Document of The World Bank Report No. 14965-UG STAFF APPRAISAL REPORT UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT NOVEMBER 6, 1995 Public and Private Enterprise Division Eastern Africa Department CURRENCY EQUIVALENTS Currency Unit = Uganda Shilling (U Sh) US$1.00 U Sh 931 U Sh 1.00 = US$ 0.001 SDR 1.00 - US$ 1.49385 WEIGHTS AND MEASURES Metric System ABBREVIATIONS AND ACRONYMS BUDS Business Uganda Development Scheme CDC Commonwealth Development Corporation DFCU Development Finance Company of Uganda DRS Depository Receipt System EADB East African Development Bank EAVCF East African Venture Capital Fund GOU Government of Uganda ICBP Institutional Capacity Building Project IDA International Development Association (World Bank Group) IFC International Finance Corporation (World Bank Group) IPS Industrial Promotion Services (Aga Khan Group) MFEP Ministry of Finance and Economic Planning NUMA Northern Uganda Manufacturers Association PSC Project Steering Committee PSCP Private Sector Competitiveness Project PSD Private Sector Development PSF Private Sector Foundation UCB Uganda Commercial Bank UDC Uganda Development Corporation UEF Uganda Equity Facility UIA Uganda Investment Authority UMA Uganda Manufacturers Association USAID United States Agency for Internatiofial Development USSIA Uganda Small Scale Industries Association Government Fiscal Year July I - June 30 This report is based on the findings of a joint Ugandan-IDA appraisal team. The Uganda Private Sector T'ask Force comprises: (a) from the private sector: William Kalema (Uganda Manufacturers Association). James Kalibbala (Uganda Small Scale Industries Association), Ida Wanendeya (Uganda Women's Finance and Credit Trust). Aga Sekalala (Sekalala Enterprises), and Felix Odur (Northern Uganda Manufacturers Association): and (b) from Government: Keith Muhakanizi (Ministry of Finance and Economic Planning). Allister Moon (Ministry of Finance and Economic Planning); Nimrod Waniala (Ministry of Trade and Industry), and George Rubagumya, deputized by Angela Katama (Uganda Investment Authority). The Ugandan Private Sector Task Force was assisted by a team of consultants comprising Messrs. R. Moses T'hompson (Team Technologies). Tom Nastas (Innovative Ventures) Andrew Singer (A+G Singer). Steve Graubart and John Kaggwa. The IDA team was led by Stefano Migliorisi (AF2PE) and included Iradj Alikhani (AF2UG). Thomas O'Brien (AF2PE), Marie Sheppard (AF2PE ). Russell Muir (PSD). Aldo Baietti (CFSPS), Andrew Danino (IFC) and Peter Kyle (LEGPS). Amanda Carlier (AFTPS), Gerard Byam (AF2PE) and Tom Milton (IFC) also contributed to sections of the report. The Lead Advisor is Mr. J. Katz and Peer Reviewers are Messrs. D. Wilton and M. Sarris. The Acting Sector Division Chief and the Country Director are Luciano Borin and James W Adams respectively. REPUBLIC OF UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT STAFF APPRAISAL REPORT Table of Contents CREDIT AND PROJECT SUMMARY .. ..........................................................ii SECTION I. SECTOR BACKGROUND ...........................................................1 A. Macro-Economic Context and Policies ...........................................................1 B. Strategy for Private Sector Development. An Overview ...........................................................2 C. Size and Growth of Markets ...........................................................3 D. Improving the Policy Environment ...........................................................3 E. Upgrading Business Infrastructure ...........................................................4 F. Filling Gaps in Firn s' Capabilities ...........................................................6 G. IDA's Previous Role and Lessons Learned ...........................................................8 H. Rationale for IDA involvement .......................................................... 10 SECTION II. THE PROJECT .......................................................... 12 A. Project Purpose and Beneficiaries .......................................................... 12 B. Participation in Project Design .......................................................... 12 C. Summary Project Description .......................................................... 13 D. Detailed Project Description .......................................................... 15 1. The Private Sector Foundation Component .......................................................... 15 2. The "Business Uganda" Development Scheme Component ................................................. 18 3. The Equity Financing Component .......................................................... 20 4. The Investment Promotion and Facilitation Services Component ........................................ 25 E. Project Cost and Financing Plan .......................................................... 28 F. Project Implementation .......................................................... 30 G. Procurement .......................................................... 32 H. Disbursements .......................................................... 35 I. Accounting Auditing and Reporting .......................................................... 37 J. Supervision Plan .......................................................... 39 K. Environmental Impact .......................................................... 39 L. Benefits and Risks .......................................................... 40 SECTION III. AGREEMENTS REACHED AND RECOMMENDATION ......................... 43 A. Events occurring before Appraisal .......................................................... 43 B. Events prior to Negotiations .......................................................... 43 C. Assurances at Negotiations .......................................................... 43 D. Actions completed prior to Board Presentation .......................................................... 44 E. Conditions of Credit Effectiveness .......................................................... 44 F. Conditions of Disbursement .......................................................... 44 G. Recommendation .......................................................... 45 Tables in the Main Text Table 1 - Links between the Proposed Project and Other World Bank or Donor Projects ............ 9 Table 2 - Project Cost Summary (in US$ million) .............................................................. 29 Table 3 - Financing Plan .............................................................. 29 Table 4 - Procurement (in US$ thousand) ............................................................... 33 Table 5 - IDA Credit Summary Allocations .............................................................. 36 Table 6 - Estimated Disbursement Schedule (in US$ thousand) .................................................. 37 Figures in the Main Text Figure 1 - Uganda Private Sector Competitiveness Project. Overall Rationale ........................... 16 ANNEXES Annex 1 - Private Sector Policy Statement Annex 2 - Implementation Schedules Annex 3 - Summary Monitoring Indicators Annex 4 - Project Costs Annex 5 - Supervision Plan Annex 6 - Project Implementation Structure Annex 7 - Outline of the Project Implementation Plan Annex 8 - Membership of the Private Sector Foundation Annex 9 - Summary Description of Project Counterparts Annex 10- Economic Analysis Annex 11- Documents in Project File REPUBLIC OF UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT STAFF APPRAISAL REPORT CREDIT AND PROJECT SUMMARY Borrower: Republic of Uganda Implementing Agency: Private Sector Foundation (PSF) Beneficiaries: Ugandan private firms and entrepreneurs. Poverty: Not applicable. Amount: SDR8.3 million (US$12.3 million equivalent) Terms: Standard, with 40 years maturity Commitment Fee: 0.50% on undisbursed balances beginning 60 days after signing, less any waiver. Onlending Terms: The credit proceeds will be transferred to the PSF as grants, and transferred as such to private firms on a 50/50 matching basis to purchase business services, used directly by the PSF or invested in 6% preference shares of eligible equity funds. Financing Plan: See para. 2.43-2.48. Net Present Value: US$7.8 million at a discount rate of 12 percent (economic rate of return of 23 percent) for the project as a whole. Staff Appraisal Report: 14965-UG Map: IBRD 26454 Project Identification No. UG PA 35634 REPUBLIC OF UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT STAFF APPRAISAL REPORT 1. SECTOR BACKGROUND A. Macro-Economic Context and Policies 1.1 Uganda embarked upon an Economic Recovery Program (ERP) in May 1987 which evolved into a broad Structural Adjustment Program (SAP) in 1991. The objective of the program was to bring about rapid and sustained improvements in the standard of living of the average Ugandan. The objective was to be achieved through policy and structural reforms aimed at: (i) restoring internal and external financial stability and lowering inflation through prudent fiscal and monetary management; (ii) creating the conditions for rapid and sustained growth of GDP through deregulation of the incentive and regulatory framework; and (iii) developing human capital through investments in education, health and other social services. 1.2 The reforms have had a positive outcome on a number of counts. GDP grew by an average of 5.8 percent per year from 1986/87 to 1993/94, a gain of about 2.9 percent per capita per year. Reflecting the present coffee boom, the estimate for GDP growth in 1994/95 is 10 percent. Annual inflation I has been reduced to 7.8 percent in 1994. Exchange rate stability has also largely accompanied price stability although there was some appreciation of the Ugandan shilling against the US dollar in 1994. Challenges remain in trying to extend this period of macroeconomic stability, not least in addressing issues associated with long-standing current account and fiscal deficits (the current account deficit (excluding grants) is around 8 percent of GDP; the fiscal deficit is around 11.5 percent of GDP). Furthermore, notwithstanding its successes on the macroeconomic front, Uganda remains amongst the poorest countries in the 2 world, with a per capita income of only USS220 in 1994. 1.3 According to projections in the latest Country Economic Memorandum 3 GDP is expected to grow by about 7 percent in 1995/96, by 6.5 percent in 1996/97 and by about 5.5 percent thereafter, assuming a continuing satisfactory performance in stabilization and structural reform. However, resource balance deficits are also expected to increase from 1997/98, after some reduction between 1994/95 and 1996/97. These projections underline the fragility of the macroeconomic stability and the need to deepen the structural adjustment over the medium term -- in particular, in the areas of public sector reform, improved financial sector performance and improved incentives to exporters. I As measured by the Consumer Price Index. 2 As defined in the World Bank methodology 3 Uganda. The Challenge ofGrowth and Poverty Reduction. Country Operations Division, Eastern Africa Department, World Bank. June 30, 1995. - 2 - B. Strategy for Private Sector Development. An Overview 1.4 The Ugandan private sector remains fragile and underdeveloped. First, many firms are still in their infancy: about one third of the over 100,000 private companies and business narnes registered in Uganda have been established in the last four years. Second, most firms are extremely small: the micro and small enterprise sector (fewer than 10 employees) provides 90 percent of total non-farm employment, with large enterprises accounting for only 6 percent.4 Third, the informal sector is important, particularly in agriculture (employing 80 percent of the labor force) which is dominated by rural smallholders and subsistence farmers. Fourth, diversification into exports has been limited (Uganda still relies heavily on donor assistance to finance its current account deficit); private investment has only picked up recently; and there are weaknesses in private sector capacity. These factors are constraining the supply response needed to drive further growth over the medium to long term. 1.5 There are four key factors likely to affect the growth of the Ugandan private sector in the near future: (a) the size and growth of markets for the output of the private sector; (b) a policy environment that minimizes uncertainty and controls while maximizing incentives for investment, production and trade; (c) a supportive business infrastructure (including efficient legal and financial systems; modem physical infrastructure; responsive civil service; effective business service providers); and (d) elimination of the existing gaps in capabilities of Ugandan firms (i.e., low capitalization, lack of know-how, inadequate corporate culture, lack of export marketing networks, etc.). 1.6 The Government strategy to develop the private sector in Uganda - as outlined in the Private Sector Policy Statement in Annex 1 - will focus on the following areas: * improving the policy environment by decreasing budget deficits, further liberalizing markets, maintaining low inflation, while reducing anti-export bias; * upgrading the business infrastructure, by reforming laws and regulations, restructuring the financial sector, accelerating privatization, and improving the performance of existing physical infrastructure and public utilities while encouraging the development of new facilities by the private sector itself; and * filling the gaps in the capabilities of Ugandan firms so that they can expand on a more demanding domestic market and on highly competitive international markets. 1.7 The proposed project focuses direct assistance on the third area, but it will itself influence, and be influenced by the other two. The most urgent actions relate to the improvement of physical infrastructure and the building of private sector capacity. As both activities involve long lags between the decision to invest and the actual results, any action in these fields needs to be given priority. 4 This estimate is based on the 1989 Census data. - 3 - C. Size and Growth of Markets 1.8 The Ugandan market is small (equivalent to less than 3 percent of the sales revenue of General Motors). A continuation of rapid growth in domestic demand (say, 6 percent per annum) will provide domestic market opportunities for some firms. To emulate the successes of some other developing countries and sustain growth, however, the Ugandan private sector will have to increase its exporting efforts by producing quality goods at competitive prices. Agricultural, agro-processed, and manufactured goods, offer opportunities for expanded private sector production for export. As discussed below, whilst the enabling environment for export expansion and diversification has been improved somewhat, further changes are needed to make it more supportive of private investment, production, and trade. D. Improving the Policy Environment 1.9 Macroeconomic Imbalances. The sustainability of the stabilization effort is not yet ensured in Uganda, despite some progress in recent years. Much of the problem is owed to structural and institutional factors (for example, the low share of modem sector activity, inadequate export diversification, narrow tax base and poor tax revenue collection). In particular, tax revenues must be increased. Uganda raises tax revenue equivalent only to around 10 percent of GDP, which is well below the Sub-Saharan average of 18 percent, and even further below the 30-40 percent range found in many developed economies. The consequences of such a small revenue base include: (i) an incapacity to fund adequate public services (including basic education, health, and infrastructure); (ii) continued fiscal deficit (currently public expenditure exceeds revenue by the equivalent of nearly 8 percent of GDP - an unsustainable figure over the medium to long term); and (iii) an over-reliance on external (aid) flows to supplement domestic revenue (in 1994/95, about 84 percent of total public investment was donor-funded), which in turn tends to exacerbate the problem of servicing increased external debt obligations. 1.10 Price Distortions and Rigidities. Significant progress has been made in reducing price distortions and increasing the flexibility of key economic prices. The price offoreign exchange is determined by market forces. Interest rates have been liberalized. Wage rates in the private sector are no longer administratively governed. Producer prices in agriculture and industry have been liberalized, with some exceptions.5 At the level of retail prices, significant decontrol is evident, and only a handful of goods and services is subject to price control. Corporate and individual tax rates in the region are in greater harmony today than ever before, and are lower in many cases than the rates applied elsewhere in Sub-Saharan Africa. The average tariff level has been reduced and further reduction in tariff dispersion is being considered, and most quantitative restrictions have been eliminated. In sum, "getting prices right" has been a significant success of the Ugandan economy, stemming largely from structural adjustment in the 1990s. However, the continuing presence of high import taxation (in the form of various duties and excises), whilst acting as a substantial source of government revenue, also introduces 5 As in most other developing countries, the prices of utilities, petroleum, and some public services are determined administratively, usually through monopoly producers. - 4 - significant distortions and anti-export bias within the Ugandan economy. The presence of quantitative restrictions on some imports, and the rather arbitrary system of import exemptions across categories of goods and firms, tends to compound these distortions. 1.11 Promoting Market Mechanisms. The promotion of markets in Uganda has been undertaken despite the absence of a broad-based constituency for such reforms. Nevertheless, market mechanisms have been introduced systematically, to the extent that Uganda now enjoys a free market economy. Today, product prices, the exchange rate, and interest rates are all determined by markets. The labor market is practically free of regulations. However, competition cannot be effective, and new firms will not emerge, when markets are distorted by advantage being granted selectively to a few operators. Such advantages can take several forms, of which two are particularly relevant in Uganda: implicit or explicit government subsidies to government "preferred" enterprises (usually parastatals); and discretionary tax exemptions. On both fronts, the situation in Uganda is unsatisfactory. Subsidies to parastatals are estimated to be equal to 50% of government revenues, while tax exemptions distort competition in many sectors of the economy. Privatization has been moving slowly, and several state monopolies (e.g., public utilities) and oligopolies (e.g., banking) remain. 1.12 Strategy. There are several issues to be addressed in meeting the new economic challenges which Uganda is facing. First, the mix of sensible fiscal, monetary and exchange rate policies which have been introduced in recent years will need to be maintained. Private sector confidence and the credibility of government's handling of the economy take a long time to be established, and would be lost far more quickly should policy reversals be made. Second, the policy framework includes a comprehensive strategy to enhance tax revenues - including expanding the tax base through a VAT and other instruments, ensuring better compliance, and removing tax distortions such as discretionary exemptions. Third, the Government will try to widen support for the measures being adopted. This is not a technical problem, but rather requires achieving a wider degree of understanding and endorsement of the strategy, amongst key interest groups and the population at large, to build the support needed to sustain sound policy over the longer term. Tools to perform this task are included in this project (i.e. the Private Sector Foundation Component). Fourth, privatization is being accelerated, financial controls on all parastatals will be strictly enforced and all subsidies to parastatals operating in competitive sector discontinued by mid 1996. Fifth, steps, including the removal or lowering of import tariffs and restrictions, and the re-activating of an improved duty drawback scheme, will be taken to remove the current anti-export bias in Uganda's trade regime. E. Upgrading Business Infrastructure 1.13 Laws and Regulations. Business law governs the efficient conduct of economic transactions among individuals and firms. The Constitution of Uganda and the Judicature Act of 1967 constitute the foundation of the Ugandan legal system, i.e. the continued application of the received English law and its coexistence with the customary law of Uganda. The body of statutory law (i.e. laws made by the legislature) is made up of largely outdated legislation in almost every sector especially laws which affect private sector development. The problem of - 5 - outdated laws is exacerbated by the absence of timely and rigorous enforcement of these laws due to weaknesses in the major institutions in the sector. 1.14 Financial System. The current position of the financial sector in Uganda is far from resembling an ideal model. Competition in banking is muted, with the state-owned Uganda Commercial Bank (UCB) being a dominant player in the market. Many services are simply not readily available (e.g. financing for small enterprises and new start-ups), are ineffectively provided (e.g. checking facilities and the transfer of funds between bank branches and customers are often slow and haphazard), or are excessively costly (e.g. the interest spread is typically 12 percent or more). Furthermore, the problem of bad loans threatens to increase the costs of banking services yet further, and weaken confidence in the financial system. 1.15 Physical infrastructure is one of the leading constraints to private sector development in Uganda, and electric power dominates this area of concern. Overall, power breakdowns are a major obstacle and voltage fluctuations a moderate obstacle to Ugandan businesses. Erratic supply has led many firms to purchase their own generators. Continuous process manufacturing is virtually impossible without a generator. The Uganda Electricity Board (UEB) estimates that Uganda would need to make substantial investments for the rest of the decade to keep up with growing demand and to rehabilitate and expand the transmission and distribution networks. Second to power problems are telecommunications problems. A major project for rehabilitation of the telephone system in Kampala was completed in 1993, resulting in marked improvement in the availability of telecommunication services. However, overall capacity is still very low, at 1.9 lines per 1000 people, compared with 7.1 for Kenya and 11.9 for Zimbabwe. The main problem of the Ugandan transport system is not one of quality of infrastructure (although quality leaves a lot to be desired) but a question of poor management and maintenance. Given its land-locked position, roads are clearly vital to Uganda's competitiveness. The major weaknesses lie in Uganda's dependence on Kenya and Tanzania for access to the sea (made more serious by the lack of any adequate route by road from Uganda to Tanzania), the poor maintenance of many roads, and the inefficient operations of the Uganda Railway Corporation (URC). 1.16 Civil Service. Although the ongoing structural reforms will reduce the scope of the public sector, and correspondingly enhance the position of the private sector in the economy, there will remain a valuable and important role to be played by a streamlined civil service (at central and local government level). That role will involve facilitating private sector development by providing efficient and effective key services (such as offering quality health and social services to the population; maintaining a well-functioning legal system; undertaking regulatory duties to uphold banking, auditing and other business standards; ensuring that infrastructure -roads, power, telecommunications - is available for new and existing firms) to businesses and the population at large. This vision for the civil service requires a sea-change from what Uganda has experienced recently. The economic mismanagement and political chaos of the 1970s in Uganda severely decimated one of the most respected and effective public administrations in Africa. With migration, Ugandan human capacity was further eroded. Through the Economic Recovery Program (ERC) launched by government in 1987, the decline in standards and efficiency has largely been arrested. Since then, the Government has implemented a reform strategy which has included: rationalization and downsizing of the civil service, reform of - 6 - remuneration policy and payroll administration, restructuring of ministries and decentralization of governmental functions and development and introduction of improved personnel management systems. 