Document of The World Bank FOR OFFICIAL USE ONLY Report No. 4490 PROJECT PERFORMANCE AUDIT REPORT YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LOAN 894-YU) May 13, 1983 Operations Evaluation Department This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. ABBREVIATIONS AFLD - Agriculture and Forestry Loan Department AIK - Agricultural Industrial Kombinat EFIC - Export Finance Insurance Corporation EMENA - Europe, Middle East and North Africa Region ICB - International Competitive Bidding OED - Operations Evaluation Department PCR - Project Completion Report QPR - Quarterly Progress Report SB(S) - Stopanska Banka, Skopje SRM - Socialist Republic of Macedonia UAKM - United Agricultural Kombinat of Macedonia FOR OFFICIAL USE ONLY PROJECT PERFORMANCE AUDIT REPORT YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LOAN 894-YU) TABLE OF CONTENTS Page No. Preface ........................................................... . Basic Data Sheet . .............................................. ii Highlights .............. .... .......... . . . . . . . . . . . . . i PROJECT PERFORMANCE AUDIT MEMORANDUM I. SUMMARY ........... -- ..................... 1 II. MAIN ISSUES -..................................... .. 3 A. Agricultural Sector Policies in Relation to the Agricultural Industries Project ................ . 3 B. Procurement.. ...........-................... 5 C. On-lending Terms ....................... 6 D. Wine Processing ............ .............. 7 E. Animal Slaughtering and Processing Plant ............ 7 III. CONCLUSIONS ................ ............. ....... 10 Annexes: I - Comments from Borrower Regarding Procurement ............. 11 II - Project Cost ............................................. 13 PROJECT COMPLETION REPORT I. Introduction ............................................ 17 II. Project Formulation/Processing .......................... 19 III. Project Implementation .................................. 25 IV. Institutional Performance ............................... 40 V. Agricultural Performance ................................ 42 VI. Operating Results ....................................... 43 VII. Bank's Performance ...................................... 48 VIII. Conclusions ............................................. 49 Annexes 1-9 Not included but available from either OED or EMENA Projects Department on request. Map - IBRD 10175(PCR) Project Locations This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  PROJECT PERFORMANCE AUDIT REPORT YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LOAN 894-YU) PREFACE This is a performance audit of the Agricultural Industries Project in Yugoslavia, for which Loan 894-YU in the amount of US$31.0 million was approved on May 14, 1973. The Loan was closed on June 30, 1981 after a delay of 18 months. The final disbursement was made on July 24, 1981 and US$9,600 was cancelled. Loan 894-YU was the first made to Yugoslavia for agricultural development. It was followed by two related projects: the Second Agricultural Industries Project (Loan 1371-YU for US$24.0 million of March 10, 1977) and the Macedonia Strezevo Irrigation Project (Loan 1616-YU for US$82.0 million of August 23, 1978). This audit report consists of a memorandum prepared by the Opera- tions Evaluation Department (OED) and a Project Completion Report (PCR).1/ dated August 11, 1982. The PCR was prepared by the Europe, Middle East and North Africa Regional Office following a mission to Yugoslavia in March 1982 and is based in part on a draft completion report prepared by the Stopanska Banka, the executing agency of the project. The audit is based on a review of the Appraisal Report (No. 83-YU) dated April 30, 1973, the President's Report (No. P-1244-YU) of May 3, 1973, the Loan and Guarantee Agreements dated May 25, 1973, and the PCR, together with a review of correspondence with the Borrower and internal Bank memoranda on project issues as contained in rele- vant Bank files, minutes of the Board's discussions, and interviews with Bank staff who have been associated with the project. An OED mission visited Yugoslavia in September 1982 and held discus- sions with government officials who have been associated with the project and with project beneficiaries -- combinats, cooperatives, and individual farmers. These interviews and visits to project sites also contributed to the conclu- sions of the audit as contained in the audit memorandum. OED wishes to acknowledge the assistance and information provided the audit mission by the personnel of Stopanska Banka of Macedonia; the Kumanovo, 'Ovce Pole, Kavadarci, and Pelagonija combinats; and the individual farmers, all of which contributed significantly to the development of this report. A copy of the draft report was sent to the Borrower on February 7, 1983 for comments; however, none have been received. 1/ Extensive annexes to the PCR are not included in this report but are available from either OED or EMENA Projects Department on request.  - It - PROJECT PERFOR MANCE AUDIT REPORT YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LOAN 894-YU) BASIC DATA SHEET KEY PROJECT DATA Appraisal Actual or Actual as % of Expectations Current Estimate Appraisal Estimate Total Project Costs (US$ million) 62.0 115.0 185 Loan Amount (US$ million) 31.0 31.0.a 100 Date Physical Components Planned to Be Completed 06/30/78 06/30/81 145 Proportion Completed by above Date 91 /b Economic Rate of Return (Z) 21 12/c 57 PROJECT DATES Actual or Original Plan Revisions Estimated Actual First Mention in Files/Timetable - - 04/71 Government Application - - 06/71 Negotiations - - 03/16/73 Board Approval - - 05/14/73 Loan Agreement Date - - 05/25/73 Effectiveness Date 10/31/73 11/30/73 11/28/73 Closing Date 12/31/78 12/31/80 06/30/81 CUMULATIVE DISBURSEMENTS FY74 FY75 FY76 FY77 FY78 FY79 FY80 FY81 Appraisal Estimate (US$ million) 3.50 14.59 22.18 27.67 31.0 - - - Actual (US$ million) 1.20 12.80 19.60 24.90 27.30 29.70 29.80 30.99 Actual as percentage of Estimate 34 88 88 90.0 80 96 96 100 Date of Final Disbursement: 07/24/81 MISSION DATA Date No. of No. of Staff Specialization Performance Types of Mission (Month/Year) Persons Days Weeks Represente Trend..& Problemas Identification/d 04/71 - - - - - - - Preparation 04/72 4 12 6.9 a,b,c - - - Appraisal 07/72 7 24 24.0 a,b,c,d,e,f,g - - - Post Appraisal 11/72 3 15 6.4 a,b,c - - - Total 14 51 37.3 Supervision I 08/73 2 18 5.1 a(2) 2 2 M Supervision II 01/74 2 8 2.3 a,c 2 1 H Supervision III 08/74 2 8 2.3 a,c 2 1 M Supervision IV 03/75 2 10 2.9 a,d 1 1 M Supervision V 10/75 2 5 1.4' a,c 2 2 M Supervision VI 03/76 2 11 3.1 a,c 2 3 F,M Supervision VII 10/76 2 10 2.9 a,c 2 2 F,M Supervision VIII 04/77 3 4 1.7 a,c,g 2 2 F,M Supervision IX 08/77 2 1 0.3 a,c - - - Supervision X 04/78 1 5 0.7 a 2 2 M Supervision XI 12/78 2 11 3.1 a,c 2 2 F,M Supervision XII 11/79 2 10 2.9 a,b 2 2 0 Supervision XIII 05/81 2 8 2.3 a,c 2 1 M,0 Total 26 109 31.0 OTHER PROJECT DATA Borrower Stopanaka Banks, Skopje Guarantor Socialist Federal Republic of Yugoslavia Executing Agency Stopanaka Banks, Skopje Fiscal Year of Borrower January I - December 31 Country Exchange Rates: Name of Currency (Abbreviation) Dinar (Din) Appraisal Year Average US$1.00 - Din 17.0 Intervening Years Average US$1.00 - Din 21.3 Completion Report Year Average US$1.00 - Din 40.0 Follow-on Projects Names (i) Agriculture and Second Agricultural (ii) Macedonia Strezevo Irrigation Project Loan Numbers Loan 1371-YU Loan 1616-YU Amount (US$million) 24.0 82.0 Loan Agreement Dates March 10, 1977 August 23, 1978 /a Only a small amount (US$9,600) was cancelled. Meat processing plant is not yet complete. /c Does not include meat processing plant. 7 This was undertaken by an Industrial Projects Identification Mission and hence no separate information is available (see paras. 8 and 9 of the PCR). /e a - Agro-industries Specialist; b - Agricultural Economist; c = Financial/Credit Specialist; d - Livestock Specialist; a - Agriculturist; f = Marketing Specialist; and g - Irrigation Engineer. /f 1 - problem free or minor problems; 2 - moderate problems; 3 - major problems. 1 - improving; 2 - stationary; 3 - deteriorating. In M - managerial; F - financial; 0 - other.  - iii - PROJECT PERFORMANCE AUDIT REPORT YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LOAN 894-YU) HIGHLIGHTS The objectives of the project were to increase production of milk, beef, pork, table and wine grapes, fish and tobacco by some 75,000 tons in total annually at full development and to improve the efficiency of meat and wine processing. The project supported the Republic of Macedonia's 1971-75 Development Plan by providing sub-loans for fixed investments and incremental working capital for agricultural-industrial combinats and cooperatives which were to assist them in modernizing farm production and processing facilities. This modernization was expected to increase the competitiveness of their products in domestic and foreign markets. In addition, the project promoted the development of individual (private) farms through the provision of agri- cultural credit, an innovative feature of the project. Loan 894-YU funded the first Bank-supported agricultural development project in Yugoslavia. Total project costs were expected to amount to US$62 million. Of this total, Loan 894-YU would finance US$31 million, 50%; the Stopanska Banka, Skopje (SBS) US$18.6 million, 30%; and sub-borrowers US$12.4 million, 20%. SBS was the Borrower as well as the executing agency for the project. It was charged with channeling funds directly to combinats and indirectly to individual farmers through the combinats and cooperatives. Sub-loans were to be made at 8.25 percent interest for periods of 11 to 16 years with grace periods of three to five years. The project was expected to begin in mid-1973 and to be completed by mid-1978; however, it was not completed until June 1981. This delay was mainly caused by problems in the contracting for and construction of a slaugh- terhouse and meat processing plant which is still unfinished. However, other project components were delayed too, some by as much as two years, primarily because of the borrower's and sub-borrowers' lack of experience in Bank style procurement. At completion, total project cost amounted to US$115.0 million, representing a cost overrun of 85 percent for a slightly changed project; one of the two planned wine by-product processing plants was not constructed and the meat processing plant was only partially completed. Further, expected savings on the cost of the wine by-product processing plant, which did not materialize, were used for irrigation development, adding to the cost overrun. Production targets of the project have nearly been met. Produc- tion of milk, beef, pork, wine, and fish have been about 20 percent short of targets but livestock feed from grape processing, and distilled alcohol, a by-product of wine processing, exceeded appraisal targets. Beneficiaries of the project include the 2,400 private farm families which received sub-loans - iv - through the project plus the employees who fill the 6,500 full-time and 4,000 full-time equivalent seasonal jobs which were created by the project at combinats. Incomes on private farms have been increased significantly, according to a special study. The re-estimated rate of return of the project (excluding the meat processing plant) is 12 percent. At appraisal, the rate of return was estimated at 21 percent. Lessons to be learned from the project are. (i) the borrower and its agents should be fully schooled in the Bank's procurement procedures and understand and endorse all procurement covenants of a Loan or Credit Agree- ment before it is signed (PPAM, paras. 15-17 and PCR, para. 45); (ii) the experience of the project points out again the need for maximum specificity in understanding between the investor and the contractor about objectives and respective responsibilities, both before and *during construction of large com- plex plants or works (PPAM, para. 24; PCR, para. 71); and (iii) comprehensive sector surveys can assist both the Bank and the borrower in project selection and development policy (PCR, para. 105). Other points of special interest are: - The project influenced the Government's thinking on agricultural development policy and initiated lending to private farms which represent a large untapped development potential; however, an effective program to promote development of the private sector appears to be lacking (PPAM, paras. 6-14); - the Borrower does not agree with the Bank's procurement procedures, particularly those for ICBi it found them difficult to carry out and believes they caused delays in implementation (PPAM, paras. 15 and 16, and PCR, para, 65); - the delay in construction of the slaughterhouse and meat processing plant might have been reduced by more intensive supervision (PPAM, para. 25), and - ownership of Stopanska Banka, Skopje (borrower/on-lender) by the combinats made supervision of sub-projects by SBS difficult (PCR, para. 80). - 1 - PROJECT PERFORMANCE AUDIT MEMORANDUM YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LOAN 894-YU) I. SUMMARY 1. The project formed part of Macedonia's 1971-75 Development Plan. It provided sub-loans for fixed investments and added working capital for agricultural-industrial combinats and cooperatives to assist in modernizing farm production and processing facilities in order to increase the competi- tiveness of their products in domestic and foreign markets. The project also aimed to further develop individual (private) farmers through agricultural credit which was channeled through the combinats and cooperatives. The project was the first attempt to provide credit to individual farmers by the Government or social agencies. Production of major agricultural products to be increased by the project consisted of milk, beef, pork, table and wine grapes, fish, and tobacco. In total, such production increases were expected to amount to about 75,000 tons annually at full development. 2. Total project costs were expected to be US$62 million. Loan 894-YU would finance US$31 million of this total, 50%; the Stopanska Banka (SB), US$18.6 million, 30%; and sub-borrowers, US$12.4 million, 20%. Major invest- ments included buildings, equipment, and breeding stock for five dairy farms, four cattle fattening farms, four heifer rearing farms, and two pig farms, all of large scale; a slaughtering and meat processing plant, and a wine proces- sing plant; two wine by-product processing plants; development by 13 combi- natLi' of 1,600 ha of vineyards for wine grapes and 1,000 ha of vineyards for table grapes; development of five carp and three trout fish farms; and construction of two cold storage plants for fruit, vegetable, dairy, meat, and poultry products. In conjunction with the processing and cold storage plants, funds were included for engineering services. As noted above, the project also included funds for financing the development of 2,400 private farms, channeled through combinats and cooperatives, which were expected to expand the production of tobacco, grapes, and livestock. Finally, the project provided financing for completing feasibility studies of several irrigation systems, improving access roads, studying future supply and demand for principal agricultural products in Yugoslavia, and studying the private sector in order to: (a) devise a system for monitoring and evaluating the results of the private sector component, (b) formulate priority needs for development of the private sector over the following ten years, and (c) prepare a second-phase program for individual-farm development. 1/ Large social enterprise. - 2 - 3. The project was expected to begin in mid-1973 and to be completed by mid-1978. Mainly because of problems in the contracting for and construction of the slaughterhouse and meat processing plant, which still has not yet been completed (PPAM, paras. 22-25; PCR, paras. 40-42 and 71), the Loan was not closed until June 30, 1981, representing a delay of two and one-half years. With respect to other components, dairy farm development was completed two years late, heifer rearing farms one year late, and the wine processing plant almost two years late. One wine by-products processing plant was completed with a delay of two years and the other was dropped from the project due to delays in making a contract coupled with doubts about its financial viability (PCR, paras. 37-39). On the other hand, construction of cattle and pig fattening farms was completed as expected. The special studies were delayed somewhat, too; but all were completed by 1976. Total cost of the slightly reduced project rose to US$115 million, representing a cost overrun of 85%. This large cost overrun led to the need for additional borrowing by Stopanska Banka from commercial lenders at high rates of interest in order to complete the project. Higher costs of project components led to reduced contributions by sub-borrowers. Considerable problems and delays were caused by the bor- rower's and sub-borrowers' lack of experience with the Bank's procurement procedures, particularly ICB. This lack of experience adversely affected project implementation, project cost in particular, and morale of the parties concerned, and some confusion and mis-trust among investors and suppliers. The Bank tried to ameliorate such problems by providing greater than usual assistance in all aspects. In all, 13 supervision missions went to Macedonia. Two supervision missions visited the project every year except for the first year when the project was just getting started and the last two years when the construction of the meat processing plant was the only continuing activity. 