Document of

The World Bank

Report No. 15397-LT

STAFF APPRAISAL REPORT

REPUBLIC OF LITHUANIA

ENERGY EFFICIENCY/HOUSING PILOT PROJECT

JUNE 7, 1996

Municipal and Social ServicesCountry Department IVEurope and Central Asia Region

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

CURRENCY EOUIVALENTS(as of May, 1996)

Currency Unit = Litas (LT)LT I = US$0.25

US$1 = LT 4.0

MEASUREMENT

Degrees Fahrenheit (F°) = Degrees Centigrade (CO) x 1.8 + 32Square feet I = 0.09 Square Meter (sqm)

MWh I = 0.86 Gcal (Giga calorie)Kilojoules (KJ) = 1,000 Joules

ABBREVIATIONS AND ACRONYMS

AHA Association of Homeowners' AssociationsBOL Bank of LithuaniaCAS Country Assistance Strategy

CFRI Credit Fund for Renovation and Insulation ofHouses and Apartments

DH District HeatingERR Economic Rate of Return

EU European UnionFRR Financial Rate of ReturnFSU Former Soviet Union

GOL Government of LithuaniaHCF Housing Credit FoundationHOA Homeowners' Association

ICB International Competitive BiddingLPC Lithuanian Power Corporation

MCUD Ministry of Construction and UrbanDevelopment

MOE Ministry of EnergyMOF Ministry of FinanceNCB National Competitive Bidding

OP Operating ProceduresPIP Project Implementation Plan

PCU Project Coordination UnitPFI Participating Financial InstitutionRF Revolving FundRR Rate of Return

LITHUANIA - FISCAL YEARJanuary 1 - December 31

Itb N.O .. L.l. VN3INNO33a UNV SINaNIIITOV IA

6£.loedrui A4xaAOd A

SC ............................ o.... . . .. .......... .. d lJo uoinq!1s aS. .. ... edwijo joi!q1eumsnS pue uonl,di3lx.ed j)7 ....................... .. s3s!ir 13(Obd 8IZ. -. srsXleuV loeduIu ndZ. ........... .............................................. NOULV II AI N OIONOO I *A

.................................. " " 'l .................. ipnV pin slunozazV -6Z .......................................................... .... sluo w asimnqs!a G

L.slua w aJnqsid u9z ....................................................... uo nA3 pue u uoiO 'uo!siuAdnS -Ezz ....................................................... s muaicu V uorieiuanuit dwl v

z ........................ -,-,---,---- NOI1VIN3W IdPWI I3O fO 2d Al

i Z.pu.nj aU1AjOAgJ t .IOj SUOt13[oljd Ite'uMuA 361... tuud pue 'X1ij!qepJoiqjl 4IWAO30-d 1SO:) aL.I .... w ..... ue.sv suIpwuQo -J

91 ............................... I...............U ue u i3urU1A -8

91 S01Ufl1S3SOD lSOMoi d v

91.... ......... ...- SJLDdSV 'IVIDNVNId (NV SJLS0J 1JfO'd '111

Z....... .ll .............. . ..... uodusG Od 'D

.. . . . . . . . . . . . . . . . . . . . . . . . . I.. . . . ..... " I'll ,. . . . . . . . . . . . . . . . . . .. ... ..S AaIr q o ag11.-sIsaua9 13aIlOd N11. -.- i.JHfO21d 3H1 'if

.-...... - a3uadxq pue galej1S 'ue 39 ......................................................................... suIeJOJd pute SaI3Iod IUZUnUJAO9 a

............................................................ u nu ,l ui Jolo3s !UsnOH a4nL J

............................................ -e ennipl Ui olooS glvH pue • uJaU3 ;)L U

................................... - . .suawdolaAa§l owouoog luoaaJ sli puue &lunoD ay) 1 V

. - -UNf1OdDXJV 'I- 'VO1DHS I

S1i31UNOD AO ari'ifV1

.34°JJ d I!d uiSnlOH / 13WPUR £2vUl21u

VIN VfHJLI AO 3HflJd3H

ULIOJ132 rivSIvHcdV JIVIS

A. Agreements Reached During Negotiations ................................................. 41B. Conditions of Effectiveness ................................................ 42C. Conditions of Disbursement ................................................ 42D. Recommendation ................................................ 42

TABLES

Table 3. 1: Project Costs. ...................................................... 16Table 3.2: Financing Plan ...................................................... 17Table 4. 1: Summary of Proposed Procurement Arrangements (In US$ million) ...................... ................. 29Table 4.2: Disbursement Categories ...................................................... 30Table 4.3: Estimated Disbursements (US$ million) . ...................................................... 30Table 5.1: Base Case: Project FRR and ERR ...................................................... 34Table 5.2: Project Risks, Mitigation, and Effects on Returns ...................................................... 37

ANNEXES

Annex 1: Social Assessment .43Annex 2: Effects and Risks associated with the Residential Heating Subsidy .51Annex 3: Technical Details .55Annex 4: Affordability and Subsidy Analysis .63Annex 5: Technical Assistance and Institutional Development .68Annex 6: Financial Projections for a Revolving Fund .70Annex 7: Eligibility Criteria .73Annex 8: Monitoring and Evaluation .79Annex 9: Supervision Plan .85Annex 10: Estimated Disbursement Schedule .86Annex I 1: Detailed Procurement Arrangements .87Annex 12: Economic Analysis .90Annex 13: Environmental Review .98

MAP IBRD No. 26177

This report is based on the findings of preparations missions and an appraisal mission which visitedLithuania in the last 18 months. Mats Andersson (Task Manager) and Monika Weber-Fahr (Co-taskManager) were assisted by several teams including consultants and World Bank staff with expertise inareas related to the project components, including: Ivy Cheng, Eric Peterson, Yoshine Uchimura (EC4MS),Alessandra Iorio (LEGEC), Anke Meyer (IENPD), Cesar Fort (LAIPS), Ramune Zabuliene (EC4BS),Stan Peabody (EMTEN), and consultants V. Viswanathan, Marc Bellanger, SWECO, Deniz Baharoglu,Vida Augustauskiene. Department Director: Basil Kavalsky, Division Chief: Thomas Blinkhorn. PeerReviewers: Joseph Gilling (IENPD), Dennis Whittle (EC3C2), and Margaret Thalwitz (EC4AU).

REPUBLIC OF LITHUANIA

ENERGY EFFICIENCY / HOUSING PILOT PROJECT

LOAN AND PROJECT SUMMARY

Borrower: Republic of Lithuania

Implementing Agency: Ministry of Construction and Urban Development (MCUD), Ministry ofFinance, and the municipalities of Vilnius and Kaunas (possibly others).

Beneficiaries: Homeowners and homeowvners' associations, participating municipalities,participating commercial banks, MCUD, construction industry.

Poverty Category: Not applicable.

IBRD Loan Amount: US$10.0 million

Loan Terms: Payable in twenty years, including five years of grace, at standard LIBOR-based variable interest rate for US dollar single currency loans with anexpected disbursement period of four years.

Commnitment Fee: 0.75% on undisbursed loan balances, beginning 60 days after signing, lessany waiver.

Onlending Terms: The onlending terms are designed in a manner consistent with the pilot natureof the operation, so as to ensure that the project's expected demonstrationeffects and the economic externalities will be achieved. They will bereviewed and revised as appropriate at regular intervals throughoutimplementation.(i) For residential energy efficiency rehabilitations - from the Ministry ofFinance (MOF) through participating commercial banks to homeownersIassociations and individual homeowners in local currency for three to tenyears maturity at fixed rates, with Government assuming the foreignexchange risk. The banks would: (a) bear full credit risk for lending toowners of single family homes and individual apartments, and charge anagreed spread; and (b) bear no risk for lending to homeowners' associationsfor which they would receive an administrative fee for service based ondisbursed and collected funds (during project implementation, commercialbanks will be given the option to switch to full or partial credit-risk bearingfor lending to homeowners' associations). Funds will be onlent, for the firstsix months of project implementation, at an interest rate of 15% (consumerrate) which is expected to provide an incentive for homeowners to participatein the project. The size of the Government contribution will depend on thedifference between an applicable market reference rate and the consumerrate. The onlending terms will be reviewed and adjusted semi-annually basedon market rates and borrower acceptance. For transparency, beneficiaries

- 11 -

will be notified regularly of the market reference rate and the Governmentcontribution received.(ii) For energy efficiency rehabilitation of schools - from MOF tomunicipalities on the same terms as the Bank loan to the Republic ofLithuania.

Project Objectives: This project is a pilot or demonstration effort that aims to: (i) support privateinitiative to improve residential energy efficiency; (ii) support publicinitiatives in improving energy efficiency in schools; and (iii) support theimplementation of Government policies to sustain the privatization ofhousing, enabling increased private initiative in housing maintenance ingeneral. The project will: (a) promote and facilitate energy efficiencyrehabilitation of buildings, introducing technically and economicallyattractive packages of measures which are affordable to a broad range ofcitizens; (b) promote private initiative in housing and energy efficiencythrough supporting the organization of homeowners into functioningassociations able to take charge of their buildings and housing maintenance;(c) support municipalities in the energy efficiency rehabilitation of schoolsfor demonstration purposes, (d) develop the use of private energy consultantsfor housing retrofits, and (e) introduce the commercial banking sector to theconcept of long-term lending for housing and housing improvements.

Project Description: The proposed project would consist of the following three components: (a) credit,through commercial banks, for residential energy efficiency rehabilitation, withincentives for homeowners to encourage participation; (b) energy efficiencyrehabilitation of schools in selected municipalities; and (c) institutionalstrengthening, to be achieved through substantial technical assistance to addresskey issues with all relevant stakeholders, including homeowners and theirassociations, commercial banks, and contractors and energy efficiencyconsultants. As part of the institutional strengthening, several policy studieswill be undertaken to develop recommendations for government policyregarding assistance to the housing sector and a detailed action plan torefocus and target the existing assistance to the neediest in society.

Project Benefits: The main benefit of this pilot project lies in its focus on private initiative inhousing, encouraging individuals and groups of citizens to take charge oftheir housing assets, something still very new in former Soviet Union (FSU)countries. Supporting individuals to participate in homeowners' associationsis expected to improve and sustain the privatization of housing, and thecitizens' approach and commitment to democratic decision-making processesand organizations. While these benefits are hard to quantify, the project'squantifiable benefits, evaluated based on resource savings to the economy,are expected to be substantial, as demonstrated in an economic rate of returnof approximately 26%. Other non-quantifiable benefits lie in the project'sdemand side focus which is expected to increase awareness among citizens oftheir ability to change consumption patterns and conserve energy. Thiswould, provide, over time, an incentive for the energy supply side to

- ill -

undertake system rehabilitations, and reduce the reliance on imported fuelwith related reduction in air pollution. Other benefits include learning by thebanking sector about long-term lending to the retail market, some localemployment generation, introducing competitive bidding procedures in theselection of contractors, and potential development of new constructionmethods and building materials. The experiences of this pilot project willform the foundation for a larger program in the sector. Energy efficiencyrehabilitation of schools will have a demonstration and informational effect.Also, through this pilot project, organizational, technical and financialmechanisms will be tested that may work in other FSU countries as well.

Project Riskr: Since this is the first pilot project in the sector supported by the Bank,various quantifiable and non-quantifiable risks exist that may endangersuccessful project implementation. Quantifiable risks relate to incentives: (a)that the Government will not adjust heating tariffs and/or existing heatingsubsidy programs appropriately, and hence make the cash flow ofinvestments not sufficiently attractive to individual households; (b) thatenergy savings have been overestimated; (c) that the costs for therehabilitation measures rise significantly; and (d) that interest rates may raiseso as to deem the project-specific Government contribution unsustainable.Given the severe Government budget constraints, it is unlikely, however, thatthe Government would not adjust heating tariffs to full cost recovery,similarly, heating subsidies would be expected to be directed to low incomehouseholds only. The relationship between market interest rate and the levelof the project-specific Government contribution will be reviewed semi-annually and adjusted as necessary so as to maintain viability of the project.Even in the worst case, sensitivity analysis has shown that economic rates ofreturn are unlikely to fall below 10%. Other risks, specifically related to theinstitutional and behavioral environment within which the project will beimplemented are that: (a) the organizational capabilities of homeowners andtheir associations are overestimated; (b) too few households will be able orvilling to participate; and; (c) homeowners' associations may not be able to

fulfill the role of borrowers and significant payment arrears will occur. Tomitigate these risks, a test and learning activity was undertaken as part ofproject preparation with four homeowners' associations which provided valu-able information for project design and for the design of a comprehensive as-sistance package for homeowners and their associations. The scope of theproject has been kept relatively small which will facilitate implementation ofthe technical assistance components. The risk of deficiencies in the enforce-ment of loan repayments will be reduced through project eligibility criteria,and by having the loans managed by commercial banks.

Public Participation: Potential beneficiaries of the project were involved in its design through thetest program with four homeowners' associations (apartment buildings)providing information regarding affordability aspects, perceptions and viewsabout their housing, and the need for assistance to their associations.Continued participation is ensured by the project design under which

- iv -

homeowners, through their associations and assisted by consultants, willthemselves identify and determine the work to be undertaken in theirbuildings, organize necessary decision-making processes, arrange forfinancing, carry out the procurement of works, and participate in themonitoring of energy efficiency impacts. The project coordination unit(PCU) in the Housing Credit Foundation (HCF) will arrange for activeassistance to the beneficiaries, before-and-after-beneficiary assessments, andlaunch public information programs based on the experiences of this pilotproject.

Environmental Aspects: The project is expected to have a beneficial envirownental impact throughconservation of energy resources and a concomitant reduction in the by-products of fuel combustion. Although these benefits are not expected tobe large, due to the limited resources available and the pilot nature of theoperation, a significant multiplier effect is to be expected in the mediumterm. A project-specific risk mitigation procedure has been designed foridentification, handling and disposal of hazardous material that might beencountered during renovation works. The project has been rated asenvironmental screening category B.