1.17 Strategy. Several actions are being or will be taken. First, the Government of Uganda, with support from IDA (through the Institutional Capacity Building Project) and other donors, has started a process of revision of existing laws and established a Law Reform Commission which will recommend the necessary changes to the overall legal system. There is also the need to remove the unnecessary red tape present in the economy by streamlining and reducing licensing requirements for firms. Second, the Government is privatizing UCB to improve the operations of the bank, heighten competition in the financial sector, and make Government involvement in the sector more arms length in nature. Policies are also being developed to improve the performance of the smaller, privately owned commercial banks and to promote the development of capital markets. Third, the Government will upgrade physical infrastructure by: (a) improving the efficiency of the parastatals providing infrastructure services through a combination of privatization (e.g., Uganda Posts and Telecommunications Corporation), performance contracts (e.g., URC, UEB) and liberalization; (b) improving the maintenance of existing infrastructure (this is particularly true for the road network); and (c) making additional investment in infrastructure after substantial progress on efficiency and maintenance has been achieved and only if private investors are unable to carry out the required investments without government support. Fourth, substantial efforts have been and will continue to be made to reform the civil service, with support from IDA. From the private sector perspective, achieving further progress will require the civil service to reform its procedures, and focus much more carefully on its mission to deliver core services in a cost effective and quality conscious manner. F. Filling Gaps in Firms' Capabilities 1.18 At the firm level, the market environment within which firms operate has been changed by structural reforms. Demand is now more "international" and consumers (including other businesses) are becoming better informed and more sophisticated. Local firms are facing pressure from growing import competition. Customers are quicker in abandoning products if they can find better quality at the same or at lower prices. Corporate functions such as production and marketing, which have been overlooked in the past, are becoming factors for success in the new environment. To build these new skills and functions, larger firms, including subsidiaries of multinationals, can use their internal resources, hire outside help or expatriate managers or find international alliances. Small and medium firms, however, which constitute the majority of Uganda's private sector, are particularly at a disadvantage. They have neither the experience, information, nor resources to find the know-how to succeed under the new conditions. - 7 - 6 1.19 A recent survey of Ugandan firms provides a good indicator of the problems in the new liberalized environment. The firms interviewed cited "lack of demand" as sixth out of fourteen possible constraints to growth. While "lack of demand" reveals the impact of structural adjustment on domestic effective demand, it reveals also the lack of marketing skills of many firms that are incapable of "reorienting" their activities towards new segments of the domestic market or towards exports. A recent study 7 by the Operations Evaluation Department found that "the development of non-traditional exports is an inherently difficult and protracted process and requires more time than usually allowed by time-bound reform programs." While the study did not cover Uganda, its findings are nevertheless applicable to the Ugandan context, which is not dissimilar from those of Kenya and Tanzania. Among the hurdles identified are cultural barriers, lack of export marketing networks, lack of market knowledge, weak capital structures and difficulties in ensuring quality and reliability of supply. 1.20 These hurdles could be overcome by accessing available sources of managerial and technical know-how and/or of finance (i.e. equity funds, foreign investors, consultants, business associations, government agencies, etc.). There are however several market failures that impede access to know how and finance by most Ugandan firms. First of all, the market for business services is distorted. Consulting fees are distorted upward by donor agencies that can pay much more than most local firms (up to six times higher according to survey results). Local firms also face a steep learning curve in targeting the appropriate expertise required to upgrade their capabilities. Furthermore, some firms do not appreciate the benefits they could derive from consulting services, while other firms find it difficult to justify high fees in advance of experiencing the potential benefits accruing from consulting services. Second, survey results8 indicate that small and medium size firms have very limited access to bank financing in Uganda. Only 30% of the over 200 firms in the sample employing fewer than 50 employees had had any access to bank financing in the last two years and just 13% of their assets had been funded through the formal financial system. Banks are ill-suited to serve the needs of young small and medium size firms, due to the existence of information asymmetries on project quality (i.e., rates of return, market prospects, etc.) between bankers and entrepreneurs and the lack of adequate collateral. Equity funds could solve many problems relating to information asymmetries and bridge the gap between emerging entrepreneurs and the banking system. There are however many constraints to the development of equity funds serving small and medium enterprises: high due diligence and supervision costs, lack of reliable exit mechanisms for selling minority shares, little understanding by Ugandan entrepreneurs of the advantages and disadvantages of dealing with minority equity partners, and the existence of a number of legal and regulatory obstacles. Third, Uganda must overcome serious information gaps to attract foreign investors. A recent survey 9, for example, showed different perceptions between current and potential investors 6 UMA Consultancy and Information Services Ltd. (UMACIS, 1995). Uganda Private Enterprise Survey. January 1995 . Conducted on behalf of the World Bank, the survey covered 265 firms located in five different districts. 7 Industrial Sector Reorientation in East.4frica. Operations Evaluation Department, World Bank, 1994. 8 UMACIS, 1995. 9 Economisti Associati. Eastern Africa. Survey of Foreign Investors. September 1994. Conducted on behalf of the World Bank, the survey covered 50 current and 100 potential investors from more than 10 countries. indicating the existence of an image problem. Current investors' experiences were far better than what potential investors expected. Lack of awareness (amongst foreign and domestic firms) of new opportunities in the market and uncertainty on the processes and procedures which must be followed (for example in securing telecommunications, power supplies or road access to a new site) are also present. Fourth, there is a high degree of uncertainty affecting investment decisions by both foreign and domestic investors. On balance, the Ugandan private sector still does not trust Government, illustrated by the fact that Uganda is the country with the largest 10 number of MIGA applications from domestic investors and that, according to a recent survey policy uncertainty is one of the major constraints to future operations. 1.21 Strategy. Even when business conditions improve, many Ugandan firms will lack the skills and know-how to take advantage of the new opportunities emerging, in domestic and international markets. Indeed the predominance of SMEs in Uganda's enterprise sector (over 90 percent of non agricultural employment is in the small or micro enterprise category 1 1) suggests that this lack of capacity will be widespread. Government intends to intervene only indirectly (i.e. through financial support) to help Ugandan firns to overcome the above mentioned market failures, keeping a broad-based approach and leaving to firms the final choice of what they need. Some of these interventions will be funded under this project and are presented in the following Section. G. IDA's Previous Role and Lessons Learned 1.22 Lessons Learned from Past Operations. First, IDA's experience in private sector development in Uganda is limited. Under the Enterprise Development Project (Credit 2315-UG of January 9, 1992), IDA is providing technical assistance for privatization and resources for term lending to finance private investment in Uganda. The first three years of experience have shown slow disbursement for both components and led to the restructuring of the EDP project in February 1995. Resistance to privatization by various interest groups had caused considerable delays, until the management structure of the privatization and parastatal reform program was restructured at the end of 1994 with the appointment of a Minister of State responsible for Privatization. Disbursement under the line of credit component of EDP has only recently started to accelerate, although sub-borrowers are still mainly large firns. Ugandan SMEs have seldom been able to access the line of credit due to the poor quality of their project proposals and inadequate capitalization. The proposed project is expected to remedy this situation and to allow SMEs to access the line of credit under EDP without compromising on the quality of applications. Second, experience of other countries has shown that government interventions in support of SMEs are needed whenever firms are "poorly-endowed", as is the case in Uganda 12 However, it is important that these interventions keep a "light touch", by being limited to financial support and being demand-driven. The proposed project adopts this approach which 0 UMACIS, 1995. Less than 10 employees. 12 See for example, Levy, Brian (1994) - Can Intervention Work? The Role of Government in SME Success. Successful Small and Medium Enterprises and Their Support Systems: A Comparative Analysis of Four Country Studies. World Bank Conference. Washington DC - 9 - leaves most decisions in private hands and does not rely on the State. Third, IDA experience with technical assistance in Africa has been mixed, due to lack of ownership by governments, and because long term experts have tended to substitute themselves for their counterparts. The proposed project's emphasis on sustainability and beneficiaries' participation both in design and implementation should go a long way towards addressing these potential pitfalls. Fourth, throughout the 1990s, the Government of Uganda has shown effectiveness in following through with its commitment to policy reforms within its adjustment program. This track record bodes well for the proposed project being implemented effectively. 1.23 Linkages with other IDA operations. As part of a larger effort to develop the Uganda Private Sector, the proposed Private Sector Competitiveness Project (PSCP or "the Project") will have important links to several other IDA projects, as well as with other donor-funded projects as summarized in Table 1. Table 1 - Links between the Proposed Project and Other World Bank or Donor Projects 13 PSD Area World Bank Planned World Bank Other Donors' Projects Projects Current and =_________________ Planned Activities A. Policy SAC I 91, SAC II 94 Proposed Project; SAC USAID, ODA, IMF environment _ III B. Business Infrastructure . Physical Infrastr. TRP 94, Power III Rural Road, Main Road, EU, UNDP, GTZ, 91, Telecom II 89 Telecom III USAID, DANIDA . Laws and ICBP 94 Proposed Project USAID, DANIDA, Regulations ODA, Austria * Financial System FSAC 93, EDP 92 USAID, Austria, EU, Italy, NL, GTZ, EIB * Civil Service EFMP 93, EDP 92 ODA, UNDP Reform/PE Reform ICBP 94 C. Gaps in Firm Agricultural Proposed ProjeCt EU, USAID, ODA, Capabilities Extension 93, ICBP Netherlands, Austria 94 1.24 Linkages with IFC activities in Uganda. As of September 30, 1995, IFC has made equity and loan investments in Uganda totaling US$29.15 million in 16 projects. Within this total, approximately US$1.0 million has been invested in an equity stake in DFCU, a local financial institution that acts as a source of equity and term finance for commercial investment projects in Uganda. More recently, IFC's Board has approved (July 10,1995) a proposed investment in the East African Venture Capital Fund which will make equity and quasi-equity 13 TRP=Transport Rehabilitation Project; ICBP= Institutional Capacity Building Project; FSAC=Financial Sector Adjustment Credit; EDP= Enterprise Development Project; EFMP-= Economic and Financial Management Project. - 10- investments in Kenyan, Tanzanian and Ugandan firms. IFC's capital market strategy in Uganda includes developing non-bank financial institutions (NBFIs) which broaden and deepen the range of financial products available. The equity financing component of this project, in which it is anticipated both DFCU and EAVCF will play a key role as participating equity funds, would support this strategy and IFC's management has confirmed the complementarity of this component with its own initiatives. In particular, this project helps address issues highlighted by IFC's experience by leveraging new private investment in equity to enlarge the sources which can be tapped by firms, and by allowing equity fumds to target enterprises of a smaller size. 1.25 Other Donor Activities. Over the last few years several donors have started working in Private Sector Development (PSD). USAID has been pioneering these efforts with several components in the areas of private-public sector dialogue (e.g., funding for the National Forum); preparation of feasibility studies for agro-based exports (e.g., the IDEA project); venture capital (e.g. grant to the Development Finance Company of Uganda (DFCU) to buy shares of unquoted companies); credit for microenterprises, assistance to trade associations and training of private entrepreneurs and employees of private firms (e.g. the forthcoming PRESTO project). Several other microenterprise credit programs are in place with funding from GTZ, the Netherlands and Austria. ODA and the European Union have mainly been providing assistance to the Uganda Investment Authority (UIA), while the European Investment Bank (EIB) is setting up a facility for term lending, quasi-equity and equity investments. Italy and the Netherlands have programs for retired executives who join local companies at low or no cost. UNDP is considering providing assistance to improve the dialogue between Government and the private sector. Finally, the Austrian cooperation will soon fund a technology center. 1.26 The proposed project would complement the above mentioned donor activities in several ways. First, by supporting a Private Sector Foundation, it will introduce an important element of coordination (to be carried out by the private sector itself) of PSD activities. Second, BUDS will complement USAID's activities in the area of business services by focusing only on firms that are willing to pay a substantial share of the cost of the services provided to them and by opening access to all sectors and not just to a small sub-set of exporters. Third, the equity facility will build on the lessons learned by USAID through its support for DFCU and will complement the EIB facility as it will both improve the quality of equity funds and the environment for equity financing. Fourth, the fact that the support for the UIA will go through the PSF will provide an effective way of channeling donor support to the Authority. H. Rationale for IDA involvement 1.27 Links to the Country Assistance Strategy. The proposed project is fully consistent with the objectives of the Bank Group Country Assistance Strategy (discussed by the Board on June 1, 1995). The Uganda CAS states that: "Promoting growth through private sector development is the basic tool for addressing poverty in the Uganda's development strategy. The key is how to encourage private investment, both by domestic and foreign investors. This is to be done by directing efforts towards four major objectives. First, maintaining a stable macroeconomic environment with a minimum of price and market distortions; second establishing an attractive business environment through a conducive legal and regulatory - 11 - framework, competitive and open markets, and a supportive physical infrastructure (mainly energy, telecommunications and transport); third, redefining the role of the State so that the private sector can enter and operate in markets without unfair state competition; and fourth, strengthening the financial system. Progress has been made in each of these areas, but investment is still sluggish and these reforms need to be accelerated. Most important are further deregulation of investment through reformn of UIA, reduced distortion in incentives, faster privatization, more effective and lower cost telecommunications and cheaper, more reliable electricity." 1.28 IDA's Comparative Advantage. The project focuses on the competitiveness of the Ugandan private sector, that needs to be improved for a sufficient supply response to materialize and for the long term sustainability of ongoing reforms. IDA is well positioned to provide support in this respect, because of its extensive experience worldwide with matching grant schemes, the credibility its support would give to the Private Sector Foundation, its capacity to achieve effective donor coordination, and its excellent policy dialogue with Government and the Ugandan private sector on PSD issues, supported by extensive economic and sector work. Overall, IDA would play the role of catalyst around which significant additional private and donor resources would be mobilized. The close involvement of IFC in the preparation of this project as well as its likely participation in the implementation of the equity financing component will allow Uganda to benefit from a full range of services and skills available within the Bank Group. 1.29 Rationale for Supporting the Ugandan Private Sector. The proposed project would fund cost-effective measures to support Ugandan private enterprises, the bulk of which are small and medium in size. As explained above, Ugandan enterprises, particularly SMEs, need support in enhancing their capacity to adapt to new market conditions and opportunities. Distortions and a lack of development in the local market for business services, institutional weaknesses of business associations and information asymmetries in the financial market, all militate against the private sector being able to respond quickly to the challenge without some form of support. This project can help deliver long term benefits for the country as a whole, since the private sector is expected to become the main engine of growth for Uganda, and the growth of SMEs would introduce more flexibility and competition into the economy. SMEs represent a constituency supportive of policy reform and there is evidence worldwide that SMEs contribute to a more equitable distribution of income and to sustainable employment creation. - 12- 2. THE PROJECT A. Project Purpose and Beneficiaries 2.1 The purpose of the project is to make the Ugandan private sector more competitive so that it can expand sales on both domestic and international markets. To achieve this objective, the project will: (a) help improve the business and investment environment by decreasing policy constraints, (b) strengthen institutions supporting the private sector, (c) enhance the dialogue between the private sector and the Government, and (d) alleviate problems associated with inadequate know-how and the weak financial system. 2.2 There are several project beneficiaries. First, this project will enhance the competitiveness of individual enterprises directly. Second, other stakeholders will benefit from serving as a means to this end. The Private Sector Foundation will help institutionalize the process of public-private sector dialogue in Uganda, to build trust and sustain business confidence. By working to eliminate remaining constraints to private sector development, and by strengthening consultative processes such as the ongoing National Forum, the PSF will promote a business environment more conducive to enterprise development and profitability. By enhancing the consultative process, the project will help build a more responsive public sector and a more responsible private sector. The PSF will challenge business associations to improve the quality of their services to their members and enhance their public image. The Uganda Investment Authority (UIA) will be strengthened so as to do a better job of promoting and facilitating investment in Uganda, thus increasing the level and range of new investments . A strong UIA is particularly important in attracting foreign investors. Non-Governmental Organizations (NGOs) involved in private sector work in Uganda and the PSF will have a strong stake in cooperating with each other. Third, having successfully implemented the key elements of its adjustment program, the Government of Uganda will come closer to realizing its stated goal of building a modem, self-sustaining economy, based on free enterprise. The country as a whole will benefit through enhanced economic growth, greater employment, and higher living standards. B. Participation in Project Design 2.3 The involvement of the Ugandan counterparts in all aspects of project processing has been an integral part of the capacity building envisaged under the project. The process started with an IDA Project Identification Mission in late January 1995, after which an IEPS was prepared and discussed internally. A project design workshop was then held in Kampala on March 30-31, 1995. Over 80 participants from the private sector, the public sector and the donor community worked on project design (starting from IDA's Initial Executive Project Summary and from substantive sector work conducted during the previous year 14) and elected a Private Sector Task Force, comprising five private sector representatives and four government 14 Including a study on new instruments to work on PSD (Sustaining Policy Reform in Eastern Africa. Tools/or Private Sector Development. Eastern Africa Department, October 1994); a survey of 150 actual and potential foreign investors interested in Eastern Africa (September 1995); and another survey of 265 domestic firms completed in January 1995. - 13- officials to work with IDA in project preparation and appraisal. The workshop was characterized by several working sessions in small groups. During the following two months, the task force coordinated the work of several consultants, added one component (the Private Sector Foundation) to the project and made substantial changes to all the other components of the project. The Task Force then visited Washington DC for pre-appraisal (May 22-June 2, 1995). During pre-appraisal, the Task Force worked closely with the Bank team on the preparation of a draft Project Implementation Plan. During this visit, the task force members met with over twenty task managers from the Bank, IFC, MIGA and FIAS who had had direct experience in the areas covered by the proposed project (i.e., matching grant schemes, government-private sector consultative mechanisms, equity financing and investment promotion agencies). The Task Force then continued to work with the Bank team during project appraisal and participated in the preparation of the green cover staff appraisal report. Two members of the Task Force have recently been elected to serve in the Board of Directors of the Private Sector Foundation and as such they will continue to be involved in project implementation. A participatory supervision process has also been designed for this project and is described in detail in the Project Implementation Plan and in Annex 5. C. Summary Project Description 2.4 The project will have a total cost of US$20.9 million equivalent (of which US$12.3 million funded by IDA -- details on costs and funding by component and category of expenditure are provided in Annex 4) and will consist of four mutually reinforcing components: (a) Shaping the Business Environment: the Private Sector Foundation Component (component total cost of US$ 2.5 million of which US$2.0 million funded by IDA). The project will be managed by the private sector itself through a Private Sector Foundation (PSF), established in August 1995 during the preparation of the project. The Foundation will advise Government on policy issues affecting PSD and implement the project. Similar instruments have been effective elsewhere in promoting and institutionalizing policy dialogue between government and private sector to reduce policy uncertainty and build confidence with both domestic and foreign investors. In its advocacy role, the PSF will address policy issues such as taxation and other regulations affecting private sector development, particularly business licensing and access to industrial land, with short-term technical assistance. In its second role as the Implementing Unit for this project, it will be responsible for establishing the management systems to execute, monitor and supervise as well as evaluate and learn from the Project's performance. It will also have the responsibility for maintaining an open and inclusive participatory process which maximizes private sector involvement in the implementation and supervision of the project. (b) Enhancing Know-how through Markets: the "Business Uganda" Development Scheme Component (component total cost of US$ 7.5 million of which US$4.5 million funded by IDA). The "Business Uganda" Development Scheme (BUDS) is a program to support the injection of know-how and expertise into Ugandan firms. It will be a demand-driven business services program designed to provide the support firms want - 14 - and will use. At the core of BUDS is a cost sharing grant scheme in which Ugandan firms can receive 50% of the costs of using consultants and other service suppliers. Services may cover a broad range of subjects, including marketing, production, and business planning. Firms may obtain these services through individually tailored services or through group schemes where Ugandan firms come together to obtain services jointly. The total of grants to one firm may not exceed a common cumulative limit, set at US$30,000 per firn or other recipient entity. In addition to the grants, BUDS will provide free hand-holding advice to firms on the basics of business planning; deciding on what services will be most helpful; selecting a service supplier; and obtaining the best services from the supplier. The scheme will be managed by a private contractor on behalf of the PSF and BUDS will be deliberately temporary as it will be wound up at the end of the PSC project. (c) Enhancing Know-how through Financial Partners: the Equity Financing Component (component total cost of US$ 9.0 million of which US$3.9 million funded by IDA). The project will fund the Uganda Equity Facility (UEF), an account set up to provide equity resources under management contract to participating equity funds, that will mobilize resources from private investors and/or reach small and medium sized enterprises. To become a participating equity fund, strict eligibility criteria must be met, including the fund being economically viable with a sound financial structure, having reputable management with a demonstrated track record, and a well-defined investment policy and strategy. At present there are two equity funds -- one soon to be established and the other still under study -- that are likely to meet the eligibility criteria for the UEF. Both funds would involve IFC as a direct or indirect shareholder. The project component will also fund the provision of advice to improve the overall environmeii for equity financing. In particular, as investors need to exit their investments, technical assistance and policy advice will be provided to establish a Depository Receipts System (DRS) on a regional stock market for the exclusive purpose of increasing exit options for equity investors in Ugandan Companies. (d) Enhancing Know-how through Industrial Partners: the Investment Promotion and Facilitation Component (component total cost of US$ 1.9 million all of which funded by IDA). This component will support a reformed Uganda Investment Authority (UIA), freed from any functions relating to licensing or granting of tax exemptions, to focus on promotion and facilitation of private investment. Promotional services -- to be provided in partnership with an experienced international contractor -- include informational publications, guides, and meetings with potential investors (individually and in groups) overseas and in Uganda. Facilitation services include practical assistance, such as advice to investors starting-up projects on power, telecoms and other utilities, local regulations and market conditions. Other services scheduled to be delivered by the UIA, which are not funded under this project but which complement the supported promotion and facilitation services, include support for local enterprise development at the district level, and advertising and public relations. The administrative and regulatory duties associated with investment licensing and various tax exemptions, which to date have taken up a *;ignificant proportion of UIA's staff resources, will be discontinued in line with planned revisions to the Tax and Investment Codes. - 15- 2.5 The project's overall logical framework is simple. The most effective way in which the Ugandan private sector can enhance its competitiveness within a short time span is to tap from available sources of technical and managerial know-how. Each of the four components of the proposed project is directed towards a different source (i.e., foreign partners; equity investors; business consultants; and other domestic firms) who could help Ugandan firms either to overcome their internal constraints or to influence their external environment (e.g., improving the policy environment by influencing macroeconomic policy through a constant dialogue with Government via the PSF or improving business infrastructure by easing access to good consultancy services through BUDS), as showed in Figure 1 below. 