4. In addition to the non-completion of the livestock slaughtering and meat processing plant, the project has met with mixed success in meeting its production targets (PCR, para. 82). Production targets for table and wine grapes have been achieved. Livestock feed from grape processing has exceeded the appraisal target, and distilled alcohol produced as a by-product of wine production has been more than double the appraisal expectation. Shortfalls in the production of milk, beef, pork, wine, and fish have been 20 percent or more. In terms of total production, unweighted by value and therefore a crude measure, the shortfall was 19 percent. 5. Re-estimated financial rates of return for project components (PCR, para. 89) range from negative -- dairy, heifer rearing, pig and rice storage -- to 13 percent for the central wine cellar. The irrigation scheme that replaced the grape by-products plant now has an estimated financial rate of return of about 23 percent. Financial rates of return for the individual sector vineyard and dairy enterprises are over 10 percent. Re-estimated economic rates of return (PCR) range from negative to 25 percent. Five of these (dairy, cold storage, rice storage, carp fish, and tobacco drying) are below 10 percent. The overall average for the project (excluding the meat processing plant) is 12 percent. - 3 - II. MAIN ISSUES A. Agricultural Sector Policies in Relation to the Agricultural Industries Project 6. The Loan to support the Agricultural Industries Project was the first made for agricultural development in Yugoslavia. As noted in the previous section, the project was innovative in that it provided funds for development of individual (private) farms. Such farms had never before been given much emphasis under the development plans of Yugoslavia despite the fact that 86% of the arable land and 92% of the livestock resources are located on private farms. Moreover, it had been the policy of planning authorities to emphasize industrial development at the expense of agriculture. 7. At the time of appraisal there were some 25 combinats in Macedonia representing large vertically integrated agro-industrial enterprises. The individual subsector, on the other hand, consisted of about 160 000 farms. Of these, 7,500 were organized into about 170 farmer cooperatives - 8. The Government has now come to realize, at least partly due to its discussions with the Bank, that individual farms must be developed in order to meet its agricultural production goals. This point was mentioned on several occasions to the audit mission and is also noted in a consultant's report that was financed through the project! and the Bank's Agricultural Sector Report, dated June 30, 1980. 9. Although it is reported that the project assisted 2,400 individual farms (PCR, paras. 49 and 95) with development credit as was intended (and which may very well be the case), the audit mission was able to talk to only two such farmers and visited only one farmstead. Mini-farms, as they were labeled, were difficult to find at the locations indicated on the mission's agenda which was prepared by Stopanska Banka, despite repeated requests by the mission to visit such farms. 10. According to the Bank's Agricultural Sector Report of 1980 (pages 8-9) the Government's plan is now to develop individual farms through Zadrugas (cooperatives). But as noted in paragraph 7, individual farmers who are members of cooperatives make up only 5% of the total individual farmers. Thus, many individual farmers will not be affected unless they join the cooperatives. It is logical to support the development of the private farm 1/ These cooperatives are fully integrated and include activities for supplying production and consumption goods and marketing output for members. 2/ Conrad Jameson Associates, Marketing of Agricultural Products in the Social Republic of Macedonia, Vol. 1, undated. sector in Yugoslavia for two reasons: Firstly, as stated above, the private farms make up the largest proportion of resources in the agricultural sector. To neglect this subsector leaves untapped a large resource base -- managerial as well as physical -- for increasing agricultural output and productivity. Secondly, the combinats most likely have passed the point of diminishing returns to scale in terms of management due to the large land areas and substantial assets managed; or in other words, the scale of the enterprise is too large for efficient management under the present state of the art. 11. Somewhat unique management thinking by combinats is evidenced by the sub-projects planned and developed under the project, e.g., dairy farms of 1,000 milk cows, cattle fattening farms of 1,000 animals, and two pig fat- tening farms of 10,000 and 30,000 units, respectively. Nowhere has there been given, nor was the audit M ssion able to obtain, a rational explanation for these rather unique sizes..1, 12. Another factor that supports the policy to develop the individual sector is the apparent labor shortage in combinats. The audit mission con- cluded from its field visits that the combinats may be having trouble ob- taining sufficient workers at harvest time. Therefore, some perishable products may be going to waste. This viewpoint is supported by the fact that combinats, in their investment schemes, are trying to minimize the amount of labor used. Furthermore, it has been noted in a consultant's report that there has been a large transfer of labor from rural villages to town2/ indicating a shrinking labor pool. The individual farms, on the other hand, provide most of the required labor themselves. 13. What appears absent in national planning at the present time is an effective program for developing the individual farm. 'Growth in the indivi- dual sector slowed markedly in the 1960s, with increased rates of decline in land and labor use coupled with a slowing in capital investment. The rate of capital investment improved somewhat in the 1970s (Agricultural Sector Report, pages 11-12). On the one hand, at the present time individual farms are limited to 10 ha; on the other hand, the Government is encouraging individual farms to mechanize. Some studies have shown that the farm size required to utilize one tractor and the standard complement of equipment is about 50 ha. Efficient mechanization could be carried out in the cooperatives but not on the small individual farms. At the present time, individual farmers can and do obtain machinery as well as other services from the combinats, but it is likely that only members of cooperatives can obtain such services. However, a consultant study:/ of the individual farmer sector did show 1/ The Bank apparently accepted these enterprises sizes without considering the physical and management environments in which they would be esta- blished. 2/ Conrad Jameson Associates, op. cit., page 3. 3/ Feasibility Study for the Private Agricultural Farms, Skopje-Zurich, February, 1980. - 5 - that farmers who had received loans for the purchase of tractors and equip- ment were contracting to provide plowing and machinery services to other small farms. Still, such investments need to be closely monitored to prevent uneconomic expenditures on such items. 14. Furthermore, in light of the high level of unemployment, many of the investments provided under the Agricultural Industries Project may be uneco- nomic (PCR, paras. 89 and 97). Managers of combinats emphasize the small amount of labor required to carry out certain activities, such as feeding of livestock, which is the result of large capital investments in labor saving technology. In summary, the Government's current policy that emphasizes the development of the individual farmer sub-sector, and which was fostered through the Agricultural Industries Project and other activities of the Bank, is economically sound given the resource ownership distribution in the agricul- tural sector. However, it appears that an effective program to implement that policy has not yet been put into place. B. Procurement 15. Stopanska Banka is very concerned about the procurement procedures and requirements that had to be carried out under the Agricultural Industries Project as well as other projects it has participated in with the Bank. This concern is evidenced in the following excerpt from a draft completion report, dated December 1980, prepared by SB, Section 3.4.2: "ICB was also used for the studies: irrigation, marketing and agricultural economics. In this phase of Project realization, special difficulties appeared with subprojects procured underICB on "turnkey basis". Basically these difficulties originated from the fact that investors had no experience with procurement under this IBRD purchase proce- dure, then much higher offered values than these anticipated, a long procedure of negotiations with selected firms, writing for agree- ments of the bank's creditors (SBS and IBRD), translations, long time for documentation to be airmailed to IBRD, insufficiently defined tender documents not prepared on time, e.g. total spent time from appraisal of the feasibility study [to] the beginning of physical implementation was [greater than] expectations; namely slaughterhouse and meat processing plant was procured in 1,324 days, wine by-products factory in 1,075 days, while the central wine cellar in 512 days. Because of these long terms of procurement, subprojects value significantly went up and also the Project as a whole. Obviously, this procedure was one of the most difficult and [expendi- tures were above expectations]. - 6 - More reasons were present, as above said, but in future [projects] the following issues should be taken into consideration: - procurement of subprojects in agroindustry under ICB on "turnkey" basis should not [be] used, particularly in Yugoslavia, where there are experienced design and civil firms; - ICB is to be used only for agricultural equipment, which is not produced in Yugoslavia and whose value exceeds US$3.0 million; - for subprojects requiring equipment to be procured by ICB, preparation of tender documents should not start in the phase of appraisal [but should] be finished by the date when Loan becomes operative; - preparation of tender documents [should be] performed by an experienced organization and [completed by a] previously estab- lished time schedule." 16. SB obviously does not share completely the Bank's view on the use of ICB. The audit mission, although convinced that the purpose of ICB--to insure, inter alia, that the borrower receives the required equipment at the lowest cost--had been explained to SB many times, explained the point again, with no convincing effect. SB also expressed the view that the Bank was promoting projects that were excessively capital intensive. Additional comments by the Borrower on the Bank's procurement procedures are presented in Annex I. 17. Procurement procedures are a source of significant friction between the Bank and borrowers as well as the cause of numerous and prolonged delays. The Bank has recently issued OPN 4.02 "Procurement Checklist for Appraisal" and is also in the process of standardizing tender documents. These should help expedite the procurement process and prevent delays. Another facilitating action that the Bank could take would be to send a supervision mission, which would include a procurement specialist, to a country immediately after loan/ credit approval to instruct project authorities on procurement procedures and assist in preparing tender documents. Procurement specialists would also approve tender documents on-site. Thus, delays caused by the time required to send such documents to the Bank and receive a reply would be eliminated.! C. On-lending Terms 18. Under the Loan Agreement (Schedule 5), combinats receiving sub-loans were required, inter alia, to bear the foreign exchange risk involved. None of the four beneficiary combinats contacted by the audit mission, in relating 1/ For a more general discussion on this subject see OED Report No. 3557, An Interim Report on Procurement Issues in Bank's Financed Projects dated July 15, 1981. - 7 - the conditions of the subloans, mentioned that one of the conditions was to bear the foreign exchange risk. Furthermore, the individual farmer contacted by the mission at his farm stated that the interest rate of his subloan was 6% instead of the 8.25% stipulated in the Loan Agreement. The audit mission was unable to obtain an explanation from SB for these discrepancies. D. Wine Processing 19. The wine processing plant that was financed under the project was designed to receive wine that had been partially aged in other smaller winer- ies as well as its own system, and then to improve and standardize its quality through modern processing methods. Part of the output of the plant, with a common label, was expected to be exported to other countries to compete with other high quality wines. 20. The winery complex of the Tikves combinat presently has three sections. The oldest section uses traditional methods and ages wine in wooden barrels; a newer section, which includes some wine "treatment" facili- ties, ages wine in ceramic tanks. The newest section, which was supported by Loan 894-YU, ages wine in stainless steel tanks. At the present time, total throughput of the new system has just reached 15 million liters. This com- pares with about 33 million liters of total capacity (the planned capacity at appraisal was 40 million liters). 21. The economic benefit of this bulk wine treatment plant was not assessed at appraisal or by the project completion mission. Origi7ally this bulk plant was to be built in Skopje as a stand-alone facility.1 In Kavadarci, where it has been built, it is part of an existing complex as noted above. Thus, it should be analyzed as a supplement and partial replacement of an existing facility, taking into account the product value added by the new facility, not as a stand-alone unit. Unfortunately, information is not available to do this type of analysis. In light of the underutilization of the facility and given the fact that only about 10% of the plant's output is expected to be exported, it is unlikely that the economic benefits of the plant are significant. E. Animal Slaughtering and Processing Plant2 22. The construction of the animal slaughtering and processing plant has been plagued with problems from the beginning. The original plan called for its completion by July 1976, but the contract was not signed until early 1977 and appears not to have come into effect until late 1977. It provided for a period of approximately 20 months for completion, which would have meant completion, at the earliest, by late 1979. As noted in para. 3, considerable work remained to be done in September 1982. 1/ See PCR, paras. 35 and 36. 2/ See PCR, paras. 40-42 and 71. - 8 - 23. In the spring of 1975, the United Agricultural Kombinat of Macedonia (UAKM), acting for itself and three other combinats that were participating as investors in the project, selected a firm that was not the lowest evaluated bidder. The Bank did not concur with this selection. After some negotiation, UAKM informed the acceptable bidders that the original bids far exceeded appraisal expectations and requested them to submit new bids for plants which would include and exclude a section for meat and vegetable can production. New bids were received in December 1975 without significant changes in total values. The Borrower requested, in January 1976, the Bank's concurrence to select the lowest bidder, which was also the lowest bidder in the first round of bidding. Because bid evaluation information was not complete, the Bank could not approve. This information was received in February 1976 and the Bank sent a letter to the Borrower in March 1976 indicating that it had no objection to the award of the contract. Numerous disagreements then arose over contract details, with the result that a contract was not signed during 1976. The supervision report of December 23, 1976 noted that UAKM wanted to change plant specifications which would involve new, sophisticated processing lines, much different than those envisaged at appraisal. After a meeting with Bank personnel, UAKM agreed to drop the matter. UAKM, it was also noted in the report, would try to get an export financing institution in the con- tractor's country to assist in financing an estimated cost overrun vis-a-vis the appraisal report. Then shortly later, after discovering in the draft contract that the prime contractor would be paid more for civil works than it was paying a subcontractor for doing the work, UAKM wanted to have the con- tract modified so that it would only pay the actual amount that was to be paid to the subcontractor. This problem finally was resolved and a contract came into effect in late 1977. 