Estonia Infrastructure and Transit TradeDevelopment Foundation, which includes representatives of the interested miinistries and agencies as well asrepresentatives of the private sector, in cooperation with the ENRA's PIU for procurement actions.

Project financial management (see Annex 5). A financial management system for the project will bedeveloped in the PIU and the ENRA and documented in a Project Financial Management Manual. Keyactions relating to the financial management to be completed before project start include: (a) recruitment ofa qualified accountant/financial specialist for the PIU; (b) procurement and installation of a projectaccounting and financial management system for the PIU, and development and adoption of the financialmnanagement manual for the project; (c) engagement of private independent auditors; and (d) appointmentof financial management technical support consultants who would provide qualified financial professionalsto support the operation of the financial management system and training of project staff. Thisarrangement is very important given the absence of qualified financial project staff in the PIU and the needto orient the staff on the improved financial management system. A time-bound action plan for thestrengthening of the fmancial management system for PMR disbursements will be implemented by June 30,2000.

Disbursements from the loan would initially be made on the basis of traditional disbursement procedures.Once the Bank has approved the PIIUs financial management system for Project Management Report(PMR) based disbursements, the Borrower may choose to substitute the traditional disbursementprocedures for PMR-based disbursement procedures. The PIU will be responsible for preparing quarterlyPMRs to support withdrawal applications. The format and timing of Quarterly PMRs were discussed andagreed at Negotiations.

Accounting, financial reporting, and audit arrangements. The PIU will carry out financial accountingand maintain separate project accounts and records for project related expenditures in accordance withInternational Accounting Standards (IAS). Also, the PIU will be responsible for consolidating projectfinancial statements for all project components, including preparing project management reports, projectprogress reports and procurement management reports of which format was agreed at Negotiations.Project records, accounts, PMRs and the Special Account will be audited annually by private independentauditors acceptable to the Bank. The audit will be carried out in accordance with International Standardson Auditing (ISA). The audit report and certified copies of financial statements will be submitted to the

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Bank not later than six months after the end of each fiscal year audited. For all expenditures with respectto which withdrawals from the Loan Account are made on basis of PMRs or SOEs, the PrIU will retain,until at least one year after the Bank has received the audit report, all records evidencing such expenditures,and will enable the Bank's representatives and auditors to examine such records.

Project oversight. Three Bank missions will be required for each year of the four-year implementationperiod, with two weeks required during the first year, gradually reducing to one week after the second year.The missions will consist of the program team leader/highway engineer, supplemented by a trade transportspecialist, road safety engineer, an economist, financial analyst, training specialist, and bridge specialist asnecessary. A Mid-Term Review, involving relevant Borrower agencies and Bank staff, will be carried outat about 24 months after loan effectiveness.

Retroactive Financing. up to EUR1.0 million is permitted for project-related procurement carried out afterDecember 10, 1999 and before the Loan signing date, if World Bank procurement procedures are followedduring the procurement process.

D. Project Rationale

1. Project alternatives considered and reasons for rejection:

Various other physical improvements of the transport system were considered, including ports and airtransport infrastructure, based in part on the EU-Phare-financed study entitled Transport InfrastructureNeeds Assessment - Central and Eastern Europe (TINA) dated June 1998, but were found not in urgentneed of public investment at this time. However, this will change as the system expands, and over timeadditional civil works improvements for transport infrastructure will be necessary. Additional investmentsneeded in the railway system are being addressed through an EBRD-fmnanced Railway Upgrading Project.

2. Major related projects financed by the Bank and/or other development agencies (completed,ongoing and planned).

fE. Latest SupervisionSector Issue Project (PSR) Ratings

_ . _. . 4 | - - - E ~~~~~~(Bank-financed proJects only)Implemenaaaion Development

Bank-financed Progress (IP) Objective (Do)Highway Maintenance Highway Maintenance Project HS S

(Completed)

Other development agenciesEBRD Railway Upgrading -

Tallinn-Narva (ongoing).

lP/DO Ratings: HS (Highly Satisfactory), S (Satisfactory), U (Unsatisfactory), HU (Highly Unsatisfactory)

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3. Lessons learned and reflected in the project design:

The Bank has broad experience in improving transport systems around the world. This includes theimportance of ensuring that existing systems are well maintained before investing in expanded systems,something that Estonia is now well aware of and has largely incorporated in its road operations. Theexperience with the Highway Maintenance Project showed that Estonia is fully capable of implementingWorld Bank projects and can cope with the procurement and other requirements without major difficulty.The Estonian National Road Administration (ENRA) has become familiar with, and accepts, the use ofeconomic analysis for making investment decisions for the road network, and the use of contracting forboth maintenance and new construction. The use of Electronic Data Interchange (EDI) systems fortracking shipments is a new technology for Estonia, and the Bank will be drawing on its experience in othercountries to assist in Estonia's efforts to join the forefront of countries that utilize it.

4. Indications of borrower commitment and ownership:

Estonia remembers the benefits that accrued to the country as a member of the Hanseatic League in the15th and 16th centuries. It appears fully committed to recreating what it considers to be its role intransport movements from this earlier period because it believes that this is its best strategy for economicadvancement in the years ahead. The Strategy and Action Plan prepared by the governnent states in detailthe overall direction that Estonia is committed to follow. During project preparation, the ENRA felt theneed to improve the overall quality of the feasibility study prepared by its staff, and hired an intemationalconsultant with its own funds for this purpose. The commitment to improvements in road safety wasunderscored by a letter from the Mirister of Transport and Communications dated November 17, 1999.

5. Value added of Bank support in this project:

The Bank will play an important role in assuring that Estonia is aligned with the latest technology for roaddesign and upgrading, road safety, and transport trade facilitation, including the use of modem economicanalysis tools such as EDI. The Bank will also play a critical role in coordinating the efforts of the EU andother donors who wish to support the project.