2.6 The project tries to address four sets of constraints that affect the capability of Ugandan firms to influence their external environment or that impede their access to finance and/or know how, as discussed in para 1.19. They include: (a) price distortions in the market for business services; (b) information asymmetries in the financial market; and (c) information gaps; and (d) an overall high degree of uncertainty affecting investment decisions by domestic and foreign investors alike. D. Detailed Project Description 1. The Private Sector Foundation Component 2.7 Background. Following discussions during project preparation, eleven Ugandan business associations established a Private Sector Foundation on August 24, 1995, with rules and regulations acceptable to IDA. Other associations are expected to join the Foundation in the near future. A list of current members of the PSF, whose combined membership amounts to over 12,000 businesses, is provided in Annex 8. The basic functions of the PSF will be to: (a) serve as the focal point for a regular and structured dialogue between the public and private sector on policies and regulations which affect private investment; (b) undertake and commission research and analysis on policies which affect private investments and business operations, and advocate the required policy actions; and (c) coordinate the implementation of the Private Sector Competitiveness Project as well as of other donor funded projects as needed. 2.8 Purpose and Outputs. Although the level of confidence in the Government's economic management has increased, the substantially higher levels of private investment which are required to sustain high growth rates will require deepening and expanding confidence in the Government's handling of the economy. This will mean, in part, ensuring that policy reforms help remove constraints of the most direct and immediate relevance to the private sector. The Government, therefore, supports the creation of a Private Sector Foundation to identify and research the specific high priority policy constraints to private investment. The Foundation will be expected to examine and make recommendations to the Government in the following broad areas: (a) the legal and regulatory environment for private investment; (b) investment and export promotion; (c) business entry and exit procedures; (d) tax policies; (e) efficient and competitive delivery of public utilities; and (f) land policies. PSF management of the Private Sector Competitiveness Project brings the project closer to the ultimate client (the private sector), and thus promotes more effective implementation, with more rapid and flexible response to the - 16- Figure 1 - Uganda Private Sector Competitiveness Project. Overall Rationale. EQUITY PARTNERS FOREIGN i.l ASSOCIAT NS PARTNERS S,TAE Fm s~~~O'/TE CFIRXMY - 17- client's need. With the PSF, the project will be managed with due regard to the value of time and money and with the aim of producing concrete results. 2.9 Activities. The component will fund: (a) the operating costs of the Foundation on a declining scale, so that the private sector will bear 100% of non project related operating costs by project end; (b) studies to be commissioned by the PSF to formulate its advice to Government on PSD matters; (c) promotional activities including seminars, media campaigns, etc. to inform the Ugandan public about the Foundation's activities and recommendations; and (d) any other cost related to project management. 2.10 Structure and Mode of Operations. The PSF has been structured as a company limited by guarantee. Membership to the foundation is open to business associations meeting certain minimurri criteria including legal registration; memorandum and articles of association; regular and azcurate financial reporting; up-to-date register of paid-up members and funding based on payment of membership and annual subscription dues. The highest decision making authority of the Foundation is a Board of Directors which will meet at least four times a year. The Board consists of seven directors, including the Executive Director and six directors selected from the business associations who are members of the company. There are two types of members, ordinary and associate members. Ordinary members are expected to make a larger financial contribution to the operations of the Foundation. Four Board seats are reserved for ordinary members and two for associate members, a "representation ratio" of 2:1 although the ratio between the financial contributions of ordinary and associate members is 5:1. This structure aims to ensure that smaller associations have a sufficient influence over the operations of the PSF. 2.11 At an operational level, the Board may delegate its authority to committees designated to deal with, say, policy matters or supervision of components of the PSCP. Among other things, the Board will be responsible for: (a) hiring the Executive Director (ED) and the Project Coordinator (PC); (b) approving applied research on policy reforms; (c) monitoring the performance of the Foundation against financial and technical evaluation criteria; and (d) auditing and reporting requirements. In addition, specialized sub-committees (for example, a legal sub-committee) will be established as and when the need arises. - 18 - 2.12 The PSF will have an Executive Director (ED) who also will be an ex-officio member of the Board of Directors. The ED will be responsible for managing operations, including personnel and budget functions, and will be the principal officer responsible for the policy and advocacy function of the PSF, especially in its dealings with senior government officials and with donors. As such, the ED will be an individual with a track record of accomplishment and a reputation for integrity, able to command the respect of the private sector, government and donors. 2.13 An overall Project Coordinator under the ED will be responsible for effective implementation of the PSCP. The Project Coordinator will also, under the direction of the Minister of Finance, be appointed as the Accounting Officer for the public funds being used under this project. Accounting officer duties require reporting to the Treasury on the use of funds, which the Project Coordinator will do in close consultation with the PSF's Board. There will be a small staff for the applied research and secretariat services required to support the Foundation's advocacy functions (two program officers and support personnel). Accounting services for the project will be contracted out. 2. The "Business Uganda" Development Scheme Component 2.14 Purpose and Outputs. The Business Uganda Development Scheme (BUDS) is a program to support the injection of know how and expertise into Ugandan firms. The major output of this component should be a higher level of output growth among firms assisted by the BUD Scheme. Growth in output achieved by each firm assisted will be compared with pre- help growth-rates and with growth-rates achieved by the total population of firms in the same sub-sector. The first output will be that assisted firms should outperform both of these comparators by at least $15 of extra output over a five-year period for every $1 of consultancy input. The second output will be to give supported firms a "persuasive experience" of utilizing support services to expand sales revenues, such that when surveyed, 50% of recipients express themselves willing to utilize similar services next time at full commercial rates. 2.15 Activities: a Three Track Approach. The absorption of skills, know-how and market awareness into individual firms can come about in various ways. The Scheme will focus on the utilization of specialist outside support services as one of the most effective ways this process can be accelerated. BUDS will achieve this by a three track approach combining: (a) The provision of Matching Grants for Business Service Users. BUDS will actively promote the use of business support services to individual firms or groups of firms. Where requested, BUDS will assist in locating suitable specialists, both inside Uganda and from elsewhere. (b) HIand-holding advice by the BUDS Contractors. BUDS will provide initial and ongoing hand-holding advice to the individual firm on how to decide what tasks would most benefit from service use; how to select the most suitable service provider for the task; how to get the best out of the provider; and how to ensure a lasting impact within the firm. - 19 - (c) The provision of Matching Grants for Local Business Service Development. BUDS will actively promote the development of local business services by means of grant assistance for the use of outside training and other services for the development costs of new local services. 2.16 At the core of BUDS is a cost sharing scheme in which Ugandan firms can receive 50% of the costs of using business service suppliers. It is estimated that the scheme will have a grant component of US$3 million to be disbursed over a four year period. A single grant rate of 50% has been chosen for the following three reasons. First, a sizable contribution by the firm helps to demonstrate real commitment to the task being supported. Second, one of the key objectives of BUDS is to encourage firms to utilize business services on a full cost basis over time and a higher grant level will delay the time when they will be able to do so. Third, international experience highlights the overwhelming disadvantages of multiple grant rates in terms of administrative simplicity and a sense of equity. Since the scheme is deliberately designed to be market-driven, the actual demand at the 50% grant support level is, by its very nature, uncertain. This 50% level will therefore be reviewed regularly, at the completion of each year of operation. 2.17 The Main Beneficiaries of the Scheme. Grants will be provided (a) directly to firms, (b) to groupings of firms and (c) to service suppliers. First, as far as direct grants to firms are concerned, specific promotion efforts will be directed at potential and actual exporters, to ensure that they make full use of the scheme. Second, the inclusion of groupings of firms will help the Scheme to reach smaller firms, that will rarely be buying "made-to-measure" individualized services such as in-firm consultancy, market research, or quality systems installation. They are much more likely to buy standardized or group services such as training courses, local trade show services, or a subscription to a group infornation-gathering service. Specific promotion efforts would be made to reach smaller firms and firms outside the Kampala region. This would be done by working with associations and other organizations that are active in promoting investment and working with small business. Third, the decision to include service suppliers among possible recipients of assistance from BUDS aims at encouraging the supply of a broad range of business services from local Ugandan sources. Grants to service suppliers will not, however, support the activity of actually delivering a service. That can only be supported by a grant to the user. Grants to service suppliers will be solely for the development of new services, ahead of actual delivery. 2.18 Selection and Approval Procedures. BUDS will help only private firms; groupings of private firms; and non-governmental organizations providing services to private firms. Those firms where effective management control rests with a government agency will not qualify. The procedures are designed to encourage high quality applications and so minimize the number of rejections of legitimate demands for service under the scheme. Each firm applying for assistance will be required to prepare a brief and realistic sales expansion plan, explaining how the business services to be purchased will help in achieving the firm's goals. This plan will not be evaluated on technical grounds, but the scheme administrator will simply check that all key planning issues have been properly considered. The total of grants to one firm may not exceed a common cumulative limit, set at US$30,000 per firm or other recipient entity. Applicants will be considered - 20 - on a first-come, first-serve basis, and they will be free to select the service providers they want to use. 2.19 Types of Services Available. The BUD Scheme will support a range of services including market research, product development, production assistance, business plan development and identifying foreign partners. It will not support requests for equipment or hardware nor the use of services provided on a regular or periodic basis, for the "maintenance" of an on-going business, and not normally likely to contribute demonstrably to sales expansion (e.g.: office cleaning services; premises security services; building maintenance services; transportation services for goods and staff; express delivery services; book-keeping services; auditing services; tax advisory services) nor the use of one-off support services, used normally for other purposes than to contribute demonstrably to sales expansion (e.g.: legal services; debt collection services; real estate agency services; architectural services; office and factory building services). Finally, travel expenses not linked to training or provision of consulting services will not be eligible for support from BUDS. 2.20 Dealing with Grant Abuse. Such a scheme carries a risk of abuse in Uganda as elsewhere. Nevertheless, experience with grant scheme design and implementation in other difficult operating environments, such as Kenya and Indonesia, suggests that the use of a few key design features will enable BUDS to keep grant abuse within modest acceptable limits. First, each firm will be dealt with on a one-to-one basis by a member of the BUDS implementing team. Except for very small grant applications, personal visits to assisted firms will be a feature of supervision. Second, contracts with service providers not previously known to the BUDS team will be investigated more thoroughly and references may be taken up. Third, as part of the grant approval agreement, the recipient firm will be expected to specify an output from the supported activity, the sight of which will allow the BUDS team to verify that the activity did indeed take place. Fourth, actual payment will be on a reimbursement basis, conditional on sight of the specified output, and on submission of service provider's invoices, plus supporting vouchers where appropriate. 2.21 Management and Supervision Arrangements. The Scheme will be managed by a private contractor, under a term management contract with the Private Sector Foundation. It is envisioned that the BUDS team will consist initially of internationally experienced consultant and two local consultants. The internationally experienced consultant will leave at the end of the third year and will hand over the running of the scheme to one of the two local consultants. This local manager will remain for six months after the last approval of the fourth year of operation of the Scheme, in order to administer outstanding disbursements. The task of the contractor should not be viewed as that simply of an administrator. Much of the time of the team will be taken up in providing free hand-holding support to BUDS clients on the best use of business services. 3. The Equity Financing Component 2.22 Purpose and Outputs. The Equity Financing Component is designed to improve access to equity funds by Ugandan firms, especially SMEs. Equity funds will enhance the know how of the firms they will invest in and improve their ability to access the banking system in due course. In order to achieve self-sustainability, the component will aim at catalyzing private - 21 - capital investments in equity funds whenever possible. Access to equity funds will be improved by: (i) providing additional resources for equity financing; (ii) establishing a friendly environment for equity financing (including the availability of exit mechanisms); and (iii) promoting greater appreciation of the advantages and disadvantages of equity finance amongst Ugandan entrepreneurs. 2.23 Activities. In order to produce these outputs, the component is divided into two parts, described in detail below, consisting of: (a) the establishment of the Ugandan Equity Facility (UEF) which will make equity finance available to participating equity funds investing in Ugandan enterprises; and (b) technical assistance for improving the business environment and regulatory system affecting equity investments in the country. The first part of this component will allocate $2.5 million to the Ugandan Equity Facility which will invest in participating equity funds meeting strict eligibility criteria. Research conducted for the Private Sector Task Force in the preparation of this project, and appraised by Bank staff, has pre-identified two specific equity funds - the East African Venture Capital Fund (EAVCF) and the Development Finance Company of Uganda Fund (DFCUF) - as being able to meet the eligibility criteria, and which are likely to wish to participate in the UEF. The strategy in respect of those named funds is outlined below. The approaches described would also be used, as appropriate, should any new fund emerge and make a successful application to become a participating equity fund.'5 The EAVCF is being established by the IFC and Industrial Promotion Services (Kenya) Ltd. (IPS) to target larger enterprises 16, and UEF will try to catalyze private investment in EAVCF's shares. The other fund "~ is expected to be established by the Development Finance Company of Uganda (DFCU) to invest mainly in small and medium size enterprises, and UEF will try to catalyze investment by international financial institutions in this fund. IFC has a minority equity stake in DFCU. 2.24 The second part of this component will aim at improving the enabling environment for equity investment through: (i) the provision of technical assistance to increase the options available to investors to liquidate into cash their minority share holdings by setting-up a Depository Receipt Scheme on a regional stock exchange (e.g., Kenya, Mauritius); (ii) the implementation of an education and promotion program designed to broaden the understanding by Ugandan entrepreneurs of the costs and benefits of using equity finance for corporate growth and development; and (iii) technical assistance to undertake the necessary reforms to improve the legal/regulatory environment. These activities will be managed by the proposed Private Sector Foundation. (a) Uganda Equity Facility 2.25 UEF investments in the EA VCF, as a participating equity fund, will be contingent on private sector participation. UEF investment into the fund is expected to be approximately 5Detailed research suggests it is unlikely that any other equity funds will be likely to meet the eligibility criteria for participation, at least during the early years of this project. 16 EAVCF was approved by the Board of the International Finance Corporation in July 1995. 17 A decision regarding the establishment of a DFCU Fund (whose formal name is yet to be determined) is scheduled to be taken by the Board of DFCU before the end of January 1996. - 22 - US$0.5 million, contingent on the ability of EAVCF to mobilize at least twice as much additional resources from private investors. The EAVCF is expected by its promoters (IFC and IPS) to invest about a third of its resources in Ugandan enterprises, so that a dollar of UEF support will be translated into a dollar of additional equity investment in Ugandan companies. Additional key features of this fund are as follows: (i) Capital subscription by investors into the EAVCF will be in the form of preference (99% of the capital subscription) and ordinary shares (1%). Preference shares, denominated in US dollars, will earn a nominal return of 6% annually and will be redeemable and cumulative. Ordinary shares will be entitled to dividends and capital gains distributions after the dividends on the preference shares have been paid and the preference shares fully redeemed. Fund managers will receive 20% of the carried interest based on terms established by the sponsors of the EAVCF. (ii) In order to attract private equity participation into the EAVCF, the UEF will write a call option 18 on its ordinary shares and sell it to private investors participating in the matching program for a nominal premium. By doing so, UEF will essentially put a "cap" on its returns. The number of ordinary shares on which UEF will need to "write" an option will depend on negotiations between the EAVCF and private investors, while the strike price will be no less than the original price that UEF paid for the ordinary shares. (iii) The UEF "cap" would effectively increase the upside potential of private investors to a risk-return threshold which would be necessary for attracting them to invest in the fund. As indicated, the UEF will match US$1 for every US$2 invested by private investors. Accordingly, assuming that a call option on 90% of UEF's ordinary shares were agreed upon, a participating private investor would increase its expected returns by around one fifth'9, from 16.3% to 19.6% in the EAVCF's base case scenario and from 20.1 to 24% in the optimistic scenario. UEF will still receive an expected internal rate of return on its overall investment between 6.2% and 6.9% depending on the funds' performance. 2.26 UEF Investment in DFCUF as a participating equity fund. The DFCU Fund is expected to invest mainly in small and medium size Ugandan enterprises. It is assumed that the minimum efficient capitalization level for such a fund should be US$6.0 million. UEF investment into the fund is expected to be approximately US$2.0 million, contingent on the ability of the DFCU to mobilize at least twice as much additional resources. Both IFC and DFCU are positive in respect of the idea of a DFCU Fund, but no commitment to establish such a fund has been made as the proposal is yet to be formalized. UEF would match US$1 for every US$ 2 dollars of resources A call option gives its owner (private investors in this case) the right to buy stock at a specified exercise price. The call option in this case is American, as it can be exercised at any time between the establishment and the winding up of the fund. The price paid for a call option is called the premium. The precise factor is not fixed but depends on actual rates of return (the higher the actual return, the higher the factor). - 23 - mobilized by the DFCU Fund promoters, with the only difference that, unlike in the EAVCF case, no private sector matching is anticipated as most resources will likely come from international financial institutions (i.e., IFC, CDC, DEG, FMO, etc.) and DFCU. The other major difference will be that, as the call will not be offered just to a specific class of investors, UEF's preference shares will be more senior than the preference shares of other investors whose returns are not capped. All the other terms and conditions are expected to be the same as for EAVCF. The leveraging effect of UEF funds will in this case compensate investors for the additional cost of evaluating and monitoring investments in smaller firms. It will however do so without providing a subsidy as the lower returns (compared with other investors) will be compensated for by seniority rights. 2.27 UEF Investments in Other Equity Funds. UEF resources will also be available for investment in other equity funds. In order to be eligible for UEF support, an equity fund will need to: (a) invest UEF funds only in shares of companies incorporated in Uganda; (b) be sponsored and managed by reputable operators with substantial equity financing expertise and sufficient knowledge of the business and corporate environment in Uganda; (c) have prepared: (i) an investment policy acceptable to PSF and IDA; and (ii) an adequate business plan identifying a credible pipeline of feasible investment opportunities in Uganda; (d) be economically viable, with a sound financial structure; and (e) have suitable procedures and an adequate number of suitably qualified staff to enable it to effectively appraise the financial, technical and economic viability of its investments. 2.28 Terms and conditions would depend on whether the equity fund intends to: (a) focus on attracting private capital, in which case the terms and conditions described for EAVCF would apply; or (b) invest most of its capital in small and medium size enterprises, in which case the terms and conditions described for the DFCUF would apply. 