Power Distribution Improvement Project

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Macroeconomic instability in Lao PDR has increased in recent years, amplified by the Covid-19 pandemic and a deteriorating global economic environment. Economic growth had been decelerating before Covid-19, highlighting the limitations of a capital-intensive debt-fueled growth model. Structural challenges have been exacerbated by the economic effects of the pandemic, as well as the war in Ukraine, China’s zero-Covid policy, and the monetary tightening in the US. Public debt levels are very high, while contingent liabilities represent a growing threat. Public and publicly guaranteed (PPG) debt was estimated to have reached 89 percent of GDP in 2021, with state-owned Électricite du Laos (EDL) responsible for around 37 percent of total PPG debt. Fiscal space has been eroded, largely owing to the poor performance of revenue collection and rising debt service payments. Reserve buffers are precarious, with foreign currency shortages contributing to a sharp depreciation of the exchange rate, especially against the US dollar, while the gap between the official and parallel rates remain at about 9 percent in July 2022. Coupled with rising international commodity prices, this depreciation has fueled domestic inflation – which reached nearly 24 percent in June 2022 and triggered significant depreciation of the Kip. The current account reflects external imbalances, even as electricity and mining exports recently pick up the pace.Electricite du Laos (EDL) is the single buyer of power and sole distributor of electricity in Lao PDR – supplying power to domestic consumers as well as exporting to neighboring countries. EDL sources its power from various entities including Independent Power Producers (IPPs) – 61 percent, EDL–Generation (EDL-Gen a subsidiary of EDL that takes minority stakes in private sector power plants) – 22 percent, imports from neighboring countries (during dry season) – 12 percent and remaining from EDL’s own generation plus Small Power Producers (SPPs). The Ministry of Energy and Mines (MEM) is primarily responsible for the power sector in the Lao PDR, with jurisdiction over energy policy, strategy, and management of the energy and the mining industry. MEM also acts as a regulator of the energy sector, though tariff decisions are finalized by the Prime Minister’s Office and approved by the National Assembly.The immediate challenge for the Lao power sector is to break the vicious circle between the technical challenges (of demand-supply balance and inadequate power network) and EDL’s critical financial sustainability and liquidity situation. In fact, on the one hand the financial difficulties of EDL are hampering the realization of critical investments needed to address the country’s seasonality unbalance, power grid fragmentation, vulnerability and inefficiencies. At the same time the hydro generation seasonality and the inability for EDL to balance among four domestic grid areas are also undermining EDL’s ability to generate new revenues, contributing to worsen the financial situation. For instance, the weak service and deteriorating reliability severely constrains the country’s industrial development and potential to export, and has been the root cause of low export price for Lao power. Additionally, the tariff for both domestic and export power sales have been well below cost-recovery level for some time now. The lack of resources has also led to under-investment for corporate systems and training for staff, which has resulted in lack of capacity to process, aggregate and compile financial information on a timely basis. As a result, the issuance of audited financial statements has been delayed for over 2 years.EDL has accumulated a significant debt stock as a result of operating losses. Between 2014 and 2018, EDL invested US$5 billion in new assets, which widen the financing gap in the sector, due to the negative margins highlighted above. Consequently, at the end of 2018, EDL’s debt reached US$4.8 billion, while EDL’s payables and other short-term liabilities also increased sharply to reach US$1.5 billion. The expected increase in annual debt service requirement is expected to significantly exceed the repayment capacity of EDL. In March 2021, a Concession Agreement (CA) was signed between EDL and China Southern Power Grid (CSG) to form EDL-Transmission (EDL-T), but effectiveness date has been delayed to March 2023. The delay would impact the financial situation of EDL as it delays not only the upfront payment by CSG to Lao PDR to be completed at effectiveness, but it would also delay the planned investments by EDL-T into their transmission system. As EDL lacks the means to strengthen its grid system to enable increased power flow reliably, EDL-T concession was aimed at bringing in Chinese expertise and capital into the badly needed transmission system investments. The existing domestic grids are already facing aging equipment troubles, and bottlenecks are emerging in the grid system due to inadequate capacity to meet the growing demand at the substation level. The de-bottlenecking and rehabilitation of these points are crucial to ensure that the domestic and export supply obligations can be met and that the system reliability and capability do not suffer further.The Project aims to improve EDL operational and financial management capabilities by reducing losses and increasing power flow capacity and reliability at the targeted substations and improving their operational monitoring and financial management capacity through corporate systems upgrades and staff training. The lack of financial resources at EDL has led to the inadequate investment to the grid system which reduces the quality, efficiency, and reliability of power service, and the lack of proper Information and Communication Technology (ICT) infrastructure and software to monitor and manage the operations and financial situation leading to further financial difficulty. The Project aims to improve EDL operational and financial management capabilities by reducing losses and increasing power flow capacity and reliability at the targeted substations and improving their operational monitoring and financial management capacity through corporate systems upgrades and staff training. Additionally, the World Bank and development partners are in discussion now to prepare additional technical assistance to assist in improving the regulatory and governance framework at the sector level, which would be prepared and implemented in parallel to the Project. Component 1: Substation Investments and Grid Monitoring Systems (US$46 million IDA) – The sub-component will support the replacement or installation of transformers in targeted substations that have low performance and high technical losses due to the age of transformers and/or inadequate distribution capacity, or design discordance. The replacement with/installation of new transformers will enable EDL to improve the efficiency and the capacity of its distribution systems supplied by those substations. The sub-component will also support the installation of monitoring systems and protection relay units, procuring design and planning software and portable analyzers, alongside providing technical project implementation support, and EDL staff training for the use of the planning software and portable analyzers.Component 2: Financial Management System (FMS) and SAP Implementation (US$5 million IDA) – This component will support consulting and non-consulting services, technical assistance and capacity building required for the strengthening of FMS at EDL corporate level and for completing the effective functioning, integration, and adoption of the SAP. This component includes also FM and Procurement implementation support at the project-level, as well as support annual external independent audits of financial reports both at the project level and at for EDL as a corporate entity.Component 3: Contingent Emergency Response Component (US$0 million I