24. The project reflected the many disagreements and mutual charges of non-compliance that subsequently arose' among the contractor, UAKM, and the subcontractor for civil works, including disagreements about who was respon- sible for supplying electrical power and connections to the adjacent railway line, When the audit mission visited the plant in September 1982, it appeared that no work had been done for some time. There was no electrical power available. Power cables were terminated without any apparent function. The civil works in place were different than those described by the original drawings provided by the contractors. There were no connections to the adjacent railroad line per the original specifications and no apparent source of power to operate the plant. At one meeting in late 1979, attended by Bank representatives, the contractor, UAKM, and SB, the contractor gave the following reasons for the delays: (a) shortage of labor in the area, (b) unfavorable weather, (c) slow customs clearance, (d) shipping delays, and (e) slow approval of plant material by SB to ensure payment. - 9 - The investor countered with the following reasons. (a) lack of detailed drawings such as where to install electrical plugs and hot and cold water lines, and (b) disagreement between contractor and subcontractor on electrical power solutions, noting that specifications do not meet Yugoslavian standards.1/ 25. The question might be asked: Could the Bank have done more to prevent the problems which have delayed implementation of the slaughterhouse and meat processing plant? At appraisal, it was expected to be completed in 1975. According to information available, the Bank did not give much attention to physical progress of the subproject during the early part of the implementation period. When closing of the Loan had been delayed for some time, in January 1980, the Bank did offer to "assist in any way to resolve any of these problems and to accelerate completion of the project." It appears that Bank supervision could have given more attention to the progress of construction, but any conclusion about its impact on earlier completion of the plant would be conjectural.2/ III. CONCLUSIONS 26. The Agricultural Industries Project was the first agricultural project that the Bank supported in Yugoslavia. It initiated as a small part of the project (about 7% of total project cost) a program for developing the individual farm sub-sector and apparently has influenced Governmental thinking on development policy for the agricultural sector. Some of the large-scale subprojects financed under the Loan are of doubtful financial and economic viability, partly due to their scale and the management of the combinats. 27. The audit agrees with the PCR (para. 99) that the appraisal mission could not have foreseen the increases in investment costs that occurred. However, more intensive supervision of the slaughterhouse and processing plant might have reduced the project's large time overrun which is mainly attribut- able to that component and some of the cost overrun which would have been reduced if the plant had been completed on or within a reasonable period of time. 1/ The contractor claims that changes from the original plans were made at the investor's request and that sufficient drawings were available at all times. See also PCR, paras. 40-42 and 69-71. 2/ A supplementary agreement between the investor and the contractor, signed in May 1980, did not specify a date for completion; but representatives of a participating combinat told the audit mission that a new agreement had since been made with the contractor to complete the project by March 1983. The contractor's embassy in the U.S. subsequently confirmed this new agreement with UAKM.  - 11 - PROJECT PERFORMANCE AUDIT REPORT ANNEX I Page 1 YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LON 894-YU) camss raM Dom REGARDING PROCUREMENT INTERNATIONAL BANK FOR RECONSTRUCTION '- AND DEVELOPMENT WA SH I NGT 0N ' assman=ssmamassmasm SKOPJE, 04.10.1982. IF-CR RBT.21.222 RELOAN 894-YU, COMPLETION REPORT. THANKS YOURTEL OF OCTOBER 1,1982. ALPHA- CONCERNING PROCUREMENT PROCEDURE,WE WOULD ADD TO OUR OPINION GIVEN IN COMPLETION REPORT THE FOLLOWING: ICB SHOULD BE ONLY APPLIED FOR BIGGER PURCHASES AND EQUIPMENT FOR WHICH THERE IS NOT SUFFICIENT OFFER IN THE COUNTRY- b0RROWER.WITHIN PROCEDURE FOR GIVING APPROVALS,30RROWER SHOULD HAVE A BROADER AUTHORIZATION,I.E.,TO ALLOW IT TO GIVE SOME OF APPROVALS FOR ACCOUNT OF IBRD IN ORDER TO SHORTEN PROCUREMENT TIME.AS WA EE AS TO WAY OF PROCUriErlENT OF SUBPROJECTS ON ,,TURNKEY'' SYSTEM, ,,ONLY EQUIPMENT"1 OR SIMILAR,WE THINK THAT IT IS TO DEPEND ON THE DEVELOPMENT OF THE COUNTRY-BORROWER,I.E., AVAILABILITY OF FACTORS FOR INVESTMENT IP;PLEMENTATION,uR - 12 - ANNEX I Page 2 IN MORE CONCRETE WORDS IT MEANS THAT YUGOSLAVIA OR OTHER COUNTRIES SIMILARLY DEVELOPMED SHOULD NOT BE EQUALLY OR SIMILARLY TREATED AS COUNTRIES WHICH DO NOT HAVE AVAILABLE QUALITATIVE ECONOMY FACTORi wHEN THESE LIMITS AND CONDITIONS ARE DETERMINED IN LOAN AGREEMENTS. BETA- WE HANDED MR.KAPUR PRICES OF BASIC AGHICULTURAL PRODUCTS. EVER AT YOUR DISPOSAL IF ANYTHING IN ADDITION IS NECESSARY. REGARDS. STOPANSKA BANKA - ZDRUZENA BANKA IDRIZ FEJZULI, DIRECTOR PRED : C.R.09,15 H 248423 WORLDbANK 51140 SBANK YU PROJECT PERFORMANCE AUDIT REPORT YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT (LOAN 894-YU) Project Cost At Appraisal At Completion Dinars Dinars % of % of # of Dinars Dinars % of Z of # of Col. 6 Purpose (m1n.) (mln.) Subtotal Total Projects (mln.) (mn.) Subtotal Total Projects Col. 1 (%) Col. 1 2 3 4 5 6 T 8 - 10 11 PART "A" Dairying 169.0 9.9 21.0 - 5 189.8 11.1 12.4 - 5 112.7 Cattle Fattening 24.2 1.5 3.2 - 4 26.1 1.5 1.7 - 4 103.6 Heifer Rearing 39.0 2.3 4.8 - 4 35.9 2.1 2.3 - 4 92.0 Pig Fattening 58.8 3.5 7.4 - 2 74.3 4.4 4.9 - 2 126.5 Meat Processing & Slaughterhouse 94.6 5.6 11.8 - 1 412.5 24.3 27.0 - *1 436.0 Vineyards 177.8 10.5 22.2 - 13 264.2 15.5 17.3 - 13 148.6 Winery 67.9* 4.0 8.5 - 1 207.1 12.2 13.6 - 1 305.0 Wine By-prod. Proc. 65.6 3.8 8.0 - 2 144.4 8.5 9.5 - 1 264.0* Cold Stores 65.9 3.9 8.2 - 2 69.5 4.1 4.5 - 1 105.5 Silos 6.0 0.3 0.6 - 2 4.8 0.3 0.3 - 2 80.0 Fishponds 34.0 2.0 4.3 - 8 69.9 4.1 4.6 - 7 200.0 Irrigation - - - - - 28.9 1.7 1.9 - 1 - Subtotal "A" 804.6 47.3 100.0 76.3 44 1527.5 89.8 100.0 78.2 43 189.8 PART "B" AND "C" Tobacco Driers 54.8 3.2 33.3 - 15Qda 41.6 2.5 28.0 - 5 75.9 Other Purposes 108.6 6.4 66.7 - ** 106.8 6.3 72.0 - 129 98.3 Subtotal (B & C) 163.4 9.6 100.0 15.5 - 148.4 8.8 100.0 7.6 134 90.8 Subtotal (A & B) 968.0 56.9 - - - 1675.9 98.6 - - 177 178.2 Perm. Work Cap. 7 DT3 - 7.2 - -7 3. 15.6 - 13.6 - 348.31 Studies 10.2 0.6 - 1.0 3 10.4 0.6 - 0.6 3 105.9 Total 1054.4 62.0 - 100.0 - 1952.1 114.8 - 100.0 180 185.1 /a With a capacity of 10 tons each. * IBRD appraisal projected investment of these funds in 2 plants. By project completion, only one factory was constructed and the other was replaced by an irrigation system. ** Subprojects in the individual sector not specified. Source: Borrower's Draft Completion Report, December 1980.  - 15 - YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT - MACEDONIA Loan 894-YU PROJECT COMPLETION REPORT August 11, 1982 Regional Projects Department Europe, Middle East and North Africa Agriculture III  - 17 - YUGOSLAVIA AGRICULTURAL INDUSTRIES PROJECT - MACEDONIA LOAN 894-YU PROJECT COMPLETION REPORT (PCR) I. INTRODUCTION 1. The project, the first of its kind in Yugoslavia, laid the foundation for accelerated modern agricultural development in the Socialist Republic of Macedonia (SRM) - a less developed region. 1/ The agriculture sector, the mainstay of the SRM's economy 2/, in the 50's and 60's, was marked by outdated machinery, technology and lack of effective integration between production and processing and the social and individual sectors. The individual sector, in spite of owning about 80% of the total arable land, did not get adequate assistance in developing its potentials and therefore could not act as a partner in development. The social sector, occupying 20% of the total arable land,-was considered the main channel for economic development and received the major attention and funds. 2. Marketing infrastructure (cold storage, grain storages, well equipped marketing centers, etc.) was virtually non-existent. The food processing industry was undeveloped and ill-equipped. Well-trained experienced personnel were in short supply. Technical and marketing management (on-farm and food processing) was weak. In brief, the agriculture sector, in the early '70's, was constrained by inadequate funds, technology and planning. However, the Republic had natural resources and potential for efficient economic development. 3. In 1970, the Bank, on the basis of its economic and sector work, helped persuade Yugoslavia to emphasize agricultural development for the country's future growth (para 8). Consequently, in 1971, the project was proposed to the Bank. While welcoming the project, the first in the agricultural sector, the Bank raised issues concerning the availability of local funds and the objective of the project. The Federal Government 1/ The Republic of Macedonia covers about 10% of the total land area of Yugoslavia. It is situated in the south-eastern part of the country and is bordered by Greece, Bulgaria and Albania to the south, east and west respectively. Skopje, the largest urban center, is the administrative capital of the Republic. Other important urban centers are Bitola, Titov Veles, Kumanovo and Prilep. 2/ In the early 70's, the agriculture sector employed about 47% of the total population and contributed about 30% of the Republic's GNP. Industry ranked second in importance, contributing about 23% of GNP. - 18 - satisfactorily assured the Bank on both these aspects. A preparation mission was sent to Yugoslavia in April 1972. The Borrower's project preparation report was reviewed and modifications were suggested. The project was appraised in July 1972, negotiations were completed in March 1973 and the Loan was approved in May. After a slight delay, it became effective on November 28, 1973 (paras 25 and 26). On the whole, project processing was quick and uneventful. 4. The project provided US$31 million (50% of the total project cost) to modernize and expand production, processing and marketing facilities in the social sector (livestock, meat processing, vineyards, wine processing, grain and cold storages) and assist the private sector in on-farm improvements for tobacco, orchards, dairy farms, etc. The project also financed three technical studies to recommend programs for improving farm productivity in the individual sector, marketing strategy and techno-economic examination of an irrigation scheme. Although the funds allocated for the social sector constituted about 85% of the total project cost, the inclusion of the individual sector in the project was the first official recognition of the potential role of this sector in agricultural development by Yugoslavia. 5. As the project was the first in SRM, the Bank had no previous first-hand experience of the Borrower's capability in implementing a project of this nature. Similarly, the Stopanska Banka (SB), the Borrower, and sub-borrowers (social sector Kombinats) had little previous experience in implementing such an integrated agricultural development project. They lacked exposure to and understanding of the Bank's procedures as well as of the international firms. The Borrower and sub-borrowers also faced numerous technical, design, economic evaluation and management problems. Although the Bank provided more than usual assistance to the Borrower, project implementation was marked by 'ups and downs'. The project completion was delayed by about 2 1/2 years. The meat processing plant (one of the sub-projects) is still not completed (para 42). In addition, external economic factors seriously affected the project. In the mid-70's, oil prices rose unprecedently. The country experienced significant inflation. The total project cost increased by 85% compared to the appraisal estimates. The economic and financial results, estimated at appraisal, have not been fully realized (para 89). 6. In spite of these shortcomings, the project did succeed in laying the foundation for modern agricultural development in SRM. In 1981, the project's total annual incremental production amounted to about Din 1,535.0 million (US$38.4 million) of which 95% was in the social and the remainder in the individual sectors (para 92). The Bank has since financed 3 additional projects 1/ in this sector in the Republic plus a share of three nationwide agricultural credit projects. 2/ It opened a new chapter for the development of the individual sector - a sector now clearly recognized as a potential equal partner in economic development. Government funds available for the individual sector have increased considerably since the inception of the project. 1/ Agroindustries II - 1371-YU, Macedonia Strezevo Irrigation Project - 1616-YU and Macedonia III - 2039-YU. 2/ AgCredit I - 1129-YU, AgCredit II - 1477-YU, AgCredit III - 1801-YU. - 19 - 7. The PCR is based upon the findings of a mission which visited Macedonia in March 1982. The majority of the sub-projects were comprehensively examined in the field. Investors and farmers were interviewed. The Bank's files, dating back to 1969, country program papers, economic and sector reports were all reviewed. Officials concerned, both in the Bank and SRM were also interviewed. The completion report, 1/ prepared by SB in December 1980, provided the Borrower's assessment of the project implementation and impact. The studies, financed under the project, have also been used in preparing the PCR. II. PROJECT FORMULATION/PROCESSING Origin 8. Until 1971, the Bank's lending, following the Government's interest and strategy, was concentrated in infrastructure, industry and tourism projects. The 1970 Bank Economic Mission recommended that for future balanced economic growth, concentrated efforts should be made in the agricultural sector in the less developed regions of Yugoslavia. Agriculture, in particular agriculture in the individual sector, 2/ was marked by low productivity. This, coupled with its share in regional activities, was, according to the Economic Mission, the major cause for regional economic disparities. However, at the same time, the Bank recognized that due to the highly decentralized structure of the economy, it was not possible for the Bank to be effective through the usual channels of agricultural credit and extension or through livestock development projects. The Bank concluded that these objectives could best be achieved by lending to agro-industries which provided some technical, financial and marketing assistance to individual farmers. 3/ It was also recognized that in the absence of a comprehensive regional development plan, the Bank would have to devote considerable effort to project identification and preparation. 4/ 9. With these developments in the background, the Industrial Projects Identification Mission, which visited Yugoslavia in April 1971, looked into the potential of developing viable agro-industrial projects. The Mission was presented with a brief outline of 7 such projects. The Bank, based on desk analysis, selected only two projects for further consideration. The Macedonia project was one of them, the other one was in Vojvodina. 1/ Draft Completion Report, Agricultural Industries Project - Macedonia, Loan No. 894-YU, Stopanska Bank, Skopje, December, 1980. 2/ "The low agricultural productivity in individual sector agriculture (which includes 80 percent of the land and 65 percent of total agricultural production) is due partly to the land tenure system, which has resulted in a very small acreage per family, and partly to the lack of credit facilities and extension services" - The Country Program Paper, 1971, page 16, para 46. 3/ See Mr. Norman Horsley's memorandum on Yugoslavia - Industrial Projects Identification - Agro-Industrial Projects, August 9, 1971. 4/ The Country Program Paper, 1971, page 45, para 15. - 20 - 10. The Bank, in August 1971, informed the Government that both agro-industries projects had potential and if properly prepared, could be suitable candidates for possible financing. The Bank, at the same time, also asked the Government to confirm that the projects had the support of both the Federal and Republic authorities and that adequate local funds were available for their implementation. 1/ Preparation 11. Makedonija Kombinat (UAKM) 2/, a united agricultural and food processing state enterprise, had prepared a Five-Year Investment Plan (1971-75). It consisted of expansion/modernization of cow and pig farms, a meat processing facility, a fruit and vegetable canning plant and a winery. Originally this constituted a Macedonia project. The estimated total investment cost, including the working capital, in 1971 dollars, was about US$34.2 million. Feasibility studies for these sub-projects were prepared by Jugoproject, a consulting firm in Belgrade, for UAKM. The Stopanska Banka (SB), the major investment bank in the Republic, also participated in the preparation/review of investment proposals. 