Poverty Aspects: Even though the project will have no direct impact in alleviating poverty,credits provided through the project will be the only source of funds availableto low income households for energy efficiency rehabilitations. Rising energyprices affect the poor particularly harshly and any savings will particularlybenefit them. A policy reform study will focus on a reorientation of existinghousing subsidies to provide greater benefit to neediest groups. The projectwill also institute a tracking mechanism and closely monitor actual impactand experiences.

Economic Rate of Return: Overall economic rate of return of approximately 26%.

Map: IBRD Number 26177

Project ID Number: LT-PA-35 163

Estimated Project Cost by Project Component:

Project Costs

Millions of US$ a_/Project Component Local Foreign Total

b_l1. Residential Rehabilitation (sub-loans) 9.0 6.1 15.1II. Rehabilitation of Schools 1.2 1.0 2.2III. Institutional Development and 1.1 1.7 2.8

Technical AssistanceBase Costs (in September 1995 prices) 11.3 8.8 20.1

Price Contingencies c_/ 0.3 0.2 0.5

Total Project Costs 11.6 9.0 20.6a_/ The relation between local and foreign costs may change depending on the local inflation and

exchange rate movements.b_I Primarily imported heating equipment and roof material.c_/ Physical contingencies were not calculated since the loan is considered a sector/subsector loan.

Financing Plan:Estimated Project Financing

US$ million PercentageLocal Foreign Total of Total Cost

Government of Lithuania 6.5 - 6.5 31%Municipal Governments 0.5 - 0.5 2%Private beneficiaries 1.6 - 1.6 8%Donors 0.3 1.7 2.0 10%World Bank 2.7 7.3 10.0 49%

Total Project Costs 11.6 9.0 20.6 100%Note: Donor financing of US$2.0 million has been informally committed for institutional development and

technical assistance. Government is seeking an additional US$0.9 million for the same component.

Estimated Bank Disbursements:

Disbursements Estimates by Bank Fiscal Year (US$ million)

Institution: FY 1997 FY 1998 FY 1999 FY2000 TotalIBRD 0.6 2.7 3.2 3.5 10.0

- I -

I. SECTORAL BACKGROUND

A. THE COUNTRY AND ITS RECENT ECoNOMiC DEVELOPMENTS

1.1 When independence was regained, Lithuania inherited an economy that was relatively welldeveloped in comparison with other countries of the former Soviet Union (FSU). Since then, theGovernment has been engaged in a massive effort to transform the centrally planned economy into amarket oriented economy. Substantial progress in the transition to a market economy has beenmade, most notably in the areas of price Box 1: Country Profie

reform, privatization and trade reform. After Lithuania is the southernmost and largest Baltic countrya decline in real GDP of about 55% between with a territory of 65,200 square miles. More than 801991 and 1993, real GDP turned around in percent of its population of 3.7 million are of Lithuani-1994, when it is estimated to have increased an origin, and about 600,000 people live in the capital,by about 1.5 percent.' The decline in output Vilnius. Lithuania lies on the eastern shore of the Baltichas not led to a rapid increase in open Sea and borders Latvia to the north, Belarus to the east,unemployment; enterprises have relied and Poland and Russia's Kaliningrad region to theincreasingly on unpaid leave and shorter south. Lithuania has a variety of natural resources butworking hours. Real wages declined no significant domestic source for its sizable fuel needs.dramatically, although they have recently The climate is cold, with a mean temperature of aboutbegun to recover. With the establishment of 0° Centigrade (32 degrees Fahrenheit) during a longa currency board in April 1994, the national heating season, lasting from mid October to mid April.

currency, the Litas, which was introduced in June/July 1993, has been fixed at an initiallyundervalued exchange rate (1:4 to the US$). Inflation has slowed down over the past three years(1 993: 410 %; 1994: 72 %; 1995: 39% 2) yet remains relatively high. Economic recovery continuedin 1995

1.2 Lithuania's economic reform program has been supported by two stand-by agreementswith the IMF (October 1992 and October 1993) and a US$ 60 million Rehabilitation Loan from theBank which became effective in October 1992. Bank projects amounting to US$ 160.5 million havebeen approved for Lithuania, US$ 60.5 million of which have been disbursed.

B. THE ENERGY AND HEAT1NG SECTOR IN LrTHUANIA

Energv Sector Background

1.3 Although poor in primary energy sources, Lithuania was chosen by Soviet planners as aregional energy production center because of the country's high technical competence. The legacyof this policy, in addition to a highly energy-intensive economy, is an energy industry with thecapacity to supply a region substantially larger than the country itself, yet with a nearly totaldependence on imported fuels and vulnerability to supply disruptions from the FSU. The sector isfurther characterized by inefficient energy production and consumption, and high reliance on anuclear power generation plant. Import prices for gas and crude oil are negotiated betweensuppliers and buyers, have been increasing dramatically, and are now close to world market levels.

I The Lithuanian Government's published national accounts are recognized to underestimate GDP, as they do notfully capture the rapidly growing private economy nor the parallel economy.

2 For 1993,1994 and 1995 (IMF). IMF projections are: 1996: 23%; 1997: 20%; 1998: 15%; 1999: 11%, 2000:9%.

- 2 -

With the important exception of heating, energy prices in Lithuania generally reflect full costrecovery. In the case of residential heating, it is estimated that about 60%-70% of the cost isrecovered from consumers.

1.4 Energy consumption in Lithuania includes a share of 20% for space and domestic waterheating, which for urban households and commercial users is generated and delivered mostly bydistrict heating (DH) companies. The rather high share of energy consumption used for spaceheating is attributable to inefficiencies on both the supply and demand sides of the system. Becauseof overall district heating system inefficiencies, reductions in demand would theoretically permitgreatly reduced fuel consumption at central boilers. However, impediments in the supply systemmust be overcome for this benefit to be fully realized. Inefficiencies on the supply side derive fromthe organization of the energy sector in general as well as from technical problems with design,installation, and operations and maintenance. While these are being addressed (see paras. 1.16 and1.22) they are complemented by demand side activities such as this Energy Efficiency/Housing Pilotproject.

Residential Heating

1.5 The supply side for residential heating is characterized by a general reliance on inefficientDH systems that are overwhelmingly - about 70% - based on heat-only boilers. The LithuanianPower Corporation (LPC)3 estimates that 60% to 80% of urban households are connected to the DHsystems. Others are on "block" and individual heating systems. As in most other Soviet-designedsystems, consumers in buildings connected to the DH system cannot control temperature and flowinto their respective buildings' sub-stations and the DH and block systems' design limit thefeasibility of metering consumption individually (per dwelling unit).

1.6 On the demand side, the thermal efficiency of housing is very low by European standards.The most recent Soviet norms (1984-1987) permitted heat transmission values more than twicethose of Germany and Great Britain, and about five times those of Sweden for the same period.Pre-1979 Soviet norms were considerably less demanding. In addition, detailed design andinstallation of building assemblies could not always in practice meet the established norms, andperformance has continued to deteriorate over time because of poor or absent maintenance. Theresult is a high energy intensity for space heating in Lithuanian residential buildings (in 1990,roughly 200 KJ/sqm/degree-day, compared to 130 in the USA and 80 in Sweden). Seriously under-heated apartments and wide thermal imbalances between different parts of the same buildingthreaten occupant health. According to a survey conducted in spring 1995, 43% of householdsconsidered their apartments cold during the winter of 1994/95. One out of four households usedsupplementary heating equipment to compensate for low temperatures provided by the districtheating networks (normally maximum 18° Centigrade, or 64 degrees Fahrenheit); electrical spaceheaters are most popular. Rising subsidies to the district heating sector (2.4% of the nationalbudget in 1995) are putting increasing pressure on Government resources.

3 Production and distribution of electricity and heat is the responsibility of LPC which has a monopoly in theenergy sector in Lithuania. Until November 1995, LPC operated under the name Lithuanian State Power System (LSPS).In an attempt to break up the inherited LPC monopoly in the energy sector following independence, the Governmentseparated the distribution and district heating companies from LPC. However, true financial separation was nevercomplete!y implemented and these activities were re-consolidated under LPC in the third quarter of 1993. Although LPCis now a separate legal entity, its managerial and financial independence is limited as the MOE has explicit powers overits operations, such as fixing its annual income.

- 3 -

1.7 Consumer Prices. Heating and hot water tariffs are established by the Energy PricingCommittee and are based on a progressive system involving the floor area per apartment and thenumber of persons in the household respectively. Recovery of heating costs from households iscurrently estimated to be about 60%-70% of total costs. Further tariff increases are planned, withthe aim of raising revenues up to full cost recovery by 1997. Prices increased by more than 40% inreal terms in autumn 1995 (from 1.15 LT/sqm to 2.40 LT/sqm). As heat prices rise to meeteconomic levels, the thermal inefficiency of Lithuanian buildings is creating affordability problemsfor consumers. In 1994, an estimated 35,000 Lithuanian households (approximately 3.7% of allhouseholds) failed to pay their heating bills. However, it is estimated that only one quarter of thosehouseholds could not afford to pay their bills, while others deliberately withheld payment for'tactical' reasons (for more details, see Annex 1). In general, however, the payment performanceof private households appears to be relatively good. Arrears are mainly associated with the heatingseason, as households generally pay their outstanding bills during the summer months. Accordingto a survey conducted in spring 1995, households dedicate, over one year, a rather high portion, onaverage 11 %, of their monthly income to energy expenditures; in the winter this figure increases to15%. In 1996, this portion of the monthly income is estimated to be about 17% and 23%respectively, and expected to increase to about 22% and 27% respectively as the DH companiesmove to full cost recovery in the near future.

1 .8 Potential for and interest in housing energy efficiency initiatives is large in Lithuania andfavored by the Govermnent's progressively conservative energy pricing policy. According to ahousehold survey conducted in spring 1995, public attitudes towards energy savings activities arepositive among the majority of urban households, largely irrespective of income or socio-economicgrouping (see Annex 1). Most households already engage in some kind of energy saving behavior.They turn off the lights in unoccupied rooms (about 90% of the households) and perceive thatinsulating their homes will reduce their energy bills (about 60% of the respondents). People bothbelieve that insulation would reduce their heating bill and would like to insulate their homes (about75 % of surveyed households agreed with both statements). Yet, more than half of the respondentsdid not know how to save energy or where they could get advice on energy saving matters. Ingeneral, richer households appear to be better informed about energy savings possibilities.However, larger insulation or energy efficiency rehabilitation measures - e.g. the rehabilitation ofan apartment building's heating system - appear unthinkable to most (see also. para. 1.13 below).

1.9 Subsidies for residential heating. The Government has established an indirect subsidyprogram to reduce the burden of heat and hot water costs for needy households, subject to certaineligibility criteria. Heat billings that exceed 15% of household income (and, in addition, hot waterbillings that exceed 5% of household income) can be deducted from the bill and not paid; districtheating companies may claim reimbursement for the difference from the respective municipality (seeAnniex 2 for details of design and operation of the subsidy). Approximately 30% of urbanhouseholds are estimated to be eligible for this subsidy.4 While the heating subsidy has certainadvantages - it ensures the use of the implicit income transfer for the purpose it has been assignedand the transaction costs involved in its administration are minimal - there are several serious flaws

4 According to a representative household survey conducted during spring 1995 about 8% of urban householdsbenefited from this program during the heating season 1994/1995. Official data on the number of households eligible forthe program during the heating season 1995/1996, when higher tariffs came into effect, are not yet available. Informationcollected from the Vilnius DH company and the Vilnius municipality suggests that during October through December,1995, more than 1/3 of all households in Vilnius were eligible for the subsidy and received, effectively, an average of 23LT/month.

- 4 -

in its design and operation: (a) it appears to benefit a population group much larger than thatcomprising poor households, as municipalities have no means of verifying the correctness of incomestatements on which eligibility depends; (b) it excludes most of the rural population - where povertyindices are higher - as well as owners of single family homes since it only applies to dwellingsconnected to the DH system or to local boilers that operate with metered natural gas; (c) it issuspected that the district heating companies may in many cases not be able to claim reimbursementfrom the municipalities and will have to absorb the cost of the subsidy themselves; and (d) as itoperates on a percentage basis it may remove, to some extent, the incentive for eligible householdsto save energy. Irrespective of the subsidy, however, households are likely to be interested inenergy savings measures, given the unclear future of the heating subsidy itself and the use ofsupplementary energy sources which are not eligible for the subsidy.

1.10 Technologies, materials and contracting for energy conservation. Practical farniliaritywith new energy conservation methods, materials and devices is embryonic in Lithuania but isgrowing. Theoretical knowledge is substantial, however, and provides a good base for rapiddevelopment of practical, marketable solutions. Engineering practice, developed under the Sovietsystem where norms were prescriptive, needs some further development before it is comparable tothat of Western Europe, where architects and engineers are more used to meeting performancespecifications. Although new to the field, several local companies are eager to install energy-related materials and devices. Foreign companies are beginning to be active and are seekingpartnerships with Lithuanian companies, and a large number of local agents for foreign buildingmaterials are registered with Government. Local manufacturing of European and Americanmaterials under license and assemblies is beginning, and some local enterprises are endeavoring tocompete by developing their own materials, at much lower prices. Several foreign suppliers aretraining local companies in the selection and installation of their products. These private sectoractivities are already beginning to change the approach to energy technology in Lithuania.

C. THE HOUSING SECTOR IN LITHUANIA

1.11 Ownership and maintenance. Privatization of housing has been a very successful processin Lithuania, but has created new responsibilities that homeowners have had difficulty meeting. By1995, 87% of the total stock of dwellings had been transferred to private owners; in urban areas,the share of private ownership exceeds 90%. Of these privatized dwellings, more than 80% areapartments in multi-family buildings where the new ownership situation has created severe problemsfor the organization of housing maintenance and improvements. Apartment owners now jointlyown and share responsibility for comnmon areas such as the basement, the central heating system,the staircase, and the roof. Very little maintenance or improvement activities take place as neitherhabit nor law obliges homeowners to take charge of their joint property. In the midst of low orfalling incomes, rising energy prices have directed the attention of many homeowners to residentialenergy efficiency improvements in their apartments, such as simple window stripping or balconyglazing.