2.29 UEF Administration. This sub-component will not require extensive hands-on management, given the fact that participating equity funds will have reputable and financially responsible management and stakeholders. In the case of the pre-identified participants, EAVCF and DFCUF, there is the involvement of IFC both as an investor in the funds and as a fund sponsor. As necessary, the PSF will use an independent and experienced firm of financial advisors to assess the eligibility of any funds applying to participate in the UEF, including the two pre-identified funds. PSF would set up a special account for making disbursements into the selected funds and for paying management fees and other incidental expenses required to - 24 - administer the UEF. Calls for capital by the EAVCF and the DFCUF20 can be made when each has fulfilled its respective conditions for UEF investment. The UEF in turn will commit funds on first come-first serve basis to each of the funds. The PSF as fiduciary will be responsible for monitoring the performance of the respective funds and will participate in the respective Investment Committees of each fund as needed. 2.30 Use of Reflows. The Subsidiary Agreement between Government and the PSF requires that any distribution made by participating equity funds to the PSF relating to the return of invested capital, to dividends or to capital gains are immediately transferred to the GOU. (b) Improving the Enabling Environment for Equity Financing 2.31 This sub-component will aim at improving the environment for equity financing in Uganda, through the provision of technical assistance to: (i) increase investors options to sell their equity by setting-up a Depository Receipt Scheme; (ii) inform Ugandan entrepreneurs about the costs and benefits of equity financing; and (iii) undertake the necessary reforms to improve the legal/regulatory environment. The PSF Executive Director will coordinate all technical assistance under this sub-component based on the recommendations of a small steering committee comprising the managers of EAVCF and DFCUF, the Chairman of the Uganda Bankers Association (UBA) and a member of the Capital Markets Development Committee of the Bank of Uganda (CMDC)21. 2.32 This sub-component consists of three elements. The first element (US$ 300,000) will address legal, regulatory and enforcement issues affecting equity financing by establishing a study fund to prepare proposals to remove some of the leading legal/regulatory constraints to equity financing in Uganda, including multiple taxation of dividends. It will also include the drafting of guidelines for the regulation of equity funds (i.e., define a standard legal structure for the industry based on separation of management and funds; specify the legal structure, minimum capitalization and minimum qualifications for fund managers; specify legal structure, minimum size, minimum number of shareholders, minimum and maximum life of funds, including "firewalls" between the fund shareholders and the fund portfolio companies; and define registration, reporting and auditing requirements for fund management companies and funds). The second element (US$300,000) will address the issue of lack of exit mechanisms for investments in unquoted companies by supporting the establishment of a Depository Receipts System 22 to be used by Ugandan companies to raise capital on a foreign stock exchange. The 20 Or other funds which may apply for status as participating equity funds 21 Once operational, the Capital Markets Authority will replace the CMDC. 22 In the US market, apart from Canadian stocks (which trade freely in the US), the principal means for a foreign listing is through the American Depository Receipts (ADRs). ADRs are negotiable certificates issued by a US commercial bank (called the "depository" bank). They serve as a depository for an equivalent number of non-US. companies' shares that are deposited with the US bank's foreign custodian. ADRs are registered with the US Securities and Exchange Commission. Buy-and-sell transactions are conducted similar to trades in US shares. Prices are quoted in US dollars and can be monitored through major financial newspapers. Dividends are paid in dollars as well. In a sponsored ADR program, the foreign company arranges for a depository bank to hold the underlying shares and issue receipts representing ownership in the foreign shares. A depository bank maintains shareholder records, sends reports to shareholders, and conducts similar shareholder activities. A sponsored ADR program must file one of three levels with the SEC. Level I ADRs file for exclusion from full SEC reporting disclosure rules which allows them to list their shares in the - 25 - sub-component will fund the preparation of a proposal for the establishment of a Depository Receipt Scheme in a foreign stock exchange and technical assistance (on 50% cost-sharing basis) to the first Ugandan company to use the Scheme. The third element (US$200,000) will fund promotional activities on equity financing including a mass media campaign to introduce the concept of equity to the Ugandan public; a seminar series to explain in greater depth to owners of private firms in Uganda the advantages/disadvantages and implications of having equity investors in their businesses; a reference point and information dissemination for private entrepreneurs and security institutions. 4. The Investment Promotion and Facilitation Services Component 2.33 Background. The UIA is moving away from the elements of its old role of investment licensing and regulation (mandated to it under the Investment Code), towards a proactive approach to investment promotion and facilitation. The support provided in this project will play a part in delivering the UIA's overall business plan, which includes targeted international and domestic promotion and facilitation services, supported by the GOU and other donors. The administrative (regulatory) duties associated with investment licensing and various tax exemptions, which to date have taken up a significant proportion of UIA's staff resources, will be outside the scope of the project. Indeed UIA will discontinue those services when revisions to the Tax and Investment Codes make them redundant. It will be important to ensure, in the implementation of the project, that the other elements of the UIA's overall business plan are complementary to the promotion activities being supported in this component. Complementary activities already identified and being delivered include facilitation services, such as advice on power, telecoms and other utilities, local regulations and market conditions etc., tailored to individual investors starting-up projects. The UIA is also supporting local enterprise development in the regions, and advertising and public relations within Uganda to stimulate domestic investment. 2.34 Purpose and Outputs. The purpose of this component is to foster private investment in Uganda. The expected output would be the generation of US$ 10 of additional private investment for every dollar spent in promotion and facilitation. 2.35 Activities. Promotional services to be supported include marketing activities, informational guides, and meetings with potential investors (individually and in groups) overseas and in Uganda. The UIA will make use of an international firm experienced in investment promotion and with representation in key overseas markets (such as South Africa, India, and the UK), and use those resources alongside the in-house expertise being developed within UIA. In summary, services will be delivered in two strands: a Marketing Uganda campaign and investor aftercare. OTC "pink sheets". Level 11 and Ill programs are fully registered with the SEC and are traded on one of the New York, the American, or the NASDAQ exchanges. Level III programs are authorized to issue ADRs representing new shares to raise capital from American investors. It can be envisaged that a similar scheme can be developed on the Nairobi stock market for the exclusive purpose of serving the needs of investors located, say, in Nairobi (including portfolio investors from outside Africa) to invest in Tanzanian and Ugandan shares. If the Ugandan govemment wishes to make a public floatation of the shares in Uganda Commercial Bank, for instance, and finds the Kampala market too small to accommodate the issue, then a large part of the issue can probably be floated on the Nairobi market through a mechanism similar to Level IIl ADRs. - 26 - 2.36 Marketing Uganda is a coherent and well focused series of promotional initiatives designed to inform potential investors of the opportunities which Uganda offers, and to convince them of their attractiveness. Broadly, the initiatives are of three complementary types: (a) Market research and marketing services. To set the base for a successful country marketing campaign, detailed and accurate information must be available as to the strong "products" (investment opportunities) which Uganda has to offer, and as to the customers' (investors') requirements and perceptions of the product being offered. Specific market research can be complemented by selected marketing services, such as the use of target company lists. These techniques involve a demand-led rather than supply-forced approach: the UIA will explore and respond to the perceived needs and interests of foreign and domestic investors, and avoid the pitfalls of profiling specific project concepts which may not be of interest in the investor marketplace. (b) Promotional material and advertising. High quality and carefully targeted promotional materials (such as brochures, guides, and sector profiles), together with niche advertising, are the tools to pass information to potential investors, and to capture their interest; and (c) Investor lobbying. The surest way to convert interest into action is directly to meet and lobby potential investors. Outward bound missions to businesses in selected target countries (such as South Africa and the United Kingdom), attendance at a small number of industry-specific international trade fairs, and inward bound missions to show on-the-ground opportunities, are the main ways in which the UIA (and its agents) will gain face-to-face contact with investors. Investor lobbying is a resource-intensive activity, but the experience of successful investment promotion agencies elsewhere indicates that it an essential part of a well-rounded work program. Independent research23 has also confirmed the cost- effectiveness of these promotional techniques. 2.37 Investor aftercare is an important and sometimes neglected part of investment facilitation. It involves keeping a track of investments which have been won for Uganda, helping resolve residual problems for clients, identifying elements of success, and recognizing where there has been failure. These are all actions which reassure the investor that the agency seeks to build long-term relationships. Contented investors are a good source of marketing, through word- of-mouth in the business community, and through their testimonials which can be used in future marketing efforts. The process of aftercare, including investor surveys, automatically reveals strengths and weaknesses which form the base for realistic, informed and relevant policy advice to Government and opinion-leaders in the private sector. 23 "Marketing a Country', Wells & Wint, FIAS (1990) - 27 - 2.38 Implementation Arrangements. The services provided in this project will be ultimately delivered by the UIA, under contract to the PSF. Under the terms of this contract, the UIA will sub-contract a specified part of the work program to an international firm, acceptable to the PSF, which is experienced in investment promotion. 2.39 This approach to implementation allows the UIA to build on its established groundwork in Uganda's investment promotion and maintain a coherent overall promotion strategy. At the same time, the UIA can utilize the special expertise and comparative advantage of an international contractor in the delivery of services overseas, whilst using this link to strengthen its long term institutional capacity. Such a partnership approach between a national promotion agency and a sub-contracted international firm experienced in investment promotion has successfully been adopted by countries elsewhere. The broad elements of the investment promotion program outlined above will be implemented as follows: (a) the core staff of the UIA will take prime responsibility for in-country investment promotion, facilitation, and after-care service for investors. UIA will also take the lead in designing the strategy for the entire promotion strategy, including any specialist activities to be sub-contracted to external bodies; (b) specialist international investment promotion companies which have the technical resources and sector experience will be contracted to identify and contact potential investors in target countries and sub-sectors through their own network of offices; (c) combined initiatives involving both core staff and the contracted international specialists will underpin the strategy of cost-effective investment promotion. For example, to be credible in the target markets, the international specialists must be conversant about the home country conditions; equally, the core staff can and should add value to international investment promotion initiatives. 2.40 The selection of an international sub-contractor will be approved by the PSF and will follow the Bank's guidelines on the Use of Consultants. In reaching agreement with an international sub-contractor, firms will be encouraged to use their expertise and experience to formulate their proposals of the specific services (with performance measures and target outputs), which will contribute cost effectively to the ultimate objective of securing new foreign direct investment in Uganda. On the basis of a firm's proposed profile of services, the UIA will agree with the selected firm on the precise services to be purchased under this contract. 2.41 As a guide, the UIA anticipates that some or all of the following services would be provided on an annual basis, to persuade potential investors to invest in Uganda: (a) advising and agreeing with the UIA, on the industrial sector focus of marketing efforts; (b) working with the UIA, and contributing to its efforts in the compilation of high quality briefing/marketing material outlining Uganda's investment potential, to be - 28 - used in the campaign to attract potential investors' initial interest. For example, in a briefing pack for investors put together by the UIA, the firm may add material which is focused on the interests of businesses in the target market (e.g. information on tax arrangements with the USA; cost and time taken for transporting goods from Uganda to the UK); (c) identification of potential investors, using firms' own market contacts, business databases, and other marketing tools; (d) contact with potential investors, through attendance at business exhibitions, trade fairs etc. held in the target markets; (e) meetings with investors, on an individual and group basis, undertaken by the firm as agents of the UIA, and, where appropriate, assisted by UIA staff on outward missions; (f) assistance in the inward missions of investors who have been persuaded by the firm to visit Uganda to explore opportunities. 2.42 The firm would also be expected to make efforts, alongside this mainstream activity, to build investment promotion skills and capacity in the UIA. This could, for example, take the form of: (a) co-opting a member of UIA's staff onto the international team; (b) providing UIA staff with seminars and training sessions, on the specific techniques being adopted by the firm under this contract, when the firm is visiting Kampala on inward missions; and/or (c) giving feed-back to the UIA on the effectiveness of the techniques being used. E. Project Cost and Financing Plan 2.43 The program cost is estimated at US$20.9 million equivalent (U Sh 19.8 billion) inclusive of US$0.3 million of taxes and duties, out of which the proposed credit will finance US$12.3 million equivalent. The foreign exchange component of the program is estimated at 70% of the total cost. Base cost estimates, US$20.5 million, are in July 1995 prices. Price contingencies are estimated at US$0.4 million (2 % of project costs). The project is expected to be completed by December 31, 2000 and close by June 30, 2001. 2.44 A summary of estimated costs is presented in the following table and further detail on cost and financing is included as Annex 4: - 29 - Table 2 - Project Cost Summary (in US$ million) Component Local Foreign Total % Foreign Private Sector Foundation 1.9 0.4 2.3 19% Business Uganda Development Scheme 2.6 4.9 7.5 65% Equity Financing Component 1.0 7.9 8.9 89% Investment Promotion & Facilitation Services 0.5 1.3 1.8 70% Total BASELINE COSTS 6.0 14.5 20.5 71% Price Contingencies 0.3 0.1 0.4 36% Total PROJECT COST 6.3 14.6 20.9 70% 2.45 Government Counterpart Funds. The proposed IDA credit of US$12.3 million equivalent will finance about 59% of project costs net of duties and taxes over a five-and-a-half- year period. The local contribution made by Government will be for an estimated amount of US$0.3 million (1.5%). 2.46 Parallel Financing. As discussed in Section I, there are also several donor initiatives which will run parallel to this project. The PSF will liaise closely with all these donors to ensure that an effective coordination of efforts is achieved. 2.47 Private Sector Contribution. The private sector will participate in the financing of the project in three components for a total amount of US$4.3 million (of which at least US$ 3.3 million from private firms resident in Uganda). Under the PSF component, the private sector has borne the cost of establishing the Foundation and will bear an increasing share of its operating costs as IDA's contribution is reduced over time. Under the BUDS component, the private sector will pay 50% of the cost of the services bought through the scheme. Finally, under the equity financing component, private investors in EAVCF will match UEF's resources on a 2:1 basis. 2.48 The proposed financing plan is set out in the following table: Table 3 - Financing Plan (US$ million equivalent) Amount % Proj. Cost IDA 12.3 58.8% GOU 0.3 1.5% International and Local 4.0 19.1% Financial Institutions (including IFC) Private Sector 4.3 20.6% Total 20.9 100.0% - 30 - F. Project Implementation 2.49 Project Management. The overall management structure is shown in Annex 6. Typically, a project implementation unit (PIU) is assigned responsibility for overall project management. In this case, the PSF will perform this role, and in this capacity it will report, directly and through its board, to GOU and IDA. This project management activity will complement the PSF's initiatives (also supported under this project) to analyze key issues affecting the private sector and promote constructive dialogue with government. In order to ensure proper coordination and supervision of Project Components, a Project Steering Committee (PSC) will be established including the PSF Board and two Government representatives, the Secretary to the Treasury and the Permanent Secretary of Ministry of Trade and Industry or their nominees. The Project Steering Committee will be responsible for: (a) approving the annual work plan; (b) reviewing the full report on each year's project performance, including the implications of financial and operational audits; (c) meeting with IDA supervision missions. 2.50 MFEP will also designate a liaison officer to deal with requests from the PSF. The liaison officer will have the role of facilitating any interaction between the PSF and the civil service, not of supervising the PSF work. As such he/she will act only upon request of the PSF. The establishment of the PSC and the appointment of the government liaison officer within MFEP will be conditions of credit effectiveness. 2.51 Formally, the MFEP will need to delegate responsibility for project management to the PSF, through a Subsidiary Agreement. Government will be transferring credit proceeds to the PSF relying on the provisions of Section 17 of the Public Finance Act, Cap. 149. A letter has been received from the Government confirming that. (a) provisions have been made by Government for the appropriation offunds for the purpose of the project and (b) the candidate filling the post of PSF Project Coordinator can be considered a public officer for the purpose of the Public Finance Act, Cap. 149 and will be able to access credit proceeds and government counterpart funds directly. The content of the Subsidiary Agreement was discussed at negotiations and the actual signing of a Subsidiary Agreement acceptable to IDA will be a condition of credit effectiveness. 2.52 The PSF's approach to overall project management will be, for each component: (i) to delegate the maximum degree of operational independence and responsibility to the selected agents implementing individual components; (ii) to avoid involvement in day-to-day operational issues; (iii) to monitor broad performance each quarter, and rigorously review performance each year with the PSC. To help the component managers and the PSF Project Coordinator fulfill their roles effectively, a draft Project Implementation Plan (PIP) has been prepared by the Private Sector Task Force as part of the appraisal process. An initial draft of the Project Implementation Plan for the project including Action Plans for all components was received by IDA prior to - 31 - negotiations, and an updated draft has been received to reflect discussions and agreements made during negotiations. The receipt by IDA of the final satisfactory PIP and Action Plans for all components for the first year of the project is a condition of credit effectiveness. The outline of the PIP is included as Annex 7. The project will be carried out in accordance with the Project Implementation Plan, satisfactory to IDA, and, commencing from the second year of project implementation, the Action Plans will be refined and submitted to IDA as annual work plans no later than the first day of May preceding the financial year covered in the work plan. 2.53 BUDS. BUDS will operate as a self-standing scheme, implemented by a management contractor, chosen by an internationally competitive tender. BUDS management will sign a performance contract with the PSF. The contract will designate BUDS management responsibility for ensuring that the rules and regulations set out in the procedure manual, and agreed with the Government and IDA, are being followed and that component objectives, embodied in the legal agreements and monitorable indicators, are being met. In the event of performance being deemed unsatisfactory, the PSF, in consultation with IDA and the GOU, could terminate the contract and select an alternative contractor. The management will have operational independence; submit brief quarterly progress reports to the PSF; and have performance reviewed formally each year by the PSF, in consultation with the GOU and IDA. A small executive committee of the PSF will be formed with which the BUDS management should consult during the year, as issues arise upon which policy direction for the scheme is required. 2.54 Equity Financing. The UEF will have no independent legal status. It will be a bank account administered by the PSF and shares in participating equity funds shall be held in the name of PSF. The PSF will invest UEF resources in participating equity funds, of which up to two (i.e., EAVCF and DFCUF) have been pre-identified, and these investments will be regulated by a Share Subscription and Shareholders Agreement, identical to those signed by the other investors in each fund. During each year, the management of the two funds will report on progress to all shareholders including the PSF. The PSF Project Coordinator or other PSF representative designated by the PSF Board may attend meetings of the Investment Committee and the Board of each fund as an observer. 2.55 Investment Promotion and Facilitation. The services will be delivered under a contract or service agreement between the UIA and the PSF. It should be clear that this contract will act as the instrument which defines the relationship between the PSF and the UIA. The UIA will issue brief progress reports on a quarterly basis, and at the end of each year performance will be monitored formally by the PSF against agreed targets, and reviewed with IDA. It will be important to ensure, in the implementation of the project, that the other elements of the UIA's overall business plan are complementary to the promotion activities being supported in this component. A draft Institutional Development Plan for the UIA was received before negotiations. Receipt of a final satisfactory Institutional Development Plan, approved by both the UIA Board and Government, will be a condition of disbursement for this component. - 32 - G. Procurement 2.56 National Procedures. Problems caused by outdated government procurement procedures have been responsible for poor project implementation and slow disbursement rates in other IDA Credits in Uganda. The Government is taking steps to correct these problems with the help of the Bank. The latest Country Procurement Assessment Mission (November 23, 1994) focused on improving procurement under IDA Credits. Greater emphasis is now being put on training of project management staff, which will be provided under the project, and IDA supervision efforts. The project herein will introduce a largely private management structure, which is expected to be more effective than more conventional arrangements. Furthermore, to ensure IDA procedures are well understood, training in procurement and disbursement will be provided from the beginning of the Project and continued periodically through workshops. 