44516 noTE no. 38 ­ May 2008GRIDLINES Sharing knowledge, experiences, and innovations in public-private partnerships in infrastructure A demand-driven design for irrigation in Egypt Minimizing risks for both farmers and private investors Aldo Baietti and Safwat Abdel-Dayem A new type of irrigation project, designed and maintenance or financing schemes enabling for the West Delta region of the Arab farmers to invest in on-farm pumping equipment. Republic of Egypt, promises to usher in The role of the private sector was limited because an era of cost recovery and sustainable oper- the projects dealt with smaller systems or with ation and maintenance. The project, which privately owned on-farm systems. emphasizes involving private investors and the farming community, deploys several innova- More recent projects are expanding the role of the tive mechanisms, such as a strategy to miti- private sector in financing and operation of large- gate demand, commercial, and currency risks. scale irrigation projects based on the utility model. Unlike the centrally planned projects of the The Guerdane Concession Project, currently under past, this one is demand driven. The focus is on construction in Morocco, is based on the build- developing an irrigation network with features transfer-operate public-private partnership. The that farmers want and are willing to pay for. West Delta Project, another large-scale project, is based on a design-build-operate partnership. This The irrigation sector plays a vital part in food project introduces reforms in the sector as well as production and in the development of rural new approaches for project development, transac- economies. But the sector has historically faced tion design, and public-private arrangements. difficult challenges in mobilizing financing. Irri- gation infrastructure is costly compared with the limited budgetary resources of developing coun- The project concept tries. And even for the projects that have been funded--largely from public sources--maintaining Since the late 1960s, with the support of the the infrastructure remains a serious problem. government, Egyptian farmers have been reclaim- ing desert land to compensate for the loss of Cost recovery in the sector has been too low even agricultural land in the Nile Delta due to urbaniza- to cover operation and maintenance. Indeed, most tion. One of those areas of land reclamation is the traditional irrigation schemes have been founded West Delta region, consisting of about 255,000 on massive public funding programs, which in feddans1 on the fringes of the Nile Delta. Through many cases resulted in an unplanned, long-term the exploitation of groundwater resources, the fiscal burden on national governments. Many schemes were abandoned after a prolonged period of neglect. Aldo Baietti is a senior financial specialist in the Energy, What role have public-private partnerships played Transport and Water Department in the World Bank's in the irrigation sector? A study was conducted in Sustainable Network Vice Presidency. 2005 to document the experience (Tardieu 2005). Dr. Safwat Abdel Dayem is Professor Emeritus, National InPUBLIC-PRIVATEstudy reviewed about 21 projects involv- all, the INFRASTRUCTURE ADVISORY FACILITY Water Research Center, and General Coordinator, West ing some level of private participation, mostly Delta Water Conservation and Irrigation Rehabilitation taking the form of service contracts for operation Project, Egypt. Helping to eliminate poverty and achieve sustainable development through public-private partnerships in infrastructure PUBLIC-PRIVATE INFRASTRUCTURE ADVISORY FACILITY TAblE 1 Advantages of a piped system Feature Piped system Open-channel system Cost Generally costlier per unit of network Traditional low-cost solution but high-fixed-cost element Implementation Very flexible. System can be adjusted Not adaptable to large variances to actual demand in demand Land acquisition Minimal Substantial. Can greatly reduce agricultural area Commercial control Strong controls for water theft, Lower distribution efficiency, higher unaccounted-for water, and disconnection commercial risks Environmental Minimal impact If not supervised closely, channels can become dump sites area has developed into a flourishing agricultural demand-driven approach was needed. The focus economy since the early 1990s. of preparation activities therefore shifted from producing demand forecasts and technical speci- Today the area contributes $300­500 million to fications to consulting with and surveying farmers the Egyptian economy annually, providing high- to ensure that their needs and their willingness value fruits and vegetables to the domestic market to connect and pay for services would guide the and to export markets in the European Union. development of technical design options and Moreover, the area is now home to 500,000 people financing alternatives along with commensurate and provides 250,000 jobs in the agricultural tariffs. The West Delta approach put the farmers sector alone. But the rapid development has led in the driver's seat. The aim was to give the farm- to excessive exploitation of groundwater reserves. ers the opportunity to: Groundwater pumping has gone deeper and The become costlier as