1.12 Collective activities among homeowners (through building level homeowners'associations) have become the only means for undertaking certain crucial improvements or largermaintenance work in common areas of apartment buildings such as the renovation of the heatingsystem, or the repair of windows, staircases and roof. Indeed, homeowners' associations have,since 1991, been formed in some buildings for the purpose of organizing small maintenanceactivities (e.g. staircase cleaning) and repairs. While the general attitude towards homeowners'

- 5 -

associations appears very positive, at present only about 10% of all homeowners are actuallyorganized in such associations. The majority of homeowners still relies solely on municipal housingmaintenance companies which only perform very limited services, corresponding to a small monthlyfee.

1.13 Major repair or maintenance work in apartment buildings is hardly ever undertaken atthe moment, not even where homeowners' associations are established and have taken over theorganization of housing maintenance. The reasons for this have to do with the legal frameworkwithin which the associations operate and which, until recently, did not encourage maintenance; tochange this the Law on Homeowners' Associations was passed by parliament only in spring 1995(see para. 1. 19 below). Also, and equally important, collectively planned building improvements -

in contrast to simple maintenance - still appear unthinkable to most homeowners. Detailedbeneficiary studies (see Annex 1) have shown that the reluctance to undertake such activities stemsfrom the fact that: (a) homeowners would need to learn to plan and undertake improvements bythemselves rather than rely on the municipality or some state agency, as they did for many years;(b) homeowners in apartment buildings would have to organize collective decision-making withinthe building, through their associations; and (c) the lack of reliable information on all aspects ofhousing maintenance and financing, and the misunderstanding or misinterpretation of existinginformation, have made many households risk-averse and hinders cooperation among them. Inaddition, homeowners lack financial means and access to long-term financing to make suchimprovements affordable and attractive.

1.14 Adequacy of the housing stock. Creating an appropriate framework for housingimprovements and maintenance in order to achieve greater energy efficiency and to set the rightincentives is crucial in the Lithuanian context since the housing stock is badly maintained to begin withand limited in relation to the overall demand. Owing to poor maintenance or inadequate repairs, eachyear more of the housing stock becomes unusable. The remaining housing stock is hardly sufficient forthe existing population. The average urban apartment is 53.4 sqm in area and is inhabited by 2.9individuals. Often, two or more households share the same flat (for details, see Annex 1). Newconstruction activity has fallen dramatically (see para. I in Section B of Annex 3): prior toindependence, the construction industry in Lithuania included nearly 300 construction and assemblyfirms that employed up to 12 percent of the nation's labor force and generated about 20% of totalGNP. By 1993, however, employment in the sector had dropped to less than 5% of the labor forceand the contribution to GNP had fallen to 7.4 %. Meanwhile, private funds are scarce and long termcredits for construction are unavailable, apart from limited Government programs.

I.15 Distortions in the housing market. Transactions in the slowly emerging rental and housingmarket are still rare, and homeowners appear to have little sense of the economic value of their property.Income differentials between the households within any particular apartment building are unusually highas the housing allocation system during Soviet times functioned according to queues or wait lists ratherthan price-determined demand. To date, residential mobility has been too limited to have created aneconomically efficient allocation of housing, i.e. such that the quality and the size of an apartment or ahouse corresponds to the preference or the income of the owner. While Government initiatives, assistedby donor support (see para. 1.21), are slowly emerging, so far, the absence of an effective urbancadastre and mortgage system have impeded interactions otherwise typical of a housing market, such asactive involvement of the banking sector, and the availability of funds for construction and home buyingor renovation.

- 6 -

D. GOVERNMENT POLICIES AND PROGRAMS

1.16 Strategy in the energy sector. The Ministry of Energy (MOE) is currently the primarypolicy-making and regulatory body for the energy sector. Based on the National Energy Strategy(July, 1993, by Government with EU Phare assistance), the Conference Communique on theRestructuring of the Lithuania Energy Sector (November, 1993), the Bank's Energy Sector Review(May, 1994), and the Public Investment Conference (May, 1995), the objectives agreed upon withthe Lithuanian authorites encompass: (a) security of energy supply through regional cooperationand development of alternative indigenous sources; (b) economic sustainability of sector reform,through private sector development and market discipline, cost recovery, and incentives forconservation; and (c) energy efficiency and environmental protection, through improvement ofthermal energy efficiency and other measures.

1.17 Initiatives in residential heating. Complementing its supply side efforts, theGovernment, through the Ministry of Energy, has recently begun to formulate a strategy forimproving energy efficiency on the demand side, and to draft policies directed specifically atimproving heating efficiency in housing. Initiatives include promotion of building-level heat meterinstallations - with 80% of the equipment cost being subsidized by the Government - andcorresponding billing for heat according to actual consumption. Other incentives include discountson heating bills for upgrades of building-level heating equipment. It is estimated that about 50% ofLithuania's urban households have installed building heat meters to date; anecdotal evidencesuggests that this has led to increased consumer awareness, and in some cases direct intervention bybuilding owners to reduce the flow from the DH system by controlling substation valves manually.

1I.18 Policies fostering private initiative in the housing sector. Following the early and extensiveprivatization, the Government has taken a number of measures to foster private initiative in the sector.The Homeowners' Association Law (see para 1. 19 below) is an important first step in this direction, aswas the establishment, in 1994, of the Credit Fund for Renovation and Insulation of Houses andApartments (CFRI) that was managed through an interministerial conimittee to allocate funds for thesupport of energy efficiency and housing maintenance. The CFRI was recently reorganized as the'Housing Credit Foundation' (HCF) and is currently the only source of long-term lending for suchactivities in Lithuania. However, until July 1995, the Fund Decree required households to mortgagetheir apartments when borrowing for residential rehabilitation. As a consequence, homeowners'associations were not able to get access to these funds as it proved impossible for an association toconvince each and every homeowner in a building to mortgage his/her apartment. In order to makelending for energy efficiency improvements feasible for homeowners' associations, the Fund Decreewas modified in August 1995 with respect to the requirement that borrowers mortgage theirproperty when taking a loan. Now, borrowing is possible without mortgaging, however at a higherinterest rate. For FY 1996, LT 16 million (representing 0.26% of the central Government budget) wasassigned to CFRI (now: HCF) in the national budget of which LT 6 million has been allocated tosupport the construction and insulation industry. As part of this effort, the Ministry of Constructionand Urban Development (MCUD) is engaged in distributing information to private householdsconcerning the opportunities for residential energy efficiency improvements, including newspaperarticles, te;,vision programs, other publications, and seminars by foreign consultants in energyefficiency technology, funded by bilateral donors.

I.19 The frameworkfor collective action in multi-family buildings. To correct the perceiveddeficiencies of the privatization law with respect to building maintenance, the Parliament, in February1995, adopted the Homeowners' Association Law (Bendrija Law). In May 1995 corresponding

- 7 -

implementation regulations were passed. The law enshrines the homeowners' association (HOA) as thesingle future institution to take care of housing maintenance and all management issues related tocommon areas within multi-family buildings. The association is given the right to levy charges on allhomeowners in the building, be they members of the association or not, for the purpose of financingmaintenance and repair work agreed to by a majority of association members. In order to establish anassociation, only 50% of the apartment owners in a building have to be present and come to amajority decision (if the quorum is not obtained, only 25% have to be present at a meeting twoweeks later). Thereafter, decisions on building maintenance are taken at association meetings,requiring a quorum of 50% of members (or 25% two weeks later) and a simple majority of thosepresent. Homeowners, whether or not they are members, have to settle all accounts with theassociation before selling their apartmnent unless they are insolvent in wvhich case wvhen selling his/herapartment, the accounts must be settled by the new owner. Whether or not membership in theassociation is compulsory or automatic appears unclear in the law. However, according to theLithuanian Constitution, forced membership in an association is not permitted in Lithuania. MCUDand MOF are investigating the relationship between the Bendrija Law and the Constitution in thisrespect. At negotiations, it was agreed that a legal opinion would be provided to the Bank from alawyer in MOF or MCUD stating that, in their opinion, the HOA Law does not conflict withArticle 35 of the Constitution so as to adversely affect project implementation, and setting out thelegal arguments upon which this opinion is based. It was also agreed that, if necessary, theeligibility criteria for participating HOAs could be amended, as required, or the Governrment couldraise the question before the Constitutional Court.

1.20 Policies fostering new construction. Since 1992, Lithuania has had a Government programnof subsidized construction financing called "Bustas" (Housing) program which is a replacement of aprogram that during FSU times provided long term loans for the establishment of housing cooperatives.Loans are currently given at 8% interest rate (5% up to 1995), for 25 years, with 3 years of grace, tocover 80%-90% of the investments. The program is expensive to society as it is covering the gapbetween 8% (or lower) and the market interest rate which, for short-term loans, currently varies between20% and 30%. In 1994, the total housing production in Lithuania was 8,000 dwellings, including 1,700single family homes, of which 60% were financed through the "Bustas" program. The subsidies arepaid from the General Support Fund (Resolution 272 of April 19, 1993) formed from revenues fromprivatization of housing, sale of land, sale of municipal dwelling premises, and sale of dwellingsbelonging to enterprises and state funds. The budget impact of the "Bustas" program amounts toapproximately 3.4% of the state (central Government) budget. However, the Government intends toreorient the scope and targeting of "Bustas". As of 1995, loans are only provided for the completion ofunfinished apartment buildings. In the future, the program may be re-oriented towards social housing.The Energy Efficiency/Housing Pilot Project will address these issues through its InstitutionalStrengthening component (see paras. 2.9 and 2.11).

1.21 Donor activities. EU Phare and several bilateral donors are actively encouraging energyefficiency policies and programs in the housing sector. The Energy Agency in the Ministry ofEnergy has opened an Energy Information Center in Vilnius, partly funded by EU Phare, todisseminate information and provide advice on energy efficiency, and there are plans to establish anenergy fund for lending to industry for energy efficiency improvements at the end of 1996. TheGerman and Nordic Governments have financed renovation and insulation of a few apartmentbuildings for demonstration purposes, and Denmark is considering support for residential energyefficiency through export credits. MOE also works with EU Thermie in a program of informationdissemination. However, resources devoted to this program are limited. On the energy supplyside, local boilers have been upgraded in various municipalities with bilateral funding from

- 8 -

Denmark and Sweden. A land registration system is being developed with bilateral assistance fromSweden. Surveying of the whole country is expected to be completed in five years. EU Phare andUSAID support Government efforts to improve the mortgage system.

E. BANK STRATEGY AND EXPERIENCE

1.22 Bank strategy and projects. Restoring the immediate financial viability of the energysector, and achieving major efficiency gains through commercialization, institutional reform and,where feasible, privatization, are the two principal objectives of Bank strategy in the energy sector,as recommended in the Bank's Energy Sector Review (May, 1994), informally updated in May1995. Up to now, Bank energy-related projects in preparation or underway have concentrated onthe supply side: the Power Rehabilitation Project (US$26.4 million, effective since November 1995,for rehabilitation of the electricity system), the Klaipeda Geothermal Demonstration Project(US$5.9 million Bank loan and US$6.9 GEF Grant, not yet effective, for demonstrating thefeasibility of developing Lithuanian geothermal resources in supplying heat to DH systems), and aHeating Efficiency Project (scheduled for FY 1999, for rehabilitation of DH distribution systems inselected cities, pending decentralization of DH companies). These supply-side projects focus onrehabilitating parts of the existing thermal generation, electricity transmission and district heatingsystems in order to increase the efficiency of energy use, among other objectives. Other Bankprojects in Lithuania include a recently completed US$60 million Rehabilitation Loan, a US$7million Klaipeda Environment Loan, a US$25 million Enterprise & Financial Sector Loan, aUS$6.2 Siauliai Environment Loan (not yet effective), and a US$30 Private AgricultureDevelopment Loan (not yet effective). Implementation experience to date is limited largely to theRehabilitation Loan.

1.23 Bank experience in the housing sector is limited in FSU countries. No Bank-financedproject focusing on affordable energy efficiency rehabilitation by homeowners has been implemented todate in the sector. A proposed Russia Enterprise Housing Divestiture Project (Loan No. 4012) willaddress energy efficiency in residential buildings divested from formerly public enterprises that havebeen privatized or corporatized, but the apartments and houses are not owned by private householdsin this case. Work on residential energy efficiency improvement has also been undertaken in thepreparation phase of a proposed Estonia Housing Finance Development Project. A SloveniaEnvironment Project (Loan No. 8853) promotes lending to individual households to replace oldheating systems with more enviromnentally-friendly equipment. Here, environmental concerns were theoverriding reason for designing terms and conditions for final beneficiaries adequate to stimulatedemand. A significant number of bilaterally-financed pilot projects have been carried out in the Balticsduring the last few years, demonstrating energy efficiency measures that have payback periods of lessthan 5 years and achieve energy savings in apartment buildings of more than 30%.

1.24 Generally, the Bank's experience shows that performance in the housing sector depends onappropriate pricing, an enabling regulatory structure, and the early involvement of various stakeholders.The Poland Housing Project (Loan No. 3499) highlighted the importance of appropriateinstitutional, legal and banking arrangements. Bank studies in Russia and Hungary noted that, incountries that have achieved reasonable economic stabilization (e.g. Lithuania), developing housingmarkets provides significant benefits for the entire economy and helps to revive economic activity in adecentralized fashion.

- 9 -

F. RATIONALE FOR BANK INVOLVEMENT

1.25 A kev to addressing the most pressing problems in the housing sector in Lithuania ingeneral. and in residential energy consumption in particular, will be to encourage households toactively assume greater responsibility for their dwellings. Offering homeowners access to credit.adequate technical assistance and appropriate incentives can provide the initial learning experiencethat is needed in order to encourage private initiative to assume responsibility for residential energyefficiencv improvements and housing maintenance. It would complement the Bank's efforts tosustain supply side policies as demand side energy efficiency improvements would ease theimplementation of supply side price adjustments. Fostering private initiative in order to improveresidential energy efficiency and, through this, housing maintenance and improvements, is an areathat has been neglected by other donors and investors due to the social issues mentioned above andthe conmplexitv of the necessary institutional reform. It appears therefore an appropriate niche for afirst Bank-financed pilot project in the housing sector.