12. The Bank, in April 1972, sent a mission to Macedonia to review and assist in project preparation. In addition, the mission was specifically asked to assess whether the project would meet the Bank's objectives in lending to agriculture, i.e. to help improve productivity in agriculture in the individual sector by inducing and/or strengthening the links between socialized enterprises and individual farmers. 3/ The mission found that all sub-projects were well prepared and documented. However, it felt that the project was too narrowly designed. It concentrated on a few large Kombinats and would only benefit socialized agriculture. The potential role of the individual farmers was unrecognized. The mission recommended'that the project's scope should be enlarged. It should, in addition to UAKM, include financing of potential investment in other Kombinats and provide credit to individual farmers for expansion/modernization of their agricultural production. The Republic government, SB and UAKM agreed to such an integrated approach and to prepare additional data for the Bank's consideration. The present Macedonia project was thus conceived. 1/ Mr. Benjenk's letter to the Federal Secretary of Finance, August 25, 1971, page 3. 2/ In April 1971, UAKM was formed as a result of the merger of 6 small independent Kombinats. In the combined form, UAKM represented about 60% of the total arable land in the Republic under the State Farms. It had developed a basic working network with individual farmers. 3/ Terms of Reference for the Preparation Mission March 27, 1972, para 2. - 21 - 13. In retrospect, the Bank (based on its economic and sector reviews) played a timely and important role in inducing the Federal and Republic governments to place due emphasis on modernizing the agricultural sector. This led to modifications in future investment strategy. 1/ The significance and contribution of the agricultural sector are now well recognized. 2/ The Bank should take satisfaction from the knowledge that it contributed both financially and by restructuring the development policy which proved beneficial. This further highlights the true value of the Bank's economic and sector work which indirectly provided valuable technical and development assistance to the Borrower. Appraisal 14. In July 1972, the Bank, after assurances from the Government of full support and of the availability of local funds (para 10), sent a mission to appraise the project. Two senior staff members of SB also participated in the appraisal as observers. This was primarily to acquaint them with the Bank's methodology and procedures to assist them in the implementation of the project. 15. The Borrower presented some 27 sub-projects to the mission for consideration. The mission, after in-depth economic and marketing analyses, recommended the exclusion of access roads, edible oil, fruit and vegetable canning and malt processing facilities. The mission also excluded the irrigation sub-project due to the lack of adequate technical data/information on water availability, individual farm development plans, etc. The mission, however, recommended the financing, under the project, of a study to examine and prepare detailed technical recommendations on these issues. 3/ The Bank agreed to finance specific investment plans for 22 social sector Kombinats and about 2,400 individual farmers. The appraised project formed an integral part of the Macedonian Five-Year Development Plan (1971-75). The estimated total project cost, in 1972 prices, was about US$62.03 million. A detailed list of sub-projects and costs is presented in Annex 1. This is briefly summarized below: I/ In 1971, about 5% of total investment was allocated to the agricultural sector. However, in 1977/78, about 8% of the Plan resources was channelled to agricultural development. While the agricultural growth rate between 1966-70 averaged 4%, this rose to about 6% between 1971-75. 2/ In 1971, agriculture contributed 9% of Yugoslavia's total exports; in 1977, agriculture contributed 12%. 3/ Based on the study, the Bank in 1978 financed the Macedonia Strezevo Irrigation Project (1616-YU). - 22 - Sub-Project Cost Sub-Projects Number Capacity (in US$ million)l/ I. Social Sector Dairy Farms 5 5,000 cows 10.0 Cattle Fattening Farms 4 4,000 head 1.8 Heifer Rearing Farms 4 4,000 head 2.5 Pig Farms 2 40,000 head 3.9 Meat Processing Plant 1 7.0 Vineyards 13 2,600 ha 10.5 Central Wine Cellar 1 1,160 hl 4.9 Wine By-Product Processing 2 12,000 tons 4.1 Cold Storage Facilities 2 10,500 tons 3.9 Grain Storage Facilities 2 5,000 tons 0.4 Fish Ponds 7 1,121 tons 2.8 Sub-Total 44 31.9 (83.5%) II. Individual Sector Farm Credit 2,400 6.4 Tobacco Drying Sheds 150 1,500 tons 3.2 Sub-Total 2,550 9.6 (15.5%) III. Technical Studies - 0.6 Total 2,594 62.0 16. SB was selected as the Borrower to be responsible for the project's implementation. It was to make long-term loan funds available to Kombinats and individual farmers for the modernization/expansion of agricultural production. The list of participating Kombinats was detailed and agreed. The Borrower, in the event of any modification to this list, had to obtain the Bank's approval. Although all social sector sub-projects had been analyzed in detail by the appraisal mission, SB was required to reappraise all these sub-projects in accordance with the agreed lending procedures (Annex 2). The main objective of this requirement was to ensure that up-to-date appraisal took into account any possible changes in the economic and market environment as well as a thorough assessment of the creditworthiness of sub-borrowers. This was also aimed to build up SB's capacity to appraise projects according to the Bank's methodology (para 100). Copies of all their appraisal reports were to be sent to the Bank for information. However, where any sub-project had an investment of more than US$0.5 million equivalent (this ceiling was revised to US$1.5 million during negotiations, para 23), the Borrower had to obtain the Bank's approval prior to the commencement of the investment. The appraisal mission, based on its cash flow projections of sub-projects, also set the lending terms and conditions. Sub-loans under the project were not to exceed the specified grace and repayment period. The Borrower was required to adhere to the agreed lending procedures (Annex 2). In case of any modifications, the Bank's concurrence was required. 1/ In 1972, the exchange rate was US$=Din 17.0. - 23 - 17. These requirements and conditions, in the present circumstances, may appear rigid, overcautious and not allowing for any initiative on the side of the Borrower. In fact, these requirements did place considerable burden on the Borrower and resulted in some delays. However, in view of the circumstances prevailing at the appraisal (no prior experience by the Borrower in implementing such an integrated project), the requirements were justified. In retrospect, they proved well founded and beneficial to all the parties concerned. 18. Of the total sub-project cost, the sub-borrower had to contribute 20%, SB 30% and the Bank 50%. SB was also responsible for financing incremental working capital. The Bank loan of US$31.0 million was to be channelled directly to SB. Foreign exchange risk on the Bank's portion of sub-loans was to be borne by participating Kombinats. Detailed procurement arrangements were outlined. Meat, wine and wine by-products processing facilities (valued at US$13.5 million) were to be procured through international competitive bidding (ICB). Due to limited domestic supply, about 75% of the heifers, equivalent to US$3.1 million in value, were to be obtained from abroad through prudent international shopping (inviting bids from at least three countries). For other items, where investment items exceeded US$20,000 equivalent, local bidding procedures were to be applied. All remaining investment items were to be procured through normal commercial channels. In spite of the Bank's considerable assistance in procurement, the Borrower and sub-borrowers faced considerable problems in procurement which adversely affected the project. This aspect is detailed in paras 65 to 68. 19. The Agriculture and Forestry Loans Department (AFLD) of SB, directly responsible for project implementation, required strengthening. The Bank recommended that an experienced food processing engineer and a food marketing expert should be recruited by AFLD. Their appointment was made a condition of loan effectiveness. Audit and project evaluation procedures were detailed and SB was required to maintain a separate project account. In the event that the Social Accounting Service of Yugoslavia was not able to achieve a consistent and satisfactory auditing standard, the Borrower was required to employ a competent, experienced and independent auditor for this purpose. The Borrower's performance in carrying out the financial covenants has been reviewed in paras 72 to 74. 20. Since the 'White Cover' report was prepared shortly after the Bank's reorganization (September 1972), no issues paper was prepared and no decision meeting held. However, the report was reviewed and discussed with the Program Division and the Central Projects Staff. There were two main issues: the project interest rate and SB organization. In 1972, the on-going interest rate, according to the Macedonian Law, was 5.0-5.5% for new investment. This rate was subsidized and provided, for the lending Bank, a spread of only 1%. The appraisal report recommended an interest rate of 8.25%. This was based upon an increase in SB spread to provide for improved appraisal procedures and closer supervision of sub-loans, as required under the project (Annex 2). - 24 - 21. During appraisal, the reorganization of SB was not finished. The proposed operating structure and policies of SB were examined and found satisfactory. However, the finalized legal documents relating to the reorganization were not complete. The Bank required the Borrower to submit the final legal documents before negotiations could start. This was primarily to ensure that the lending institution, under the project, was adequately organized to permit efficient implementation. Both these issues were satisfactorily resolved and negotiations commenced. Negotiations 22. In submitting the project to the Loan Committee 1/, the Bank's 50% share of the total project cost 2/ was recommended on the ground that the project was in the agriculture sector, located in one of the less developed Republics and that it involved a number of policy innovations, particularly by providing a channel of assistance to the individual sector. A longer repayment period (20 years instead of 18 years) was also justified by the integrated nature of the project. Financing of tobacco production, under the project, was justified since in September 1971, the tobacco producer price support was abolished. This issue was highlighted in view of the Board's concern of the Bank's financing subsidized tobacco production. 3/ The Loan Committee cleared the project without holding a meeting. 23. Negotiations, held March 16-19, 1973, were smooth and effective. There were no changes of substance in the project design or operation as proposed in the draft loan documents. The major changes 4/ of significance were: (i) the amount of social sector sub-loans, above which the Borrower must obtain Bank's approval prior to making sub-loans, was raised from US$0.5 million to US$1.5 million; (ii) the number of the participating Kombinats for vineyards was increased from 10 to 13 and that for trout fish ponds from 2 to 3; (iii) the financial rate of return for social sector and individual farm sub-projects was not to be less than 12%; and (iv) the Borrower and the Kombinats were to submit certified financial statements and audited financial statements within 3 months and 6 months respectively of the end of their fiscal year. 1/ For detail, see Mr. Gregory B. Votaw's memorandum to Mr. M.P. Benjenk, dated March 2, 1973. 2/ The foreign exchange cost constituted about 30%. 3/ See Mr. J. Burke Knapp's memorandum to Mr. Demeksa, January 22, 1973. 4/ For the complete list of changes, see Mr. M. Kato's memorandum to Files, dated June 26, 1973. - 25 - Board Presentation 24. The loan was approved by the Executive Directors on May 14, 1973. The theme of the loan presentation was the development of individual farms in the Yugoslav agricultural sector. The Board members commended the Bank for taking an innovative approach in modernizing the agricultural sector in Yugoslavia. The loan was signed on May 25, 1973. Effectiveness 25. The original Loan effectiveness date was October 31, 1973. In addition to the Loan and Guarantee Agreements' ratification requirements, the only other condition was the employment of a food processing engineer and a food marketing expert by SB. The Bank closely followed the fulfillment of these conditions. In August, 1973, a Bank mission visited Yugoslavia to assess and assist the Borrower in meeting these conditions. The mission was timely. Apparently, the Yugoslav officials had interpreted the Loan Agreement provision to mean that funds originating from the Bank were to be lent at 8.25%, while SB or Government funds could be on-lent at 5.5%. The mission corrected this misunderstanding and explained that irrespective of the source of funds, all loans under the project, were to be on-lent at 8.25%. This created some problems for the Government and required further in-house discussion. 26. In spite of the concentrated efforts by the parties concerned, all conditions could not be met by the due date. The Bank specifically required clarification and evidence concerning the employment of experts and the on-lending terms. The effectiveness date was extended to November 30, 1973. However, by November 28, 1973, the Borrower had met all the conditions satisfactorily and the Loan was declared effective. III. PROJECT IMPLEMENTATION Start-Up 27. The project's start-up was immediate. In the very first three months after the loan effectiveness, SB approved 13 sub-projects (vineyards, cold storages and fish ponds) in the social sector, amounting to about US$12.4 million or about 21% of the total project cost. Necessary steps were quickly taken to recruit international consulting firms to prepare three technical studies. Although the finalization of contracts was later than the Loan Agreement schedule (section 3.02, e), three firms were selected by mid-January, 1974 and contracts were signed by April, 1974 (para 55). SB prepared a booklet, explaining the procedures, terms and conditions of credit for the individual farmers. Seminars were held, in different locations in the Republic, to educate farmers about the prospect of credit (para 50). 28. By the end of February, 1975 (about 15 months after effectiveness), SB had appraised and approved 42 out of 43 sub-projects in the social sector. Construction of many of these sub-projects had commenced. More than 80% of the total funds (Din 88.4 million), allocated for the individual sector credit under the project, had been approved. - 26 - Technical studies, although somewhat behind schedule, were making satisfactory progress (para 56). Disbursement targets were met. Although project reporting was weak and behind schedule, efforts were underway to strengthen it and ensure that reports were submitted to the Bank on time. Implementation 29. In spite of the encouraging beginning, by 1975 and early 1976, major problems in implementation had become visible. These were: cost over-run/financial terms and conditions, procurement and technical/organization. The causes and impact of these problems are analyzed in paras 60-68 and 77-81. All these adversely affected the project. Its completion was delayed and the loan was finally closed on June 30, 1981, instead of December 31, 1978. A brief account of sub-projects' implementation is given below: Social Sector 30. Dairy Farms. - five farms, each with a capacity of 1,000 cows, under the social sector, were to be completed by end-1975. However, only one farm was actually finished on time; the remaining four were completed by 1977. The estimated investment cost of Din 29.1 million/farm was increased to Din 37.8 million, a rise of about 30%. Details are given in Annex 4. The major reasons for delay were "changes of location of farms, purchase of a part of equipment and cattle by ICB and organizational weaknesses on the part of certain investors". 1/ Initially, out of the 5 farms, 3 were to be located in Skopje, Kumanovo and Negotino. The investors later decided not to proceed with these. The Borrower, in turn, had to find new investors and obtain the Bank's approval, as required under the Loan Agreement. The new locations were Bitola, Prilep and Bogdanci. Differences between the Borrower and the Bank with regard to technical design and specifications of these farms also caused some delays. The Bank's technical review, in fact, assisted the Borrower in reducing investment cost. Details of the Bank suggestions are given in Annex 6, para 7. 2/ Technical designs of completed farms are satisfactory. Each farm comprises essentially 4 cow barns, a maternity and a calf barn. Design and quality of construction and maintenance of the facilities are satisfactory. Financial results are presented in para 89. 