E. Summary Project Analysis (Detailed assessments are in the project file, see Annex 8)

1. Economic (supported by Annex 4):

* Cost benefit NPV=US$33 million; ERR = 32.3 %O Cost effectivenessO Other (specify)The cost benefit analysis was based on the road improvement component, which has a cost beforecontingencies of US$37.7 million. The World Bank computer model HDM-III was used to calculate theeconomic rate of return, based on pavement characteristics obtained from the Estonia PMS databank.Traffic data indicated that traffic has grown along the Tallinn-Tartu road on average at 8.2 percent peryear from 1993 to 1998. Based on this information, the traffic growth for the year 1999 was assumed tobe 8.0 percent per year for all vehicles. For the years 2000 to 2010, traffic was forecast to grow at the rateof 3.7 percent for cars, 1.8 percent for buses, and 2.4 percent for trucks, and 1.0 percent for all types ofvehicles from 2011 to 2020.

Net Present Value was calculated on the basis of 12 percent cost of capital. Shadow pricing was notconsidered necessary since the altemative opportunities for labor in the existing economic environment arenot plentiful. Therefore, the current costs do not need to be adjusted to reflect alternative opportunity costs.

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Further, the exchange rate, under a currency board system, is at a realistic level and therefore the values forcosts and benefits used in the analysis do not need to be adjusted.

A detailed sensitivity analysis was carried out on the basis of a series of changes in costs and benefits,value of time, changes in accident benefits, and traffic growth rates. A complete description of thealternative assumptions and economic results based on these assumptions is contained in Annex 4. Thesensitivity tests indicate that under none of the sensitivity scenarios did the internal rate of return fall below12 percent, either for the entire program or for any of the selected alternatives.

2. Financial (see Annex 5): NPV=US$ million; FRR = %Not applicable, as the ENRA is not a revenue-producing institution.

Financial management assessment report dated November 25, 1999 is available in Project Files, and issummarized in Annex 5.

Fiscal Impact:

The fiscal impact of the Bank lending will be borne by the Ministry of Finance, since the ENRA is agovernment agency financed through the central government budget. The negative fiscal impact forENRA would be limited to the provision of counterpart funds, which could reduce the government's abilityand/or willingness to provide financing for other road activities in the same fiscal year, including roadmaintenance. Counterpart financing would amount to a maximum of US$7.0 million equivalent in thepeak years 2002 and 2003, representing 14 percent of the ENRA's 1999 budget level and 9 percent of thelevel projected for the year 2001, which should be manageable.

The experience with the Estonian Government's provision of counterpart funds for the previousIBRD-fmnanced Highway Maintenance Project was that the funds were always provided promptly and infull.

3. Technical:

There are no major technical issues.

4. Institutional:

a. Executing agencies:The main executing agency will be the ENRA, which is responsible for the maintenance and construction ofthe country's national road network The ENRA is in the process of transforning its organizationalstructure to reflect greater use of contracting for routine road maintenance (new construction and someperiodic maintenance is already being carried out by contracts based on competitive bidding).

b. Project management:The project would be managed by a PIU established within ENRA consisting of about five persons. ENRAis familiar with the World Bank project and procurement procedures, and is fully competent to execute thenew project if it adds a small number of additional staff for this purpose, as recommnended in the financialand procurement assessments. No foreign experts will be needed to assist ENRA with projectadministration, although the staff will need some training and guidance from the World Bank staff tobecome famniliar with the changes in the Bank's procurement and financial procedures since theimplementation of the Highway Maintenance Project. Procurement for the trade facilitation component

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would be originated by the Estonian Infrastructure and Transit Development Foundation (EDIT), whichwould receive guidance from the ENRA's PIU regarding World Bank procurement procedures.

5. Social:

An inportant objective of the project is to increase revenues, investment, and employment from increasedprivate investment and to improve the competitiveness of Estonia's productive sector, including agricultureand forest products as well as manufactured goods. While not exclusively targeted to the poorer segmentof society, it will provide an important means for sustainable income generation.

6. Environmental assessment: Environment Category: B

The project will only include civil works for upgrading or rehabilitating road segments that require minoror no realigmnent. Therefore, the project would have only a limited environmental impact. A preliminaryenvironmental review was carried out in June, 1999, and completed in November 1999. This reviewgenerated an Action Plan for implementing mitigation measures found to be necessary relating to the use ofasphalt plants, the mining of aggregates, and safety measures for work crews during construction. It alsoassesses the status of the limited land acquisitions issues related to the Tartu bypass. No occupiedbuildings will need to be acquired and hence no resettlement is necessary.

7. Participatory Approach (key stakeholders, how involved, and what they have influenced or mayinfluence; if participatory approach not used, describe why not applicable):

a. Primary beneficiaries and other affected groups:The formulation of the Strategic and Action Plans for trade facilitation were the result of a massivecollaboration effort between private and public stakeholders led by the Ministry of Transport andConumunications. The list of parties consulted included: the Ministry of Finance, the Ministry of ForeignAffairs, the Ministry of Economy, the Ministry of Environment, the freight forwarders association, theChamber of Commerce, transport companies (rail, road, air, maritime), the Customs Administration, andmanufacturing companies.

The discussion on electronic data interchange for Estonia was jointly conducted on the Internet by theEDIT and the World Bank. This open forum enabled the participation of a long list of Estonian andforeign specialists. This medium enabled Estonia to obtain examples from Colombia, Chile, the EU andguidance from the World Customs Organization (WCO) on electronic data interchange (EDI) matters.The results of the discussion are maintained on the external World Bank web site and available for anyoneto consult.

Primary beneficiaries of the road upgrading will be the users of Estonia's transport system, includingfarmers, business people, and the general public, as well as the transport industry and the industries thatwill benefit from value-added activities from increased transit traffic.

b. Other key stakeholders:

Other stakeholders include the business associations related to the beneficiaries, including agriculturalassociations and other industry-related groups as mentioned above. Some of these groups have influencewith the Parliament, and may be able to support necessary legislative changes.

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F. Sustainability and Risks

1. Sustainability: .

Once in place, the system established to facilitate trade and transport should be sustained because it willbecome part of Estonia's regular trade and transport operations. The road civil works and institutionbuilding components should be sustainable because the ENRA is a competent organization that has alreadydemonstrated its effectiveness in maintaining the road network during the Highway Maintenance Project.