1.26 Directly or indirectly, this project addresses all four development priorities formulated inthe Country Assistance Strategy for Lithuania, as discussed by the Executive Directors during thepresentation of the Klaipeda Environment Project on December 8, 1994 (Bank Report No. 13677-LT):

(a) Maintenance and development of physical infrastructure: Although housing represents only alimitcd part of Lithuania's physical infrastructure, it has a very important social dimension that iscritical In transition economies Despite the sector's need for maintenance and development.Governmcnt resources are hardly available. Thus, stimulating private initiative in housing will bethc k-ey for improving it. While homeowners have no experience in assuming responsibility fortheir d\eclhngs. thc opportunity to improve residential energy efficiency, and to save on theircncrgn bill, w ll allow them to learn about, and change their attitudes towards, private initiative inhousing in genieral and the efficient use of energy in particular. Without intervention, this processis likcl\ to be delayed and buildings will further deteriorate, making future investments inmaintenance and rchabilitation more costlv. Through public information activities that are partof this projcct, the opportunity to learn about the tangible pay-off of private initiative in housingw.-ill be given to an audience much larger than the direct beneficiaries and a critical demonstrationcffect \%ill havc been created.

(b) IReorientation ol/the energy sector to achieve greater energy efficiency: The project's demandside orentation will complement the Bank's efforts to assist the GOL in reforming the supplyside (see para 1 22). Using a grass-roots approach, the project will raise awareness of the scopefor energy efficiency improvements, thereby increasing public support for improving efficiency inthe production units as well as in the distribution networks. Furthermore, stimulating demandside energy efficiency improvements will facilitate the introduction of full cost-recovery, forheating, which is an essential part of the policy reform needed in the energy sector.

(c) Incentives tbr private sector development. The proposed project will foster energy efficiencyactivities on a small scale, the size of each credit being limited by a building's inhabitants' abilityto pay back a loan. As associations are expected to undertake investments suited to theirmembers' incomes, most rehabilitation measures will be relatively small. Small and mediumsized enterprises will gain access to a new set of customers as homeowners' associations getaccess to funds for financing engineering and construction products and services. At the sametime, training activities undertaken and supported by the proposed project will reduce information

- 10-

asymmetry and perceived risks of contracting in the markets for housing rehabilitation andmaintenance, as well as energy efficiency engineering.

(d! Reform of the financial sector. Lending for residential energy efficiency improvements under theproposed project will make use of qualified commercial banks. Banks interested in participatingin the project view their participation as an introduction to the concept of, and the practical issuesinvolved in, long-tern lending for housing in general, and in lending to homeowners' associationsin particular. As homeowners' associations are expected to become one of the major clients forborrowing for housing rehabilitation, and given the degree of privatization in the housing sector,the proposed project will support and speed up the financial sector's involvement in this sector.

-11 -

II. THE PROJECT

A. PROJECT GENESIS

2. 1 The Government of Lithuania requested, in autumn of 1994, Bank assistance in thepreparation of a project addressing demand side energy efficiency issues and regards this project as apriority. Project preparation was carried out jointly with the Ministry of Construction and UrbanDevelopment (MCUD) and the Ministry of Finance (MOF). Other Government agencies, such as theMinistry of Energy, District Heating companies and various municipalities were consulted. A socialassessment was undertaken, based on a survey of 2,000 households in spring 1995, also, a test activitywith four homeowners' associations was undertaken during summer and fall of 1995. Hearings andmeetings were held with homeowners and municipal officials in various cities. Discussions were heldwith a number of institutions in the commercial banking sector. For demonstration purposes, energyefficiency rehabilitations of schools were included in the project, and the municipalities of Vilnius andKaunas were selected due to their size, commitment to the objectives, and financial capacity.

B. OBJECTIVES

2.2 This project is a pilot and demonstration effort that aims to: (i) support and enable privateinitiative to improve residential energy efficiency; (ii) support public initiative in improving energyefficiency in schools; and (iii) support the implementation of Government policies to sustain theprivatization of housing, enabling increased private initiative in housing maintenance in general. Theseobjectives will be achieved through:

(a) promoting and facilitating energy efficiency rehabilitation of residential buildings, by providingloans for technically and economically attractive packages of measures which are affordable to abroad range of citizens;

(b) promoting private initiative in housing and energy efficiency, by supporting the organization ofhomeowners into functioning associations able to take charge of their buildings and housingmaintenance functions;

(c) supporting municipalities in the energy efficiency rehabilitation of schools for demonstrationpurposes;

(d) developing the use of private energy consultants for housing retrofits; and

(e) introducing the commercial banking sector to the concept of long-term lending for housing andhousing improvements.

2.3 The project is a pilot effort since it is still unclear which institutional and financialmechanisms and energy investments will prove to be most successful in achieving the aforementionedobjectives. Foremost, the willingness and ability of homeowners to take charge of their property needsto be explored, including the specific needs for assistance, training, and public information. Secondly,the functioning of homeowners' associations as viable partners in the housing market is as of yetunknown. In particular, collateral and enforcement mechanisms that are involved in lending tohomeowners' associations need to be tested. Thirdly, and from a more technical point of view, the pilotproject is expected to demonstrate which energy efficiency improvements will generate the highestsavings under the specific Lithuanian conditions. Also, arrangements necessary for a credit facility forlong term lending to homeowners and their associations, administered through the commercial

- 12 -

banking sector, will be tested. Testing the instruments and arrangements in these four areas, the pilotwould lay the foundation for potential future operations which would involve strengthening of., amongothers, a housing finance system, property rights and land registration systems, housingmaintenance services, building codes, and the construction and building materials industries.

2.4 The project also is a demonstration effort since the changes in the behavior of homeownersthat will be required for successfully reforming the housing sector in Lithuania will have to involve anextensive leaming process. Given the widespread mistrust towards available information, learning fromexamples wvill be most effective. The project will generate such examples and thereby reliableinformation about the experiences of those who have - on a trial basis - taken charge of their buildingsand implemented energy efficiency measures. Additional information on the amount of energy that canbe saved through rehabilitation measures will be generated through upgrading selected school buildingsand carefully monitoring energy consumption. The extent of the unclarities in the housing market, thelack of reliable information on energy savings, and the significance of both for the behavior ofhomeowners, were confirmed by a test activity that was undertaken during project preparation (see formore details on the test activity, and the lessons learned, Annex I -B) .

C. PROJECT DESCRIPTION

2.5 The proposed project would consist of the following three components:

(a) credit for residential energy efficiency rehabilitation, with incentives for homeowners toencourage participation;

(b) energy efficiency rehabilitation of schools in selected municipalities;

(c) institutional development and strengthening, to be achieved through technical assistance that will(i) facilitate project implementation, including setting up advisory centers for homeowners andhomeowners' associations, and (ii) support further policy reform in demand side energy use andthe energy and housing sectors in general.

Component I: Residential Energry Efficiency Rehabilitation (US$ 15.4 million of which Bank loanUS$ 8.2 million)

2.6 The project will channel US$13.8 million (excluding borrower downpayments) throughcommercial banks to approximately 200 - 300 homeowners' associations in multi-family dwellings,corresponding to an estimated 14,000 homeowners, for residential energy efficiency improvements (e.g.installation of new heating devices, rehabilitation of roofs and windows, and installation of additionalinsulation). For demonstration purposes, single family homeowners will also be eligible as borrowers.The share of investments in single family homes would, however, initially be limited to 10% of theamount directed towards residential energy efficiency improvements. Individual apartment owners willbe eligible as borrowers only if the association in their building has taken a loan for rehabilitation ofcommon areas. Investments for which a loan can be taken will have to be directly related to energyconservation. Repairs associated with the correction of urgent structural defects, such as deterioratingroofs, will also be supported when related to energy savings measures. Investments are expected to beof three types: (a) mechanical infrastructure (e.g. heating equipment, pipes); (b) minorrepair/refurbishing work such as window and door repair and tightening; and (c) major constructionworks such as roof, external insulation and new windows. Investments per apartment building areexpected to range from US$20,000 to US$ 150,000. The range of expected cost per dwelling unit isfrom US$ 100 to $3,000. Packages of eligible measures are expected to result in a reduction of energy

- 13 -

consumption by up to 50%. (See Annex 3 for technical details, estimated savings and payback times).They are of the type already undertaken in Lithuania and tested in Lithuania and elsewhere. Localconsultants and contractors will carry out most of the design and construction work with technicalassistance targeted at strengthening areas relating to energy efficiency analysis and design, as well ascompetitive procurement and management of civil works. The allocation of project funds between thethree project components, as well as the portion allocated for single family homes, would be adjustedduring project implementation subject to agreement between the Government and the Bank. Eligibilitycriteria for borrowers and investments (sub-projects) eligible for financing under the project werediscussed during negotiations and are included in Annex 7; they will also be referred to in the OperatingProcedures (OP). A condition for loan effectiveness is that final Operating Procedures acceptable to theBank have been adopted by the Government (see in para. 6.2(d)).

2.7 Incentivesfor homeowners to participate. Rising energy bills and the continuing decay ofresidential buildings constitute an important incentive for homeowners to undertake rehabilitation oftheir buildings, Yet, detailed beneficiary studies conclude that an incentive in the form of a transitionalGovernment contribution to the repayments of the loans will be required during the beginning of projectimplementation. The surveys suggest that even though homeowners are very interested in energysavings measures they have not yet engaged in such activities due to the substantial transaction costsinvolved in organizing such collective actions, and the social learning cost of moving from a 50-yeartradition of relying on the Government to take care of housing. Mistrust and apprehension amonghouseholds concerning the reliability of available information, including information about the technicaland financial feasibility of solutions (i.e., energy savings to be expected from specific rehabilitationmeasures), future energy costs, banking institutions, and borrower interest rates, increase their perceivedrisk of such activities. While setting transparent financial incentives for homeowners and theirassociations to engage in energy efficiency rehabilitation, these activities will have to be accompaniedbv a significant public information program (see para. 2.10(c)). Justification of the Governmentcontribution itself (described in para. 3.14; also see Annex 4), and its size, will be reconsidered semi-annually during project implementation.

Component If: Energy Efficiency Rehabilitation of Schoolss (US$ 2.3 million of which Bank loanUS$ 1.8 million)

2 8 The project will channel US$2.3 million to selected municipalities (including contributions ofmunicipalities) for energy efficiency rehabilitation in 10-15 school buildings in those municipalities,through onlending by the Ministry of Finance to the respective local governments. These investmentswill be directly related to energy conservation, and may include related repairs to correct urgentstructural defects in the buildings, such as deteriorating roofs. Eligible measures are of the type alreadytested in Lithuania and elsewhere. Local consultants and contractors will carry out most of the designand construction work, with technical assistance targeted at strengthening areas relating to energyefficiency analysis and design, as well as competitive procurement and management of civil works. Theaverage expected cost per building is $200,000 (see Annex 3 for technical details). The Municipalitiesof Vilnius and Kaunas have been selected by the Government for this demonstration component becauseof their size, willingness to support the project objectives, and their financial capacity.

5 Hospitals were also considered but were not included since this would have added implementation complexity tothe project (under central or district government jurisdiction).

- 14 -

Component III: Institutional Strengthening and Technical Assistance (US$ 2.9 million)

2.9 The project will provide an investment of US$2.9 million to support institutional developmentin two areas and institutional strengthening in several others through specifically designed technicalassistance components (see Annex 5 for more details)'

(a) Organizational supportfor homeowners and homeowners 'associations may be providedthrough advisory centers that will be established initially in two major cities (Vilnius, Kaunas).Through these centers, homeowners and their associations will have access to organizational,legal, financial and informational advice needed to form and operate functioning associations.The centers will bc run and organized through local Associations of Homeowners 'Associations(AHA) which are already in the process of being established, and which will be supported tocontinue to do so through the provision of Technical Assistance. These centers will initially beproject-financed but will be set up so that they can evolve into self-supporting non-profitorganizations, based on membership contributions and fee-for-service arrangements.

(b) Technical and engineering advice will be provided to homeowners and their associations whoconsidler energy efficiency rehabilitation of their homes. Such advice will initially be available onan ad-hoc basis and should later be arranged through advisory centers as described under (a).The provision of adequate advice to homeowners and homeowners' associations, inorganizational and financial matters as well as concerning technical and engineering issues, willbe a dated covenant in the loan agreement, specifying that the Government will have to provideevidence for the provision of such support by May 1, 1997 (see para. 6. I(e)).

2.10 Further institutional strengthening will be needed in order to: (a) support projectimplementation, and (b) facilitate policy reform in key areas such as housing policy and the redirectionof housing subsidies to the needy (see para. 2.12). Activities to be financed for project implementationinclude:

(a) technical monitoring of energy savings;(b) before and after beneficiary assessment;(c) public information programs regarding housing management and the merits of energy

efficiency/conservation, incorporating results and insights from (a) and (b);(d) assistance to participating commercial banks regarding their evaluation of energy efficiency

rehabilitation proposals, and training in long-term lending for these and other interested banks;(e) support of the local consulting, construction and building materials industries through training for

Lithuanian energy consultants (new technologies, new methodologies, relationships withmanufacturers, contractors, clients),

(f) operational costs of the project implementation unit.

2.11 Policy studies. Recommendations for future Government assistance to the housing sector,and an action plan to refocus and target the existing assistance to the neediest in society, will beprovided through detailed policy studies as part of technical assistance. These studies will address threerelated policy areas: (a) Government assistance to the housing sector in general; (b) the existingresidential heating subsidy program; and (c) promotion of energy efficiency rehabilitation of residentialbuildings. The three components may be undertaken as separate but coordinated studies. Finalizingthese studies is a dated covenant in the Loan Agreement, specifying October 1, 1997 as the completion

- 15 -

date for components (a) and (b)(see para. 6.1(g)) and October 1, 1998 as completion date forcomponent (c) (see para. 6. 1(h)).