2.57 The following goods and services will be procured: (a) under the Private Sector Foundation component, vehicles, office equipment and furniture will be procured. Major services procured will be for the staffing of the PSF with local professionals on 2-3 year contracts. The local staff will be responsible for processing all procurement actions under the project and will be familiar with IDA procurement guidelines. The component will also fund project management costs, including office rental, printing of promotional materials, promotional events and operational and financial audits for all components; (b) under the BUDS Component, vehicles, office equipment and furniture will also be procured by the PSF staff. Major services procured will be (i) the management contract for the BUDS Scheme for which statements of interest will be solicited internationally and bid evaluation will be performed by the PSF Board; and (ii) the consulting services procured by the recipients of BUDS grants under the supervision of the BUDS manager; (c) under the first strand of the equity component financed by IDA, the promoters of sub-projects to be funded through the equity component will purchase goods and services. Under the second strand of the equity component, other major services to be procured directly by the PSF will concern consultancy studies, and some in-country promotion and training; (d) under the Investment Promotion and Facilitation Component, major services to be procured will be the services to be performed by the UIA. The component will also fund the printing of promotional materials. Table 4 summarizes the major types of procurement to be undertaken in the project. - 33 - Table 4 - Procurement (in US$ thousand) Procurement Method Project Element NCB"0' Int'l/Nat'l Shopping Others NBF Total A. Goods and services - 2,500 'C' 5,0_00 7,500 (2,500) (2,500) B. Vehicles, Equip. and 239 - 239 Furniture (161) (161) C. Consulting Services - - 7,798 3,000 lb) 10,798 (incl. Travel Exp.) (7,714) (7,714) D. Training - - 180 180 (172) (172) E. Printing and Advertising 294 294 - 588 (272) (272) (544) F. Recurrent Expenditure - 740 890 1,630 (529) (694) (1,223) G. Total 533 1,034 11,367 8,000 20,934 _ (433) (801) (11,080) - (12,314) (a) Financed by International Financial Institutions, including IFC, and private investors (b) Financed by BUDS recipients (c) Procurement method in this case is national private sector practices, acceptable to the Association (d) In case any contract exceeds US$ 100,000, it will be procured by ICB 2.58 Bank Group Guidelines will be followed for the procurement of all goods and consultants' services. Specifically: (a) Prior Review: All consulting contracts with firms and procurement of goods over US$100,000 will be subject to prior review. Consulting contracts with individuals over US$50,000 will be subject to prior review. However, to ensure that proper procedures are being followed, the procurement of the first three contracts for goods and the first three consulting contracts will be submitted to IDA for prior review. During supervision missions, IDA will review one in five randomly selected contracts which are below these prior review thresholds. (b) Method of Procurement for Goods (i) UEF sub-component. Under this component credit proceeds will be invested in private enterprises through participating equity funds - two equity funds (EAVCF and DFCUF) having been identified to date. Procurement will be undertaken by the respective beneficiaries in accordance with established National private sector practices, which are - 34 - 24 acceptable to IDA . The average size of IDA funded contracts is expected to be US$50,000 and no contract is expected to exceed the prior review threshold limit of US$100,000. Proprietary spare parts may be procured on a sole source basis, while all other contracts will be awarded on the basis of competing price quotations from three suppliers. (ii) Other Components. Procurement of vehicles, equipment, furniture, printing, advertising and materials will be carried out through: national competitive bidding if the estimated cost is more than US$50,000 but less US$100,000 per contract and US$250,000 or less in the aggregate for vehicles equipment and furniture, and US$300,000 or less in the aggregate for printing and advertising; - international shopping procedures in accordance with Bank's Procurement Guidelines, on the basis of at least three quotations from reputable suppliers, if the estimated cost is US$50,000 or less per contract and US$500,000 or less in the aggregate; and national shopping procedures in accordance with Bank's Procurement Guidelines, on the basis of at least three quotations from reputable suppliers, if the estimated cost is US$30,000 or less per contract and US$300,000 or less in the aggregate. (c) Method of Procurement for Consulting Services. Selection of consultants will be made in accordance with Bank's Guidelines on the Use of Consultants. In general, all senior long-term positions will be advertised internationally to solicit interest and prepare the short list. In particular, (i) BUD Scheme beneficiaries will select their own service suppliers, in accordance with the qualifying criteria contained in the BUD Scheme Operations Manual. All grants will be small, the cumulative limit per firm having been set at US$30,000 total grant. The BUD Scheme management unit will seek to satisfy themselves as to the supplier's competence for the task, and that there is a genuine arm's-length commercial relationship between supplier and user. The management unit will develop and maintain a listing of service suppliers utilized by grant recipients, and will also maintain files of client satisfaction feedback forms, both of which will be used to give guidance to potential grant recipients, as requested. However, the beneficiaries' choice will not be restricted to suppliers The CPAR of November 23, 1994 found that "the commercial practice by the private sector where contracts are awarded against quotations from three or more suppliers, supplemented by pre-shipment inspection are in conformity with good international and domestic procurement practices." - 35 - already listed on any such register maintained by the BUD Scheme management unit. (ii) A sole source contract for a term of two years for the provision of investment promotion and facilitation services to private entrepreneurs will be negotiated with the UIA by the PSF. The agreement (anticipated value of US$800,000) will include a requirement that the UIA selects, according to Bank guidelines for the use of consultants, an international sub-contractor acceptable to the PSF to perform agreed services (approximate two year cost of US$470,000 out of the US$800,000 total) alongside those delivered directly by the UIA. This approach allows the UIA to build on its work to date, maintain a coherent overall promotion strategy, utilize the special expertise of an international contractor in the delivery of services overseas, and strengthen its long term institutional capacity through this partnership. According to the assessment of the PSF and Bank Staff, at present the UIA is the only institution with unique qualifications and experience to be able to provide overall investment promotion services in a cost effective way. Although the UIA is Government-owned, it is legally and financially autonomous and operates 25 under commercial law . After two years, this arrangement will be reviewed in light of the ability of other, particularly private, institutions to provide such services. Should alternative providers exist then, this service contract could be opened to competitive selection under the use of consultant Guidelines. 2.59 The standard goods procurement/consultancy recruitment processing timetables in the procurement plan will be followed during project implementation. A procurement plan for the first year, draft bidding documents and draft Letters of Invitation for all major contracts for the first year 's program have been received, providing the groundwork for actions on procurement and consultancy activities to be well advanced at the time of credit effectiveness. H. Disbursements 2.60 The categories to be funded by proceeds of the credit are outlined in the table below. 25 The UIA has been established under the 1991 Investment Code as an independent statutory corporation, operating under commercial law and preparing its own independently audited accounts. Its funding is provided mainly by donors. - 36 - Table 5 - IDA Credit Summary Allocations Category SDR % of Expenditure to Thousands be Financed A. Goods and services under the Uganda Equity 1,680 100% foreign; Facility 90% local B. Consulting services (including travel): (i) Matching grants under BUD 2,010 50% Scheme; (ii) Investment promotion and 1,040 100% facilitation services; and (iii) Other parts of the project 2,110 100% C. Vehicles, equipment and furniture 110 70% D Printing and advertising services 340 95% E Operating expenditures 730 (i) 1996 through 1998 95% (ii) thereafter 75% Unallocated 280 Total 8,300 2.61 Foreign and local recurrent costs will include project staff salaries and benefits, office rental, office supplies, professional fees, vehicle and equipment operations and maintenance, utilities and will be funded by the project on a declining basis. 2.62 Management of Project Funds. Funds for the smooth operation of the project would be managed through several types of accounts as described below: (a) Three Special Accounts would be established in US dollars in a commercial bank in Kampala, on terms and conditions acceptable to IDA as follows: (i) One Special Account of US$500,000 would support activities for all components other than the Matching Grant Scheme under BUDS and the Uganda Equity Facility. The size of the special account reflects the estimated quarterly requirements for operating costs, equipment procurement and consultant services. (ii) One Special Account of US$300,000 would support the Matching Grant Scheme under the BUDS component. The size of the special account reflects the estimated quarterly requirements for grants. (iii) One Special Account of US$300,000 would support the Uganda Equity Facility under the equity financing component. The size of the special account reflects the estimated timing of the share subscriptions. - 37- (iv) The Special Accounts would be replenished on the basis of monthly withdrawal requests covering aggregated monthly expenditures. Payments of less than US$100,000 for goods contracts and for consultancy contracts with firms and payments of less than US$50,000 for consultancy contracts with individuals would be documented through statements of expenditure, with the underlying documentation retained by the PSF on behalf of all project units and available for inspection by IDA supervision missions. (b) Government's local contributions to the project costs would be made into one project account established at a local commercial bank. (c) To ensure clear responsibilities for funds management, funds accessed directly from the IDA Credit would be withdrawn only by the PSF Project Coordinator. The only exception would be the BUDS Component where withdrawal from the Special Account will be made by the BUD Manager with each check countersigned by the PSF Project Coordinator. (d) Funds from both IDA and GOU would be managed to cover project expenditures in accordance with the Development Credit Agreement (DCA) disbursement categories and the percentage of reimbursement. 2.63 The Credit disbursement schedule is based on the relevant disbursement profile for small and medium enterprise development projects (6.5 years), and Technical Assistance Projects in Africa (7 years), taking into account the project implementation experience in Uganda. It is expected that all component would be fully disbursed five and a half years after effectiveness. Such a shorter disbursement schedule is based on the experience of other Technical Assistance Projects in Uganda and on the assumption that a private sector PIU will be more efficient in implementing a private sector development project than a typical Government agency. Funds under the Credit component would thus be available for commitment until December 31, 2000. According to the schedule below (Table 6), disbursements would be completed by June 30, 2001, the proposed Closing Date. Table 6 - Estimated Disbursement Schedule (in US$ thousand) 1996/97 1997/98 1998/99 1999/2000 2000/01 1st 2nd 1st 2nd I st 2nd 1 st 2nd 1st 2nd Sem Sem Sem Sem Sem Sem Sem Sem Sem Sem Per period 1,235 1,235 1,450 1,450 1,525 1,525 1,685 1,685 262 262 Cumulative 1,235 2,470 3,920 5,370 6,895 8,420 10,105 11,790 12,052 12,314 I. Accounting Auditing and Reporting 2.64 Auditing. Auditing requirements for all ongoing IDA Credits in Uganda's finance and privatization have been met. All project units will have their accounts, as well as special - 38 - accounts and statement of expenditure (SOEs), audited annually by independent auditors acceptable to IDA and will furnish to IDA certified copies of their audited accounts together with the corresponding management letters within six months of the end of the fiscal year. These audits will be financed by the Credit. A qualified and reputable private audit firm will be hired, with approval from the Auditor's General Office, for a one year contract, with an option to renew for the duration of the credit. 2.65 Given the pilot nature of the project a special operational audit will be conducted once a year on the PSF, BUDS and equity financing components. Such audits would be eligible to be financed by the Credit. The operational audits will draw upon progress report and other sources, as well as survey of beneficiaries by auditors. The objective of this work would be whether objectives are being met and procedures are being respected. The continuation of IDA support to each component would be contingent on satisfactory audit results, particularly with respect to services delivered to private firns, as well as IDA's own direct assessment. The Project Implementation Plan contains details regarding the methodology to be observed in maintaining project accounts. The form of the audit and the Terms of Reference for annual audits by independent auditors, satisfactory to IDA are also included. Financial and operational audits are to be undertaken annually during project implementation; the format of the audit report is to be satisfactory to IDA, and audited accounts are to be submitted to IDA within six months of the close of the financial year. 2.66 Reporting. Quarterly, the PSF Board, or executive committee thereof, would meet to review progress, make appropriate decisions and assign responsibilities for any follow up action required. Immediately after each meeting, the PSF would transmit the minutes of these review meetings, together with a brief progress report, covering the financial and operational performance of each project component, to IDA. The progress reports would be based upon submissions made by the respective management contractors and technical advisers, with the PSF's own summary evaluation 2.67 Annually, The PSC would consider a full report on the previous year's project perforrnance, including reviews against established performance criteria and contractual obligations. This annual report will also be reviewed by the GOU and IDA. Forward-looking annual work programns will also be submitted, by those agents implementing project components, to the PSF Board for review, in conjunction with IDA. 2.68 Mid-Term. The mid-term review is to be undertaken within 30 months after project effectiveness but no later than December 31, 1998, with significant government and private sector participation and analytical inputs, and any actions agreed during the review are to be implemented expeditiously, in consultation with IDA. The review would be a joint exercise with the Government and the Ugandan private sector and would be undertaken with the institutions concerned, including the PSF, BUDS, UIA, MFEP and the Ministry of Industry. At least one month prior to the review, the PSF, with the support of the GOU, would furnish a sufficiently detailed report covering areas to be agreed upon with IDA, including an evaluation of progress in project implementation. The basic reference documents will include the Government's sectoral - 39 - policy statement, monitorable indicators, the procedure manuals, audits, as well as other Credit and project documents. 2.69 The main purpose of both the annual and mid-term reviews would be to evaluate whether (a) the project is being implemented satisfactorily; (b) its design and functions can be improved; (c) there are sectoral policy issues which still need to tackled. Every aspect of initial project design would thus be questioned and, wherever shortcomings are detected or possible improvements are identified appropriate changes would be brought into project functions. The IDA mission would summarize in a detailed aide-memoire its conclusions and recommended actions for addressing such issues. The PSF, with its implementing agents, and GOU would be responsible for the required follow-up. 2.70 Completion. An Implementation Completion Report (ICR), the content and format of which is to be agreed upon with IDA, would be submitted by the GOU within six months after the project closing date of June 30, 2001. The PSF would prepare this ICR in close collaboration with the GOU. J. Supervision Plan 2.71 The pilot components included in the project will require intensive supervision, estimated at about 24 Staff Weeks (SWs) during the first three years of the project and about 14 Sws thereafter. About 10 Sws will be spent by Bank Staff at headquarters in year 1, diminishing to 6 from year 4, with the rest consisting of field missions or resident mission input. Resident Mission staff would be involved in project supervision wherever possible, to ensure continuity and quick responsiveness of service to the PSF and GOU. Detailed IDA supervision plans are given in Annex 5, and include a tentative timetable, mission focus and skills mix. 2.72 Participatory Supervision. The participatory process followed during project processing will be extended into supervision to improve project responsiveness to beneficiary requirements and build support for the project during implementation. The project team will take responsibility for generating lessons learned and improving performance as an internal matter, and that it not rely just on an external supervision and auditing process. Details are included both in Annex 5 and in the Project Implementation Plan. K. Environmental Impact 2.73 The project is in environment Category C. A National Environment Action Plan (NEAP) has been adopted by the Government of Uganda and IDA is actively involved in its implementation, including through the Environment Management Project. The proposed PSC project will mainly provide technical assistance, except for the equity financing component. To be eligible for equity financing under a participating equity fund, firms will be required to demonstrate they conform with Uganda's environmental laws. Participating equity fund managers will review the overall environmental performance of the investee companies and, if necessary, make recommendations to improve and strengthen corporate performance. - 40 - L. Benefits and Risks 2.74 Sustainability. Project sustainability is being ensured by meeting IDA's requirements for determining quality at entry, with an integrated approach to the sector, the involvement of all stakeholders in policy determination, the coordination of the efforts of all donors, common implementation arrangements and minimal reliance on long term technical assistance. The leading role played by the private sector task force in designing this project sets sound foundations for local ownership and commitment to the initiatives being taken. Furthermore, Government, in consultation with the Private Sector Task Force, has prepared and submitted a Private Sector Policy Statement which defines the supportive policy framework within which this project will function (Annex 1). Finally, all public and private entities involved in the project (i.e., PSF, UIA, EAVCF and DFCUF 26) are and are expected to remain financially sustainable as indicated in Annex 9. In particular, while the Uganda Equity Facility and the Business Uganda Development Scheme will be temporary and will be wound up once credit proceeds are, respectively, returned to government or fully utilized, the Private Sector Foundation will attempt to outlive the project. To ensure it will be able to do so, the Ugandan private sector has been asked to bear the cost of establishing the Foundation, as a sign of its commitment. Furthermore, IDA' s contribution to the PSF operating costs will be reduced over time, so that the private sector will bear 100% of non project related operating costs by project end. UIA will continue to rely on donor support, but its functions will be streamlined as a result of the project. 2.75 Benefits. The proposed operation complements Uganda's macro-economic adjustment program, supported by the Bank and the IMF and is expected to provide the following sustainable benefits. First, the project will improve the capacity of the Uganda private sector to compete internationally. This improved competitiveness should have a positive effect on exports, employment and investment. Second, the project will improve the dialogue between the Government and the private sector, thus enhancing the long term sustainability of ongoing economic reforms and improving the quality of the reform process itself. Third, the project will encourage private capital flows to Uganda, although still on a very limited scale, thus reducing Uganda's dependency on donor flows. In short, the project seeks to catalyze the growth of private firms and their contribution to Uganda's overall economic performance. 2.76 Many of these benefits are difficult, if not impossible, to measure in advance, but the best estimate is that the project as a whole would generate a Net Present Value (NPV) of US$7.8 million at a discount rate of 12 percent (see Annex 10 for further details). The estimate is based on calculations which measure three categories of benefit only. First, the Business Uganda Development Scheme should generate additional output and/or profits in firms assisted by the know-how of business consultants part-financed under the scheme. At present, access to their know-how is limited to larger firms due to price distortions in the market for business services which the Scheme will help overcome. Second, the Uganda Equity Facility supports equity funds in providing equity investment (and associated hands-on managerial advice) to commercial projects, which should produce a financial and economic return from the productive use of that 26 As participating equity funds. - 41 - capital 27. Third, investment promotion and facilitation and the reduced degree of uncertainty achieved through a close dialogue between Government and the PSF should increase the flows of additional foreign direct investment which generate employment, new technologies, and other benefits in Uganda. Of course, domestic investment should also increase, although this benefit was not quantified in estimating the project's net present value. The total present value of benefits is estimated at US$23.8 million, excluding any value for intangible benefits. Setting this against all the identifiable costs of the project (present value of US$16.0 million) indicates a NPV of US$7.8 million (an estimated economic rate of return of 23%), which might be considered as a lower bound estimate of the actual economic return to be generated. 2.77 Risks. Several conditions are assumed, which could affect the performance of the overall project, including: (i) the continuation of political and macro-economic stability; (ii) Government remaining committed to PSD and willing to discuss policy issues with the private sector; (iii) the acceleration of the privatization process and substantial improvements in the management of major public utilities; (iv) a substantial improvement in the functioning of the financial sector. Specific assumptions have also been made on each component, including: (i) the PSF component assumes that associations will be able to work together within one "apex" institution (the Foundation) and that it will be allowed to act as implementing agency; (ii) the BUDS and the equity component assume a sufficient degree of openness of firms towards external advice/capital and a sufficient degree of cooperation among donors; (iii) the equity component also assumes there will be enough profitable projects able to attract equity investments and enough private investors interest in EAVCF and any other fund which might participate; and (iv) the Investment Promotion and Facilitation Services component assumes that Parliament will pass a reformed Investment Code which will allow the UIA to cease its administrative/regulatory duties. 