1/ Draft Completion Report, Agricultural Industries Project - Macedonia, Loan No. 894-YU, Stopanska Banka, Skopje, December 1980, p. 15. 2/ "Dairy Farms social sector sub-projects have benefited from cost savings due to Bank technical review" - Bank Supervision Report, April 1975, Section 7, para 1. See also Mr. Frank's letter to the Borrower of November 8, 1974. - 27 - 31. Cattle Fattening Farms - four farms, each with a capacity of 1,000 head, were completed by the contracted date (December 31, 1975). They are located at Stip, Sveti Nikole, Negotino and Kumanovo. However each farm recorded an increase in investment cost of about 18%, compared to original estimates (Annex 4). On the whole, implementation was smooth. There were no changes in either location or technical design. Each farm consists of two fattening stables, trench silos and a sanitary and water system. Access and internal roads were also provided. Construction quality appears satisfactory. Financial results are described in para 89. 32. Heifer Rearing Farms - four farms, each with a capacity of 1,000 head, were constructed at Stip, Sveti Nikole, Skopje and Bogdanci. The completion date of three farms was delayed by one year and investment costs recorded an increase of 26% (Annex 4). The delay resulted from organizational weaknesses of investors and from the local civil contractors, who were over-extended (para 69). The location of one farm was changed (from Negotino to Bogdanci). The technical design is the same for all four farms. 1/ Each consists of four rearing stables, a shed, silos, sanitary and veterinary station, water system, electrical installations and access and internal roads. Civil work and equipment were procured through local competitive bidding. Financial results are given in para 89. 33. Pig Fattening Farms - two pig fattening farms were constructed. One at Stip, with a 30,000 head capacity, was a new facility. The second, at Kumanovo, financed an extension (10,000 additional head) to the existing facility. Although both facilities were completed in the contracted time (by end-1975), investment cost recorded an increase of 24% (Annex 4). The farm at Stip consists of 3 sow and boar buildings, 2 farrowing buildings, 3 pig-growing sheds, 5 pig fattening buildings, a veterinary and sanitary station and required auxiliary facilities. The extension at Kumanovo comprises 6 fully equipped pig barns, including a veterinary and artificial insemination unit, to serve as maternity unit for the farm. The design and quality of construction of the facilities are satisfactory and maintenance, in particular of the Stip farm, is good. Financial results are listed in para 89. 34. Vineyards - thirteen social sector Kombinats participated in planting a total of 2,600 ha under new vineyards, of which 1,600 ha were wine grapes and the remainder, table grapes. The size of the new vineyards ranged between 100-300 ha. All thirteen investments were approved by SB in 1974. Planting was completed by the contracted date (1976/77). However the planting cost recorded an increase of about 40%, compared to appraisal estimates. Details of costs, completion dates and actual size by location are given in Annex 4. The main reasons for cost increases are internal inflation, longer planting time than anticipated and the organizational weaknesses of some investors. The Vineyard Institute of SRM provided technical assistance in planting and rootstock was procured from the Socialist Republic of Serbia. Financial results are given in para 89. 1/ "... The design of barn was not up to modern standards; to allow building up a litter of straw for the calves, it would not be possible to remove manure with regular frequency" - Bank Supervision Report, May 13, 1976, Annex 5, p. 2. - 28 - 35. Central Wine Cellar - Originally, the central wine cellar, with a capacity of 38 million litres of red and white wine, wine distillate, cognac and 4 million litres alcoholic by-products, was to be constructed in Skopje, at an estimated cost of Din 67.9 million. "Makedonija Vino", with six other co-investors, was to be the owner. The facility was to be procured on a turn-key basis and construction was planned to be completed by end-1976. Tender documents were completed by 1974 and the lowest evaluated bidder was selected by March 1975. A draft contract between investors and contractor was finalized by early 1976. However, at this time, the investors proposed a change in location from Skopje to Kavadarci, since a petro-chemical plant was to be constructed near the proposed Skopje site. There was concern that this would contaminate the wine with odors and adversely affect the quality of wine. The Bank's approval to this change was obtained. A new engineering and feasibility study was to be undertaken. 36. All this resulted in delays and finally, construction started in May 1976. The total investment cost was Din 207.1 million, an increase of about 200% over original estimates. A supplier credit of Din 119 million was provided by the foreign equipment supplier. The selected international firm sub-contracted the civil work to a local contractor. The total contract was on a fixed price basis. Construction was completed by October 1978, as scheduled in the revised contract. The facility consists of acceptance tanks, discharge stations, filtration, bottling, brandy department and storehouses for finished products. Other auxiliary facilities, such as administrative offices, etc. were constructed. The quality of construction is satisfactory. Operation of the Cellar actually started in 1979; the brandy facility has not been used so far. Financial results are presented in para 89. 37. Wine By-Products Processing Plant - Two facilities, one at Stip and the other at Kavadarci, were to be constructed to process grape husks and wine grounds into vinegar, fodder, dried seed for oil extraction, tartaric and wine acid. Each plant was to produce about 10,000 tons of by-products. Both facilities were to be owned by United Agriculture Kombinat "Makedonija" with co-investors and to be procured under ICB on a turn-key basis. Feasibility studies were prepared by April 1974 and approved by the Bank. Bids were opened on March 4, 1975. Originally, construction was expected to be completed by December 1975. 38. The firms selected for the construction of the Stip facility and that for'Kavadarci were from two European countries. However negotiations between the firm selected for the Kavadarci facility and the investors were not successful, since the investors insisted on a reduction in the quoted price, which the firm refused. By October 1976, the Borrower requested that the contract should be retendered. However the Bank, in view of the proximity of the Loan Closing Date (June 30, 1978), and doubts about its financial viability, recommended the dropping of this facility. The Borrower and the investors both agreed and a new irrigation sub-project was substituted (para 47). 39. The contract between the selected firm and the investors for the Stip plant was signed on March 10, 1976. The facility was completed by December 31, 1977, at a total cost of Din 144.4 million, a four-fold increase over appraisal estimates. Supplier and other commercial credits were obtained to meet the increased cost (para 61). The facility consists of a boiler -29 - room, transformer station, water system, canals with cleaning stations for waste water, internal roads and fence. The quality of construction appears satisfactory, but maintenance of the facility leaves much to be desired. It now requires substantial civil works improvements. Financial results are given in para 89. 40. Meat Processing Plant - a modern slaughterhouse and meat processing plant, with an annual capacity to handle 12,000 cattle and 125,000 pigs, was to be constructed in Sveti Nikole. The facility was to be owned by a group of investors, headed by United Agriculture Kombinat "Makedonija". 1/ The estimated total investment cost was Din 94.6 million. The plant was to be procured through ICB on a turn-key basis and was expected to be completed by 1977. Feasibility studies were completed by June 1974 and approved by the Bank shortly thereafter.* Bid documents, approved by the Bank, were issued in November 1974. In view of the technical complexity of the facility, 110 days were allowed for submission of bids. Five bids were received. All of them were significantly higher than the estimated cost. With the Bank's approval, it was retendered in November 1975. Although prices were still higher than estimated, after considerable lengthy consideration and examination, a foreign firm was selected. The civil work was to be carried out by a local firm. The estimated cost was Din 239 million. The arrangement for additional financing created considerable problems for the Borrower. In the end, a credit from Australian Export Finance and Insurance Corporation (EFIC) was obtained for Australian $2 million. Finally, in September 1977, the contract with the foreign firm was signed. Construction was scheduled to be completed in 20 months. 41. From the start, the foreign firm had problems, first with the Yugoslav Government agencies over permits and approval of design, then there were continuing differences between the contractor and the investors' technical representatives and over the performance of the sub-contractor (see paras 69-71 for details). As a result of these differences, problems with the supply of equipment, and increases in costs which were not being adjusted or paid for according to an agreed price adjustment formula, the firm stopped work in February 1980. After prolonged meetings, agreement was reached to recommence work in May 1980. The Borrower had to obtain another loan from EFIC for an additional Australian $2 million. The plant was to be completed by December 31, 1980. However, further disagreements between the contractor, sub-contractor and the investors have continued to occur. 42. The final cost is still not known. As of July 1980, the contract cost had already reached Din 412 million, compared to Din 214 million in 1977. As of May 1982, the plant was still incomplete, although civil work was nearly finished. Its completion is uncertain (para 71). 1/ The other co-investors were AIK "Ovce Pole", Sveti Nikole, AIK "Crvena Zvezda", Stip and AIK "Povardarje", Negotino. - 30 - 43. Cold Stores. Two complexes, one at Prilep and the other at Kumanovo, each with 5,000 tons capacity, were constructed to store fruits, vegetables, dairy products, meat and poultry. Total estimated investment cost for both complexes was Din 65.7 million and construction was expected to be completed by end-1974. Following local competitive bidding procedures, as required by the Loan Agreement, contracts were awarded to two local contractors who were also employed on other work under the project. The contract for Kumanovo was signed in April 1974 and for Prilep, in November 1974. Both facilities were completed in July 1976. Investment cost recorded a slight increase of 5-7%. Reasons for the delays were over-commitment of the contractors (para 69), difficulties in acquiring land in Kumanovo and the technical supervision weaknesses of investors. 44. Each facility is divided into two parts, one for storing livestock products and the other for fruit and vegetables. Each part consists of chambers, manipulation room and tunnel with pre-chambers, machine and grading rooms, administrative building, etc. Chambers are thermo-isolated. Cooling equipment was procured locally, with the exception of air-conditioning equipment, which was imported. "The design and layout are not in accordance with modern standards. Fruit grading is effected in a large area which is an integral part of the cold store complex. This is too expensive a structure to accommodate such an operation. There are eight storage chambers all leading into a single corridor, with only one access door. This creates congestion problems. An automatic door, with air curtains could prevent refrigeration losses just as efficiently as corridors." 1/ Financial results are given in para 89. 45. Grain Storages. One maize silo, with a capacity of 5,000 tons, at Stip and one flat storage for rice, with a capacity of 2,500 at Kocani, were constructed following local competitive bidding procedures. One contractor was selected for both. The construction was completed by end-1974 as planned. This is the only sub-project which recorded a lower investment cost than estimated at appraisal. The silo at Stip was an extension of the existing facility. Five steel bins were constructed, with necessary handling equipment. Although the facility is of standard design for Yugoslavia, it lacks key equipment, such as automatic aeration and temperature control equipment, etc. This adversely affects the efficiency of the total operation (more frequent stock rotation is required). The flat storage at Kocani is again of standard design. It can store rice both in bulk and in bagged form. Maintenance has been very poor. During the visit of the PCR, it became apparent that it required significant rehabilitation to render it fully operational. Financial results are presented in para 89. 46. Fishponds. Originally five carp fishponds and two trout farms were to be constructed. However this composition was changed due to the lack of demand and for technical reasons. In the end, three carp fishponds and four trout farms were constructed. The carp ponds are located at Prilep (annual capacity of 407 tons), Negotino (310 tons annual capacity) and Resensko (189 tons annual capacity). Trout farms are at Resensko (annual capacity of 15 tons), Prilep (63 tons annual capacity), Gostivar (54 tons annual capacity) and Kicevo (83 tons annual capacity). These 1/ Bank Supervision Report, May 13, 1976, Annex 5, p.4. - 31 - changes were approved by the Bank. The contractors were selected through local bidding procedures. Completion of these ponds was delayed due to changes discussed above and the technical weaknesses of investors (Annex 4). Consequently, investment cost recorded an increase from an estimated Din 42.5 million to Din 69.8 million, an increase of about 64%. This increase was primarily for the construction of carp ponds. Technical designs are standard for Yugoslavia. Carp ponds consist of hatchery basins, growing basins and fish fattening compartments. Special maternity basins have been constructed for female fish. All fishponds are constructed of land embankment in the form of a trapeze. Auxiliary facilities such as storehouses, staff dining rooms, etc. have been built. Construction quality varies from location to location. On the whole, they are below average and this has created a number of operational problems. For example, in Prilep, the embankments have overflowed, resulting in additional investment to rectify this problem. Financial results are examined in para 89. 47. Irrigation. This was introduced in December 1977 as a replacement for the cancelled wine by-product processing plant at Kavadarci (para 38). Pipelines were constructed to irrigate 449 ha, at an Astimated cost of Din 23.1 million in the "Ljubas" area, near Kavadarci. Pumps, equipment and material were procured through local competitive bidding. In 1979 this sub-project was completed at the estimated cost. Financial results are listed in para 89. 48. Tobacco Dryers. At appraisal it was envisaged that about Din 54.4 million would be channeled to the individual sector for the construction of 150 small-scale tobacco dryers, each with a capacity of 10 tons. However by June 1974, it became apparent that there was no demand for these facilities in the individual sector and that small-scale dryers were not economical. The Borrower proposed to the Bank that these should be constructed under the social sector and that capacity should be 50-100 tons per drying facility. The Bank, after comprehensive examination, agreed to this. Five Kombinats participated. The facilities were constructed in the specified time and at the estimated cost. The designs were provided by the Tobacco Institute at Prilep. Equipment was locally procured. As a result of the considerable experience of the investors in this area, implementation was smooth and satisfactory. Financial results are analyzed in para 89. Individual Sector 49. In spite of its pioneer nature, this component, on the whole, achieved its basic objectives. 2,400 individual farms benefited from the credit (Din 109.0 million) provided under the project for modernization, mechanization/expansion of their agricultural production. Their income increased significantly 1/. This also opened the door for future development of this sector 2/. 1/ "... it is noted that at the surveyed farms a remarkable increase of income per household has occurred which is the main motivation for the great interest for credit. The increase of the number of entirely as well as partly employed members is a remarkable benefit of the investments ..." - Feasibility Study for the Private Agricultural Farms - SR Macedonia, 5th Annual Report, Electrowatt Engineering, Ltd., Skopje-Zurich, Feb. 1980, p. 39. 