2.12 Study component (a) is expected to: (i) define the needs of different groups in the society interms of housing support and housing finance instruments, with particular emphasis on low incomehouseholds; (ii) assess the strengths and weaknesses of housing finance mechanisms in the private sectorand the corresponding prospects in the medium term; (iii) evaluate the existing Government subsidy andassistance programs to the housing sector, in particular the "Bustas" program, in terms of impact onbeneficiaries and budgetary implications; (iv) define and evaluate different possible approaches forGovernment to meet the needs of the poorest groups in the society regarding housing, taking intoconsideration general social security policy and budgetary implications; (v) recommend appropriatepolicies and strategies for Government assistance program(s) in the housing sector, with particularemphasis on financial assistance programs and social housing; and (vi) define a detailed action plan forthe implementation of the recommended policy and strategies, including organizational, financial andlegal requirements, in particular a long-term action plan to redirect Government assistance in thehousing sector to the neediest in the society.

2.13 Study component (b) will include: (i) a review of the existing residential heating subsidyprogram as heating tariffs increase, in particular its targeting, budgetary implications, and impact onincentives for energy conservation; and (ii) formulation of recommendations for change. Through studycomponent (c) regarding residential energy efficiency, the consultant is expected to: (i) formulatepossible policies for a larger program for the promotion of energy efficiency rehabilitation, includingpolicies for institutional mechanisms; (ii) prepare a strategy for future Government assistance, if any,for residential energy efficiency rehabilitation, and a strategy for the eventual phase out of the revolvingfund (RF) established under this project (see para. 3.16) and the Project Coordination Unit (PCU).

2.14 In addition, the participating municipalities will, with consulting assistance, each undertake astudy of their housing maintenance organizations with recommendations to be discussed and agreed withthe Bank, including options to reorient, reorganize, and/or privatize these maintenance operations.Finalizing these studies will be a dated covenant in the Loan Agreement, specifying October 1, 1997 asthe completion date for the studies (see para. 6.1 (i)).

- 16 -

III. PROJECT COSTS AND FINANCIAL ASPECTS

A. PROJECT COST ESTIMATES

3.1 Total project cost is estimated to be US$ 20.6 million equivalent, including applicable localtaxes and duties. The project costs are summarized in Table 3.1 (all estimates are in US dollar millionequivalcnts). Base costs are shown in September 1995 prices. As the loan would be considered a sectoror subsector loan, physical contingencies are not calculated. Price contingencies have been estimatedusing Bank international inflation estimates which are as follows: 1996: 3.3%; 1997: 2.3%; 1998:2.5%. 1998 -2001: 2.5% p.a..

Table 3. 1: Project Costs

(Millions of US$)a!/ % %Base

Foreign Cost

Local Foreign Totalb /_

1. Residential Rehabilitation 9.0 6.1 15.1 40 7511. Rehabilitation of Schools 1.2 1.0 2.2 45 11Ill. Institutional Development and

Technical Assistance- Technical Assistance 0.9 1.7 2.6 65 13- Recurrent Costs (PCU) 0.2 - 0.2 - I

Base Costs (in September 1995 prices) 11.3 8.8 20.1 44 100Price Contingencies 0.3 0.2 0.5 40 3

Total Project Costs 11.6 9.0 20.6 44 103a_/ The relation between local and foreign costs may change depending on the local inflation and exchange rate

movements.b_I Primarily imported heating equipment and roof material.

B. FINANCING PLAN

3.2 A Bank loan of US$10.0 million will finance 49% of total project cost, or 81% of the foreigncosts and 23% of local costs. The loan will be repayable in 20 years including a 5 years grace period,at standard LIBOR-based variable interest rate for US dollar single currency loans in annuity method.The loan. US$ 10 million, will be onlent for the residential and school rehabilitation components of theproject. The loan will finance: (a) 53% of the residential rehabilitation component; and (b) 78% of theschool rehabilitation component. The loan is not expected to finance any institutional development andtechnical assistance. Should grant financing from bilateral or other multilateral sources not be sufficientfor financing of the foreign costs of this component, Bank funds may be reallocated to the component,as required. Government has been seeking grant financing for institutional development and technicalassistance but the specific sources of financing have yet to be confirmed (see Annex 5). Grant financingof US$2.0 million has already been informally committed by the Governments of Denmark, Sweden andthe Netherlands (see Annex 5), and is therefore included as donor contribution. If and when additionalgrant financing is forthcoming, the corresponding amount of Government financing will be reallocatedto the housing rehabilitation component. The financing plan is presented in Table 3.2.

- 17 -

Table 3.2: Financing Plan

Millions of US$Local Foreign Total % of Total

GovernmentofLithuania 6.5 - 6.5 31%Municipal Governments 0.5 - 0 5 2%Private beneficiaries 1.6 - 1.6 8%Donors 0.3 1.7 2.0 10%World Bank 2.7 7.3 10.0 49%Total Project Costs 11.6 9.0 20.6 100%

3.3 Counterpart funds will be provided by the Government of Lithuania, participatingmuricipalities, and private households. Private households will finance a minimum of 10% of the costsof the housing rehabilitation component (US$ 1.6 million) in the form of downpayments forrehabilitation work. In-kind contributions would be accepted as downpayment if they consist of goodsor works directly related to an investment proposal, e.g., drawings for building rehabilitation measurespaid for by the borrower not earlier than six months prior to presenting the proposal to a participatingbank. Municipalities will finance 20% of the costs of the school rehabilitation component (US$0 5million). Government counterpart funds (US$6.5 million) represent an average of about US$1.6 millionper year over the project life of four years. All applicable taxes and duties related to the project Xwill bcfinanced by counterpart funds. Total taxes are estimated to be US$3.5 million (18% VAT and 1 0%customs duty on imported heating equipment and insulation material).

C. ONLENDING ARRANGEMENTS

3.4 The Republic of Lithuania will be the Borrower. For onlending for the ResidentialRehabilitation Component, the Government will, with each commercial bank that will be a participatingfinancial institution (PFI), enter into an umbrella subsidiary loan agreement. This agreement wvill beapplicable to each individual sub-loan the banks then make under the credit line. The credit risk on sub-loans to homeowners' associations would be borne by the Government, while the credit risk on sub-loans to owners of single family homes and individual apartments, for which regular mortgage securitycan be provided, would be borne by the onlending bank.

Onlending to Commercial Banks

3.5 The Ministry of Finance (MOF) will onlend Bank funds, together with the Governmentcounterpart contribution, to participating commercial banks in local currency, bearing the foreignexchange risk, for three to ten years maturity at fixed rates (corresponding to approved sub-loans). Asan incentive for homeowners to participate, funds will be onlent, for the first six months of projectimplementation, to commercial banks so as to keep the cost of borrowing for homeowners at a levelequivalent to an interest rate of 15% (consumer rate) (see paras. 3.14 and 3.15). The size of theGovernment contribution to the program will depend on the difference between market interest rates andthe lower pilot consumer rate. While currently no reference market rates for long-term lending areavailable, an approximation of market interest rates will be determined, in order to monitor theGovernment contribution, every six months, and be defined as the average of the rates of GovernmentTreasury Bills, with the longest maturity available issued over the previous six months6, plus five

6 Mid-January 1996, the rate for one month T-bills was 26.7% while three month T-bills were sold at 28.5'.Mid-May 1996, the average three month T-bill rate was 18.8%.

- 18-

percent (market reference rate). Due to the differences in risk-bearing (see para. 3.4) funds will beonlent to qualified commercial banks at the following rates: (a) for onlending to homeowners'associations, the consumer rate (initially 15%); and (b) for onlending to owners of single family homesand individual apartments, the consumer rate less a maximum spread to be agreed between theGovernment and the banks, and approved by the Bank (initially the spread is expected to be 4%).

3.6 Ministry of Finance will make a provision out of counterpart funds for the amount of theGovernment contribution, i.e. for the difference between the market reference rate and the consumerrate. The difference between the market reference rate and the Government's cost of funds is expectedto cover administrative costs, Government contribution, credit risk, and a premium for foreign currencyrisk. In order to ensure that final borrowers are aware of the level of Government contribution receivedthroughout the loan term, they will regularly be notified by the banks about: (a) the market referencerate which would be applicable to the loan if no Government contribution was provided (the marketreference rate at the time of loan approval); and (b) the current market reference rate, i.e. the referencerate applicable to new loans as of the date of notification. The Loan Agreement will contain a datedcovenant specifying that, based on market rates and borrower acceptance, Government will review, andagree with the Bank on, the appropriateness of the formula for determining the onlending rate on orbefore March 3 1, 1997, and semi-annually thereafter (see para. 6.1(d)).

Onlending to Homeowners and Homeowners' Associations

3.7 The banks will onlend funds in local currency to all final beneficiaries at the consumer rate.For lending to homeowners' associations, banks would initially bear no credit risk and be paid a fee of1% of disbursed funds, and 3% on collections of principal and interest, at the time funds are received.This fee structure would correspond to a spread of about 0. 8% and is considered, based on discussionswith potential participating commercial banks, adequate incentive by these banks to participate in theprogram. As securitv for lending to homeowners' associations, the banks (as collection agents) wouldrely on provisions in the Homeowners' Association Law. The Subsidiary Loan Agreements will requirethe banks, in cases of non-repayment, to pursue the available legal remedies so that the enforcementprocedures under the existing legal framework can be tested. They will, however, be reimbursed forenforcement costs up to a predefined level. The banks would bear full credit risk for lending to ownersof single family homes and individual apartments, with the property as security, and charge a spread upto an agreed level (see para. 3.5). The reflows from loan repayments may be used for additionalonlending by the Government to the banks as a revolving fund, after provisions for foreign currency riskwith respect to repayments to the Bank (see Annex 6). At annual reviews, participating commercialbanks will be given the option to switch to full or partial credit-risk bearing for lending to homeowners'associations. Holding a mid-term review will be a dated covenant in the Loan Agreement (see para.6.1(j)).

3.8 The onlending to homeowners' associations would rely on the existing provisions of theHomeowners' Association Law. Under this law, an association has the right to levy charges on all itsmembers based on majority decisions taken by the association. In the case of default by a homeowner,the association may avail itself of the remedies available under the Civil Code and the Civil CodeProcedures, i.e. the association can take a homeowner to court for foreclosure and eviction, if required.Upon the bankruptcy of the owner of an apartment, the amounts owed to a homeowners' association areby law transferred to a new owner upon the sale of an apartment, i.e. the unpaid debt obligation passeswith the property. The banks and the Government will be given, through the sub-loan agreements, acontractual right of subrogation, i.e. in case of payment default the bank and the Government shall havethe right to assume the association's right to collect from its members and enforce its rights through the

- 19 -

courts. Lending to owners of single family homes and individual apartments for energy efficiencyrehabilitation will be undertaken with the borrowers mortgaging their interest in their property.

3.9 Homeowners' associations would be offered two optional loan instruments, a straight annuityloan and an instrument designed with graduated payments. The latter would be more affordable for lowincome households in apartment buildings as it would result in slight negative amortizations during thefirst few years of loan repayment, i.e., slightly lower payments than the interest charged during theseyears. The amortizations would be positive in real terms, however. The loans would be at fixed rate,with a maturity of 3 to 10 years, paid monthly, and with no grace period. Borrowers would be requiredto pay a minimum of 10% downpayment. For lending to owners of single family homes and individualapartments, a straight annuity loan instrument would be applied. Signed Subsidiary Loan Agreement,satisfactory to the Bank, between the Ministry of Finance and at least one commercial bank, will be acondition for effectiveness (see para. 6.2(a)).

Onlending to Municipalities

3.10 For the School Rehabilitation Component, the Republic of Lithuania will, through theMinistry of Finance, onlend funds to selected municipalities at the same terms as the Bank loan to theRepublic of Lithuania, i.e. twenty years maturity with five years of grace at standard LIBOR-basedvariable interest rate in US dollars. The foreign exchange risk and the commitment fee on the loan fromthe Bank will be borne by the municipalities. The reflows of loan repayments from the municipalitieswill be used by the Republic of Lithuania to repay the loan to the Bank.

D. COST RECOVERY, AFFORDABILITY, AND PRICING

3.11 Cost and cost recovery. The cost of the particular investments in an apartment building willvary depending on the decision taken by each homeowners' association, based on its members' interestin energy efficiency rehabilitation, on their household incomes, and on the rehabilitation needs in eachindividual building. Costs and expected energy savings will vary significantly depending on size,design, and condition of the particular building. Based on studies of a range of typical buildings andtest activities (see para. 2 in Annex 12), preliminary cost estimates for expected renovation packagesrange from about LT 400 (US$ 100) per apartment for basic measures in large buildings, to about LT12,000 (US$3,000) per apartment for comprehensive packages in smaller buildings. However, it is notexpected that more than LT 2,000 - 6,000 (US$500 - US$1,500) per apartment will be borrowed as thehomeowners' financial resources are limited and larger investment packages tend to result incomparatively lower energy savings (see also Annex 12).7 For the school rehabilitation component,projected debt service requirements are not expected to have a significant impact on the finances of theparticipating municipalities. Loan repayments will start in the sixth year after loan effectiveness andare estimated to be less than 0.2% of the 1995 budget expenditures in Vilnius and less than 0.3% inKaunas.

3.12 Cash-flow and affordability. The financial rates of return of all rehabilitation measures arepositive, assuming that heat tariffs will be adjusted to full cost-recovery by autumn 1997 (see para. 5.6and Annex 12). Some investment packages with low initial cost and rapid payback time will generateimmediate positive cash-flows. In some other cases, however, investing in energy efficiencyrehabilitation may result in negative cash-flows in the beginning, as heating tariffs have not yet been

7 Typical renovation measures for energy efficiency improvements and their expected savings are discussed inpara. 5.4 and described in more detail in Annex 3 and Annex 12, together with estimated costs as of September 1995.

- 20 -

adjusted to a full cost recovery level.' This will be felt particularly in small buildings with highinvestment needs and by the poorest households in such buildings. Affordability analysis assuminginvestments ranging from LT 1200 (US$300) to LT 6400 (US$ 1,600) per apartment, with financing at33% interest (example market rate), 10% downpayment, and graduated payments, indicates that lowincome households (monthly incomes at about LT 430 or US$108 - estimated to be around the 10thpercentile) would, f.)r several investment packages, have to allocate more than 10% of their income tomonthly loan payments.9 Only for households with average income of over LT 1,000 or US$250 (30thpercentile and above) would loan payments for a typical investment package represent less than 5% oftheir monthly income. Several measures and requirements will be applied in order to limit the risk ofunaffordable payments that may be asked of (poorer) homeowners by a majority in their homeowners'association (see para. 4.10).