2. Critical Risks (reflecting assumptions in the fourth column of Annex 1):

Risk Risk Rating Risk Minimization MeasureFrom Outputs to ObjectiveUpgraded road from Tallinn to the N The use of the HDM model during projectLatvian and Russian borders may not analysis demonstrates if that road roughness isresult in reduced vehicle operating costs. improved, vehicle operating costs will be

reduced.

Safety improvements may not lead to M Foreign consultants with broad experience inreduced accidents. designing accident black spot improvements and

other aspects of the road safety program willassist the ENRA.

The use of the PMS, increased and M Training of staff to use the measures effectivelyimproved budgeting, and contracting for is part of the project design.routine maintenance may not lead tobetter road maintenance administration.

The EDI system may not be sufficiently M The EDIT staff made a detailed study of EDIeffective to attract private investors. systems in other countries to learn from their

experiences.

From Components to OutputsGovernment counterpart funds may not be M Experience with previous loans indicates that nomade available on a timely basis. special measures are necessary to mitigate this

risk.

Cooperation may not be received from all M Cooperation between the administrative andof the participating agencies in the road legislative branches in Estonia is fairly good.safety program.

The ENRA may not assign appropriate M The assignment of financial and procurementmanpower for improving its technical personnel will be a requirement of the project.capabilities.

The EDIT may not have the skills to M The EDIT personnel have already achieved achose the correct EDI system. high degree of competence in this field through

training and support from their Nordicneighbors.

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Overall Risk Rating M

Risk Rating - H (High Risk), S (Substantial Risk), M (Modest Risk), N(Negligible or Low Risk)

3. Possible Controversial Aspects:

No controversial aspects are anticipated for this project.

G. Main Loan Conditions

1. Effectiveness Condition

(i) The Project Implementation Unit (PII) has been established and is operating with resources, staff, andterms of reference satisfactory to the Bank.

(ii) Auditors have been appointed with the terms of reference satisfactory to the Bank.

2. Other [classify according to covenant types used in the Legal Agreements.]

I. Board Conditions:(i) Agreement to implement the plan of action to improve the financial management required for thehandling of project accounts, as outlined in the Agreed Minutes of Negotiations, Attachment 7.

(ii) Agreement to carry out the Procurement Action Plan, included as Attachmnent 8 in the Agreed Minutesof Negotiations, to improve ENRA's procurement capabilities.

(iii) Completion of first year's design and bidding documents.

II. Other Conditions(i) The Government will provide fnancing for the maintenance of the national road network by the ENRAat a level that increases on a regular basis at least at the same rate as increases in the overall EstonianGovernment Budget, using the year 2000 budget as a base, but in no case lower than the level of the year2000 budget in constant prices.

(ii) The Government will provide counterpart financing for the improvements in theTallinn-Tartu-Luhamaa road included in the project on a regular and timely basis as needed to carry out theagreed construction schedule.

(iii) Not later than November 30 of each year, the Government will furnish the Bank the annual workprogram for the next year, including procurement and financing plans, and will review these plans with theBank before implementing them.

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(iv) The Governnent will submit to the Bank a quarterly Project Progress Report not later that 30 daysafter the end of the quarter outlining progress made in the implementation of each project component, aswell as the problems encountered and how they are being addressed.

(v) The Government and the Bank will carry out a Mid-Term Review by December 31, 2001, and willmake any necessary adjustments in the project deemed necessary by that Review.

(vi) The Government will prepare, not later than 6 months after the closing date, a plan for the futureoperation of the Project activities, and the Government's input into the Implementation Completion Report(ICR), both of which will be reviewed with the Bank.

(vii) Agreement to implement an Environmental Management Plan (EMP) and Land Acquisition Plansatisfactory to the Bank that will assure compliance with Estonian and World Bank environmentalrequirements.

H. Readiness for Implementation

E 1. a) The engineering design documents for the first year's activities are complete and ready for the startof project implementation.

0 1. b) Not applicable.

Z 2. The procurement documents for the first year's activities are complete and ready for the start ofproject implementation.

Z 3. The Project Implementation Plan has been appraised and found to be realistic and of satisfactoryquality.

0 4. The following items are lacking and are discussed under loan conditions (Section G):

Project Implementation Plan (PIP) is completed and is available in the project files.

1. Compliance with Bank Policies

1 1. This project complies with all applicable Bank policies.D 2. The following exceptions to Bank policies are recommended for approval. The project complies with

all other applicable Bank policies.

__ _ _ _ _ _ _ _ _ __ _ _ _ _ _ _ _ _ i 1m(Kp' S 7E§ LoCesar Queiroz RicatdoA. H erin Basil G. KavalslyTeam Leader Sector Managerlr Country Manager/Director

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Annex 1: Project Design SummaryESTONIA: TRANSPORT PROJECTKey Perfornance

Hierarchy of Objectlves Indicators Monitoring & Evaluation C ritiaI AssumptornsSector-related CAS Goal: Sector Indicators: Sector/ country reports: (from Goal to Bank Mission)Develop adequate and Reduction in overall transport Quarterly progress reports, Improved transport systemeffective road infrastructure costs trade statistics, and will result in increased privateand supportive administrative Implementation Completion sector developmentand legal framework to Easier transit traffic through Report (ICR)support private sector Estoniadevelopment

Project Development Outcome I Impact Project reports: (from Objective to Goal)Objective: Indicators:1. Reduce road transport costs 1. I Roughness of road reduced 1. I Road roughness surveys 1. I Reduced transport costsbetween Estonia's two largest from an average IRI of 4.0 of completed sections and road will help stimulate privatecities and the Latvian and m/km to 2.5 m/km by project from Tallinn to the border sector developmentRussian borders completion

2. Improve Estonia's road 2.1 Fatalities per 10,000 2.1 Government accident 2.1 Improved road safetysafety performance vehicles reduced from 4.7 to statistics conditions will improve the

3.2 over the life of the project general investment climate

3. Strengthen Estonia's road 3.1 Routine maintenance 3.1 Quarterly progress and 3.1 Improved roadadministration contracted out increased from supervision reports, administration will lead to a