2.78 Risk Mitigation Program. The project includes a considered program of mitigating some risks and maintaining active supervision to redress problems should any of the other considered risks arise. First, in recognition of the fact that the PSD agenda is substantial and evolving, provision has been made for a flexible approach to providing consultancy support for specific activities and also for acquiring expert assistance on an as-and-when-needed basis for the entire life of the credit. Second, implementation risks would be monitored by the Project Steering Committee (PSC). The PSC will include government representatives who have had previous experience in dealing with IDA projects. Third, the risk of lack of donor coordination in the area of business services and equity financing will be addressed by the PSF Board, which will liaise closely with all donors interested in PSD issues. Fourth, risks affecting the BUDS component (i.e., participants unwilling to apply new skills in their business and grant abuse) will be addressed through the free hand-holding services that will be provided by the BUDS management to firms applying for assistance. Hand-holding services will include advice on how to decide what tasks would most benefit from service use, how to select the most suitable service provider for the task, how to get the best out of the provider, and how to ensure a lasting impact within the firm. Fifth, the involvement of IFC in EAVCF and possibly in the proposed DFCU 27 Assuming that the financial costs and benefits of sub-projects can be approximately equated with the economic costs and benefits; a reasonable assumption given the largely undistorted prices. - 42 - Fund should ensure that both funds are professionally managed and substantially reduce any moral hazard risk. In addition, the local sponsor of EAVCF (Industrial Promotion Services (Kenya) Limited, which is affiliated to Aga Khan Foundation for Economic Development) and DFCU (in which IFC, CDC and the German development agency, DEG, are also shareholders) have a long track record of successful equity investing. The quality of these two local sponsors bodes well for the identification of suitable investment projects. Sixth, it will be private entrepreneurs who will be committing their own finance and resources (supported by the project), taking risks and making operational decisions. The discipline of the market should help ensure that the myriad of individual investments (expected to be about 400 in total), assisted under this project, deliver sound economic returns to Uganda as projected. Finally, the cost- benefit estimates indicate that in a worst case the performance targets for individual components could be underachieved by a third, while still generating a positive NPV for the project based solely on quantified benefits. - 43 - 3. AGREEMENTS REACHED AND RECOMMENDATION A. Events occurring before Appraisal 3.1 The following events occurred before appraisal: (a) establishment of a Private Sector Task Force, comprising five private sector representatives and four government officials to work with IDA in project preparation and appraisal (para. 2.3). B. Events prior to Negotiations 3.2 The following events preceded negotiations: (a) establishment of a Private Sector Foundation, with rules and regulations acceptable to IDA (para. 2.7); (b) receipt of the initial draft of the Project Implementation Plan for the project including Action Plans for all components (para. 2.52); (c) receipt of a draft Private Sector Policy Statement containing GOU's proposed policies underpinning the project (para 2.74); and (d) receipt of a draft Institutional Development Plan for the UIA (para. 2.55). C. Assurances at Negotiations 3.3 Assurances were received during negotiations that: (a) the Subsidiary Agreement will be satisfactory to IDA (para. 2.51); (b) the project will be carried out in accordance with the Project Implementation Plan, satisfactory to IDA, including Action Plans for all components (para. 2.52); (c) commencing from the second year of project implementation, the Action Plans will be refined and submitted to IDA as annual work plans no later than the first day of May preceding the financial year covered in the work plan (para. 2.52); (d) standard procurement/consultancy recruitment processing timetables and documents will be utilized during project implementation (para. 2.59); (e) financial and operational audits will be undertaken annually during project implementation; the format of the audit report would be satisfactory to IDA; and audited accounts would be submitted to IDA within six months of the close of the financial year (para. 2.65); and - 44 - (f) a mid-term review will be undertaken within 30 months after project effectiveness but no later than December 31, 1998, with significant government and private sector participation and analytical inputs, and actions agreed during the review would be implemented expeditiously, in consultation with IDA (para 2.68). D. Actions completed prior to Board Presentation 3.4 The following steps have been completed prior to Board presentation: (a) receipt of a letter confirming that: (i) provisions have been made by Government for the appropriation of funds for the purpose of the project and (ii) the person filling the post of PSF Project Coordinator be considered a public officer for the purpose of the Public Finance Act, Cap. 149, Laws of Uganda, and will be able to access credit proceeds and government counterpart funds directly (para. 2.51). (b) receipt by IDA of a revised draft of the Project Implementation Plan including Action Plans for all components and (para. 2.52) (c) receipt of a procurement plan, draft bidding documents and Letters of Invitation for all major contracts for the first year's program (para. 2.59); and (d) receipt of the final Private Sector Policy Statement (para. 2.74). E. Conditions of Credit Effectiveness 3.5 The conditions of Credit effectiveness would be the following: (a) establishment of the PSC and appointment of the government Liaison officer within MFEP (para. 2.50); (b) receipt of a signed copy of the Subsidiary Agreement acceptable to IDA (para. 2.51); and (c) receipt of the final satisfactory Project Implementation Plan and Action Plans for all components for the first year of the project (para. 2.52) F. Conditions of Disbursement 3.6 The following would be the conditions of disbursement: (a) for the investment promotion and facilitation component: receipt of a final satisfactory Institutional Development Plan for the Uganda Investment Authority, approved by both the UIA Board and Government (para. 2.55), and - 45 - (b) for the equity financing component, investments in and by participating equity funds will need to be made in accordance with the eligibility criteria and tenns and conditions for the UEF (para. 2.27 and 2.28). G. Recommendation 3.7 Subject to the above conditions, the proposed project is suitable for a credit of SDR 8.3 or US$12.3 million to the Republic of Uganda on standard IDA terms. - 46 - ANNEX 1 Page 1 of 11 Telephones Minister. Ministry of Finance and Kampala 243054 & 232370 E o Pn g Ofhce: EconomicPlanning, Telex: Kampala 234700/9 (10 Lines) P.O. Box 8147, Telegrams 'FINSEC_ Kampala, In any correspondence on Uganda. this sublect please quoto No THE REPUBLIC OF UNDA M/MF/16 AOCl31 99 25 October 1995 H.E. James Wolfensohn The World Bank President World Bank Washington D.C Your Excellency, UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT Private Sector Policy Statement I. Background and Objectives 1. The Government of the National Resistance Movement has been implementing since May 1987 an economic reform program aimed at restructuring the Ugandan economy, which had been devastated by 15 years of political and military upheaval, and at stimulating a sustainable private sector-led export- oriented supply response. Since 1991, key aspects of the private sector reform agenda have been included within the Structural Adjustment Program (SAP), namely the return of Asian property, the 1991 Investment Code and the abrogation of the Industrial Licensing and Foreign Licensing Acts of 1969 and 1977. The SAP has been supported by donors and IDA, through two consecutive Structural Adjustment Credits (SAC I and II) and the Financial Sector Adjustment Credit (FSAC). Other IDA projects containing measures aimed at improving the business environment include the Enterprise Development Project (EDP) and the Institutional Capacity Building Project. 2. Complementing ongoing initiatives, the Government of Uganda requests further assistance to support the implementation of a comprehensive private sector strategy, which will be supported by the Private Sector Competitiveness Project (PSCP). This Statement and accompanying matrix highlight the main elements of such a strategy, aimed at ensuring the sustainable development of a private sector, calls for implementing a combination of macroeconomic and sectoral measures aimed at: (i) Maintaining a stable macroeconomic environment and liberal economic policies. (ii) Continuing with an open trade and exchange regime and liberalized prices, and alleviating the anti-export bias. - 47 - ANNEX 1 Page 2 of 11 (iii) Providing adequate physical infrastructure. (iv) Strengthening the financial sector, and improving access to and the cost of intermediation and payments services. (v) Opening business opportunities for the private sector and reducing the cost of doing business through privatization and reform of public enterprises. (vi) Removing impediments caused by unclear and outdated business laws and the weak judicial system. (vii) Establishing a clear and distortion-free pro-investment tax regime, while continuing to expand tax revenues. (viii) Clarifying and streamlining the regulatory framework and alleviating regulatory barriers. (ix) Enhancing private sector know-how and productivity. 3. By defining and implementing a private sector development strategy in close collaboration with the private sector, the Government intends to stimulate investment, and growth in industry, trade, and services. These sectors would be expected to outperform the rest of the economy and grow by 7 to 8 percent annually. Achievements to date and the key elements of the strategy are described below. II. Macroeconomic Framework and Trade Regime 4. Macroeconomic stability, including low inflation, is a precondition to private sector development. Since July 1993, prudent economic management and strict expenditure control has resulted in single-digit inflation and high GDP growth, surpassing 8 percent. Under the SAP the Government is committed to maintaining these policies. Furthermore, all key prices have been liberalized and investors can respond to market signals. 5. Uganda has carried out a far-reaching deregulation of foreign exchange market and transactions. The new system was institutionalized in April 1994 when the Government agreed to conform to the obligations of Article VIII, Sections 2,3, 4 of the Fund's Articles of Agreements, committing to place no restrictions on current intemational transactions without prior agreement of the IMF. As measured by its degree of openness, Uganda's trade regime is thus very close to the policy frontier. 6. The Govemment intends to consolidate these achievements and tackle remaining trade policy- induced distortions. Many of the aforementioned liberalization measures have been implemented through administrative measures, while more restrictive laws remain on the books. Similarly, the need to continue with import and export certificates is no longer apparent. To reduce uncertainty facing the private sector, legal provisions will be harmonized with practices. To alleviate trade distortions, the few remaining quantitative restrictions will be reviewed and reduced, and regional trade will be facilitated through the adoption of simplified procedures and paperwork, a measure which needs to be coordinated with neighboring countries. Finally, to reduce the anti-export bias tariffs will be reviewed and taxation of raw materials increased, and an effective duty drawback system will be implemented by July 1996. -48 - ANNEX 1 Page 3 of 11 m. Physical Infrastructure and Human Resources 7. The legacy of Uganda's internal problems experienced during the 1970s and 1980s included deteriorating physical infrastructure, particularly roads, and underdeveloped buman resources. The Government gives a high priority to rehabilitating these capacities, by increasing the share of public expenditure allocated to these priority program areas. These efforts are key to enabling private sector development and will be continued for the rest of the 1990s. Other infrastructure issues, related to supply of services by public utilities, are discussed in the context of public enterprise reform. 8. A related area where shortcomings have increasingly become apparent is the difficulty in accessing service land. This problem has a number of dimensions, ranging from access to and ownership of industrial land, difficulties in terms of cost, time and procedures to obtaining utility hook- up, and lack of public infrastructure, such as secondary roads, street lights and waste water treatment. As a result, most industries prefer to establish themselves in areas where industrial development has already occurred. This type of land is not readily available and is relatively scarce. Furthermore, most suitable plots are close to or within Kampala, which raises environmental issues. 9. Government recognizes that no easy or rapid solution to the problem exists. It believes that serviced land should be provided by the private sector, even though the public sector has a role to play with respect to the provision of some of the aforementioned associated infrastructure. Finally, the problem of access to public utilities requires tackling both a regulatory and transparency issue, terms and conditions for obtaining hook-ups, as well as a policy issue with respect of provision by the private sector of services currently by public utilities. The Government intends to study these questions during 1995/96, and assess whether or not a private sector, market oriented pilot solution can be identified and implemented. 10. The development of Uganda's human capital is a topic of the utmost importance in itself, and one to which the Government attaches the highest possible regard. The health, social well-being, education and training of the population are all critical factors in building a labor force which can sustain and enhance private sector growth. The Govemment has a coherent set of policies in the health, education and other social sectors to help improve human capital. Amongst these policies are specific measures to reduce the incidence of debilitating diseases including malaria, AIDS and tuberculosis; education and other programs to promote matemal and child health; enhancements to the numbers and quality of teachers and teaching materials to improve education services, and specifically to extend greatly the participation of females at all levels of the education system. IV. The Financial Sector 11. During the past two years, the Bank of Uganda has undergone significant restructuring and benefited from capacity building. As a result, the formulation of monetary and credit policies has improved considerably and bank supervision has been strengthened. These achievements notwithstanding, the financial sector suffers from difficulties, due in part from the overhang of a bad loan portfolio, as well as under-capitalization, low savings, and outmoded practices. The Ugandan private sector, particularly small- and medium-scale enterprises (SMEs), is affected by these problems through the high cost of, and limited access to credit and absence of certain types of payments mechanisms and financial instruments. 12. The government strategy calls for financial restructuring and strict control of problem banks and, in the case of UCB, improved efficiency through privatization. Furthermore, banks have been directed to strengthen their capital base, adhere to strict capital adequacy requirements and exposure ratios, and desist from the practice of insider lending. As these policy reforms are implemented, the Government is continuing its dialogue with the private sector and IDA aimed at identifying and tackling second generation issues, which would include improved payments systems and better access to a wider range of financial services. - 49 - ANNEX 1 Page 4 of 11 13. Given the low prevailing levels of domestic savings, the Government has agreed to avail donor-financed term resources to banks to finance private sector investment. In addition, the Goverament is encouraging a coordinated effort amongst donors to establish and fund a guarantee fund, which would alleviate the risk associated with lending to SMEs and thus improve access to credit. 14. The Government also endorses the pilot, initiative in the PSCP to strengthen the equity base of the private sector. To this effect, the project will provide equity capital to viable private ventures and mobilize resources for privatization. The Government has however agreed that such support will be provided only indirectly through reputable and privately managed funds and not directly through government agencies or government owned companies. V. Privatization and Public Enterprise Reform 15. The Government aims to open opportunities to the private sector in areas previously reserved to the State and enhance the efficiency of public enterprises, thus reducing the cost of doing business. The reform program calls for withdrawal of the public sector from industrial and commercial activities, and greater private sector involvement in provision of infrastructure and public services. In December 1994, recognizing that progress to date on public enterprise reform had been disappointing, a decision was taken at the highest level to revive the privatization and restructuring process, paving the way for the completion of the privatization program by the end of the 1990s. The present plan calls for privatization of 85% of state-owned enterprises by the end of 1997. 16. In the course of its dialogue with the private sector and the private sector foundation (PSF, see para. 30 below), the Government intends to identify other constraints to private sector development linked to the operations of public enterprises. Given Uganda's landlocked situation, transport activities will come under specific scrutiny. Wherever a bottleneck is identified or a service could be provided by the private sector, the Govemment undertakes to include, as soon as possible, the appropriate restructuring or privatization action in the reform program. VI. Taxation 17. Important tax measures have been implemented under the SAP. The initial thrust of the reforms was to strengthen tax administration. But tax incentives were also improved through revisions of tax provision, including decreasing the income tax rate from 40 percent to 30 percent and tax exemptions were given on a case by case basis, via the investment code or the statutory power of the Ministry of Finance. 18. The Government wishes to move away from a regime of exemptions into a system where all incentives are incorporated in the tax code, and thus available to all investors. Nevertheless, the desire to provide investment incentives need to be balanced against the imperative of strengthening the revenue base. In order to improve the taxation regime the Government intends to pursue a three- pronged approach based on: (a) improved transparency and streamlined tax administration; (b) expanding the tax base; and (c) providing most of the investment and export incentives in the tax regime. Certain measures are already under way. VAT is slated to be introduced in July 1996 and tax laws are being compiled and will be published soon. To improve investments and export incentives, by end-June 1996 the Govermment intends to bringing about the following tax reforms, some of which were announced in the 1995/96 budget: - 50 - ANNEX 1 Page 5 of 11 (i) Encouraging investment by adopting zero tariff for a well defined list of capital goods. UIA would thus no longer grant any exemptions on imports of investment goods. (ii) Promoting exports through the effective implementation of a simplified duty drawback system. (iii) Adjusting the tariff structure to ensure a reduction in existing levels of effective protection, including an increase in present tariff on raw materials. (iv) Eliminating multiple taxation on dividends. (v) Allowing for faster depreciation of investment; even possibly full costing of investment in the same year it is undertaken. (vi) Reducing the corporate income tax rate to 25 percent, one of the most competitive rates in Africa. (vii) Eliminating exemptions from corporate taxation granted under the Investment Code. (viii) Reducing significantly tax exemptions granted under the statutory power of MFEP and adopting a standard procedure for their attribution. (ix) Taking measures to clarify tax provisions, by publishing and regularly updating tax laws, and to reduce administrative hurdles associated with taxation, by streamlining tax administration. (x) Reducing and alleviating para-fiscal measures, such as Stamp Duty and transforming the remaining ones into user fees. (xi) Studying ways to broaden the tax base, including possibly revising the prevailing presumptive tax rates. 19. In addition to these measures, the tax authorities will continue the dialogue with the private sector and take into account their suggestions for further improving the tax code. One such area will be settlement of tax related disputes without having to refer them to tribunals. A specific arbitration mechanism will be devised in 1996 and implemented in 1997. VII. Legal and Judicial Reform 20. As the volume of activity by private business has expanded, the shortcomings of the legal framework and the inefficiency of commercial jurisdictions of the courts have become increasingly apparent. These problems are the source of a growing constraint to private sector development. Government strategy calls for: (a) reviewing and compiling all business laws, identifying outmoded provisions and modifying them so that they facilitate modern business activities operating in a liberal eavironment; and (b) enhancing the capacities of the commercial jurisdiction of courts and simplifying and streamlining their procedures to ensure that all claims can be settled expeditiously and fairly. - 51 - ANNEX I Page 6 of 11 21. The legal system already benefits from legal capacity building initiatives financed by donors, including IDA, DANIDA and ODA (UK). A law reform commission has been established to define a priority work program and redraft business laws. This redrafting will be motivated by two distinct objectives. First, there is a need to harmonize laws with actual practices -exchange controls regulation is a notable example where laws still in the books are far more restrictive than their current application. There may also be a need to revise laws as a result of desired regulatory changes --discussed below- wherever the constraining regulatory provisions are underpinned by a law. Given that a broad consensus will exist on the required changes, the problem to be faced would be mainly related to drafting, and not conceptual one. The Government intends to increase private sector confidence, reduce uncertainty and eliminate redundant regulations by quickly presenting the revised legislation to the NRC. 22. Second, many of the other laws are restrictive or outdated and need to be modified because they are no longer effective, required or sufficiently favorable to private sector development. Priorities already identified include: (a) company law; (b) the Investment Code and foreign investment licensing; (c) labor laws; and (d) land registration and ownership. Finally, the obsolescence of some laws mean that certain modem provisions, particularly pertaining to financial sector transaction or to regulate private utilities, simply do not exist and need to be established. This work will likely be more time consuming, as it involves both consensus building and adopting the most appropriate solution. Nevertheless, the Government would like to see it conducted as expeditiously as possible, with the private sector and the PSF providing significant inputs on the substance of the reforms. To this effect Govemment has instructed the law reform commission to liaise closely with the PSF in carrying out its work. VY . Regulatory Framework 23. The Govemment recognizes that the business environment still includes too many constraining rules and regulations, most of which are no longer needed. The strategy for dealing with such issues is to: (a) clarify and publish all regulations and establish guidelines on documentation required and response time; (b) eliminate redundant provisions and licensing requirements; (c) put in place the necessary information systems so that registration is no longer required for statistical proposes; and (d) substitute ex post registration and monitoring for ex ante controls and approvals. 24. Deregulation is expected to include the following areas: (i) foreign investment licensing; (ii) registration procedures, and merging them into a single step; (iii) sectoral licensing; (iv) internal and external trade licensing; (v) utility hook ups; and (vi) URA procedures, wherever possible. The Government has also noted the recent trend for proliferation of boards, to whom are delegated certain regulatory and promotional functions previously exercised by ministries. The operations of these boards will be reviewed during 1995196. Regulatory issues thus identified will also be tackled. 25. The PSF and UIA are expected to play an important role in helping identify regulatory problems and suggesting appropriate solutions, which would be included into the reform program. In addition, during the transitional period, UIA is expected to play a key facilitating role by helping potential investors overcome regulatory barriers. IX. Private Sector Promotion 26. The Government intends to implement and/or strengthen affirmative action programs aiming to promote private sector investment and to improve private sector competitiveness. The first measure involves promotional and facilitation activities within Uganda and abroad. UIA is expected to be responsible for implementing such programs, which will form the core of its activities, for which it will receive assistance from the Govemment, the IDA PSC project and a number of other donors. - 52 - ANNEX 1 Page 7 of 11 27. A reason for productivity observed in the Uganda private sector is due to inadequate know- how caused by underdeveloped human resources. The problem permeates most firms at the level of both management and labor. Tackling the human resource constraint problems facing Uganda is likely to be a long process. Nevertheless, experience has shown that specialized advisory services provided to firms can have a favorable impact on productivity within a fairly short period. The Government private sector development strategy therefore calls for creating a market for such services and raising private sector competitiveness by establishing the Business Uganda Development Scheme (BUDS). BUDS would be financed by the PSC project and would defray half of the cost of advisory services to firms through matching grants. X. Private Sector Foundation 28. The Government intends to enhance the dialogue with the private sector on how the business environment can be improved. To this effect it has decided to assist in the creation of a Private Sector Foundation (PSF). The PSF will be a private autonomous agency operated by private sector and answerable to a private sector board. The PSF will be owned by private associations who have reached a certain size in terms of membership and level of activity. Apart from the initial founding members, other associations, as they are established and after they have a minimum tract record, will be able to join the PSF. 29. The PSF will have two mandates. First, it will be the executing agency for the IDA PSC project, as well as that of any other donor project that wishes to use this structure. The second mandate is to lobby on behalf of the private sector for improvements in the business environment. To this end, it will study specific issues and propose specific operational solutions. Such solutions, once tey have been discussed and agreed by govenunent, will subsequently be included in the priority reform agenda. The Govermment, through the IDA credit, will provide resources to undertake the required analysis, and to defray some of PSF's operational expenditure. However, this aspect of PSF activities is expected to be fully funded by private members by the year 2000. I remain, Your Excellency, Matthew N. Rukikaire MINSTER OF STATE FOR FINANCE AND ECONOMIC PLANNING (PRIVATISATION) HOLDING THE PORTFOLIO OF THE MINISTER OF FINANCE AND ECONOMIC PLANNING C.C Mr. Jim Adams Director East African Department World Bank Washington D.C -53 - Annex 1 #7-..~~~........ o. Market conditions and incentives Macroeconomic performance - Maintaining growth in a low inflation - Sustain tight fiscal policy to reduce budget deficit ongoing environment - Maintain sound monetary policy ongoing - Stable exchange rate, managing the effects of the coffee windfall ongoing Trade regime - Liberalizing trade flows - Ensuring availability of foreign exchange ongoing - Removing quantitative restrictions on imports June 96 - Reviewing import tariffs and increasing taxation of raw materials June 96 - Reducing anti-export bias - Re-activating and improving the exporters' duty drawback scheme June 96 Tax and investment framework - Formalizing and widening the tax base - Complete the taxpayer identification exercise for eligible taxpayers Sep 96 - Improving the instruments of taxation - Introduce VAT (replacing sales tax and CTL); July 96 - Supporting new private investment - Impose zero duty on capital goods completed - Allow full depreciation allowances on new investment June 96 - Removing multiple taxation of dividends June 96 - Creating a level playing field for - Revise Investment and associated tax codes to end formal tax holidays and all June 96 businesses other discretionary tax exemptions - Reduce corporate income tax to 25 percent June 96 Legal and regulatory framework Licensing - Allowing business to operate without - Identify, with the PSF, and eliminate all unnecessary trade license June 96 undue burdens requirements. - End investment license requirements by repealing Investment Code June 96 provisions. - Remove requirements for Tax Clearance Certificates. Jan 96 Customs - Encouraging efficient and expanded trade - Strengthening of Customs Department, to improve administrative ongoing performance. -54 - Annex 1 Property rights and land use - Strengthening the foundations of the land - Clarify regulations on land tenure, allowing rights to residents and non- Jan 96 market nationals. - Improve the lease titling system and land registry. Dec 96 - Stimulating land availability for industry - Make some Government owned sites available on competitive terms to private June 96 developers Labor - Promoting flexibility of employment - Monitoring the efficiency of labor regulations and the effectiveness of ongoing within fair working conditions and practices implementation. Business Infrastructure Transport - Enhancing the road network, to key sites - Improve roads on selected basis to facilitate business expansion. ongoing and developing regions - Improving access to regional ports - Bilateral discussions with Government of Kenya, to reduce border delays and ongoing charges - Expanding efficient air transport services - Review air transport market regulations and Entebbe charging policy Sep 96 Power - Ensuring consistency in power supply - Introduce performance contracts for UEB Feb 96 - Better service to customers of UEB - Restructuring of UEB billing system. Jan 96 Telecommunications - Widening provision of services and - Encourage private provision of telecommunications services and privatize Oct 96 lowering their cost UPTC -55 - Annex Public Services - Better delivering key services to - Strengthen the Civil Service, including rationalization and introduction of Dec 96 businesses and consumers results-orientated management - Improve the implementation of competitive procurement of goods and services April 96 through the use of Letters of Credit - Reducing the scope of the public sector, - Withdraw the public sector from industrial and commercial activities - 85 Dec 97 and encouraging private delivery of percent of state-owned enterprises completed by end 1997 services - Implement a program of contracting-out of public services to enhance private ongoing provision of infrastructure and public services - Speed up Government payments to private contractors (within 2 months of April 96 contract completion) Finance Commercial banking market - Increasing competition in banking - Adopt a coherent Financial Sector Strategy, including privatization of UCB, Jan 96 services and a withdrawal of govt. ownership in other banks. - Improving banking service delivery - Revise banking regulations and adopt firmer monitoring and supervision Jan 96 of banks. - Devise mechanisms to enhance access to financial services for May 96 microenterprises and rural areas Credit - Improving sound businesses' access to - Resolve the "bad loan" crisis with improved banking practices, a stronger and Mar 96 reasonably priced credit more efficient debt recovery framework, and better banking supervision. - Improve the dissemination of information on existing credit lines April 96 Equity - Encouraging the development of equity - Support to private equity funds under the PSCP. April 96 tools in the private sector - Assistance in the establishment and regulation of the stock market and June 97 associated instruments including the proposed Depository Receipts System -56- AnnexL Enterprise development Business Know-How - Expanding the skills base in the private - Support matching-grant scheme for business services to private firms. April 96 sector - Strengthen education and training for labor market entrants. ongoing Business potential - Widening appreciation of Uganda's - Market Uganda and facilitate new investors, through the refocused June 96 investment opportunities activities of the UIA. Business participation in policy - Develop long term dialogue between the - Contribute to the new Private Sector Foundation and work with it as the ongoing private sector and Governrment principal channel of high-level interaction with the private sector. -57- Annex2 UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT - Implementation Schedule for PSF Component. 1195 I 199 ID Task Name Feb Mar Apr May Jun Jul Aug Sep I Oct NovT Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan I Pre-Operational Phase 2 Hire Executive Director and Project 3 Tender positions 4 Evaluate & select 5 Sign contract 1113 6 Lease space 7 Identffy, sign contract - 8 Hire PSF staff __ 9 Develop job descriptions 10 Advertise positions 11 Eval., select, contract 12 Equip office w 13 Procure equipment 14 Install equip., systems 1/15 15 Sign PSFIGOU/IDA project agreeme 16 Negotiate terms 17 Sign Project Agreement 12118 18 Establish MIS & launch project 19 Establish MIS System 20 Conduct project launch workshop 1/29 - 58- Annex2 1996 1997 | 1998 | 1999 2000 ID TaskName Qtr4 Qtr 10tr2 Otr3 Qtr4 Qtr IQtr2 Qtr3 Qtr4 Qtr IQtr2 Qtr3 Otr4 Qtr1 Qtr2 Qtr3 Qtr4 Qtr 1Qtr2 Qtr3 Qtr4 QtrI 21 Operational Phase - 22 Conduct periodic management meeti 23 Weekly Meetings 320 Monthly Progress Updates I I I I I I I 1 1 I I I I I I I I 1 I I I I I I I I I I I I I I I I I I II 389 Periodic Supervision and Evaluatio I | 396 Conduct Annual Project Review I _ 397 Prepare and Review Progress Rep i | | | 403 Project Assessment Workshop I | | | 408 In-depth Supervision and Evaluatio | | I 414 PSF submits Annual Budget 421 Conduct periodic corporate meeting 422 ConductRegularBoard Meetings I I Ii I I I I I I I I I I || | || 492 Hold Annual General Meetings I I I I 498 Train PSF staff _ 499 Identify training requirements 600 Conduct Staff Training I I 605 Conduct policy research - 506 Set research agenda with ronstitu 507 Identify/Hire Consultants 508 Conduct research 509 Promote policy agenda 510 Conduct advocacy workshops 511 Publish findings and recommendations 512 Submit papers to relevant gov ministne 513 Meet key gov. officials - 59 - AnexL 2 UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT - Implementation Schedule for BUDS Component. ID Task Name Aug | Sep | Oct | Nov I Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr I Pre-operational Phase . 2 Prepare Long List for BUD Manager 3 Send letter to long-listed firms 4 Receive Replies from Firms 5 Project Dedared Effective 6 Finalize LOI and TOR .d 7 IDA Clearance Process 2d 8 Send LOI and TOR to Shortlisted Firms 9 Receive Bids 10 Evaluation of Bids 11 Selection of BUD Contractor 12 Inform CTB (?) and IDA of Selection 13 IDA Clearance Process d 14 CTB Clearance Process (?) 8d 15 Invitation to Negotiate Sent 16 Negotiations in Kampala 5d 17 Board Approval and Signing of Contract . i8 Start-up Phase .t 19 Start of Contract 20 Planning and Systems Set-up 21 BUD Official Launch it -60 - Annex 2 1995 1996 1997 1998 1999 ID Task Name Qtr 1 |Qtr2 Qtr 3lQtr4iQtr 1 |Qtr 2lQtr 3iQtr4lQtr 1 lQtr 2IQtr 3Qtr4jQtr 1 Qtr2IQtr3lQtr4lQtr |iQtr 2IQtr 3IQtr4JQtr1 22 Launch Events .5d 23 Operational Phase 24 On-going Promotion 25 On-going Hand-holding . . 26 On-going Grant Approvals . I 27 On-going Grant Disbursements m . . -61- UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT - Implementation Schedule for Equity Component. 1996 1 1997 [ 1998 1999 ID Task Name Qtr 4 !tr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr I I Pro-operational Phase 2 Establish UEF 5 Approve MPOP 6 Develop requirements for man * 7 Finalize Operating Manual 8 Promote & launch _ _ _ 9 Develop materials 10 Advertise and conduct seminar 11 Operational Phase - Ug. Equity Facilit ._ __.__ 12 Fine tune process 13 Process Applications * 14 Disburse equity investments 15 Operational Phase - Tech. Assistance . _ 16 Depository Receipt System 17 Conduct Study 18 TA for First DR issue 19 Education & promotion campaign pi 20 TA on legal and regulatory issues -62- Annx2 UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT - Implementation Schedule for Investment Promotion and Facilitation Component 1 1996 1 1996 1 1191917 1 1S9S11 I I9S" ID Task Name Duration Qtr4 Qtrl Qtr2 Qtr3 Qtr4 lQtri Otr2lr 3 ltr4l trl Qtr2 Qtr3 lQtr4l ti Qtr2 Otr31r4 lOtl Qtr2 Qtr73 Qtr4 !t1 I Prm-opratlonal Phase Sld 2 Prepare Long List for Intl Sd 3 Send letter to long4isted f id 4 Receive Replies from Fir 1d 6 Project Dedared Effectiv Id 6 Finalize LOI and TOR Id 7 IDA Clearance Process 2d h 8 Send LOI and TOR to Sh 1d i 9 Receive Bids id ~2 10 Evaluation of Bids 5d 11 Seection of Intl Contract Id I5128 12 Inform CTB (?) and IDA o Od [2S 13 IDA Clearance Process 5d 14 Invitation to Negotiate So id 15 Negotiations in Kampala Sd 16 Board Approval and Signi Od 17 FIrmt Promotion Cyleb 262d Is Design Promoion Strate 15d 19 Produce Sector Proies 15d 20 Printing of PraseWs. Broch 15d 21 Identify Invtors iSd 22 Contact Investors 30d 23 Outward Missions 15d 24 Inward Missions 10d 26 Inv. Faclitation 262d X a Cb a C4 a~~~~~ . . . . . . . . . . ..... . .. . . .. ... .. . . . . . . . .. . . .... .. . . . .. .. . . . . . . . . . . . . . . . . . . . e .................................................................................................................................................................................................................... a c _a . ...... ..... ..... .. . ... .. ..... . ....... ......... ........ 4~~~~~~ C st10 1t E 0.FII a~~~~~~~~~~~~~~~~~~~~~~~~ a~~~~~~~~~~~~~~~~~~~~~~C a~~~~~~~~~~~~~~~ ( o an o U L EL an ) 0 IL N N flfIlf o…C4- I-0…I ( Iq- N CY, 3 I N _c. - - _ W ............................................................ C4~~~~~~~ ~CY CI = CO CD = v ^ I! a a ." C a .I I. .2A 3 5L - 65 - Annex 3 SUMMARY PERFORMANCE INDICATORS Component Performance Indicator Timing PSF * Providing GOU/donors with private sector views on key PSD issues/projects By end of project and most of its core recommendations are accepted; * Timely project start; February 1996 . PSF financially self-sufficient By end of 2000 * Ensuring that workplans, project reviews and audits are received in time. Each year BUDS . 300 firms receive services and their output increase by US$15 over a five-year From the year after period for every dollar spent in consulting services. receiving assistance and lasting for a decade Equity * US$ 7.5 million invested in Uganda firms by equity funds supported by the By end of 1999 facility. . US$ 1.0 million of private investors' resources mobilized by equity funds By end of 1997 supported by the facility Investment * US$10 dollar of additional investment for every dollar spent by the UIA on With a one year lag. Promotion investment promotion and facilitation; Investments will have and an average life of 10 Facilitation years. * Good quality promotional materials produced in time; Each year * Over 150 investors in specific sector contacted; By end of 1999 investors aftercare offered to 150 investors. By end of 1999 - 66 - An x4 PROJECT COST DETAILS Uganda Private Sector Competitiveness Project Expenditure Accounts by Components - Totals Including (US$ '000) Business Investment Private Uganda Promotion Sector Development Equity and Foundation Scheme Financing Facilitation Component Component Component Component Total I. Investment Costs A. Goods and Materials (Equity Comp) - - 7,500 - 7,500 B. Vehicles, Equipment and Furniture 126 113 - - 239 C. Consulting Services (incl. travel) 1. Business Services under BUDS - 6,000 - - 6,000 2. Studies and Technical Assistance - Overseas Consultants 175 561 926 - 1,662 3. Investment Promotion and Facilitation Services - - - 1,615 1,615 4. Studies and Technical Assistance - Local Consultants 406 543 333 - 1,282 Subtotal Consulting Services (incl. travel) 581 7,104 1,259 1,615 10,559 D. Training 180 - 239 - 419 E. Printing and Advertising 327 - - 261 588 Total Investment Costs 1,213 7,217 8,997 1,877 19,304 II. Recurrent Costs A. Salaries, wages & allowances 916 116 - - 1,032 B. Operation, Maintenance and Supplies 371 227 - - 598 Total Recurrent Costs 1,287 343 - - 1,630 Total PROJECT COSTS 2,500 7,560 8,997 1,877 20,934 Taxes 186 60 33 28 307 Foreign Exchange 447 4,926 7,938 1,305 14,616 Note: Training costs will mainly concern education of beneficiaries through workshop and training of project staff in project related matters (e.g., IDA disbursement and procurement procedures). -67 - Annex 4 Uganda Private Sector Competitiveness Project International International Components by Financiers Development The Government Financial (US$ '000) Association Private Sector of Uganda Institutions Total Amount % Amount % Amount % Amount % Amount % 1. Private Sector Foundation Component 2,001 80.0 314 12.5 186 7.4 - - 2,500 11.9 2. Business Uganda Development Scheme Component 4,500 59.5 3,000 39.7 60 0.8 - - 7,560 36.1 3. Equity Financing Component 3,964 44.1 1,000 11.1 33 0.4 4,000 44.5 8,997 43.0 4. Investment Promotion and Facilitation Component 1,849 98.5 - - 28 1.5 - - 1,877 9.0 Total Disbursement 12,314 58.8 4,314 20.6 307 1.5 4,000 19.1 20,934 100.0 - 68 - Annex4 Uganda Private Sector Competitiveness Project International International Expenditure Accounts by Financiers Development The Government Financial (US$ '000) Association Private Sector of Uganda Institutions Total Amount % Amount % Amount % Amount % Amount % 1. Investment Costs A. Goods and Materials (Equity Comp) 2,500 33.3 1,000 13.3 - - 4,000 53.3 7,500 35.8 B. Vehicles, Equipment and Furniture 161 67.6 - - 77 32.4 - - 239 1.1 C. Consulting Services (incl. travel) 1. Business Services under BUDS 3,000 50.0 3,000 50.0 - - - - 6,000 28.7 2. Studies and Technical Assistance - Overseas Consultants 1,662 100.0 - - 0 - - - 1,662 7.9 3. Investment Promotion and Facilitation Services 1,607 99.5 - - 8 0.5 - - 1,615 7.7 4. Studies and Technical Assistance - Local Consultants 1,206 94.1 22 1.7 54 4.2 - - 1,282 6.1 Subtotal Consulting Services (incl. travel) 7,475 70.8 3,022 28.6 62 0.6 - - 10,559 50.4 D. Training 410 98.0 - - 8 2.0 - - 419 2.0 E. Printing and Advertising 544 92.5 - - 44 7.5 - - 588 2.8 Total Investment Costs 11,090 57.5 4,022 20.8 192 1.0 4,000 20.7 19,304 92.2 11. Recurrent Costs A. Salaries, wages & allowances 830 80.4 99 9.6 103 10.0 - - 1,032 4.9 B. Operation, Maintenance and Supplies 393 65.7 193 32.2 12 2.0 - - 598 2.9 Total Recurrent Costs 1,223 75.0 292 17.9 115 7.1 - - 1,630 7.8 Total Disbursement 12,314 58.8 4,314 20.6 307 1.5 4,000 19.1 20,934 100.0 - 69 - Annex 5 SUPERVISION PLAN A. IDA Supervision Input 1. Staff (including consultant) input will be needed for approximately 24 person weeks in the field per annum, diminishing to 14 from year 4. The composition of the IDA team is listed in the attached Table. At headquarters, upfront effort will be required which will diminish over the life of the project; approximately an additional 10 weeks will be required at Headquarters in year 1, diminishing to 6 weeks from year 4. These are financed out of IDA's administrative budget and NOT from the proceeds of the project credit. B. Borrower's Participation in Supervision (a) Direct Participation. 2. Participation in supervision will take a variety of forms, ranging from surveys which are the least intrusive to attendance of specific events. There will be five types of participatory interventions: - A Project Launch Workshop; - Quarterly progress review focus groups, involving a small cross-section of project beneficiaries to review project performance in specific areas; - Semi-annual assessment workshops 1, presenting to a broader spectrum of beneficiaries the results from focus groups and surveys, as well as progress reports on the various components of the project; - Performance Improvement Workshops, in case the above events identify a project performance below expectations or areas for improvement. A typical performance improvement workshops should include working groups (whose members should represent beneficiaries, implementing agencies and financiers) to define current progress, relate it to objectives, define the performance gap and then generate recommendations to improve design and/or implementation; and A Mid-Term Evaluation Workshop, a highly structured assessment of mid-term impact on project beneficiaries and the effectiveness of the project design, (rather than an audit or monitoring or output/components), with all stakeholders and direct beneficiaries represented. IDA supervision missions should be timed to coincide with such workshops. -70- Ae5 (b) Participation through the PSF 3. The PSF Project Coordinator will act as the central link between the component managers and IDA; however, direct lines of communications between component mangers and IDA technical staff working on each component will also exist. 4. Reports on project implementation, summarizing progress achieved, difficulties encountered and changes and adjustments to be made would be submitted quarterly by each participating agency. 5. Prior to each field mission by IDA, the PSF Project Coordinator will set up a timetable of key meetings, as agreed between the Project Coordinator and the mission leader. The Project Coordinator will also be responsible for notifying all component managers of the dates of missions, and for ensuring the availability of component managers/staff for discLssions. 6. The PSF Project Coordinator will be responsible with the IDA Task Manager for the organization and conduct of the Initial and Mid-Term Reviews. A project evaluation consultant would be appointed to undertake a detailed analysis of project implementation and present a draft report to the Government and IDA. - 71 - Annex 5 TIMETABLE FOR IN-COUNTRY SUPERVISION APPROXIMATE ACTIVITY EXPECTED SKILLS (STAFF WEEKS) DATE January 1996 Supervision Mission cum Project Task Manager (2) Launch Workshop Resident Economist (2) Matching Grant Schemes Expert (2) Equity Financing Expert (2) Investment Promotion Expert (2) July 1996 Supervision Mission Task Manager (2) Resident Economist (2) January 1997 Supervision Mission Task Manager (2) Resident Economist (2) July 1997 Joint GOU/IDA Initial Review cum Task Manager (2) Supervision Mission Resident Economist (2) Matching Grant Schemes Expert (2) Equity Financing Expert (2) Investment Promotion Expert (2) ._______________ Country Lawyer (2) January 1998 Supervision Mission Task Manager (2) Resident Economist (2) July 1998 Joint GOU/IDA Mid-Term Review Task Manager (2) cum Supervision Mission Resident Economist (2) Matching Grant Schemes Expert (2) Equity Financing Expert (2) Investment Promotion Expert (2) Country Lawyer (2) January 1999 Supervision Mission Task Manager (2) Resident Economist (2) July 1999 Supervision Mission Task Manager (2) Resident Economist (2) January 2000 Supervision Mission Task Manager (2) Resident Economist (2) July 2000 Supervision Mission Task Manager (2) Resident Economist (2) January 2001 Final Supervision Mission cum Task Manager (2) Implementation Completion Review Resident Economist (2) Preparation Mission Matching Grant Schemes Expert (2) Equity Financing Expert (2) Investment Promotion Expert (2) _ _ _ _ _ _ _ _ __ _ _ _ _ _ _ _ _ _ _ _ _ _ Country Lawyer (2) - 72- Anne- PROJECT IMPLEMENTATION STRUCTURE Project Steering Committee I Private SectorFoundation EAVCF and DFCU BUDS UIA Funds Management Co. EAVCF and DFCU International Management Companies j Subcontractor Equity Financing BUDS Investment Promotion Component Component and Facilitation Component Project Steering Committee consists of: all members of the PSF Board, and two Government representatives (i.e. the Secretary to the Treasury and the Permanent Secretary of the Ministry of Trade and Industry or their nominees). - 73 - Annex 7 OUTLINE OF PROJECT IMPLEMENTATION PLAN 1. PREFACE A. Objectives Of This Document B. Further Information Requirements II. THE ENVIRONMENT FOR THE PRIVATE SECTOR A. Brief Profile Of The Private Sector In Uganda B. Size And Growth Of Markets C. Policy Environment D. Business Infrastructure E. Gaps In Firms' Capabilities F. How Ugandan Firms See Themselves III. STRATEGY FOR PRIVATE SECTOR DEVELOPMENT A. Introduction B. Improving The Policy Environment C. Upgrading The Business Infrastructure D. Filling The Gaps In Firm Capabilities IV. RATIONALE FOR THE PROJECT A. The Opportunity B. Proposed Interventions V. PROJECT DESCRIPTION A. Project Objectives B. Project Summary C. Project Beneficiaries & Stakeholders VI. COMPONENT DETAILED DESCRIPTION A. The Private Sector Foundation 1. Summary 2. Justification 3. Component Description 4. Implementation Arrangements 5. Component Budget B. The "Business Uganda" Development Scheme [BUDS] 1. Summary 2. Justification 3. Component Description 4. Implementation Arrangements 5. Component Budget C. The Equity Financing Component 1. Summary 2. Justification - 74- Ann-x7 3. Component Description 4. Implementation Arrangements 5. Component Budget D. Supporting Investment Promotion Services through the UIA 1. Summary 2. Justification 3. Component Description 4. Implementation Arrangements 5. Component Budget VII. COST-BENEFIT ANALYSIS A. Design Options B. Critical Assumptions/Risks C. Costs and Benefits VIII. PROJECT IMPLEMENTATION ARRANGEMENTS A. Project Administration Procedures B. Procurement Of Goods And Consultants C. Disbursement Procedures D. Funds Management E. Accounts And Audits F. Legal Agreements IX. PROJECT IMPLEMENTATION PLAN X. REPORTING, MONITORING, SUPERVISION AND EVALUATION A. Definitions B. Participatory Supervision C. Participatory Monitoring & Evaluation D. Reporting XI. ANNEXES A. PSF Component 1. Key Provisions in the PSF By-laws 2. Draft Subsidiary Agreement between PSF and Government 3. Termns of Reference for PSF Executive Director (ED) B. BUDS Component 1. The BUD Manual of Policies & Operating Procedures 2. Draft Request for Proposals for the BUD Scheme Manager C. Equity Financing Component: UEF Manual of Polices and Operating Procedures D. Investment Promotion and Facilitation Services Component 1. Agreement between the Private Sector Foundation and the Uganda Investment Authority for the provision of investment promotion and facilitation services - 75 - Anneu 7 2. Terms of Reference for the provision of international investment promotion services on behalf of the Uganda Investment Authority E. Project Administration 1. Terms of Reference for Project Administration 2. Terms of Reference for Project Reviews - 76 - Annex 8 MEMBERSHIP OF THE PRIVATE SECTOR FOUNDATION (As of September 1, 1995) Association Type of Membership Number of Members Uganda Manufacturers Association Ordinary 434 Uganda Women Finance and Credit Ordinary 43" TrustgnaofExoessoiinria_3 Uganda Coffee Exporters Association Ordinary 34 Uganda Grain Exporters Association Ordinary 40 Uganda National Farmers Association Ordinary 10,000 2i Uganda Small Scale Industries Ordinary 495 Association Uganda National Chamber of Ordinary 1,000 i/ Commerce and Industry Uganda Floricultural Association Associate 8 Uganda Securities Brokers and Dealers Associate 14 Association Uganda Commercial Farmers 146 Association Uganda Insurance Association Associate 21 Uganda Development Corporation Associate (Public Body) N/A 1/ This number does not include the over 7,000 beneficiaries of UWFCT's programs. 