water quality has eroded. · Clearly formulate their expectations from a private provider on service and performance West Delta Concern about the collapse of this thriving agri- standards. approach cultural economy prompted the government to · Understand what the different options for conceptualize a surface water irrigation project service were, how much they would cost, and put the that would begin to replace groundwater pump- how they compared with existing arrangements farmers in ing. The government also took the opportunity to involving groundwater pumping. adopt a bold set of reforms in the sector--part of a · Take an early stake in the preparation process, the driver's new approach to irrigation projects founded on full which would ultimately lead to more successful seat cost recovery, volumetric pricing, formalization of implementation. water entitlements, and private participation in financing and management. Opting for a piped system While an open-channel irrigation system is gener- ally considered to be the most desirable and Project preparation cost-effective choice, the consultation revealed a number of important considerations about To support the government's work, the World Bank construction cost that led to a reevaluation of the commissioned a project assessment in 2004­05 conventional logic. In addition to the costs of an using a grant from PPIAF. The assessment helped open-channel and piped system being closer than the government develop a conceptual framework previously thought, a piped system was found and transaction model for implementing a surface to better match the service needs of the farmers water irrigation system that would recover costs in the area and to offer distinct advantages for a and involve the private sector. private operator that would be expected to assume demand and commercial risks (table 1). Adopting a demand-driven approach The complexity of the project and the signifi- Moreover, a piped system would allow the private cant risks associated with it made clear that a operator to better manage its cash flow. Because A demand-driven design for irrigation in Egypt TAblE 2 A fair allocation of project risks Type of risk Operator Government Farmers Demand 3 Planning and design 3 Construction local 3 Operational and commercial 3 investors are Water resource 3 most active Foreign currency 3 in South and Debt financing 3 East Asia Credit 3 Equity financing 3 3 Inflation 3 a piped system could be constructed in smaller, Indeed, much of the work of designing the public- contained modules, it would reduce the "lumpi- private partnership focused on assessing and ness" of the traditional investment profile for an mitigating risks and determining which party irrigation project. should assume the risks. The financial analysis, supported by a dynamic financial model, looked at Establishing a water user council how a range of key variables would affect potential In addition to carrying out extensive consultations tariff levels. with farmers in the area, the early preparation work also involved setting up a representative The aim was to identify elements of the trans- advisory group of farmers--a water user council-- action that would minimize tariffs and mitigate to participate in project preparation on behalf of risks. Preeminent among these risks are demand all the beneficiaries. The water user council has risk, related to the risk of continued groundwa- taken an active part throughout the process, and ter pumping, and financing risks, including risks it will continue to have a role during implementa- related to the ability to secure the longest possible tion, in monitoring the relationships and potential maturities. Needless to say, the longer the terms conflicts between farmers on such matters as water for debt repayment, the lower the user tariffs. entitlements, water use, and alternating hours of irrigation. Reducing demand risk Demand risk would be a major obstacle for any private operator. To reduce that risk, and the The transaction risk of designing a system that exceeds demand, a "subscription period" was built into the proj- The public-private partnership for the West Delta ect design phase. During this period farmers will Project is designed as a hybrid scheme based sign up to be connected to the new network and largely on the design-build-operate (DBO) model. pay a deposit to secure their commitment. After The transaction essentially involves contract- enough farmers have subscribed, the operator will ing a private operator to take over a concession design the system to reach those participating. area consisting of about 190,000 feddans in the The subscription deposits not only serve as proof southern part of the West Delta, to design and of commitment; they also provide the private construct the system, and to assume full opera- operator with additional capital to finance initial tional responsibility for 30 years, including the construction. associated demand and commercial risks. The public sector will assume ownership of the assets The question of how to structure the tariffs was and take on most of the financing-related respon- again settled by carefully weighing the demand sibilities and risks. These include the currency risk factors involved. The