0 in 1999 to 30% of overall Government's annual budget, better road network, which inroutine maintenance budget and supervision reports turn will lead to an improvedover the life of the project investment climate3.2 PMS installed and 3.2 Use of the PMS willfunctioning: improve the ENRA'sBaseline: 10% efficiencyMid: 50%End: 100%3.3 Regular increases in theENRA's annual budget fromUS$50 m. in 1999 to US$100m. in 2005

4. Improve competitiveness of 4.1 Estonia's non-bulk transit 4.1 Transit statistics and 4.1 Improved trade supportingEstonia's trade supporting traffic increases by 5 percent annual economic data; infrastructure and servicesinfrastructure and services per year from 2000 to 2005 quarterly progress report will stimulate private

investment

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Output fror each Output Indicators: Project reports: (from Outputs to Objective)component:1. I Portions of the 1.1 Road upgrading completed Quarterly progress reports 1. I Upgraded road will lead toTallinn-Tartu road upgraded on the basis of an agreed and supervision missions reduced vehicle operating

schedule by km (see PIP) Mid-term review costs

2.1 Traffic management 2.1 Traffic management Quarterly progress reports and 2.1 Safety improvements willsystem installed, black spots system installed supervision missions lead to reduced accidentsimproved, safety education 2.2 Number of accident blackprogram under way spots per year improved

2.3 Safety education programin operation

3.1 Increased routine 3.1 Routine maintenance Quarterly progress reports and 3.1 Use of the PMS, increasedmaintenance by contract contracted out increased from supervision missions and improved budgeting,

0 in 1999 to 30 % of overall contracting for routineroutine maintenance budget maintenance will lead to betterover the life of the project road maintenance

3.2 Increased use of the PMS 3.2 PMS installed and administrationfunctioning:Baseline: 10%Mid: 50%End: 100%

3.3 Increased budget for the 3.3 Regular increases in theENRA ENRA's annual budget from

US$50 m. in 1999 to US$100m. in 2005

4.1 EDI system providing 4.1 Pilot EDI installed and Quarterly progress reports 4.1 A functional EDI systemsupport to exporters and operating will increase Estonia'simporters attractiveness to private

investors and will attracttransit traffic

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Project Components I Inputs: (budget for each Project reports: (from Components toSub-components: component) Outputs)1. Civil works to upgrade US$43.30 million equivalent Quarterly progress reports and 1. I Government counterpartportions of the supervision missions funds will be availableTallinn-Tartu-Luhamaa road.

2.1 Improvement in road US$4.35 million equivalent Quarterly progress reports and 2.1 Cooperation will besafety, including installation supervision missions received from all of theof a traffic management participating agenciessystem, upgrading of accidentblack spots, safety education

3.1 Technical services to US$1.50 million equivalent Quarterly progress reports and 3.1 The ENRA will assignstrengthen the ENRA, supervision missions appropriate manpower forincluding organizational carrying out these tasksrestructuring, improvedbudgeting, improvements inroad safety practices andprocedures, and contractingout of routine roadmaintenance.

4.1 Installation of a pilot EDI US$0.10 million equivalent Quarterly progress reports and 4.1 The EDIT will have theSystem supervision missions skills to identify an

appropriate EDI system andinstall it

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Annex 2: Project DescriptionESTONIA: TRANSPORT PROJECT

By Component:

Project Component I - US$43.30 millionRehabilitation and Upgrading of portions of the Tallinn-Tartu-Luhamaa Road(a) Rehabilitation of priority sections of the Tallinn-Tartu-Luhamaa road (US$30.0 millionequivalent):The renovation and upgrading of different sections totaling 176 km of the Tallinn-Tartu-Luhamaa roadtakes into consideration that in the future the road will be widened to 4 lanes. The road has a total length of288.7 km and travels diagonally across Estonia territory connecting the capital of Estonia (Tallinn) with thesecond largest city in population (Tartu) and the border with Latvia and Russia. IBRD support wouldinclude financing of design and supervision. The subcomponents to be included in the project are asfollows:

i) Rehabilitation of 24.4 km of the 48 km Kose-Mao road section, estimated to cost US$4.5 millionequivalent, would involve renovation consisting of stabilizing the subbase, putting down a new asphaltconcrete road surface, and associated shoulders, drainage and road markings.ii) The Mao-Tartu section is 93 km in length, with 79.2 km to be renovated as described above at anestimated cost of US$13.9 million equivalent.iii) 72.9 km of the 95 km Tartu-Luhamaa road to be renovated as described above at an estimatedcost of US$11.6 million equivalent.

(b) Widening of the Tartu Ring Road and Interchange (US$13.3 million equivalent):i) Construction of the second two lanes and renovation of the existing two lanes of a 5 km section at anestimated cost of US$7.5 million equivalent.ii) Construction of the Torvandi grade separated interchange at an estirnated cost of US$5.8 millionequivalent.

Project Component 2 - US$4.35 millionImprovement in Road SafetyThe Project's road safety component would include the construction of civil works to eliminate accidentblack spots, installation of long life road markings for new asphalt pavements, road side delineators,changeable traffic signs, automatic speed control cameras, creation of campaign materials for a road safetyeducational campaign, technical assistance to coach the traffic police, training courses in road safetystrategies and information campaigns, four regional training sessions in accident risk analysis and definitionof accident remedials, and software and training for analyzing the impact of remedial actions at the networklevel.

Project Component 3 - USS 1.50 millionInstitutional strengthening, training, office and laboratory equipmentThis component would provide continued assistance to the ENRA for strengthening its operationalcapacity, including assistance for continuing the work on routine maintenance by contract, improvement ofthe Pavement Management System (PMS), assistance in improving financial management, and additionalsupport for the ENRA personnel in road design and supervision for improvements in the main roadnetwork, including Via Baltica and the Tallimn-Tartu-Luhamaa road. It would also include some additionaloffice and laboratory equipment. The fmnancial support for this component is expected to be provided bybilateral agencies, including the EU and Finland. In addition, institutional strengthening would includeestablishing an environmental unit within the ENRA whose duties would include coordination ofenvironmental and socio-community studies and environmental oversight of project implementation.