2/ Between 1977-81, about Din 1.3 billion credit was disbursed in SRM to the individual sector. Of this, about Din 492 million (38%) was provided by the Bank's on-going Agricultural Credit projects in Yugoslavia. - 32 - 50. SB and the Government, immediately after loan effectiveness, took the necessary measures to launch this component (para 27). Comprehensive campaigns (seminars, radio presentations, etc. ) were undertaken to educate farmers concerning credit procedures and prospects. This had a positive impact. By the end of 1974 (about a year after effectiveness), 81% of the total credit funds available for primary production had been committed. These were fully utilized by 1975/76. In fact the project could not meet the total demand, which was met under the Bank's Agricultural Credit Project (Loan No. 1129-YU) and the Second Agro-Industries Project (Loan 1371-YU). The credit demand among the farmers for mechanization was particularly strong, followed by orchards and dairies 1/. 51. As explained in para 8, there was no mechanism or precedent in Yugoslavia for channeling credit to individual farmers directly by development banks. The Bank, therefore, agreed to follow the existing procedure of providing credit to individual farmers through Kombinats. However attempts were made to modify and strengthen existing lending procedures. These are detailed in Annex 2. In brief, the Kombinats were to appraise the viability of each farmer's investment application and provide technical assistance, seasonal credit and marketing outlets. In turn, Kombinats were to receive 1.5% spread of the final interest charged to the farmer to cover their costs. Accordingly, the SB was to lend project funds to the participating Kombinats at an interest rate of 6.75%, to be on-lent to individual farmers at 8.25%. 52. The implementation of this component reconfirmed the Bank's previous observations concerning the weakness of the extension service for the individual sector in the Republic. It also indicated the shortcomings in the credit channeling procedures. For example, "credit was only offered to those producers who marketed their production with Kombinats .... in those cases where individual farmers were not willing to sell their production to Kombinats, credit was not approved."2/ This procedure prohibited many potential beneficiaries from participating under the project. 53. Both of these constraints still exist. The Bank, along with the Government, is making concentrated efforts to overcome them. In February, 1982, a seminar was organized by the Bank, in which some Yugoslav officials participated, to outline the strategy to resolve these shortcomings. 1/ "The greatest interest of the private farmers is paid to tractor sets (5 times more than planned) and the lowest interest to nurseries." - Feasibility Study for the Private Agricultural Farms - SR Macedonia, 5th Annual Report, Electrowatt Engineering Ltd., Skopje-Zurich, February, 1980, p. 29. 2/ The Bank Supervision Report, May 13, 1976, Annex 5, p. 8. - 33 - Studies/Consultants 54. The Loan provided funds 1/ for three technical studies. The first, the marketing study, was required to examine and make recommendations for improvement of the agricultural marketing system in the Republic and review the prospects for twelve commodities. The second one was to assess the individual sector to determine its credit demand and the financial and economic impact of the credit. The third, an irrigation study, was aimed to collect, evaluate and make detailed recommendations on technical and economic issues on the government's proposal for a large irrigation scheme in the Republic. 55. Originally, according to the Loan Agreement, Section 3.02(e), the consultants' contract was supposed to be finalized by the Borrower by November 25, 1973. It was also stipulated that the employment of the consultants and their terms of reference must be satisfactory to the Bank. The Bank, during negotiations, at the Borrower's request, provided the draft terms of reference and a list of potential consultants,for consideration 2/. However, due to delays in finalization of terms of reference, receipt of the proposals, etc., the contracts could not be signed until April 1974. 56. The contract for the marketing study was awarded to a foreign consulting firm who was assisted by the Faculty of Economics, University of Skopje and the Institute of Agricultural Economics in Belgrade. The individual farmers study was carried out by another foreign firm and the Faculty of Agricultural Economics, University of Skopje. Both of these parties had worked together closely in the past in examining the extension service in the Republic. The irrigation study was awarded to a foreign firm and Melioproject, Skopje. The marketing and irrigation studies encountered some problems in obtaining data from the government, in spite of the commitment in the contracts. Consequently the completion dates for both studies had to be extended for a short period 3/. By 1976, all studies were completed. I/ According to the Loan Agreement, the Bank would finance up to the equivalent of US$300,000 for these studies (either 100% of foreign expenses or 50% of local expenses). 2/ For details, see Mr. Kopp's letter of July 6, 1973 to Mr. Popovski of SB. 3/ "... problems have arisen in the evaluation of processing and storage capacities of fruit and vegetables. Data collection in Macedonia and other Republics has not been completed. A two-month extension of contract was requested by the consultant in order to allow a satisfactory termination of the marketing study." "Problems had developed (in the irrigation study) due to the need for maps which require Federal clearance, the up-date of obsolete data and the delay in receiving government priority on access roads. The consultants projected a delay of five months, this resulted in a cost over-run of about 30%". - Bank Supervision Report, April 15, 1975, Annex 4, page 3. - 34 - 57. All three studies proved helpful in the preparation and appraisal of the Second Agro-Industries Project in Macedonia 1/ and the Strezevo irrigation project. The Borrower, however, feels that the studies on the individual sector and on irrigation were particularly useful, since they dealt with specific technical and economic problems. This was not true in the case of the marketing study and consequently they consider it to have been of very little value. In their opinion, it contained extensive data, but very little practical analysis and application. The Borrower strongly feels that for such 'general' studies, the terms of reference should be very precise and issue-oriented and that international firms should only be used for specific areas where local firms do not have expertise. 58. The Borrower also suggested that, in future, before undertaking these types of studies, the Republic should be better prepared with essential relevant data and the capability to review the consultants' work. Such preparation could have easily avoided the problems experienced in the implementation of these studies. The Borrower's comments appear fair and practical. 1/ "The marketing study provided a detailed demand and supply projection for the agricultural products, fresh fruit, vegetables, processed fruit and vegetables, livestock and meat products, milk and milk products, oilseeds and oilseed products, grain, grapes and wine, tobacco, cotton and sugar for Macedonia, Western and Eastern Europe. Furthermore, the study makes recommendations on marketing methods to be applied and on food processing facilities to be established in Macedonia, which are being studied by the government." "The private sector study has been used to help in the appraisal of a Second Agro-Industries Project in Macedonia, for the assessment of the credit demand in the private sector as a whole and in estimating the share of the individual project components in particular." "The irrigation study has been accepted by the Macedonia authorities concerned with irrigation. However, upon the request of the World Bank, now a further study will be undertaken which would encompass a general review of the irrigation network design, with special attention being given to optimal field distribution systems and water pressure control." - Bank Supervision Report, December 23, 1976, Annex 5, pp. 9 and 10. - 35 - 59. The PCR mission, nowever, teels that the success ot sucn studies and ot tecnnical assistance depends to a large extent on tne Borrower's genuine desire ana commitment. From the beginning, the Borrower was convincea ot the need tor stuaies on the individual sector ana irrigation issues. The marketing study was not ot high priority to them, even though tnere was a total lack ot scientitically analyzea marketing intormation. The bank, in view of this, correctly recommended a study to assess comprenensively tnis critical area. Tne Borrower reluctantly agreed. Psychologically this reduced tne ettectiveness of the study tor the borrower 1/. in the end, accoraing to tne borrower, it was mainly usea as a source of cata rather tnan an instrument tor tuture policy development. Financing b0. The total project cost, in the tLnal analysis, increased by about 85% compared to appraisal estimates. The increases were particularly notable in those cases wnere international procurement was involved. A detailed breakdown of actual costs by sub-projects is given in Annex 4. Inflation, both national and international, was the major cause of this. However, the lack of experience of sub-borrowers in project implementation also playea an important role. Changes in design, specifications, location, etc. by sub-borrowers led to unnecessary delays and costs. The meat processing plant, central wine cellar and wine by-products processing (Kavadarci) sub-projects are clear examples of sub-borrowers' inaecisiveness ana contriDutLon to the cost spiral (paras 35-42). 01. Tne cost over-run resulted in the hign cost of borrowing adaLtional tunds and delays in implementation since sources of funding had to be arranged Defore commencement/continuation. SB borrowed US$5.0 million trom Hanover Trust, New York at an interest rate wnich was 1.5% higher tnan tne prevailing American prime rate to finance dairy, heifer, cattle ana pig fattening tarms, tsh ponds and cola storages. 1/ "Marketing prospects, especially in the case of export-oriented production, seem to be insufficiently researched. These problems are clearly carrying over into the Second Agro-Industries Loan (see Supervision Report 1371-YU)". - Bank's Supervision Report, January 19, 1979, Section 6, para b.5. - 36 - cellar.l/ One of the factors in the cancellation of the second wineby-product plant at Kavadarci was the selected bidders' inability to provide a supplier's credit. 62. The cost over-run led to the investors' reduced participation in the total investment. The Loan Agreement (Schedule 5, Section 1) had stipulated that their contribution would be at least 20%. However, in a majority of cases, this percentage was reduced considerably 2/. In these circumstances, the Bank agreed to lower investors' participation provided SB ensured that "the increased investment costs and the increased financial burden resulting from higher interest and amortization payments in the sub-projects would be financially viable and the creditworthiness expressed in debt/equity ratios of the individual Kombinat as a whole would be acceptable." 3/ 1/ "The lowest evaluated bidder (for the Central Wine Cellar) quoted US$10.4 million (equiv.) early 1975, the contract was finally signed on May 26, 1976 for a total fixed price of US$11.5 million (equiv.) with a delivery of 18 months .... The supplier would provide credit for US$7.0 million (equivalent) to be repaid over 5 1/2 years at 9.5% interest." - Bank Supervision Report, December 23, 1976, Annex 5, page 7. Revised Estimated 2/ Sub-Projects Investor's Contribution Dairy Farms 15% Heifer Farms 16% Cattle Fattening Farms 17% Pig Farms 16% Fish Ponds 16% Meat Processing Plant 12% Central Wine Cellar 6% Wine By-Products Plant (Stip) 8% Source: The Bank's Supervision Report, May 13, 1976, Annex 3. 3/ Bank Supervision Report, May 13, 1976. - 37 - 63. The Bank's original participation (50%) in the total project cost also declined significantly. 1/ 64. The fundamental question which emerges at this stage is whether the actions or course adopted at that time were justifiable. A large number of sub-projects was underway and significant capital had already been sunk. The completion of these sub-projects was thus the logical course. In those cases where construction had not yet commenced, SB assured the Bank of the viability of these projects. However, in retrospect, particularly in view of the project's revised, relatively low financial rates of return (para 89), it appears that it might have been beneficial for the Bank to undertake a comprehensive review of the total project at that time. A future course of action, profitable to all the parties concerned, could have been based -on such an exercise. This issue is further discussed in para 101. Procurement 65. The Borrower's and sub-borrowers' lack of experience in procurement, particularly ICB, caused considerable problems and delays in project implementation. This was further aggravated by their total lack of prior experience and understanding of the Bank's procurement requirements. These constraints were clearly visible in the preparation of tender documents, bid evaluations and contract negotiations. In turn, the finalization of contracts was prolonged. This adversely affected project implementation, project cost in particular, and the morale of the parties concerned. This caused some confusion and mistrust between investors and suppliers. The meat processing plant and wine by-product facility are good examples of this. Local procurement was relatively smooth but not completely free of problems (para 69). 66. The Bank recognized the Borrower's constraint and provided more than usual assistance in this direction. However, in retrospect, it appears that it might have been advisable to recruit, under the project, an experienced procurement specialist to assist the Borrower. Such an expert would have been able to assist in the preparation of tender documents, bid evaluation and contract negotiations - the areas which particularly troubled the Borrower. 67. The Borrower, during the PCR mission, agreed with the above observation and suggested some other improvements in this area for future projects. For example, the Borrower questioned the usefulness of the 'turnkey' concept. In SB's view, it is more practical and economic to have 1/ "......the IBRD participation, which was supposed to finance 54% of the total project cost, has considerably gone down and, in the financing of the central wine cellar and the wine by-products processing plant in Kavadarci, will mean only a nominal participation (13-32%)." - Bank Supervision Report, May 13, 1976, Annex 6, page 2. - 33 - separate contracts for civil work and equipment. The Bank's requirement, under the project, of procuring processing plants on the turn-key basis was justified. In the early '70's, Yugoslavia did not have comprehensive experience of constructing such facilities. In the present circumstances, the suggestion of separate contracts has some validity. Even now, in the PCR mission's opinion, the Borrower and sub-borrowers would need internationally recruited consulting engineers to supervise the design and construction of agro-industrial facilities. The 'turn key' contracts replace such requirements. However, there should not be any rigid uniform policy on this issue. It should be examined on a case-by-case basis and a decision should be taken in accordance with the nature and complexity of the project and the investors' concerned. 68. The Borrower also felt that in future projects of this type, both local and international contracts should be on a negotiated 'fixed price' basis instead of allowing for price escalation. The penalty for delays in completing the work on schedule should be substantial. The Borrower also suggested that to avoid the repetition of past mistakes, the investors should have an adequate permanent technical staff to supervise and monitor the construction of agro-industrial facilities. The Bank has already incorporated a number of these suggestions in recent projects. Contractors 69. Most of the civil contracts were won by a couple of local firms. They were over-committed and this resulted in delays and some loss of quality of work. Since contracts were not on a fixed-price basis, delays contributed to cost increases 1/. 70. Among the international contracts, construction of the central wine cellar at Kavadarci was completed on schedule and the construction quality was good. The Borrower attributes this to the fact that the contract was negotiated on a fixed-price basis, with a definite time schedule. In addition, the investors were well-equipped to supervise and monitor the construction 2/. 71. Construction of the meat processing plant at Sveti Nikole, which started in 1977, is still not completed and constant disagreements between 1/ "It would appear that the Contractor is over-committed, has no special incentive to meet schedules as contracts call for price adjustment clauses for inflation, but not for penalties due to delays in delivery ...." " the Contractors again in this case (Fishponds) was six months behind schedule in implementation." (The same firm was also awarded civil contracts for cold storages, meat processing plant, heifer farms, cattle fattening farms and dairy farms.) - Bank Supervision Report, May 13, 1976, Annex 5. 