piped system would risk associated with a potential devaluation of the allow the use of volumetric tariffs, but a purely Egyptian pound. volumetric tariff, though it encourages efficient use of piped water, may not sufficiently discour- draw on the loan facility to cover up to 85 percent age conjunctive use of pumped groundwater and of the initial construction costs, with the other 15 ensure the recovery of the fixed capital costs. With percent to come from the operator's own sources. input from the water user council, stakeholders Once the loan facility is exhausted, the operator is eventually settled on a two-part tariff: farmers required to obtain its own financing to complete would pay both an annual fixed fee based on the the expansion of the concession area. land area connected and a volumetric fee based on the amount of water used. Financing arrangements for the project are also designed to deal with the currency risk. The govern- The two-part tariff should help the project maxi- ment will assume the currency risk related to the mize utilization efficiency and ensure positive cash funds it initially makes available to the operator. flows, especially through the critical early years. The private operator's repayment obligation to the More important, the flat fee will ensure the mini- government is denominated in Egyptian pounds, mum revenue base the operator needs to meet its while the government adds a premium of several concession fee payments to the government--and percentage points to the operator's repayment ensure coverage for the government in repaying obligation to cover its own currency risk exposure its loan--regardless of how much water is actually in repaying the dollar-denominated loan facility. drawn through the surface water network. Dealing with currency risk Conclusion The technical analysis determined that a project size of between 60,000 and 90,000 feddans would By April 2008 the project had reached the bidding achieve unit costs within the affordability thresh- stage, with a number of international and local olds indicated by the farmers in the user survey. firms participating. The West Delta Project sets More important, the cost curve revealed that the important new precedents for the irrigation sector network development costs would continue to in Egypt and is already the source of some exciting drop marginally as the operator expands to 100 developments: The project is using a streamlined, percent coverage. That means that the operator largely output-based procurement and disburse- would continue to have an incentive to expand the ment procedure. Its preparation has involved network and connect additional farms, as its profit farmers' groups to the greatest extent possible. margin would also increase. And the transaction has introduced new ways to reduce the risks of both public and private part- As suggested, one factor in the affordability equa- ners. tion is the maturity of financing. While local currency financing may be available in Egypt, The set of new approaches that are being pioneered it generally cannot be offered in the maturities in the West Delta Project represents a sustainable needed to make the tariff affordable and the proj- framework for private investment in large- and ect viable. That means a need for foreign currency medium-scale irrigation--one that goes substan- financing, which would introduce currency risk--a tially beyond earlier approaches for involving daunting obstacle to any project that generates private participation in the sector. That framework revenue in local currency but must borrow in has already generated interest for possible use in foreign exchange. new irrigation projects in Ethiopia, India, Turkey, and Zambia. GRIDLINES The government will support the financ- ing for the initial 90,000 feddans (of Note Gridlines share emerging knowledge the total 190,000 feddans of the 1. One feddan equals about 0.42 hectares. on public-private partnership and give an concession area) through a $175 overview of a wide selection of projects from Reference various regions of the world. Past notes can be million loan facility made avail- Tardieu Henri, et al. "Public-private partnership in irrigation and found at www.ppiaf.org/gridlines. Gridlines are a able by the World Bank and drainage: need for a professional third party between farmers and publication of PPIAF (Public-Private Infrastructure Agence Française de Développe- PUBLIC-PRIVATE INFRASTRUCTURE ADVISORY FACILITY government." Irrigation and Drainage 55.3 (2005): 253­263. Advisory Facility), a multidonor technical assistance ment. The private operator can facility. Through technical assistance and knowledge dissemination PPIAF supports the efforts of policy makers, nongovernmental organizations, research institutions, and others in designing and implementing strategies to tap the full potential of private involvement in c/o The World Bank, 1818 H St., N.W., Washington, DC 20433, USA infrastructure. The views are those of the authors and do PhOnE(+1) 202 458 5588 FAX (+1) 202 522 7466 not necessarily reflect the views or the policy of PPIAF, PUBLIC-PRIVATE INFRASTRUCTURE ADVISORY FACILITY GEnERAl EMAIlppiaf@ppiaf.org WEb www.ppiaf.org the World Bank, or any other affiliated organization.