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Project Component 4 - US$0.10 millionTrade facilitationThis component will include carrying out part of the action plan prepared during project preparation,including the specific actions aimed at developing an environment with (i) laws and regulations to ensurethe development of trade supporting services and infrastructure on an equal and fair basis, taking intoaccount the EU accession process; (ii) support for creation of an efficient public and private partnershipbased on combined resources, close and objective cooperation and the perception of a common goal; (iii)access to capital for the Estonian economy on equal terms and conditions as competitors; (iv) provision ofquality education, training and research on trade supporting services; and (v) easy Estonian access toglobal markets and foreign access to the Estonian market. It will also include the hardware and softwarerequired to implement a pilot electronic system for providing one-stop border clearances in Estonia by theyear 2003. The system installed will be compatible with EU standards and allow for a direct transfer ofelectronic data related to shipments at border crossing of Estonia's main EU partners. The component willbe carried out by the Estonian Infrastructure and Transit Development Foundation. Support from projectfinancing will be limited to the amount needed to obtain and install the hardware and software needed for apilot Internet-based EDI system.

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Annex 3: Estimated Project Costs

ESTONIA: TRANSPORT PROJECT

PrQJcWtX Gst YCmpo.t - i US mIiOn U S o UUpgrade of Tallinn-Tartu-Luhamaa Road: 0.00-Civil Works Contracts 10.90 25.40 36.30-Design & Supervision 0.65 0.65 1.30

Road Safety: 0.00- Consultant Services 0.00 0.56 0.56- Equipment 0.00 0.87 0.87- Civil Works 0.70 1.65 2.35

Institutional Strengthening: 0.00-Consultant Services 0.31 0.95 1.26

Trade Facilitation 0.00-Software and Hardware 0.00 0.10 0.10Total Baseline Cost 12.56 30.18 42.74Physical Contingencies 1.25 3.02 4.27Price Contingencies 0.66 1.58 2.24

Total Project Costs 14.47 34.78 49.25Front-end fee 0.25 0.25

Total Financing Required 14.47 35.03 49.50

Project- cost [o ' *g y $mfto U.SGoods 0.00 0.97 0.97Works 11.60 27.05 38.65Services 0.96 2.16 3.12Unallocated 1.91 4.60 6.51

Total Project Costs 14.47 34.78 49.25Front-end fee 0.25 0.25

Total Financing Required 14.47 35.03 49.50

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Annex 4: Cost Benefit Analysis Summary

ESTONIA: TRANSPORT PROJECT

Summary of Benefits and Costs:Total Cost of the Road Component (before contingencies) US$37.7 million equivalent

Net Present Value (based on cost of capital of 12 percent) US$33.0 million equivalent

Economic Internal Rate of Return (EIRR) 32.3 %

Main Assumptions:The detailed economic analysis is contained in the report entitled "Tallinn-Tartu Road EconomicEvaluation, May 1999" prepared by Rodrigo Archando-Callao and Marek Truu, and the report entitled"Tallinn-Tartu-Luhamaa Road Renovation Evaluation, September 1999" prepared by Marek Truu. Roaduser costs were computed using the HDM-III model based on user defined inputs on vehicle fleetcharacteristics, utilization, and economic unit costs. The average number of bus passengers was 22 and theequivalent standards axle (ESA) loading factor for heavy trucks and articulated tracks was 1.8 and 3.4respectively.

The road deterioration prediction of the HDM-III model was calibrated using the information collected forthe study on calibrating the HDM-4 model done in 1998 by the Phare program and the experience of thatstudy. The road sections pavement characteristics were obtained from the Estonia PMS databank.

Traffic data indicated that traffic has grown along the Tallinn-Tartu road on average at 8.2 percent peryear from 1993 to 1998. Based on this information, the traffic growth for the year 1999 was assumed tobe 8.0 percent per year for all vehicles. For the period 2000 to 2020, traffic predictions were based on theforecast made by the Tallinn Technical University, which indicates a growth rate of 3.7 percent for cars,1.8 percent for buses, and 2.4 percent for trucks up to the year 2010, and 1.0 percent for all types ofvehicles from 2011 to 2020.

Improvements of the various road sections were considered on the basis of four alternatives: (i) a basealternative composed of routine maintenance, 100 percent patching potholes, and renovation when the roadroughness reaches 6.0 IRI; (ii) renovation in the year 2000 followed by routine maintenance, 100 percentpatching of potholes, and future overlays when the road roughness reaches 3.5 IRI; (iii) a 5 centimeteroverlay in the year 2000 followed by routine maintenance, 100 percent patching of potholes, and futureoverlays every 5 years; and (iv) for some sections, a 4 lane widening alternative in the year 2000 followedby routine maintenance, 100 percent patching of potholes, and future overlays when the road roughnessreaches 3.5 IRI, and for other section a new 2 lane road construction in the year 2000 followed by routinemaintenance, 100 percent patching of potholes and future overlays when the road roughness reaches 3.5RI. In some sections, the renovation work will not be done on the entire section length but only onsegments that warrant renovation.

Net present value was calculated on the basis of 12 percent cost of capital.

Shadow pricing was not considered necessary since the alternative opportunities for labor in the existingeconomic environment are not plentiful. Therefore, the current costs do not need to be adjusted to reflect

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alternative opportunity costs. Further, the exchange rate, under a currency board system, is at a realisticlevel; therefore the values for costs and benefits used in the analysis do not need to be adjusted.

Sensitivity analysis / Switching values of critical items:A detailed sensitivity analysis was carried out in the Rodrigo-Truu economic analysis mentioned above foreach road section, assuming that (i) costs increased by 20 percent; (ii) benefits decreased by 20 percent;(iii) both costs increased and benefits decreased by 20 percent; (iv) value of time decreased by 20 percent;(v) accident benefits decreased by 20 percent; and (vi) the traffic growth rate was reduced by 50 percent.The sensitivity tests indicate that under none of the sensitivity scenarios did the internal rate of return fallbelow 12 percent, either for the entire program or for any of the selected alternatives.