3.13 Consumer acceptance. Hearings and qualitative interviews with households willing to andalready engaged in collective activities for energy efficiency improvements indicated that interest ratesof, at maximum, 15% would be considered acceptable (see Annex 1-C). The reluctance to borrow atany higher rate is due to serious psychological barriers among Lithuanian citizens that will have to beovercome in order to engage homeowners' associations in borrowing for residential energy efficiencyimprovements. These barriers arise from the social learning cost of moving from a 50 year tradition ofrelying on the Government to take care of housing, from the view that the buildings are poorly built andmaintained due to Government neglect in the past, and from widespread mistrust and apprehensionamong households conceming the correctness of available information, including information about thetechnical and financial feasibility of solutions, future energy costs, and banking institutions. Thesebarriers are further aggravated by the substantial transaction costs involved in organizing collectiveactivities within homeowners' associations. Exposure to the Soviet system wherein official lending wasavailable at 5% interest, has made high interest rates unacceptable to many Lithuanians, regardless ofaffordability.

3.14 Proposed Government contribution. In order to provide an incentive to homeowners to formassociations and to apply for loans for rehabilitation investments, the onlending arrangement involves aGovernment contribution (see para. 3.5) in the form of an identifiable "matching grant" to theborrowers' (homeowners' associations or individual homeowners) loan repayments. The size of thiscontributions would be indicated in their loan statements issued by the bank. A monthly contribution orgrant is preferred over an "up-front" investment grant since it addresses the Government's contentionthat the Government contribution and its precise amount should be evident to program beneficiariesthroughout the life of the loan. A general Government contribution is preferred over a means-tested onedue to the necessity of providing strong incentives for all homeowners to participate in the program.The Government contribution would be funded from Government counterpart funds. A market lendingrate of 33 %, for example, would initially imply an overall Government contribution level of 44% ofmarket based loan repayments. As savings on heating bills are proven and borrower experience andconfidence improves, the Government contribution will be adjusted, depending on the market rate andborrower acceptance. As inflation, and thus the market interest rate declines, the Government

8 Assuming that heating tariffs will be adjusted to full cost recovery by autumn 1997, all eligible investmentpackages will result in positive financial rates of return (see Section 5 and Annex 12).9 For low income households, the existing government subsidy program for residential heating may decrease theincentive to undertake rehabilitation measures as they do not - or only partially - benefit from the induced savings (seepara 1.9 and Annex 2 for details of the operation of this subsidy program).

- 21 -

contribution would be expected to decline over the life of the project.'° Semi-annual reviews of the levelof Government contribution, and thereby the effective cost/interest rate to borrowers, will be a datedcovenant in the Loan Agreement, specifying that the first such review would be held on or before March31, 1997 (see para. 6. 1 (d)).

3.15 By providing a transitional Government contribution, the program will support theGovernment's policy of energy conservation, and over time reduce the psychological barriers mentionedabove such that it can eventually be phased out. Since all Government counterpart funds will be part ofthe existing annual budget allocation to the housing sector, this contribution will not be an addition tobut rather a reallocation of existing subsidies. In order to support a future consolidation andreorientation of Government assistance programs in the sector in general, technical assistance will beprovided for a study of Government housing assistance programs. It will result in a specific action planto refocus and target this and other Government housing assistance programs towards the neediest in thesociety (social housing) (see also para. 2.12). Finalizing this study will be a dated covenant in the LoanAgreement, specifying October 1, 1997 as the completion date (see para. 6.1 (g)).

E. FINANCIAL PROJECTIONS FOR A REVOLVING FUND

3.16 Under the proposed project, Government funds and the Bank loan would provide a total ofabout US$13.8 million for energy efficiency rehabilitations of about 200-300 private apartmentbuildings and some single family homes and individual apartments. In order to increase the impact ofthis pilot project to meet a greater part of the projected financial needs for residential rehabilitation, thelending for residential energy efficiency improvements will function as a revolving fund (RF) in localcurrency. Funds will be channeled through commercial banks. Sources of funds include: (a)disbursement of the Bank loan and Government contribution for the residential rehabilitations during theproject implementation period 1996-1999; and (b) reflow of loans which have shorter maturity than theBank loa.l. The funds generated would be used to finance: (a) the Government's loan repaymentcontributions; (b) debt servicing of the full Bank loan including the portion used to finance RF andproject administration; (c) additional loans to support residential energy efficiency rehabilitationprojects; (d) credit and exchange gains/losses; and (e) institutional development and technical assistancesub-components, as required.

3.17 Proforma projections of the RF and assumptions used for the projections are provided inAnnex 6. The model indicates that, if operated to the fullest extent, the RF would be financiallysustainabNe for about ten years. During this period, the revolving mechanism would allow the RF toprovide loans up to a total of about LT 128 million, or LT 68 million in 1995 terms, after servicing theBank loan over the full 20 year period, and providing all Government contributions to loan repaymentsfor loans given during the 10 year period. Project technical assistance will address policies forGovernment's future involvement in the housing sector, which will include the development of a strategyfor redirecting or phasing out this RF (see para. 2.13). Developing such a strategy will be a datedcovenant in the Loan Agreement, specifying October 1, 1997 as the completion date for such strategy(see para. 6.1 (g)).

'0 To ensure continuing clarity to the borrowers, the loan instrument and periodic payment documentation wouldstate the fixed market reference rate for the loan and the corresponding loan repayment amount, the Governmentcontribution, and the resulting net payment from the homeowners' association. Information would also be providedregarding the current market reference rate and the level of Government contribution for new loans for comparisonpurposes.

- 22 -

IV. PROJECT IMPLEMENTATION

A. IMPLEMENTATION ARRANGEMENTS

4.1 The institutions directly involved in implementing the project will be: (a) the Ministry ofFinance (MOF), (b) the Project Coordination Unit (PCU) that will be part of the Housing CreditFoundation (HCF), a legal entity founded by the Ministry of Construction and Urban Development(MCUD), (c) participating conmmercial banks, (d) participating municipalities, and (e) participatinghomeowners' associations and individual home owners. The implementation arrangements are designedto make best possible use of existing institutional capacity, provide for focused project implementation,and be transitional in nature.

The Ministry of Finance

4.2 The Ministry of Finance (MOF) will be responsible for onlending to participating commercialbanks for residential energy efficiency improvements, and to participating municipalities for schoolrehabilitation. It will handle all disbursement transactions to commercial banks and municipalities (seepara. 4.34). MOF will appoint a part-time Disbursement Officer to handle the disbursements foronlending to PFs and municipalities, and a full-time Implementation Officer for other project relatedmatters. Adequate staffing of these functions in MOF is a covenant in the Loan Agreement (see para.6. 1 (a)). Government will enter into a Subsidiary Loan Agreement with each participating bank andmunicipality. Signing of a Subsidiary Loan Agreement acceptable to the Bank will be a condition fordisbursement to any participating commercial bank or municipality (see paras. 6.3(a) and 6.3(b)).

The Proiect Coordination Unit (PCU) in the Housing Credit Foundation (HCF)

4.3 Administration and coordination of the project, and implementation and coordination of theinstitutional development and technical assistance component of the project, will be the responsibility ofa Project Coordination Unit (PCU). The PCU will be a unit in the Housing Credit Foundation (HCF),an independent non-profit legal entity that has recently been established by MCUD in order tocoordinate and administer loans and activities aimed at supporting energy efficiency rehabilitations.'"The PCU within the HCF will engage solely in project implementation activities and not in directonlending. Financing for the new entity will be provided out of Government funds. MOF will enter intoan Implementation Agreement with the Foundation regarding the project implementation andcoordination activities to be performed. Signing of an Implementation Agreement acceptable to theBank will be a condition for loan effectiveness (see para. 6.2(c)).

4.4 Functions of the PCU The main functions of the PCU will be: (a) to manage and coordinatethe various TA components, in particular assistance and advice provided to homeowners, theirassociations, and commercial banks, and thereby support and oversee project implementation; (b) toidentify funding for and contract out the services under the TA; (c) to produce consolidated managementaccounts and reports to the Bank for the project, including the onlending activities on the basis ofinformation provided by MOF and participating commercial banks related to disbursement of sub-loans,and on the basis of reports provided by TA consultants; (d) to advise and assist municipalities in theprocurement of works and services for the energy efficiency rehabilitation of schools, and ensure that

11 The Lithuanian word 'Fondas' can be translated either as 'Fund' or as 'Foundation'. As the entity founded byMCUD has no lending or direct financing mission with respect to housing projects, to translate 'Fondas' as 'Foundation'is considered more appropriate here.

- 23 -

Bank guidelines are followed. (Procurement of works for residential rehabilitations will be undertakenby the final borrowers, having access to technical advice). The PCU will provide a "ruling" on theeligibility of particular loan applications presented to a participating commercial bank, should a bankchoose to submit such applications for interpretation due to uncertainty regarding their eligibility underthe project. The PCU will closely cooperate with MOF staff engaged in disbursing funds to commercialbanks and municipalities, as outlined in the Implementation Agreement. The PCU will further liaisewith involved Lithuanian institutions, ministries and donor agencies. Other MCUD units will continueto perform certain information and consultation activities in the area of housing improvements,supporting and compiementing the activities of the PCU, as appropnate.

4.5 Partners for Technical Assistance. Activities related to Institutional Strengthening, throughthe provision of Technical Assistance as described in paras. 2.9, 2.10 and 2. 11, will be contracted outand undertaken in close cooperation with relevant existing institutions and agencies. Support forhomeowners and homeowners' associations will be provided through existing Associations ofHomeowners' Associations, where appropriate. Advice on energy savings possibilities will becoordinated with tl,e Energy Information Center of the Lithuanian Energy Agency in MOE. Assistanceto energy consultants and small contractors/construction firms will be organized in close cooperationwith MCUD and relevant associations. A training program regarding long term lending, particularlylending to the housing sector, will be arranged through or in cooperation with an existing Bank TrainingInstitute within the Association of Commercial Banks (see Annex 5 for a summary of the varioustechnical assistance components).

4.6 Staffing and Organization of the PCU. The PCU will initially consist of a minimum of fourstaff, including a manager, a TA coordinator, an implementation officer and an accounting/reportingofficer. Government has already appointed a PCU manager and a TA coordinator. The operating costsof the PCU will be financed out of Government funds. MOF will exchange with the PCU periodicmanagement reports and account information for consolidated project reporting, as specified in theImplementation Agreement. A project launch workshop will be held after the approval by the Bank'sBoard, later in 1996. The workshop would combine training for the PCU staff with information for anddiscussions with relevant stakeholders, as appropriate. Evidence satisfactory to the Bank that the PCUis appropriately staffed is a condition for loan effectiveness (see para. 6.2 (b)).

4.7 The Board of the Foundation. According to Lithuanian legislation on non-profit legalentities, the Housing Credit Foundation will have a Board. This Board will be chaired by a secretary ofMCUD and be composed of representatives of relevant Government mninistries (MOF, MCUD, MOE)and other agencies with no potential conflict of interest. It is expected that this will ensure stronginterministerial coordination for the project, particularly between MOF, MCUD, MOE and Bank ofLithuania. The Board will be responsible in particular for: (a) Government policy decisions related tothe project; and (b) coordination with other ministries regarding financing and promotion of residentialenergy efficiency. The Board will replace the board of the Credit Fund for Renovation andRehabilitation (CFRI), the predecessor of the new legal entity that has functioned as an inter-ministerialcommittee since 1994, under the authority of MOF (see para. 1.18). Quarterly meetings of the HCFBoard to review the implementation of the project is required as a covenant in the Loan Agreements (seepara. 6.1(1)). Prior to negotiations a modified draft Decree No. 1209, acceptable to the Bank, waspasscd by Government for the transfer of the previous Credit Fund for Rehabilitation and Insulation(CFRI) to the Housing Credit Foundation (HCF).

- 24 -

Financial Intermediation (Commercial Banks)

4-8 The financial intermediaries will be eligible commercial banks. In order to limit the risk forthe Govcrnment, participating banks will be selected based on the same critcria as those uscd for theBank's financial sector operation in Lithuania, including having an acceptable audit report, providing aCertificate of Compliance from the Bank of Lithuania (BOL), and comply ing with various financialrequirements (see Annex 7). Three Lithuanian banks are expected to be qualified according to thesecriteria, two of them have. at this stage, agreed to bc financial intcrmediarics for the prolcct ThcN v i!lplay a key role in channeling loan funds, including project appraisal based on spccific cligibility criteriaand collection of payments from beneficiaries.

Participating Homeowners' Associations and Individual Homeowners

4.9 The main focus of the credit program will be lending to homeowners' associations Loansmay also be made to qualified oivners of single family homes as well as to individual apartment owners.However, individual apartment owners would be eligible as borrowers only if the association in thcirbuilding would have taken a loan regarding common areas. Eligibility criteria for borrowers qualified toapply for a loan, and criteria for eligible investments (sub-projects), are included as Annex 7. As this isan entirely demand driven project, homeowners and homeowners' associations xwill have to comeforward themselves and apply for loans. The financing available for residential energy efficiencyrehabilitations (see Table 3.1 in Section 3) is expected to cover lending to an estimated number of 200-300 homeovners associations, corresponding to about 14,000 apartmcnt owners. and additional ow\nersof single famllv homes and apartments. Homeowners and homeowners associations will themselves beresponsible for implementing their respective investments, including procurement and supervision ofworks, based on guidelines provided by the PCU. Advice and consulting services will be availablethrough advisory centers and other technical assistance arrangements (see para. 2 9).