2/ "Makedonia Vino (the Investor) had formed a committee of two engineers and four winery experts to supervise construction of the Plant." - Bank Supervision Report, Annex 5, p. 7, para 10, December 23, 1976. - 39 - the investors and contractors have delayed construction and threatened the entire viability of the sub-project (pars 42). According to the Borrower, the reasons are that the international firm had not been appropriately selected; the investors also lacked the experienced staff to supervise and had no prior exposure in such a technically complicated venture. The Borrower recommends that in future, besides a fixed-price contract (pars 68), the experience and references of the contractor should be very carefully examined before the contract is signed. According to the contractor the problems can be traced to poor performance by sub- contractors, changes in requirements made by the investor and failure by the investor to carry out all agreed responsibilities, including reimbursement for increases in costs. Covenants 72. Loan Covenants, listed in Annex 3, were fulfilled. However, delays, poor quality and the reluctance of the Borrower to submit quarterly progress reports (QPR) was marked 1/. The Borrower, in discussing this issue with the PCR mission, felt that these reports created an undue burden on them. SB's translation facilities were limited, which further compounded the problem. More important, the Borrower questioned the usefulness of these reports. They argued that the Bank's supervision missions visited the project area at least twice a year and collected up-to-date information, some of which had already been collected and contained in the QPR's previously submitted. In brief, this was to some extent a duplication of efforts. In view of this, and recognLzing the Bank's "conventional requirements" on this issue, they felt strongly that such reporting should be reduced and should be either annual or six-monthly. 73. Although the Bank, in recent projects, has reduced the frequency of reporting requirements (to six months), the point still remains valid. A large number of project officers in the Bank are themselves questioning the usefulness of such information, which is either based on desk analysis or is outdated by the time it reaches Washington. The Bank, in the PCR mission's opinion, should take a fresh look at these requirements and consider modifications (paras 101-103). 74. Another important point which emerges from the review of Covenants is the procedure of keeping project accounts. Under the project, investors (sub-borrowers) were Kombinats, which had many enterprises. However accounts were kept for the total entity. This created considerable problems in evaluating the contribution or viability of individual investment. The Bank, in December 1976, noted this constraint and suggested that separate accounts should be maintained 2/. This procedure was, however, not fully followed. The PCR mission also encountered a similar problem in evaluating sub-projects. It is strongly recommended that in Yugoslavia this recommendation should be incorporated in future projects. 1/ "For the first time in the last five years, Quarterly Progress reports were submitted to the Bank on time" - Bank Supervision Report, December 21, 1979, Annex 7, pars 7.01. Such delays were frequently noted in other Supervision Reports. For details see Bank Supervision Reports of December 26, 1977, December 23, 1976, April 15, 1975 and the Bank's telex to the Borrower of November 1974. 2/ "Normally costs are available only for the total operations of a kombinat or a special BOAL, but not for sub-projects alone, which in many cases would require to establish appropriate cost-sharing systems. We are of the opinion that it would be extremely important to entertain such cost accounting systems in all sub-projects as soon as possible - Bank Supervision Report, December 23, 1976, Annex 3. - 40 - Disbursements 75. Project implementation delays (para 29) adversely affected the disbursement schedule projected in the Appraisal Report. With this exception, disbursement was smooth and uneventful (Annex 5). Both the Borrower and the Bank acted quickly on disbursement applications. The Bank provided timely assistance to the Borrower in training staff in preparation of disbursement applications. This proved very helpful. 76. The loan was closed on June 30, 1981. Disbursements were made until July 24, 1981 to settle outstanding withdrawals. A very small amount (US$9,595) of the total loan was undisbursed and was cancelled. IV. INSTITUTIONAL PERFORMANCE 77. Borrower. In spite of the Borrower's (SB) full attention and commitment to the project, organizational problems also affected overall implementation. These were caused by lack of experienced personnel, as well as the independent attitude of investors. The latter, in fact, posed more problems than inadequate human resources. 78. Neither SB nor Kombinats (sub-borrowers) had adequate experienced technical personnel to implement the project. Although the Bank provided considerable assistance to the Borrower in design and evaluation, expensive unsuitable designs evolved (para 44). SB's efforts in supervising the project implementation were limited and shallow. 1/ In a number of cases, construction quality was not of the best standard. The placement of an internationally recruited expert, under the project, might have corrected these problems. In fact the Bank recognized this from the beginning. Preparation and appraisal missions strongly recommended the recruitment of such an expert to supplement the SB's staff. The Borrower resisted this suggestion. In the end, the Bank compromised and required that SB should employ a local food processing engineer and a food marketing expert. They were both recruited (para 26) and provided some degree of assistance. 1/ "SB has not been very active in supervising sub-projects and assisting investors in sorting out difficulties which have occurred during implementation. The frequency of visits to and discussions with investors - for monitoring more closely the progress of implementation - could be increased, and a more active role could be taken in addressing problems being faced by the investors ..." - Bank Supervision Report, July 7, 1981, Annex 6, para 2. - 41 - 79. The Borrower evaluates the situation in a different way. SB clearly recognizes the organizational problems encountered in the project implementation and the price paid by them. However they consider that by managing the project themselves they have learned from their mistakes. They feel more confident now to implement such an integrated project themselves. There is definitely some encouraging evidence to support this thesis. SB's staff is now better equipped to undertake project evaluation, provide technical assistance and monitor the project more closely. This improvement is visible in the implementation of the Bank's on-going projects in the Republic. However, in the PCR mission's opinion, the same result could have been achieved at a much lower cost to the economy by employing an experienced consultant. 80. Sub-Borrowers. Kombinats (investors) considered SB simply as a banker. Its advice was taken when it suited them and simply "over-looked" when the advice was contrary to their prevailing practice. In this connection, it should be noted that in Yugoslavia, Banks are "owned" by their investors (Kombinats) and consequently their authority is somewhat limited. In addition, the investors' intense desire to own ultra-modern facilities overshadowed economic and logical decisions. This was further compounded by the rivalry and lack of cooperation between Kombinats. This resulted in under-utilization of agro-industrial capacity, financed under the project (para 90). Prilep cold storage, Kocani rice silo, Kavadarci cognac plant, etc. are good examples of this. This independent attitude still exists. 81. A strict allocation of resources or making capital more expensive might induce investors to take more rational/economic decisions. The Bank has already taken some concrete action in this direction. For example, the Bank, under the Agriculture Credit Project (1477-YU), required the Borrower to undertake an interest rate study which has resulted in a significant change in the planner's thinking about the rate of interest rates in a socialist country (para 111). The Borrower suggested that in appraising/approving sub-projects, the investor's organizational capacity should be carefully examined.Only well analyzed/documented projects, beneficial to the whole economy, should be considered. The investor should be required to establish a permanent implementation committee, consisting of engineers, lawyers and economists, to supervise and monitor the project implementation. These suggestions appear to be logical steps in the right direction. The Bank should consider them in future projects. - 42 - V. AGRICULTURAL PERFORMANCE 82. The project's incremental production in 1981 was estimated as follows: Table 1: Annual Incremental Production Percentage of Appraisal Appraisal Esti- Products Unit Estimates Actual mates Achieved Social Sector Milk Tons 24,000 16,000 67 Meat (L.W.) " 2,816 2,310 82 Cull Heifers (L.W.) " 96 66 69 Pig Meat (L.W.) " 4,130 3,390 82 Table Grapes " 17,600 17,600 100 Wine Grapes " 24,000 24,000 100 Distilled Alcohol '000 h1 8,000 17,000 213 Calcium Tartrate Tons -- 350 -- Livestock Feed " 4,500 5,200 116 Bottle Wine '000 liters 15,600 11,000 70 Bulk Wine '000 liters 18,400 4,000 22 Brandy '000 liters 1,500 nil 0 Soft Drink '000 liters 4,000 300 8 Fish - Carp and Trout Tons 1,580 770 49 Individual Sector Milk Tons 4,000 1,900 47 Meat (L.W.) " -- 356 -- Fruits " 2,800 2,000 71 Tobacco " 1,400 1,200 86 In view of the technical complexity of the project and inadequate experience of the Borrower in managing production of this type, the results achieved so far could be considered satisfactory and even commendable. The areas where production performance has been less satisfactory are dairy/pig farms and fish cultivation. In the case of livestock, projected yields have not materialized. For example, at appraisal, a milk yield of 5,000 litres/cow was envisaged. However, so far, production has averaged 3,700-3,800 litres/cow. For pig farms a 90% conception rate was projected at appraisal. In practice it has only averaged 74%. Experience has shown that it is extremely difficult to manage such large-scale livestock farms efficiently. This fact became apparent to both the Bank and the Borrower as early as 1976 and no further projects of this scope have been financed. Only 50% of the projected (2 tons trouts/ha) fish yield has been achieved. The lack of well-trained experienced personnel and management has been a major constraint. - 43 - 83. The Government's pricing policy also had a detrimental effect on production and management 1/. Milk and meat prices are controlled by the Government, which favors the consumers over the producers. Input prices for animal feed, in particular, have increased much faster than milk prices (Annex 6). Similarly, fuel prices have recorded a fourfold increase, while output prices have not been permitted to rise accordingly. This has had a depressing effect on many of the sub-projects, in particular tobacco drying, where the fuel cost constitutes about 50% of the total operating cost. The dried tobacco price has been intentionally kept low so that cigarette prices remain within the reach of consumers. Such policies discourage efficient management. 84. The brandy production target, a part of the central wine cellar (para 36), has not been achieved, due to the lack of technical expertise. Efforts are under way to recruit experts from France to assist in commencing production. The discrepancy between actual achievements and appraisal estimates for soft drink production is due to lack of domestic demand. 85. The Borrower and investors are aware of the shortcomings and efforts are being made to improve production performance further. Specialized technical assistance is being sought, both from other Republics and abroad, to improve yields and production. Workers are also receiving refresher courses to increase their productivity. VI. OPERATING RESULTS 86. SB, in 1980, examined the operating results of the sub-projects financed under the project. These were presented in the draft completion report prepared by them. 2/ However it became apparent that these models were based on theoretical production parameters which had no relationship to reality. In view of this, the PCR mission, during field visits in March 1982, collected the data from the investors of the sub-projects. As mentioned in para 74, the Kombinats did not keep separate accounts for the sub-projects. Thus considerable time had to be spent in separating and realistically assessing data. 1/ "Jurisdiction for pricing policy in agriculture, and for its implementation, is split between federal and regional levels. The federal government sets indicative and support prices for about 80% of agricultural commodities with the remainder determined by market conditions..... The relative price structure has in certain cases discouraged production for the market." Source: Yugoslavia - Adjustment Policies and Development Perspectives, The World Bank Report No. 3954-YU, May 27, 1982, p. 40. 2/ Draft Completion Report, Agricultural Industries Project, Macedonia, Loan No. 894-YU, Stopanska Bank, Skopje, December 1980. -44 - 87. For evaluation of the operating results, all data have been converted into 1981 Dinars, according to the price index derived from the Yugoslav National Statistical Yearbook to assess the ex-poste impact of the project. Financial Results 88. The detailed financial analyses are presented in Annexes 6, 7 and 8. However it should be noted that in calculating the financial rates of return for the rice storage and maize silo, monthly utilization of the capacity has been determined (Annex 7, Table 5). The store is used to hold rice, mainly in bulk form. Stored rice is supplied to a rice mill, which husks, polishes and markets it. Income accruing to the store is, therefore, the monthly storage fee. The maize silo operates in a similar manner. Cold storages derive their income through merchandise and rental of space. Fruits are purchased at harvest and sold at a later stage. Some of the cold storage capacity is rented out on a monthly fee basis. No financial analysis has been undertaken for the meat processing plant since the facility is still not complete. In calculating the financial results of the individual sector's investments, heavy reliance is placed on the Consultants' study. 1/ 89. The financial rates of return for sub-projects, estimated by the PCR mission, are summarized below. Table 2. Financial Results Financial Rate of Return (%) Appraisal PCR Mission Sub Project Estimates Estimates Social Sector Dairy Farm 12.0 -4.6 Cattle Fattening Farm 16.4 9.5 Heifer Rearing Farm 14.4 None Pig Farm 15.5 -5.7 Wine Grapes Vineyard 19.2 0.2 Table Grapes Vineyard 27.4 10.7 Central Wine Cellar 27.8 13.0 WineBy-Products Plant 16.4 6.0 Cold Store 15.0 2.4 Rice Storage 36.7 -5.0 Maize Silo 22.0 8.0 Fish - Carp 14.7 5.0 Fish - Trout 18.5 -- 2/ Tobacco Dryer 17.3 1.0 Irrigation Scheme -- 21.3 Individual Sector Vineyard 33.8 11.4 Dairy Farm 15.2 12.0 1/ Study for the Private Agricultural Farms - SR Macedonia, 5th Annual Report, Electrowatt Engineering Ltd., Skopje - Zurich, February 1980. 2/ Since the PCR Mission could not visit the project trout farms, due to lack of time, no rates of return by the mission have been calculated. - 45- As can be seen from the above, all sub-projects recorded a significant decline in their financial rates of return. The reasons, as mentioned earlier, are increased investment cost, prolonged construction period due to procurement delays, inadequate technical management, low productivity, investors' indecisiveness concerning location, design, etc. and Government policies with regard to pricing. The latter, in particular, is significant since Kombinats are a major source of employment in the economy. With the problem of unemployment, financial and technical considerations are sometimes overshadowed by the social objective of providing employment to the population. This naturally affects the viability of the investment, since the project was initially designed to be capital intensive to benefit from reduced labor costs (para 94). Thus in the present circumstances, the project is being penalized by both high investment and labor and overhead cost. 90. The major cause of the unsatisfactory financial performance of the marketing facilities (grain stores and cold storages) is poor capacity utilization. The rice storage facility on average has been utilized less than 40% of its capacity since completion. The reason is that 80% of rice production is in the hands of individual farmers who prefer to market their production independently rather than selling to the Kombinats. The same problem is faced by the cold storages, particularly in Prilep. 