IRR Sensitiv Anal sis ResultsA B C D E F

Value Accident TrafficOptimnal Base Investments Benefits of Time Benefits Growth

Priority Section Alternative Case +200/o -20% A + B -20% -20% -50%I 4 Purdi- Renovate 67.4 58.3 56.4 48.5 65.6 67.4 64.8

Mao I in 2000 _

2 Kose Au n2°0Rvate 50.3 43.1 41.6 35.1 48.8 50.3 48.0

3 6 Mao nI- Renovate 43.6 37.1 35.7 29.8 42.4 43.6 41.5______ IbInatsalu in 2000

4 Uhtio0 Widn in 36.2 29.1 27.7 22.2 30.7 28.6 32.4

5 5 Kose- New 2 21.0 17.6 16.9 13.9 19.7 21.0 19.7Voobu Lane Road 2

6 3 Voobu- New 2 27.5 23.2 22.3 18.6 25.7 23.7 25.7Purdi Lane Road 2

7 20atsalu- Widenin 24.7 20.3 19.4 15.6 21.0 22.2 22.3. Torvandi 2000 __

5Mo- New 28 MaoI Lane Road 20.0 16.6 15.9 13.0 17.9 18.6 18.3

Program 28.6 23.8 22.8 18.7 26.7 27.1 26.7

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Annex 5: Financial SummaryESTONIA: TRANSPORT PROJECT

Years EndingDecember 31

(US$ million)

Year I Year 2 Year 3 Year 4 Year 5 | Year 6 I Year 7Total Financing RequiredProject CostsInvestment Costs 4.9 9.9 12.3 14.8 7.6 0.0 0.0Recurrent Costs 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Total Project Costs 4.9 9.9 12.3 14.8 7.6 0.0 0.0Front-end fee 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Total Financing 4.9 9.9 12.3 14.8 7.6 0.0 0.0

FinancingIBRDIIDA 2.2 6.0 6.0 6.0 4.9 0.0 0.0Government 2.1 3.3 5.7 8.2 2.1 0.0 0.0

Central 0.0 0.0 0.0 0.0 0.0 0.0 0.0Provincial 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Co-financiers 0.6 0.6 0.6 0.6 0.6 0.0 0.0User Fees/Beneficiaries 0.0 0.0 0.0 0.0 0.0 0.0 0.0Others 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Total Project Financing 4.9 9.9 12.3 14.8 7.6 0.0 0.0

Main assumptions:Excluding taxes.

Financial Management Assessment

Existing Financial Management SystemThe financial management system of the Estonian National Road Administration (ENRA) and the ProjectImplemnentation Unit (PIU) within the ENRA was reviewed during project appraisal. The main focus of thecurrent financial management system in the centralized accounting department is on transactional controlover local expenditures, recording individual transactions and compiling data for reporting by govemmentbudget categories. The existing accounting software "Eeva" which runs on Windows 95 is not able toproduce the required level of periodic project management reports, including linking project financial datawith physical progress and procurement management. Project accounting is not integrated into the existingsystem but carried out at the PIU on a spreadsheet. There is very limited focus on meeting projectaccounting and financial reporting, and capturing sources and uses of funds, assets and liabilities insufficient detail to satisfy Banic reporting requirements.

Internal Controls and Staffing. Internal controls within the ENRA, the Ministry of Transport andCommunications (MOTC) and the Ministry of Finance (MOF), are considered adequate. The controlmechanisms in place include (i) operation of budgeting system and regular monitoring of actual financialperformance with budget and targets; (ii) clear written operational, financial, and accounting policies and

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procedures; (iii) control over assets; and (iv) internal and external audit mechanism. Internal controlmechanisms for the project are expected to include (i) segregation of financial and procurement functions;(ii) regular monitoring of actual financial performance with budgets and targets, monitoring of physical andfinancial progress; and (iii) timely feedback on operation of the financial management system. Accountingfunctions are carried out in the ENRA's centralized Finance Department, which has a staff of five includingthe chief accountant, deputy, chief specialist and two senior accountants. The chief accountant reportsdirectly to the Director General. The Deputy Director General is the head of the PIU within ENRA. Theaccountant to be recruited for the PIU will assist the Finance Department in project financial reporting andloan disbursements.

Major aspects which need to be addressed for establishment of a satisfactory financial management systemare (i) staffing of the finance function within the PIU and training of staff in better financial managementpractices; (ii) establishment of clear financial policies and procedures; and (iii) satisfactory auditingarrangements that will be used during project implementation. Detailed assessment of the financialmanagement system including an agreed time-bound action plan and organization charts are in the ProjectFiles.

Proposed Financial Management SystemProject Accounting. An important requirement is the improvement of the accounting system in the PIUwhich will be responsible for overall project financial management and reporting, and ensuring that thesystem is commensurate with the size and scope of the project. The computerized system will ensure betterclassification, compilation, analysis of accounting data, improve controls over data integrity, and ensuretimeliness and quality of accounting and financial reporting. The existing accounting system will becustomized and chart of accounts designed for the project. Agreement was reached during negotiations thatan accounting and financial reporting system adequate to produce PMRs will be in place by June 30, 2000.

Financial Reporting. Consolidated Project Management Reports (PMRs) and Project FinancialStatements will be prepared for the whole project and generated from the computerized financialmanagement system. The format of such reports was agreed with the project implementing agencies and isin the project files. The PMRs will be prepared quarterly and will comprise financial reports, progressreports, and procurement management reports. The Project Financial Statements will be prepared annuallyto provide financial management information including that required under PMRs.

Auditing Arrangements. The MOF will be responsible for engaging extemal private auditors beforecommencement of Project activities to ensure that the audit will be completed in a timely manner. Theaudit will include Project Financial Statements, Special Account, PMRs, and assessment of adequacy ofaccounting and intemal control systems, in accordance with Intemational Standards on Auditing. Theterms of reference for the audit will be agreed with the Bank.

Readiness for Implementation(a) A financial management system for the project will be developed and a Project FinancialManagement Manual updated with a common set of financial policies and procedures for all agenciesimplementing various components of the project. An adequate financial management system will enableeasy consolidation of project fmancial statements and provide accurate and timely information on the statusof the project. Assurances were obtained during negotiations that an adequate accounting and fmancialreporting system will be procured and installed at the PIU for the entire, and that financial managementtechnical consultants will be engaged to support the operation of the financial management system andtraining of project staff.