4.10 Household incomes vary considerably within any particular building, and low-incomehouseholds are found in virtually all buildings. These households could be placed in a vulnerableposition if majoritv decisions in their association commit them to repayments that exceed their meansThe following measures and requirements will be applied in order to limit the risk of unaffordablepayment demands: (a) careful assessment of the energy savings estimates of individual loan applicationsby the banks, with the banks being provided access to technical expertise, as required, through projccttechnical assistance, (b) for loans resulting in monthly repayments which, added to the heating costs,exceed the nation-wide standard heating tariff per m2 , a requirement for a 2/3 majority in favor of theloan at a general meeting of the homeowners' association; and (c) for loans resulting in monthlyrepayments which, added to the heating cost, exceed twice the nation-wide standard heating tariff per m-at the time of the decision, a requirement that all apartment owners (not just association members)would have voted in favor of such a loan. In addition, homeowners' associations will be encouraged.through the project infornation program, to take into account individual households' ability to pay indeciding on investment amounts, and in allocating the proposed Government loan repaymentcontribution among apartment owners. In order to enhance overall loan collectibility from homeowners'associations additional requirements will be applied: (a) an up-front downpayment requirement fromthe borrower of 10% of the investment amount; and (b) confirmed good payment record on the part ofthe borrower for all utilities. Evidence satisfactory to the Bank, that Operating Procedures (includingeligibility criteria) acceptable to the Bank have been adopted is a condition for loan effectiveness (seepara. 6.2 (d)).

4.11 The generation and distribution of reliable inforrnation on the affordability of energy savingsinvestments will be an important part of the program. Therefore, all participating homeowners and

- 25 -

homeowncrs' associations will be involved in an extensive monitoring program that encompassestechnical and financial aspects of the investments as well as social and organizational aspects of theimplementing energy savings measures through homeowners' associations. The results of themonitoring activities will be made available to the general public through a wide-ranging publicinformation program. Further surveys will be conducted in order to assess changes in attitudes andbehavior of homeowners with respect to residential energy efficiency rehabilitations such that theongoing program (e.g. advice provided, Government contribution to loan repayment) can be adjustedaccordingly (see also paras. 4.21, 4.22, and 4.23).

4.12 During negotiations, the Government agreed to maintain policies and procedures adequate toenable it to monitor and evaluate, on an ongoing basis, the carrying out of the project and theachievement of its objectives (see para. 6.1 (c)). By June 1, 1998 (or one and a half year after loaneffectiveness) Government will undertake a comprehensive mid-tenn review of the project and refine thedesign together with the Bank, as appropriate (see para. 6.1 (j)).

Participating Municipalities for Schools Component

4.13 Participating municipalities will initially be the municipalities of Vilnius and Kaunas. Eachmunicipality would implement their school rehabilitation program, estimated to comprise civil works onthree to eight schools per municipality depending on the size of the investments in individual buildings.Implementation would be carried out through the existing organizational structure of the respectivemunicipality with assistance from the PCU.

Legal Arrangements

4.14 The onlending arrangements for the Residential Energy Efficiency Rehabilitation Componentwould be documented as follows:

(a) The Government of Lithuania would, through the Ministry of Finance enter into Subsidiary LoanAgreements, approved by the Bank, with participating commercial banks. The Subsidiary LoanAgreements will, among other things, establish the use of funds and the eligibility criteria for endborrowers, on-lending terms and conditions between the Government and the bank, terms andconditions for onlending by the banks to end borrowers, arrangements for the project-specificGovernment contribution, and loan effectiveness conditions. Signing of Subsidiary LoanAgreements with at least one commercial bank, satisfactory to the Bank, will be a condition forloan effectiveness (see para. 6.2(a)). Signing of additional subsidiary loan agreements will be acondition of disbursement of funds for onlending to those banks (see para. 6.3(b)).

(b) Participating commercial banks would enter into Sub-loan Agreements with homeowners'associations and individual home owners. The sub-loan agreements will, among other things,establish the loan amount, the use of funds, and terms and conditions, including applicability andarrangements for the Government contribution (see para. 3.14). Prior to negotiations,Government submitted a draft model sub-loan agreement between banks and borrowers, to theBank for review.

4.15 The onlending arrangement for the Energy Efficiency Rehabilitation of schools would be asfollows: The Republic of Lithuania (Ministry of Finance) would enter into a Subsidiary LoanAgreement, approved by the Bank, with each participating municipality. The Subsidiary LoanAgreements will establish, among other things, the loan anount for the municipality, the use of funds,

- 26 -

on-lending terms and conditions, and loan effectiveness conditions, if any. Signing of the SubsidiaryLoan Agreement, satisfactory to the Bank, with a project municipality will be a condition ofdisbursement for the funds to be on-lent to that municipality (see para. 6.3(a)).

4.16 The Republic of Lithuania (Ministry of Finance) would enter into an ImplementationAgreement, approved by he Bank, with the Housing Credit Foundation, which will establish, amongother things, project implementation and coordination responsibilities, use of project and donor funds fortechnical assistance activities, and accounting and reporting requirements. Signing of theImplementation Agreement, satisfactory to the Bank, with the Housing Credit Foundation will be acondition for loan effectiveness (see para. 6.2(c)).

Project Implementation Plan

4.17 The Borrower's project implementation plan (PIP) was discussed during negotiations. Itincludes arrangements for the timely provision of all necessary inputs, adequate staffing of the PCU,key activities and estimated time-table of implementation, technical assistance, implementation ofadequate financial management procedures, specification of the monitoring and evaluation system to beapplied, performance indicators and implementation of other operational procedures required foreffective project execution.

4.18 In addition to the PIP, the Borrower is defining Operating Procedures (OP) for the projectimplementation activities containing more detailed guidelines to the PCU and other organizationsinvolved in implementing the agreements reached with the Government. Evidence satisfactory to theBank, that Operating Procedures acceptable to the Bank have been adopted will be a condition ofeffectiveness (see para. 6.2(d)).

B. SUPERVISION, MONITORING AND EVALUATION

4.19 Project emphasis on monitoring and evaluation. As the project is a pilot, one of itsobjectives is to draw lessons from implementation. This applies in particular to project areas thatinvolve: (a) reducing energy consumption through affordable rehabilitation packages; (b) promotingself-management of apartment buildings regarding individual and group activities; (c) commercial banksas financial intermediaries, and (d) subsidy and affordability aspects. Project monitoring willsystematically gather data that can be used to measure progress in meeting the project objectives and toidentify problems that impede progress. The monitoring programs will thus ultimately serve both theongoing monitoring needs of project management and the periodic stocktaking and evaluation needs ofvarious stakeholders to ensure replicability of the program. Performance indicators for technical andsocial monitoring as well as project monitoring are described in Annex 8. Agreements were reached onthe performance indicators for all project objectives at negotiations (see para. 6. I(c)).

4.20 Technical monitoring and evaluation. The project will support a range of technicalinterventions that will be chosen by the homeowners through their homeowners' associations. Thetechnologies of these energy-saving interventions is evolving and local capacity is expanding. This fluidenvironment calls for careful monitoring of project inputs and impacts. Monitoring of technical aspectswill include: (i) energy consumption records for each building that is retrofitted, including baseline data,and the costs to owners; (ii) perceived comfort improvements on the part of owners; (iii) technologicaladvances introduced or utilized; and (iv) progress in training consultants.

- 27 -

4.21 Social and institutional monitoring and evaluation. Social and institutional monitoringduring the implementation of the project will be more intense than normal project monitoring for severalreasons. First, the project offers the opportunity to learn and apply lessons quickly for the design of alarger, nationwide program. Second, systematic social monitoring will provide a rich database forimpact evaluation and strong data for attribution. Finally, systematic social and institutional monitoringwill in itself constitute a powerful participatory mechanism. In particular, the beneficiary-focus of themonitoring will provide a mirror through which other stakeholders can assess their performance inmeeting project objectives, identify areas to improve and specify ways to make the improvements, suchas procedural changes, pcrsonnel training, or other.

4.22 Project performance monitoring, supervision and evaluation. Project monitoring will bethe responsibility of the PCU, contracting out most of these functions, as appropriate. Separate studiesto monitor issues related to energy savings, affordability, construction/building material industry, etcmay also be commnissioned by the PCU. The PCU will furnish the Bank with reports on a regular basisincluding: (i) quarterly progress and financial management reports (on a monthly basis upon request);(iH) audited project accounts kept by the PCU and MOF, and audited annual financial statements of theHousing Credit Foundation within six months after each financial year; and (iii) additional informationthat the Bank may request from time to time. Audited financial statements of participating banks willalso be provided annually. Reporting requirements, and supervision schedule were confirmed atnegotiations (para. 6.1 (k)).

4.23 Performance will be monitored and evaluated on an ongoing basis by the Bank. In addition,the Government and the Bank will have annual reviews to exchange views on the status of projectimplementation, particularly regarding: (a) the performance of participating banks, MOF, and the PCUin project implementation procedures agreed with the Bank, and (b) adjustments in the project that maybe required to improve implementation of its objectives, including allocation of financing between theproject components. Indicators will track the progress of lending and physical works, the impact onenergy use and costs to the consumer, and experiences by project participants. Agreement was reachedat negotiations on annual reviews (para. 6.1 (f)) and on the performance indicators for all projectobjectives (para. 6.1 (c) and Annex 8).

4.24 A mid-term review will be carried out about a year and a half after project effectiveness. Athorough project evaluation will be undertaken at that stage to determine if project design,implementation arrangements, or terms and conditions should be revised in order better to meet theneeds. In particular, evaluation will be performed regarding the effectiveness of the advisory services tohomeowners' associations and the performance of participating banks. Final project evaluation will beundertaken after project completion.

4.25 As this is the first Bank-supported investment loan in the sector, and given the pilotcharacteristics of the project, the project is expected to require a significant supervision effort.Therefore, it is planned that about 25 staff weeks of effort for the first year and about 15 staff weeks ineach of the following three years would be required for supervision. A detailed supervision plan isattached as Annex 9. The supervision schedule was confirmed at negotiations (see para. 6. 1 (k)).

C. PROCUREMENT

4.26 Lithuania has a tradition of a capable construction industry. It is adjusting effectively to thestructural changes of economic transition and the resulting new market conditions by privatizing and

- 28 -

downsizing. New small companies are entering the market to meet the demand for small-scale privateconstruction and renovation. Both local and imported materials are readily available in Lithuania, andthere are no restrictions on the import or use of foreign construction materials as long as they meet thestandards of the exporting country and Lithuanian environmental standards. Design and constructionprofessionals are readily available, and Government is promoting competitive bidding (for details on theindustry, see Annex 3). Because of the limited size of contracts and their geographical distribution, allcivil works under the project is expected to be undertaken by local contractors.

4.27 Since Lithuania does not have a long tradition of competitive bidding for procurement ofpublic goods and services, a Country Procurement Assessment Report (CPAR) is not required at thisstage. A Country Procurement Note (CPN) dated May, 1995, was prepared, which established that theGovernment has started to introduce forms of competitive bidding.

4.28 Small works -procurement for residential energy efficiency rehabilitation. Procurementfor residential energy efficiency rehabilitation will be undertaken by the concerned homeowners'associations and homeowners respectively up to an estimated amount of US$15.4 million. under sub-loans provided by PFIs. The cost of civil works for individual contracts is expected to range fromapproximately US$5,000 to US$150,000 with an estimated average of US$80,000 per expectedcontract. They shall be procured under lump sum, fixed price contracts awarded on the basis of writtenquotations obtained from three qualified contractors. Procurement advice provided by consultants inadvisory centers established under the project, will be available for sub-borrowers upon request. Thecurrent list of contractors registered with MCUD will be provided to sub-borrowers. The project teamnoted that the existing procedures for registration of contractors, which is performed on a continuingbasis, would be satisfactory for the requirements of the project. MCUD will periodically advertise inlocal newspapers to seek applications from interested contractors. Contractors will be evaluated basedon criteria acceptable to the Bank, including experience, technical capability and financial capability. Amaximum contracting capacity of the contractors will be assigned by specialty, and continuouslymonitored and updated. The Bank would review and give no objection to decisions to award contractsregarding procurement by the first two homeowners' associations and the first two single family homeowners (sub-borrowers) for each participating bank. Although not envisaged for residentialrehabilitation, should there be any contracts valued at above US$250,000, these would also be subjectto prior review by the Bank. Further details on the procurement arrangements are included in Annex 11.

4.29 Civil works - procurement for energy efficiency rehabilitation of schools. Procurement ofcivil works financed under the Bank loan for the schools in participating municipalities will beundertaken by the coticemed municipality and in accordance with the Bank's procurement guidelines.The works will be procured under NCB on the basis of local advertisement. For contracts valued at lessthan US$400,000, up to an aggregate of US$2.1 million (including counterpart funds), the Bank'sRegional NCB Samnple Bidding Documents for procurement of small works will be used, assupplemented or modified with the approval of the Bank. Even though these contracts are small andmay not attract foreign bidders, foreign contractors will not be excluded from participation.Procurement advice will be provided by staff in the PCU with procurement experience from previousBank operations. Works estimated to cost US$50,000 equivalent or less per contract up to an aggregateamount estimated not to exceed US$500,000 will be procured under lump sum, fixed price contractsawarded on the basis of written quotations obtained from three qualified contractors. There are nocontracts valued at above US$400,000 envisaged in this project. The prior review threshold for civilworks for rehabilitation of schools would be US$250,000 except that the Bank will review and give noobjection to decisions to award contracts for the first two contracts by each participating municipality.All contracts above this prior review threshold will be subject to the Bank's prior review procedures.

- 29 -

Table 4.1: Summary of Proposed Procurement Arrangements (In US$ million)Procurement MethodNCB Other N-B.F. Total Cost

Civil Works

I. Residential Rehabilitation Component - 15.4 a_/ - 15.4(Mechanical infrastructure/heating system, (8.2) (8.2)construction works, repair/refurbishing works)

2. School Rehabilitation Component2.1 Vilnius: Rehabilitation of Schools 0.9 0.15 b_/ - 1.05

(0.7) (0.1) (0.8)2 2 Kaunas: Rehabilitation of Schools 0.9 0.15 b / - 1.05

(0.7) (0.1) (0.8)

Consultancies

I. Institutional Development and Technical - - 2.9 2.9Assistance

2. Other Consulting Services - 0.2 c/ - 0.2(0.2) (0.2)

Totals 1.8 15.9 2.9 20.6(1.4) (8.6) (10.0)

Note: Numbers in parenthesis are World Bank loan amounts.a_/ Procured by final borrowers on the basis of written quotations obtained from three qualified contractors.b_/ If a contract for school rehabilitation is less than USS50,000, procurement will be identical to those applicable

for homeowners' associations, i.e. civil works will be procured under lump sum, fixed price contracts awarded on thebasis of written quotations obtained from three qualified contractors.

c_/ Consulting services financed by the Bank would be procured in accordance with the Bank's guidelines for use ofconsultants.