1/ In addition, due to the lack of coordination among Kombinats (para 80), additional similar facilities are being constructed in the same area. For example in Kocani, after the completion of the project facility, four new storages have been constructed with much larger capacity. 91. In view of this, in designing and financing future marketing infrastructure projects, special attention should be paid to assessing the availability of raw material, particularly from the individual sector. In addition, the Kombinats should take a much broader perspective, based on the interest of the total economy rather than a narrow individual view (para 80) 2/. Such a combined approach would decrease the possibility of under-utilization and duplication of facilities. Examination of the financial results also provides some other interesting points for future consideration. Dairy farms and vineyards are more profitable in the individual than in the social sector. This comparative advantage should be taken into consideration in designing future projects (para 109). 1/ "The cold store is built mainly to store fruits ... Utilization is rather low, ... The chambers for deep frozen meat are not used. Part of an unchilled area of the cold storage is used for storing sugar." - Bank Supervision Report, January 9, 1979, Annex 3, pages 1-2, para 2.2. 2/ The Bank, to assist the country in this direction, under Loan 1801-YU, has financed an agro-industry review study which will provide investors with data on capacities, etc. - 46 - Economic Impact 92. The total incremental production (para 82), in 1981 prices, is valued at $38.4 million annually, of which about 95% is in the social and the remainder in the individual sector. The majority of the incremental production (90%), as projected by the appraisal mission, has been consumed domestically. This has permitted an increase in per capita consumption of basic food items, which had previously been significantly below the Yugoslav average (Annex 9, Table 1). 93. Export Earnings. The project also augmented the country's efforts in diversifying and increasing export earnings. For example, the central wine cellar has enabled the Republic to export high quality bulk and bottled wine in place of the crude wine exported prior to the project. The annual incremental export earnings, accruing to the economy from the project, are estimated to be about US$3.8 million. This is useful to the country, particularly at the present time when it is faced with a serious shortage of foreign exchange. At appraisal, incremental annual export earnings were not estimated separately and hence no assessment can be made about the project's success in achieving export targets. However actual results appear satisfactory in themselves. 94. Employment. The project has provided substantial employment in the Republic. About 6,500 permanent positions and about 4,000 equivalent of seasonal nature have been created . About 70% of the permanent incremental employment is in the social sector. At appraisal it was estimated that only about 1,150 permanent jobs would be created in the social sector, compared to 4,500 actually recorded. As mentioned in para 89, the significant increase in employment, while justifiable on social grounds 1/, had a detrimental effect on the financial viability of sub-projects. 95. Individual Sector. As envisaged at appraisal, 2,400 individual farmers were assisted to modernize and expand their agricultural production (para 49). Net incremental income per project farm, in 1981 prices, is estimated as follows: Net Annual Income Per Farm In US$ witnour Project witn iProject TncremenLtal Vineyard (1 ha) 175 2/ 790 615 Dairy farm (6 cows) 2,800 3/ 3,590 790 Annual incremental production accruing to the economy from this sector is estimated to be US$2 million. The Government recognized the significance of the sector and increased the credit amount available to it from Din 109 million (in 1972-76) to Din 1.3 billion (1977-81). More and more efforts are being made to integrate social and individual sectors efficiently to maximize development efforts. 1/ There is about 20% unemployment in SRM. 2/ Wheat was mainly cultivated. 3/ Farmer had 4 cows of inferior quality. - 47 - Economic Analysis 96. In the appraisal report, in calculating the economic rate of return, financial investment costs were adjusted for import duties and taxes. Economic benefits consisted of financial benefits and reduction in unemployment insurance costs. No separate economic rates of return were calculated for sub-projects. 97. The PCR mission, in preparing the revised economic rates of return, has used the following method. Investment costs, excluding taxes and duties, have been adjusted by the conversion factors set out by the Bank's Program Department. Operating costs, where applicable, have been also adjusted to reflect the international economic situation. For example, in sub-projects, depending upon the nature of the operation, it is assumed that 60% of the labor is technical and skilled. Their wages reflect the market costs. For the remaining 40%, unskilled workers, wages have been adjusted to reflect the true economic cost. Most of the project's incremental production is marketed domestically and is not generally internationally traded. Hence, domestic prices have been used in calculating economic benefits. In the cases of beef, finished pigs, bottled wine, table grapes and calcium tartrate, etc. world prices, adjusted for transportation, handling, etc. have been applied. Based on these assumptions, economic rates of return for sub-projects have been calculated, which are listed below. Details are presented in Annex 9. Most of these, although higher than the financial rates of return, are still not fully satisfactory, particularly in view of the opportunity cost of capital in the country. The reasons for this are the same as in the case of the financial rate of return, explained in paras 89-91. Table 3. Economic Results Sub-Project Economic Rate of Return (%) Dairy Farm 6.0 Cattle Fattening Farm 15.0 Heifer Rearing Farm none Pig Farm 25.0 Wine Grapes Vineyard 13.8 Wine By-Products Plant 11.0 Central Wine Cellar 17.0 Cold Store 5.5 Rice Storage 1.0 Maize Silo 13.5 Fish - Carp 7.8 Tobacco Dryer 4.0 Irrigation Scheme 22.0 Individual Sector Vineyard 15.4 Overall (excluding Meat Processing Plant) 12.0 - 48 - VII. BANK'S PERFORMANCE 98. The Bank's initiative in 1970 in inducing the government to finance agricultural development projects was timely and constructive. As a follow-up, the Bank's decision to finance the first integrated agricultural project in Macedonia, a less developed region, was correct. The appraisal was comprehensive and competent. The project's design was innovative and realistic. It attempted to integrate production and processing and to improve cooperation between the social and individual sectors. Technical production parameters used in the project evaluation were adequately researched and appeared realistic, particularly in view of the fact that the Bank had no first-hand experience of either the Borrower's capability or the agricultural sector in the country. 99. The appraisal mission could not be held responsible for the significant increases in investment cost recorded later on. As explained earlier (para 60), these resulted from international economic conditions and were virtually impossible to foresee. In fact, the majority of all projects appraised by the Bank at that time have experienced the same fate. The organizational and technical limitations of the Borrower were clearly recognized by the preparation and appraisal missions. However, as explained earlier (para 78), the mission's recommendations were unacceptable to the Borrower, who presented a strong case against the suggested technical assistance package. Without any prior first-hand knowledge of the Borrower's capability, the Bank agreed. In retrospect, this might be singled out as an inadequacy of the appraisal. 100. The supervision of the project was adequate. Between 1974 and 1978 two visits were made each year. Later the frequency of visits was reduced, since the project was completed, with the exception of the meat processing plant. Each mission, consisting of at least 2 experts, spent about 7 days reviewing the project. This appeared to be adequate. The composition of supervision staff was balanced. While there was continuity of staff, the inclusion of new members complemented their efforts. This pattern might well be followed in future projects. The supervision mission's contributions were noteworthy in improving the technical design of livest9ck sub-projects, particularly dairy farms. The supervision mission also assisted the Borrower in preparation of tender documents, financial analysis, etc. This prepared the officials concerned for implementing future projects of this nature. 101. A close examination of the supervision reports in retrospect reveals some interesting points which might be useful in rendering supervision efforts of the Bank more effective. Although at present it is not the general practice in the Bank to undertake a well-structured mid-term project evaluation, in a complex project of this nature such an exercise should be made an integral part of supervision efforts (para 64). A mid-term in-depth review should reassess the technical, organizational, financial and economic viability of the project. Based on this, a future course of action should be decided. This type of exercise has become particularly essential in the present fluid economic situation. Such reviews would further assist Borrowers and the Bank in achieving stated objectives. This type of review would also assist the Bank in the finalization of the PCR reports and would reduce the time required in preparing them. - 49 - 102. The Bank's post-supervision letters to the Borrower might also usefully attach an annex detailing the problems of project implementation and possible solutions, since all supervision missions, before departure, present their findings to the Borrower. Such an annex is already prepared as a part of the supervision reports and thus there is no additional work required. A comprehensive written report might assist the Borrower better in resolving problems. 103. Experienced Borrowers such as SB should be induced or required to undertake comprehensive regular supervision, similar to that performed at present by the Bank. Six-monthly or more frequent supervision missions, staffed by experienced staff, should be sent by SB to the field to assess implementation and monitor the project's impact in achieving its stated objectives. Well-analyzed reports should be prepared for the Borrower's management. Based on these, action should be taken. Such reports would greatly assist the Bank and could usefully replace the existing quarterly progress reports. VIII. CONCLUSIONS 104. The PCR provides some useful lessons and raises a few basic issues which require further examination. These are discussed below. Lessons Learned 105. The Bank, as can be seen from paras 8 and 13, through its economic and sector work in 1970, greatly assisted the Borrower in designing and modifying development strategies. The Government was induced to emphasize agricultural development, 'particularly in less developed regions, and assist the individual farmers in exploiting the full potential of this sector. These policy changes have proven extremely beneficial. This experience highlights the importance of the Bank's economic and sector work as a valuable development tool. In view of this, it clearly emerges that comprehensive sector surveys should be regularly undertaken to assist both the Borrower and the Bank in charting future courses of action. 106. In designing a project of this nature, not only economic and engineering details should be emphasized, but sufficient attention should be given to details of organization and management, from the bottom tier upwards. It might be advantageous to include an organization/management expert in appraisal missions to evaluate this aspect, which is becoming more and more critical. 107. In similar projects of this nature, particularly in countries and regions new to the Bank (as was Macedonia in the early seventies), the Bank should require the employment of international experts for key areas, such as technical design, procurement, etc. In addition, adequate attention must be given, and a mechanism developed, to ensure that local staff responsible for the operation of these facilities are adequately trained. - 50 - 108. Borrowers should be required to undertake effective continuous evaluation of projects. A detailed mechanism must be developed to monitor, on a regular basis, project implementation and its contribution in achieving the stated objectives. Adequate and well-trained staff should be provided by the Borrower for this important function. The Bank, in recent projects in Macedonia, has made an impressive effort to introduce this system. 109. Social and individual sectors should be utilized to take advantage of their inherent advantages. Large-scale, capital intensive, technically complex agro-industries and cereal production should be concentrated in the social sector. Labor intensive primary production, particularly livestock, should be encouraged in the individual sector, since the latter has a comparative advantage here. The Bank and the Borrower have both recognized this. A recent seminar organized by the Bank February, 1982) on the future strategy for agricultural development in Yugoslavia also recommended this pattern. 110. In designing livestock projects, particular attention should be paid to the size and technical parameters. Availability and cost of animal feed should be realistically assessed. ill. In the social sector, Kombinats should be induced, through fiscal measures, to abandon their present policy of each striving to own large-scale agro-processing industries or marketing facilities. National and regional economic interests should take precedence over their narrower interests. The Bank has acted towards this (paras 81 and 91) and in the recent Bosnia-Herzegovina agricultural appraisal, a number of industries, which would have resulted in under-utilization of existing facilities, was not included. 112. Marketing infrastructure should obviously be financed in the social sector, because of the large investments and technical management required. However special attention must be paid to determining the location and capacity utilization aspects. Detailed procurement arrangements should be realistically worked out, since 80% of production is still controlled by the individual sector, which determines market outlets on the basis of prices. In the absence of such an examination, facilities may remain underutilized. 113. As discussed in para 83, one of the major factors behind the unsatisfactory financial results of sub-projects has been the agricultural pricing policy. The agricultural output prices have been kept low. This adversely affects the viability of investments and discourages future investment, leading to inefficiencies and a decline in morale. To avoid this, realistic competitive prices must be set. The Bank and the Borrower have both recognized this. The recent seminar organized by the Bank paid special attention to this and the forthcoming agricultural sector survey will examine this aspect in depth. - 51 - Issues 114. From the preceding discussion (paras 101-103), it emerges that it might be useful to take a fresh look at the whole issue of supervision - objective, procedures, mechanism, etc. A number of possible changes to meet future needs of supervision is outlined in paras 101-102. In addition to the changes in Bank procedures, the Borrower should be induced or required to undertake more effective regular supervision, as explained in para 103. This has become particularly important, since a number of countries are shortly to graduate from the Bank's operations and they will need to take over supervision functions, which the Bank in the past has effectively undertaken. This is feasible in view of the fact that the Borrowers have become more experienced in these techniques during their association with the Bank. However during the project life, they should be exposed to the extent possible to supervision efforts, to enable them to carry on when the Bank ceases its operations.  IBRD 10175(PCR) -U G SL0' JU N E 1982 AGRICULTURAL INDUSTRIES PROJECT I PRIZREN To-5of PROJECT LOCATIONS PRIE COMPLETION REPORT KuanvoMAGEDONIA DAIRY FARMS CATTLE FATTENING FARMS 00TETOV KOPJE HEIFER REARING FARMS PIG FARMS MEAT PROCESSING PLAN1 KDeVen - .VINEYARDS 5Y 1W WINE BY-PRODUCTS FACiLITY CENTRAL WINE CELLAR rfi GRAIN STORAGE COLDSTORAGE TROUT FISH PONDS CARP FISH PONDS i TO8ACCO DRYER D barIRRIGATION -13'KBce,o BoR ERS -41-30 Neg.rn 1 ,ROADS S RAILWAYSANDTUNNELS 4*30' REPUBLICBOUNDARIES z vrc-- INTERNATIONAL BOUNDARIES roev 5 1_0 75 20 Pr allnd KILOMETERS SThisPCRmapoisEsonIBRD0175, October 1972. 0rdy 33tl and legend terns have Seen ch anged s", USRA Y HUNGARY us e< SLOVENIA o,kGe geb,r"d-.'.a. CROATIA YUGOSLAr BOSNIA - 8 TOL A\HERZEGOVINAJ c rasf\G R E E C E .. NEGRO r1 403 33 sedende 4.ùKOSOVO d, acep -ce such boundaes 2 je-. N\\\\MA 2 00'3' 03 00'0' 0'303033,00 o~ E