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(b) A fully operational PIU is in place.

(c) Private independent auditors will be engaged before commencement of project activities to ensurethat the audit will be completed in a timely manner. During negotiations, the MOF, which is responsiblefor auditing arrangements, confrmed that a Letter of Invitation has been sent to three short-listedinternational audit firms of PriceWaterhouseCoopers, Ernst Young, and KPMG to submit proposals for theaudit. Appointment of independent auditors is a condition of effectiveness.

RisksSeveral steps are being taken to ensure that a satisfactory financial management system is establishedbefore the start of the project. This risk is mnitigated by the fact that the MOF, which is administering theSpecial Account, has successfully piloted and disbursed using PMR-based disbursement procedures.

Another risk arises from possible delays in recruiting financial staff in the PIU with satisfactoryqualifications and training on financial management. Engagement of financial management technicalsupport consultants will mitigate such risk.

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Annex 6: Procurement and D;sbursement Arrangements

ESTONIA: TRANSPORT PROJECT

Procurement

Civil works, goods, and services under IBRD-financed components shall be procured in accordance withthe Guidelines Procurement under IBRD Loans and IDA Credits, January 1995, revised in January andAugust 1996, September 1997, and January 1999. Consultant services shall be procured in accordancewith the Guidelines Selection and Employment of Consultants by World Bank Borrowers, January 1997,revised September 1997, and January 1999. The procedures outlined in the Guidelines will apply to allcontracts for consulting services financed in whole or in part from the Bank loan or grants or trust fundsimplemented by the beneficiary. The World Bank's Standard Bidding Documents and Standard Requestsfor Proposal will be used. A General Procurement Notice for the Project will be published in DevelopmentBusiness (UNDB, No. 524) on December 16, 1999 and will be renewed annually. A workshop forlaunching the project will be held in April 2000.

Procurement methods (Table A)

Civil works estimated to cost US$1,000,000 equivalent or more and goods estimated to cost US$100,000equivalent or more will be procured using International Competitive Bidding (ICB). Since there are notlarge or complex works contracts in this project, the qualification method will be postqualification. Smalland scattered works estimated to cost less than US$1,000,000 equivalent per contract, up to an aggregateamount of US$2,700,000 equivalent, may be procured under National Competitive Bidding (NCB).Contracts for goods, to the extent practicable, shall be grouped into bid packages estimated to costUS$100,000 equivalent or more. Goods for the Trade Facilitation Component (computer hardware andsoftware) up to an aggregate of US$100,000 equivalent may be procured under contracts awarded on thebasis of comparison of price quotations obtained from three suppliers from at least two different countrieseligible under the Guidelines.

The main selection method of consultant services will be Quality and Cost Based Selection. Due to thenature of the project, the need for individual consultants may arise. In this case individual consultants, upto an aggregate amount of US$40,000 equivalent, will be selected on the basis of the procedures forSelection of Individual Consultants established in the Guidelines.

Table A: Project Costs by Procurement Arrangements(US$ million equivalent)

.~~~~~~~~~~~Fr~rmn . _ o

ei pe.,ijtue4Caory -c -iB ; Total Cost__________ _____ _ __ ___ ..... r -_____

1. Works 41.80 2.70 0.00 0.00 44.50(20.50) (1.35) (0.00) (0.00) (21.85)

2. Goods 1.00 0.00 0.10 0.00 1.10(1.00) (0.00) (0.10) (0.00) (1.10)

3. Services 0.00 0.00 1.80 1.85 3.65(0.00) (0.00) (1.80) (0.00) (1.80)

4. Miscellaneous 0.00 0.00 0.00 0.00 0.00((0.00) .00) 0.00) (0.00) (0.00)

5. Front-end fee 0.00 0.00 0.25 0.00 0.25

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(0.00) (0.00) (0.25) (0.00) (0.25)Total 42.80 2.70 2.15 1.85 49.50

(21.50) (1.35) (2.15) (0.00) (25.00)

t Figures in parenthesis are the amounts to be financed by the Bank Loan. All costs include contingencies

2Includes goods to be procured through international shopping, consulting services, technical assistanceservices.

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Table Al: Consultant Selection Arrangements (optional)(US$ million equivalent)

Consu-t-nt $Ie tl: n MbthoctServices--..EE------

Expenditure QCBS QwS i-8 - .Cw O l -otat cosit;Categ'L. = _"''': ____

A. Firms 1.76 0.00 0.00 0.00 0.00 0.00 1.85 3.61(1.76) (0.00) (0.00) (0.00) (0.00) (0.00) (0.00) (1.76)

B. Individuals 0.00 0.00 0.00 0.00 0.00 0.04 0.00 0.04(0.00) (0.00) (0.00) (0.00) (0.00) (0.04) (0.00) (0.04)

Total 1.76 0.00 0.00 0.00 0.00 0.04 1.85 3.65(1.76) (0.00) (0.00) (0.00) (0.00) (0.04) (0.00) (1.80)

1\ Including contingencies

Note: QCBS = Quality- and Cost-Based SelectionQBS Quality-based SelectionSFB = Selection under a Fixed BudgetLCS = Least-Cost SelectionCQ = Selection Based on Consultants' QualificationsOther = Selection of individual consultants (per Section V of Consultants Guidelines),Commercial Practices, etc.

N.B.F. = Not Bank-financedFigures in parenthesis are the amounts to be financed by the Bank Loan.

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Prior review thresholds (Table B)All contracts procured under ICB will be subject to the Bank's prior review based on the procedures setforth in Paragraphs 2 and 4 of Appendix I to the Guidelines. All contracts for goods procured under OtherProcuremnent Methods will be subject to the Bank's prior review. For work contracts procured under NCB,only the first two contracts will be subject to Bank's prior review.