2/ Estimate. Membership auditing is still ongoing. - 77 - Annex 9 SUMMARY DESCRIPTION OF PROJECT COUNTERPARTS Private Sector Foundation (PSF) The PSF was established in August 1995, and the first fee- paying member associations to have joined represent over 12,000 businesses. The primary role of the PSF is that of advocacy; the PSF will monitor the business environment, develop policy- related recommendations and present these to Government. The PSF will also manage the PSC project, but this function will cease with project completion. The PSF is structured as a company limited by guarantee and, over time, will be fully financed by the private sector. As illustrated in Table 1 below, start-up costs (many of which are related to project management) will be funded by Government and the project, and recurrent costs will be paid for by PSF members. East African Venture Capital Fund (EAVCF) The EAVCF is proposed to be established, with IFC and Industrial Promotion Services (Kenya) Ltd. as investors alongside other private and institutional capital. IPS, which is majority owned by the Aga Khan Fund for Economic Development, is the premier equity investor in Kenya and has been in operation for more than 30 years. It has a net worth of US$3 million, has been consistently profitable, and through its active role in EAVCF, will greatly increase the financial sustainability of the Fund. The Fund will be managed by a Fund Management Company, owned primarily by IPS and will adopt a "hands-on" approach to private equity investment, which has proven a successful way to meet challenges of the region. The estimated IRR for ordinary investors, private investors and UEF are 16%, 19% and 6%, respectively and financial projections are attached in Tables 2A, 2B, 2C. It is anticipated that the Fund will have a 10 year life. Development Finance Company of Uganda Ltd. (DFCU) DFCU was established in 1964 to finance medium and long term development projects. Its shareholders are Uganda Development Finance Corporation Ltd., IFC, Commonwealth Development Corporation, and German Finance Company for Investments in Developing Countries. DFCU was the first company to engage in venture capital in Uganda; on the basis of its sound performance, it recently received additional capital from USAID with which to increase the volume of investments. DFCU is an active investor and provides management and strategic advice. Although it is too early to assess the performance of existing investments, the proposed DFCU Fund would be expected to generate a financial return similar to that expected for the EAVCF (16%). A summary of DFCU's financial performance to date is attached in Tables 3A, 3B, 3C. - 78 - Annex 9 The Uganda Investment Authority was created by statute (Investment Code 1991). It is financially autonomous and operates under commercial law, acting as an agency of the Government. The UIA has its own corporate structure, and is governed by a Board of Directors, on which there is majority representation from the private as well as public sector. Information on the finances of the UIA is available from a variety of sources, including the Authority's annual report and independently audited accounts which are approved by the Auditor General (see tables 4A and 4B below for latest data). Funding and other resources have been granted to the UIA from other donors, including USAID, and the Government of Uganda. The UIA seeks to recover costs where possible from users of its services (e.g. in charging for publications), and is seeking to develop this avenue of resources over the medium to long term. - 79 - Annex 9 PRIVATE SECTOR FOUNDATION Table I - Projected Sources and Uses of Funds (US$ thousands) 1996 1997 1998 1999 2000 2001 Sources of Funds Government 73 31 26 27 29 0 IDA 596 432 340 326 308 0 Private Sector 0 29 59 93 133 150 Total Sources 669 492 425 446 470 150 Uses of Funds Investment Costs 428 244 175 179 188 0 Recurrent Costs - Project Related 176 181 183 195 206 0 - Non-project related 65 67 67 72 76 150 Total Uses 669 492 425 446 470 150 - 80 - Annex 9 EAST AFRICAN VENTURE CAPITAL FUND2 Table 2A. Illustrative Balance Sheet (In US $'000) Year I Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 Investments 3,900 8,190 12,610 12,220 11,271 9,319 6,125 3,041 908 0 Working Capital Cash 607 827 797 895 3,023 9,114 1,920 999 594 199 Pref. dividends -297 -891 -1,782 -2,673 -3,564 -4,455 0 0 0 0 payable Net Assets 4,210 8,126 11,625 10,442 10,730 13,978 8,045 4,040 1,501 199 Represented by: Ordinary shares 50 100 150 150 150 150 150 150 150 150 Preference shares 4,950 9,900 14,850 14,850 14,850 14,850 0 0 0 0 Profit & loss -790 -1,874 -3,375 -4,558 -4,270 -1,022 7,895 3,890 1,351 49 account 4,210 8,126 11,625 10,442 10,730 13,978 8,045 4,040 1,501 199 Table 2B. Illustrative Profit and Loss Account Year I Year 2 Year 3 Year 4 Year S ysear Year 7 Year 8 Year 9 Year 10 Income 32 35 305 623 1,155 1,652 5,248 1,770 665 380 Net capital gains 0 0 -390 -390 549 3,013 6,085 8,250 5,922 2,892 Net income -493 -490 -610 -292 1,178 4,140 10,808 9,495 6,061 2,747 Retained profit -790 -1,874 -3,375 -4,558 -4,270 -1,022 7,895 3,890 1,351 49 2 The EAVCF has yet to be established; these figures are intended as an illustration of its potential financial operation. - 81 - Annex 9 DEVELOPMENT FINANCE COMPANY OF UGANDA LIMITED Table 3A. Balance Sheet at 31 December 1994 (In U Sh '000,000) 1994 1993 Non-current assets 5,900 3,616 Current assets 6,803 6,422 Total assets 12,704 10,039 Non-current 7,447 5,830 liabilities Current liabilities 376 445 Total liabilities 7,824 6,276 Net assets 4,880 3,763 Shareholders' 4,880 3,763 interest Table 3.B Profit and Loss Account for the Year Ended 31 December 1994 (In U Sh '000,000) 1994 1993 Interest and dividend income 677 488 Interest Expense Charges on borrowing (138) (197) Other income 205 113 Overhead expenditures (404) (651) Provision for loan losses (224) 63 Provision against equity invest. (49) Profit/(loss) before extraordinary items 116 (233) Extraordinary items 1,000 (91) Profit/(loss) retained for the year 1,116 (324) Table 3C. Cashflow Statement for the Year Ended 31 December 1994 (In U Sh '000,000) 1994 1993 Net cash from operating activities 201 1,224 Cashflows from investing activities 2,798 988 Cashflows from financing activities 3,574 3,691 Net increase in cash and cash equivalents 574 1,478 Cash and cash equivalents at the beginning 4,069 2,590 of the period Cash and cash equivalents at the end of the 4,643 4,069 period - 82 - Annex 9 Table 4A: UIA's Income and Expenditure Accounts (US$) Item 1991-92 1992-93 1993-94 1994-95 (approved) Income 627,960 729,330 994,081 3,355,000 Expenditure 459,600 658,313 971,903 3,355,000 Net surplus (deficit) 168,360 71,017 22,178 - Table 4B: Historic financing of the UIA 1991-92 1992-93 1993-94 1994-95 (approved) Source Amount % of Amount % of Amount % of Amount US % of of US $ total US $ total US$ total $ total funding USAID 620,000 99 686,779 94 906,283 91 1,050,000 31 GOU 42,531 6 87,798 9 1,121,000 33 Other 8,000 1 1,184,000 35 Total 628,000 100 729,330 100 994,081 100 3,355,000 100 - 83 - AnnexlO0 ECONOMIC ANALYSIS OF THE UGANDA PRIVATE SECTOR COMPETITIVENESS PROJECT Introduction 1. The economic analysis of this type private sector development project presents special difficulties. This is due essentially to the indirect relationship between actions taken under the project and the stream of benefits that result from them. As the project contains important components related to institution building, the complexity of benefit measurement is multiplied. The meaningful quantification of benefits is difficult, if not impossible. In the absence of generally accepted methodologies for the economic analysis of capacity building projects, most projects of this type are justified on the basis of cost-effectiveness, once agreement is reached on the objectives to be served by the project. 2. Despite these difficulties, an attempt is made here to present a quantified measure of some of the benefits that are expected to result from this project. The presentation begins with a brief description of project implementation objectives (as opposed to national or sectoral economic objectives) -- that is, what this project hopes to achieve, create, or establish, in a with/without framework. In stages, we carry the discussion forward to a quantification of some of these benefits, ending with an identification of the resources that will be used to achieve them. Finally, standard methods are used to evaluate the economic return of the project, pricing the resources used and the resulting benefits at their economic values. A by-product of this exercise is that it will help us to develop project monitoring indicators that are related directly to the benefit stream of the project. 3. The analysis below suggests that a positive NPV of US$7.8 million (economic rate of return, ERR, of 23 percent) can be anticipated for the quantifiable components of this project. The NPV calculation uses a discount rate of 12 percent, and the estimate incorporates all the identifiable costs of the project but excludes any value for intangible benefits, and on that basis might be considered as a lower bound estimate of the actual economic return to be generated. An integral and paramount feature in this project is that the private sector has been central to its design and are the leaders in its operation. As illustrated particularly vividly by the BUDS and UEF components, it will be private entrepreneurs who will be committing their own finance and resources (supported by the project), taking risks, and making operational decisions. These features allow the discipline of the market to operate in ensuring that the myriad of investments (expected to be about 400 in total3) assisted under this project generate sound economic returns to Uganda. Project Implementation Objectives 4. The primary objective of this project is to increase the economic returns - profit - produced by Ugandan firms. This is achieved primarily through a reduction in costs, as most 3 BUDS should assist around 300-325 firms; UEF around 20-30 firms; UIA around 50-70 projects. - 84 - Annex 10 output is expected to be sold in competitive markets (i.e., in import-competing or export markets). The reduction in costs (which could also be viewed as, or be manifested as, an improvement in productivity) is to be achieved through: * use of improved technology (strategic, functional and technical information; production; and marketing); * easier access to markets; and * easier access to project financing. 5. There are several market failures that impede access to technology and finance by most Ugandan firms. First of all, the market for business services is distorted. Consulting fees are distorted upward by donor agencies that can pay much more than most local firms (up to six times higher according to survey results). Local firms also face a steep learning curve in targeting the appropriate expertise required to upgrade their capabilities. Furthermore, some firms do not appreciate the benefits they could derive from consulting services, while other firms find it difficult to justify high fees in advance of experiencing the potential benefits accruing from consulting services. Second, survey results4 indicate that small and medium size firms have very limited access to bank financing in Uganda. Only 30% of the over 200 firms in the sample employing fewer than 50 employees had had any access to bank financing in the last two years and just 13% of their assets had been funded through the formal financial system. Banks are ill-suited to serve the needs of young small and medium size firms, due to the existence of information asymmetries on project quality (i.e., rates of return, market prospects, etc.) between bankers and entrepreneurs and the lack of adequate collateral. Equity funds could solve many problems relating to information asymmetries and bridge the gap between emerging entrepreneurs and the banking system. There are however many constraints to the development of equity funds serving small and medium enterprises: high due diligence and supervision costs, lack of reliable exit mechanisms for selling minority shares, little understanding by Ugandan entrepreneurs of the advantages and disadvantages of dealing with minority equity partners, and the existence of a number of legal and regulatory obstacles. Third, Uganda must overcome serious information gaps to attract foreign investors. A recent survey , for example, showed different perceptions between current and potential investors indicating the existence of an image problem. Current investors' experiences were far better than what potential investors expected. Lack of awareness (amongst foreign and domestic firms) of new opportunities in the market and uncertainty on the processes and procedures which must be followed (for example in securing telecommunications, power supplies or road access to a new site) are also present. Fourth, there is a high degree of uncertainty affecting investment decisions by both foreign and domestic investors. On balance, the Ugandan private sector still does not trust Government, illustrated by the fact that Uganda is the country with the largest number of MIGA applications from domestic UMACIS, 1995. Economisti Associati. Eastern Africa. Survey of Foreign Investors. September 1994. Conducted on behalf of the World Bank, the survey covered 50 current and 100 potential investors from more than 10 countries. - 85 - Annex 10 investors and that, according to a recent survey 6, policy uncertainty is one of the major constraints to future operations. Resource Use 6. The reduction in costs (enhancement in productivity) will be achieved directly as well as indirectly. The main instruments to meet each of the objectives are: * Improved Technology: (a) the establishment of a Private Sector Foundation (PSF) to facilitate information interchanges within the business community and between the private sector and government; and (b) provision of grants for the recruitment of appropriate technological services at the firm level, through the 7 establishment of the Business Uganda Development Schemes (BUDS) * Access To Markets: (a) strengthening the investment promotion and facilitation services of the Uganda Investment Authority; and (b) provision of grants through BUDS. * Access To Finance: leveraging funds from the investment community through the creation of the Uganda Equity Facility (UEF). Quantifying Benefits 7. Ideally, the effect of each of the project interventions on the costs of firms should be the starting point for an examination of the potential increase in profits. However, such data are not generally available, and sometimes not even known by the owners/managers of firms. Despite this, most firms have notional estimates of the potential increases in output that could result from specific actions. This information, together with some simple assumptions, provide us a basis for estimating the potential increases in profit (benefits) that are expected from this project. 8. The numeraire (benefit measure) in the cost benefit calculation has been taken, wherever practicable, as the profits generated by the commercial projects which are the ultimate destination of assistance under this project. Alternative measures of benefit were considered, including output created, which indeed would have indicated a higher valuation of benefits than is calculated below. It was judged, however, that the profit numeraire was more closely aligned with that used in more traditional examples of cost-benefit analysis of investment projects8. 9. An underlying assumption made is that the financial costs and benefits can be equated with the economic costs and benefits of the operations of the assisted firms. Often in cost benefit 6 UMACIS, 1995. 7 It is assumed that requests for BUDS assistance will be evenly split between support for technological improvement and support to gain access to markets. However, different distributions do not affect the overall net benefits from the project as a whole. See Economic Analysis of Projects, Squire and Van Der Tak (World Bank) - 86 - Annex IO analysis this assumption is not correct - for example there may be economic externalities associated with environmental resource use not captured in financial statements. Another source of divergence could be in labor, where in Uganda's case, with high levels of unutilized labor, the shadow wage rate could well be significantly below the market wage rate. In that case the financial return would understate the economic return, other things being equal. With the liberalization of the Ugandan economy over recent years, it is to be expected that prices in the economy now more fully reflect the forces of market supply and demand, as opposed to policy- related distortions which were stronger in the past. In the absence of precise information on these types of considerations, however, it seems most practical to assume financial and economic values are coterrninous. In effect, the working hypothesis is that the beneficiary firms assisted in this project face largely undistorted prices. 10. The valuation of benefits uses a two stage calculation 9 which firstly estimates the extra output created by assisted firms, and secondly the profit, or benefit, associated with that output. Additional output is defined as the difference between the level of output achieved by firms assisted by the project and the level of output these same firms would have achieved in the absence of the project. These parameters will be monitored during the life of the project by using baseline and annual surveys of assisted firms. 11. For BUDS, the performance target is that for every US$1 of consultancy assistance (US$0.5 of which is funded by the scheme), assisted firm will increase their output (sales) of US$3, each year over a five year period. In total this implies an increase in output due to BUDS assistance of US$15 over five years, which compares conservatively to the performance reported in a similar project in Kenya, in which export earnings increased by about US$20 for every US$1 10 dollar of consultancy input' . In the second stage an approximate measure of the profit, or benefit generated from this output value can be made using a working estimate that, at the margin, the ratio of gross profits to output is 25 percent 12. For UEF, the primary benefit is the economic return generated by the commercial projects which receive invested equity funds (and hands-on management input) from the EAVCF and DFCUF (in turn supported by the UEF). These are projects which it is assumed would not have proceeded without the availability of the new source of equity funding.12 Detailed work on private sector development issues in Uganda, which preceded this project13, identified at least 15 potential commercial investment projects, with projected rates of return averaging around 30 percent. Initial forecasts prepared by IFC for the EAVCF project set expected sub-project 9 Except for the equity component. 10 Information drawn from the Project Completion Report for the Kenya Export Development Project (Cr. 2197-KE). Estimate supplied by the Ugandan Manufacturers Association 12 A detailed study of project financing in Uganda, the main results of which are included in the report Sustaining Policy Reform in Eastern Africa. Tools for Privale Sector Development revealed a considerable number of potential projects awaiting equity financing before they could be implemented. Indeed support to the DFCUF would allow this fund to offer financing to SMEs who might otherwise not been large enough to attract equity financing. 13 Sustaining Policy Reform in Eastern Africa. Tools for Private Sector Development. Eastem Africa Department. World Bank. October 1994. - 87 - Annex 10 profitability at a rate of 20% per annum EAVCF managers, when appraising applications for support and subsequently helping in the perforrnance of investee companies, will have to ensure that commercial projects generate such a rate of return. 13. Investment Promotion and Facilitation. The purpose of this type of expenditure is to help attract new investment, principally foreign direct investment, in Uganda. First, the perforrnance target set for the UIA is that it should generate an additional US$10 of FDI for every US$1 spent on investment promotion in this component. This suggests that an additional US$18.7 million of FDI will be attracted to Uganda over a period of around 5 years (US$3.7 million per annum). Such a target is well within the performance reported by the UIA for its efforts to date. The additional investment is then translated into additional profit using the expected ICOR for Uganda (2.9 as per latest CEM) and a ratio of gross profits to output of 25% as in the case of BUDS. Second, assigning a value to the benefit of this FDI is difficult. Given the complexities of the issues on this type of investment, including those regarding repatriation of profit outside Uganda, in this approach the projects' anticipated profits have not been adopted as the benefit numeraire. An alternative indicator which could plausibly set a lower bound for the expected benefit to the economy (i.e., the anticipated value of corporate taxes 14 paid by the new investmnent operations, in the absence of any tax holidays, depreciation allowances etc.)'5 has been used in this valuation. Associating Costs With Benefits 14. Table 1 below presents the Project Cost Summary information for this project and the related benefits calculated using the above methodology: 14 At a rate of 300/. I5 Typically tax payments are not used as indicators of benefits since they are transfers to Government rather than a reflection of new value created in the economy. Here the measure is being used as a lower bound, to try to reflect the minimum flow being injected into Uganda's economy by the presence of the foreign investors' operations. - 88 - Annex 10 Table 1 - Project Benefits and Costs (US$000s) Project Objectives Improved Technology Access to Markets Access to Project Costs and Benefits (a) PSF (b) BUDS (a) UIA (b) BUDS Finance Total Costs Investment Costs 600 3,711 2,081 3,711 9,202 19,304 Recurrent Costs 900 236 129 236 129 1,630 Total Costs 1,500 3,947 2,210 3,947 9,331 20,934 Benefits Benefit 0 11,250 4,854 11,250 25,705 53,059 Net Benefit -1,500 7,304 2,644 7,304 16,374 32,125 Net Present Value 7,848 Benefit/Cost Ratio 1.49 Sensitivity Analysis 15. The impact of the main risk on each project benefit is summarized below. 16. BUDS Scheme. A primary source of sensitivity is in meeting the performance target for the positive impact of consultancy assistance on firms' output. Should this performance be lower than estimated, the NPV of the BUDS component will be correspondingly reduced. If the know- how injected into an assisted firm from consultancy input created only US$7.50 of extra output for every US$1 spent on services (the switching value), i.e. performance 50 percent lower than targeted, the NPV of the component becomes zero. An alternative way of viewing this risk is that, whilst consultancy assistance may generate returns as expected in the bulk of firms assisted, there may be some cases of "failure" in which participating firms generate no extra profit from the assistance provided. The component's NPV would fall to zero if more than one-half of the firms assisted received no incremental benefit from consultancy input (whilst the remaining firms generated extra output and profits as targeted). In designing the scheme, the expenditure on BUDS management has been deliberately set at a level to minimize this risk, by allowing input from the management to ensure that firms have the information and assistance to choose and use consultants who will generate added-value to firms' commercial operations. 17. Equity Financing. The benefits are dependent upon fund managers selecting and then managing a sound portfolio of individual commercial projects which generate good rates of return. The use of two pre-identified venture capital funds with IFC involvement provides an attractive route to achieving this. The UEF could perform on a return of sub-projects of up to four percentage points below the anticipated figure of 20 percent, and still generate a positive NPV. - 89 - Annex 10 18. Investment Promotion and Facilitation. The principal risk is that the impact of the investment promotion and facilitation efforts may be less than anticipated. This risk is being mitigated by using international expertise alongside the UIA's in-house resources. However the performance target for the UIA can be reduced by up to 25 percent (implying US$7.5 of additional FDI attracted for each US$1 of promotional expenditure) before the component switches to zero NPV, under central assumptions for the other variable parameters. Table 2 - Switching Values (at which project NPV is zero) for Performance Indicators Type of Performance Switching Margin Expenditure Indicator (A) Value (B) (A-B)/A BUDS $15 of extra output for $7.5 50% every dollar of consultancy input Equity 20% IRR on sub-projects 16% 20% Investrnent $10 of additional $7.5 25% Promotion investment for every dollar of promotion/ facilitation expenditure Non-Quantifiable Costs and Benefits 19. There are several non-quantifiable elements, both on the cost and benefit side of the equation, which have not been included in the quantitative analysis. A judgmental assessment of the factors listed below appears to support the implicit assumption that the unquantifiable costs are likely to be significantly less than the unquantifiable benefits. On the cost side, unquantifiable elements include: * costs associated with rent-seeking policy recommendations which may be made by the PSF and with their lobbying efforts be implemented by the Government. Clearly there is a danger that any interest group might seek, explicitly or even inadvertently, to use its influence for its own economic gain at the expense of other groups. In this case it is difficult to attempt any real estimate of the probability of such an occurrence, or the monetary value of the cost of such an event were it to occur. Arguably, however, the Government may be better positioned to resist such rent-seeking from a unified group representing a range of private sector representatives (whose variety of interests may be self-policing) rather than powerful groups representing narrower industrial interests; * costs associated with foreign direct investment which could conceivably damage underdeveloped infant industries, or establish their successful commercial position based on existing distortions in the economy or the creation of a monopolistic position. Again it is difficult to estimate the probability of this - 90 - Annex 10 happening or its associated cost. The liberalized nature of the Ugandan economy, however, should help limit such a risk. 20. Non-quantified benefits include: * any benefit relating to the PSF as project implementation unit (e.g., creating a consistency between project design and implementation, with the private sector leading both phases; maximizing the responsiveness of the project management to the private sector, as client; and supporting a wider trend in Uganda to privatize or contract-out traditional public sector functions to the private sector); * any benefit relating to the PSF in its policy advocacy function (e.g., acting as a buttress to specific private sector development policy measures, which underpin the project as a whole, such as reform of investment regulations, privatization, and parastatal reform; drawing together fledgling private sector representative groups, helping build cohesion and creating advantages from joint-working; educating public and private sectors on key issues, such as tax reform; developing new policy recommendations; and establishing greater trust and respect between public and private sectors, to sustain structural adjustment efforts); * the benefits delivered by the BUDS managers in helping educate firms in their use of business consultants, and in developing the capacity of the local consulting profession; - the wider benefits (from technology transfer, management skills, etc.) associated with FDI; * increased knowledge and awareness amongst Ugandan entrepreneurs about the uses and benefits of equity financing; * enhanced awareness amongst some sections of the international financial community about investment opportunities in Uganda; and * a widening of choice of instruments (particularly to SMEs) in the financial sector, so helping to improve financial intermediation. - 91 - Annex 11 DOCUMENTS IN PROJECT FILE 1. Proposal for Prefeasibility Study of an Equity Financing Vehicle for Eastern Africa. Economisti Associati. October 1993 2. Uganda Investment Authority. Strategic Goals - Horizon 2000 and Budget Framework - 1995/6, 1996/7, 1997/8. Uganda Investment Authority. February 1995 3. Uganda Private Enterprise Survey Report. UMACIS. January 1995 4. How to Create a Profitable Equity Fund in Uganda. Venture Associati. May 1994 5. Sustaining Policy Reform in Eastern Africa: Tools for Private Sector Development. October 1994 6. Eastern Africa - Survey of Foreign Investors: Main Results, Vol. 1. September 30, 1994 7. Uganda: Assistance with Project Design - Private Sector Development, Review of the Tax and Incentive Structure, (3 vols.). April 22, 1995 8. Uganda: Inventory of PSD Donor Projects. World Bank. August 1995. 9. A Policy Framework for Private Sector Development in Uganda. Public and Private Enterprise Division. Eastern Africa Department World Bank and Private Sector Task Force. June 1995. 10. Participatory Project Preparation and Appraisal at the World Bank The Uganda Private Sector Competitiveness Project. Team Technologies Inc. November 1995. 30 32 1^/ 3 SUDAN UGANDA DECENTRALIZATION a- ~~IN UGANDA _ tI ; ) J FINANCIALLY DECENTRALIZED 0.; M r PHASE I PHASE II KOTIDO PHASE III DISTRICT CAPITALS ZAI RE N CAPITAL MOROTO\ * N CAPITAL DISTRICT BOUNDARIES' RIVERS -INTERNATIONAL BOUNDARIES 'fvs8 9E X < v _s / ~~~~~~~~~~~~~~KENYA ,a -7 SOROT)~~~~~~~~~~~~~~~~~~~~~~~