Consultants services procured under Quality and Cost Based Selection will be subject to the Bank's priorreview. Individual consultants up to an aggregate amount of US$40,000 equivalent may be hired for shortterm specialized services. Prior review will not apply to (i) contracts for the employment of consultingfirms estimated to cost less than US$75,000 equivalent each; or (ii) contracts for the employment ofindividuals estimated to cost less than US$40,000 equivalent each. However, said exceptions to the Bankprior review shall not apply to (ii) the termns of reference for such contracts; (ii) assignments of a criticalnature, as reasonably determined by the Bank; (iii) amendments to contracts for the employment ofconsulting firms raising the contract value to US$75,000 equivalent or above; or (iv) amendments tocontracts for the employment of individual consultants raising the contract value to US$40,000 equivalentor above.

Table B: Thresholds for Procurement Methods and Prior Review

1. Works >1,000 ICB All (41.8)

Disbursement

Allocation of loan proceeds (Table C)The proposed IBRD loan of EUR24.8 million (US$25.0 million equivalent) would be disbursed over aperiod of 5 years. The expected closing date is December 31, 2005.

Table C: Allocation of Loan Proceeds

Expndltur Cat.gpAy iwit I,..-,. .$$mtllion .- wV~g PqrF,-;Civil Works 21.85 50%Goods 1.10 100% of foreign expenditures and 80%

of local expendituresConsultants Services 1.80 100%

Total Project Costs 24.75Front-end fee 0.25

Total 25.00

Use of statements of expenditures (SOEs):

SOE procedures would be used for contracts for: (i) goods costing less than $ 100,000 equivalent; (ii)services of consulting firms costing less than US$75,000 equivalent each and services of individualconsultants costing less than US$40,000 equivalent each; and (iii) works contracts valued at less thanUS$500,000. The required supporting documentation would be retained by the PIU for at least one yearafter receipt by the Bank of the audit report for the year in which the last disbursement was made. Thisdocumentation would be made available for review by the auditors and by visiting Bank staff upon request.SOE procedures will be discontinued once PMR-based disbursements are approved.

Special account:To expedite disbursements, a Special Account in Euros will be opened in a conmmercial bank acceptable tothe Bank. The amount to be disbursed to the Special Account will be the amount required to finance theBank's share of eligible expenditures for the reporting period. Authorized allocation to the Special Accountwould be US$1.5 million equivalent. However, during the early stages of the project, the initial allocationwould be limited to US$750,000 equivalent until the aggregate disbursements and sum of all outstandingspecial commitments under the Loan have reached the level of US$3.0 rnillion equivalent.

Traditional Disbursement Procedures. Applications for Withdrawal will be used to request the IBRD for(i) reimbursement for eligible expenditures incurred under the Project; (ii) requests for direct payment tothird parties; or (iii) requests for replenishment for expenditures paid with funds from the Special Account.Replenishment applications should be submitted on monthly basis and must include reconciled bankstatements as well as appropriate supporting documents. The minimum application size for paymentsdirectly from the Loan Account for issuance of Special Commnitments is 20 percent of the Special Accountauthorized allocations.

PMR-based Disbursement Procedures. Once the Bank has approved the Borrower's financial reportingsystem for PMR-based disbursements, the Borrower may choose to substitute traditional disbursementswith PMR-based disbursement procedures. The following procedures shall be followed for PMR-baseddisbursements: (i) all withdrawals from the Loan Account shall be deposited by the Bank into the Special

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Account based upon eligible Loan categories indicated in Table C above; (ii) applications for withdrawalform must be supported by PMRs and Special Account bank statements covering the reporting period; and(iii) the Bank should receive Quarterly PMRs within 45 days from the end of the preceding quarter,whether or not further advances are required. An action plan has been designed and discussed with theborrower to establish and maintain a financial management system which will lead to the production ofPMRs by June 30, 2000. The format and timing of submission of the PMRs was agreed at negotiations.

Flow of Funds:The Ministry of Finance (MOF) would be responsible for administration of the Special Account, includingsubmitting withdrawal applications and replenishment of the account. Working closely with the MOF andagencies implementing various components of the project, the PIU would prepare supporting projectexpenditure documents, including PMRs to accompany withdrawal applications.

Retroactive Financing:Retroactive financing up to EUR 1 million will be allowed for eligible project-related procurement carriedout after December 10, 1999 and before the Loan signing date, in accordance with World Bankprocurement procedures.

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Annex 7: Project Processing Schedule

ESTONIA: TRANSPORT PROJECT

. .Scedu~ Plne M . . M ,. .

Time taken to prepare the project (months) 32First Bank mission (identification) 09/15/97 09/15/97Appraisal mission departure 10/19/99 10/19/99Negotiations 12/01/99 12/10/99Planned Date of Effectiveness 06/30/2000

Prepared by:

ECSIN

Preparation assistance:

All of the staff listed below.

Bank staff who worked on the project included:

Name SpecialityCesar Queiroz Transport EngineerRobert Nooter EconomistNjeri Muhoho Financial SpecialistGerald Ollivier Transport EngineerEwa Rodzik Operations AnalystJesus Renzoli Procurement SpecialistZoe Kolovou CounselAndrina Ambrose-Gardiner Disbursement OfficerSven-Ake Blomberg Highway EngineerAnca Dumitrescu Projects OfficerAnders Bonde Highway EngineerMarie Laygo Team Assistant

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Annex 8: Documents in the Project File*

ESTONIA: TRANSPORT PROJECT

A. Project Implementation Plan

PIP dated December 10, 1999

B. Bank Staff Assessments

Identification Mission Back-to-Office Report, October 27, 1997Preparation Mission Back-to-Office Report, February 23, 1999Pre-appraisal Mission Back-to-Office Report, July 13, 1999Appraisal Mission Back-to Office Report, November 8, 1999Financial Management Assessment Report, November 27, 1999

C. Other

Tallinn-Tartu Road Economic Evaluation, May 1999 by Rodrigo Archando-Callao and Marek Truu

Tallinn-Tartu-Luhamaa Road Renovation Evaluation, September 1999 by Marek Truu

Economist Intelligence Unit: Country Report, Estonia 2nd quarter 1999

Strategic Plan for Trade & Transport Supporting Infrastructure and Services, Action Plan and supportingreports, Ministry of Transport and Communica