N.B.F.: Not Bank-Financed. Bilateral grant and/or Government counterpart funds (US$2.9 million).

4.30 Procurement of technical assistance funded by parallel bilateral or other donor financingwill follow the donor's procurement procedures. Technical assistance is not expected to requirefinancing by the Bank. Should it become necessary for procurement of technical assistance or otherconsultant services to be financed by the Bank, such procurement would follow the Bank's Guidelinesfor Use of Consultants (August 1981). Such consulting services estimated not to exceed US$200,000would be related to the rehabilitation of schools. All terms of reference regardless of contract valuewould be subject to the Bank's prior review. In addition, prior review by the Bank will be required forall consulting contracts with firms valued at US$100,000 and above, and all contracts with individualsvalued at US$50,000 or above.

4.31 The procurement arrangements are summarized in Table 4. 1 a detailed description isprovided in Annex 1 1. Implementation arrangements are explained in Section IV.A. Quarterly progressreports will be submitted to the Bank as described in para. 4.22. A project launch workshop will beheld in September, 1996. Procurement arrangements were confirmed at negotiations (see para 6. 1 (k)).

D. DISBURSEMENTS

4.32 Disbursenicnts will be administered by the Ministry of Finance, for onlending to commercialbanks, and to municipalities for rehabilitation of schools (see table 4.2 for Disbursement Categories).Residential energy efficiency rehabilitation disbursements to suppliers of works or services to their bank

- 30 -

accounts in Lithuania or elsewhere would be made by the participating bank providing the loan, beingprovided funds from MOF. Disbursements, for the energy efficiency rehabilitation of schools. tosuppliers of works or services to their bank accounts in Lithuania or elsewhere would be made by MOFDisbursements to suppliers of technical assistance services would be made by the PCU, being providedfunds from MOF. Since the project seeks to encourage small and medium-size contractors for localrehabilitation works, it is important that contractors and consultants be paid promptly for servicesrendered.

4.33 Disbursements for civil works and consultant contracts will be made on the basis of certifiedStatements of Expenditures (SOEs) detailing the individual transactions, should the Borrower decide tomake disbursements to participating banks or pay certain contracts with Governnent funds before beingreimbursed from the Bank. The documentation to support these expenditures would be retained byMOF for at least one year after receipt by the Bank of the audit report for the year in which the lastdisbursement was made. This documentation would be made available for review to auditors and theBank upon request. Full documentation would be required for withdrawal applications: (a) for ex-penditures on civil works contracts over US$250,000; and (b) for consultant contracts, to consultingfirms above US$ 100,000, and to individual consultants above US$50,000. Minimum size of appli-cations for payments directly from the loan account and issuance of special commitments would amountto 20% of the authorized allocation to the Special Account, or US$160,000 (see. para. 4.35) All otherdisbursements would be against full standard documentation as described in the World Bank's Dis-bursement Handbook.. Disbursement arrangements were confirmed at negotiations (see para. 6. 1 (k)).

Table 4.2: Disbursement Categories

Category Loan Amount Expenditure to be Financed*(in US$ million)

1. Sub-loans: Residential Rehabilitation 7.2 70% of sub-loan amounts2. Civil works: Rehabilitation of Schools 1.7 80% of total expenditures3. Consultant services 0.1 100% of total expenditures4. Unallocated 1.0

Total 10.0net of taxes and duties

4.34 The proceeds of the Loan are expected to be disbursed in accordance with the disbursementschedule shown in Arniex 10, and summarized below, over a period of four years. No standarddisbursement profile exists for energy or housing projects in Lithuania or in the region. The project isexpected to be completed by June 30, 2000 with a Closing Date of December 31, 2000. The Bank loanof US$ 10.0 million is estimated to be disbursed as follows:

Table 4.3: Estimated Disbursements (US$ million)

Institution: FY 1997 FY 1998 | FY 1999 FY 2000 TotalIBRD 0.6 2.7 I 3.2 3.5 10.0

4.35 To facilitate project implementation, the Borrower may establish a Special Account (SA) inUS$ in a foreign commercial bank on terms and conditions satisfactory to the Bank to cover the Bank'sshare of expenditures. The Special Account would be managed by MOF. The Authorized Allocationwould be US$ 800,000, representing about four months of estimated average expenditures madethrough the Special Account. During the early stage of the project, the initial allocation to the SpecialAccount would be limited to US$ 400,000. However, when the aggregate disbursements under the loan

- 31 -

have reached the level of US$ 1,000,000, the initial allocation may be increased up to the AuthorizedAllocation of US$ 800,000 by submitting the relevant Application for Withdrawal. Applications forreplenishment of the Special Account would be submitted monthly or when one-third of the amount hasbeen withdrawn, whichever occurs earlier. Documentation requirements for replenishment would followthe standard Bank procedure as described in Disbursement Handbook, Chapter 6. Monthly bankstatements of the Special Account which have been reconciled by the Borrower would accompany allreplenishment requests.

E. ACCOUNTS AND AUDIT

4.36 Accounting. The Borrower will be responsible for appropriate accounting and auditing ofthe project, for reporting of the use of project funds, and for ensuring that audits of financial statementsand reports are submitted to the Bank. The PCU on behalf of the Borrower, and in collaboration withthe MOF, PFIs, and participating municipalities, will establish appropriate accounting systems toprovide information on the sources and uses of funds in accordance with the Loan Agreement. Projectaccounts; including the Special Account, would be maintained according to international accountingstandards in four categories: (a) in the MOF, for the onlending to commercial banks; (b) in the MOF,for the onlending to municipalities for rehabilitation of schools; (c) in the PCU, for consultant servicesfor institutional development and technical assistance, and for project operating expenditures; and (d) inPFIs, for sub-loans with supporting procurement and disbursement documentation. The PCU will havethe overall responsibility for project coordination and consolidated project reporting. To ensure theaccountability for project funds, MOF, PCU, PFIs and participating municipalities will: (a) maintainrecords of receipts and disbursement of all funds used for the project, (b) maintain internal controls toensure that receipts and payments are accurately recorded on a timely basis, and that assets andliabilities are adequately controlled; (c) report on the use of funds; (d) facilitate verification of thesereports by independent auditors; and (e) provide all information, as required, to PCU for reportingpurposes. MOF will maintain documentation supporting disbursement requests made through SOEs.MOF, PCU and participating municipalities will maintain accounts for project funds separately fromany other existing accounts. Participating commercial banks will maintain accounts for loans financedby project funds separately from any other existing accounts.

4.37 Auditing. The PCU will also be responsible, on behalf of the Borrower, and in closecollaboration with the MOF, PFIs, and participating municipalities, for submitting to the Bank annualaudits no later than six months after the end of each financial year (Lithuania's financial year is JanuaryI - December 31) of project accounts kept at the PCU, the MOF, and PFIs, as well as audited annualfinancial statements of the Housing Credit Foundation with accompanied management letters withrecommendations. The audits will be performed by independent auditors satisfactory to the Bank,according to standards acceptable to the Bank, and under terms of reference also satisfactory to theBank. The audits would be carried out in accordance with intemational standards and be undertaken byauditors qualified for the task. The audits will include the project accounts and related financialmanagement procedures, bank accounts, and a separate opinion on the SOEs and the SA. In addition,audited financial statements of participating banks will also be provided annually to the Bank no laterthan six months after the close of each financial year. The PFI audits will include a certification that thebank continues tc be in compliance with the eligibility criteria for participation in the project.Accounting and reporting arrangements were confirmed during negotiations (see para 6.1 (k)).

- 32 -

V. ECONOMIC EVALUATION

A. IMPACT ANALYSIS

5.1 The project will have a positive impact for the economy in general as well as for its mostdirect beneficiaries. The economic analysis presented here distinguishes between quantifiable and non-quantifiable benefits and then goes on to analyze risks associated with the project that may, at least inpart, prevent the expected benefits to emerge. The project's main benefits lie in its focus onencouraging individuals and groups of citizens to assume responsibility for their housing assets,something still very new in FSU countries. While these benefits are hard to quantify, the project'squantifiable benefits are expected to be substantial as demonstrated in an economic rate of return ofapproximately 26% (see para. 5.7).

Non-guantifiable Impact

5.2 The project's non-quantifiable benefits lie in its incentives and support for individuals to formhomeowners' associations and to participate in their activities. This is expected to improve and sustainthe privatization of housing and the citizens' approach and commitment to democratic decision-makingprocesses and organizations. Other non-quantifiable benefits from the project include: (a) support forthe reorientation of the energy sector through increasing consumer awareness and activity; (b) privatesector development as small and medium sized enterprises gain access to training and to a new set ofcustomers; and (c) extension of services in the financial sector (see also para. 1.26). It may also beexpected that there will be an impact on technological change, development and marketing of locallyproduced building materials, mechanical equipment and insulation materials. Through the project,organizational, technical and financial mechanisms for intervention in developing the housing marketwill be tested and the experiences of this pilot project are expected to form the foundation for a largerprogram in the sector.

Quantifiable Impact

5.3 The project's main quantifiable benefits consist of energy savings. While no otherquantifiable benefits have been evaluated for the analysis presented here these may derive from theimprovement in the building stock, increased comfort and health for the inhabitants, or environmentalimprovements. Also, additional resource savings and reductions of homeowners' expenditure for heatmay result from a decreasing need for supplementary heating. About 16% of households in urban areasare estimated to use additional heat systems, such as electric heaters, to complement the insufficienttemperatures provided by the DH system (see Annex I for a survey on consumer behavior andattitudes). With better insulation households will no longer have to use these devices. The resultingsavings have not been evaluated, however, as the information on the frequency of the use ofsupplementary heat is insufficient. In addition, homeowners will benefit from an increase in the value oftheir apartment as a consequence of their investments. This increase would enter the calculation of thefinancial rate of return as an additional benefit only as far as the increase is not derived from the lowerenergy bill but from lower maintenance cost and reduced occurrence of leaks and other damage that mayarise due to insufficient heating and insulation.'2 Neither those nor other, tangible or intangible benefits,have been quantified for the analysis below (for a summary of the evaluation of the savings, both for theeconomy as a whole and for homeowners undertaking investmnents, see Tables 4 and 5 in Annex 12).

12 The quantification of the increase in value is difficult because real estate markets are only beginning to function

in Lithuania.

- 33 -

5.4 Energy savings, for the economy as a whole, are evaluated as resource savings only, as theyoccur in the reduction in the economy's consumption of natural gas, mazut and other fossil fuels that areimported. 3 For the individual homeowners who invest in energy efficiency measures, benefits areevaluated through savings on their heating bill. As the project takes a program approach, the exactextent and type of investments that will be financed cannot be determined ex ante. The analysispresented here is based on technical assessments of a number of examples, 14 apartment buildings, onesingle family home and one school (details of the analysis can by found in Annex 12). These exampleshave been weighted according to their representativity for the Lithuanian housing stock. The economicand financial returns have been calculated, based on these examples, using certain behavioral andeconomic assumptions discussed below.

5.5 Assumptions concern foremost the choice and composition of energy efficiency measures. Asthe objective of this project is to pilot, and better understand, the functioning of a demand-side programthat is based on private initiative, homeowners will not be required to undertake any specific measures,e.g. only those measures that would affect heat consumption most14. Since homeowners' financialresources arc limited, it is, however, assumed that all homeowners will opt for rehabilitation measuresthat result at least in some energy savings. Thus, the 'packages' of investments that, for simplicityreasons, form the basis for the analysis presented here, all contain temperature control valves as theminimum measure necessary to achieve energy savings. Three 'packages' were assumed (A, B, and C)combining various measures at varying cost and varying impact intensity on heat consumption (seeTables I and 2 in Annex 12). In comparison to package A, packages B and C involve additionalrehabilitation measures with lower pay-offs in terms of energy savings. Such measures may be chosenby homeowners and homeowners' associations for reasons other than only to save energy, e.g. the wishor the necessity to improve and maintain the building envelope at the same time. Therefore, it isassumed that, even though package A would result in the highest returns, only 60% of the buildings willbe rehabilitated with this package, 30% with package B, and 10% with package C (see also para. 5.15below). As no particular measure will be mandatory, however, some homeowners in seriouslyunderheated buildings may still choose to invest in rehabilitation measures that would only raise indoortemperatures and not save energy (e.g. only improving insulation, without installing temperature controlvaives). The effects of such choices on the calculated project returns are evaluated in the sensitivityanialysis below.

5.6 Other assumptions concern the investments, in particular their amount and timing and theprices of different measures. It is assumed that 6% of the investments will take place in year 1, 27% inyear 2, 32% in year 3, and 35% in year 4. The exact shares of foreign and local materials cannot bedetermined ex ante. Most materials are now available in Lithuania, at lower prices than comparableforcign materials. Prices of capital goods as well as heat tariffs are those of October 1995 (heatingseason 1995/1996). While prices of capital goods are assumed constant in real terms, heat tariffs areassumed to increase to reach full cost-recovery level before the heating season 1997/1998 and to beconstant in real terms thereafter.

13 Fuel savings resulting from investments under this project will not be large, since the total loan amount isrelatively small - corresponding to the pilot character of the project - and will result in energy efficiency rehabilitations forrelatively few buildings in Lithuania (approximately 250 apartment buildings and 12 schools).

14 Homeowners and their associations will be required, however, to install building-level heat-meters if these donot exist already as otherwise monitoring of energy savings would not be possible and the project's intendeddemonstration effect could not be achieved.

- 34 -

5.7 Quantifying energy savings, expected to arise under the stated assumptions, results for thewhole project in an Economic Rate of Return (ERR) of 25.9% and in a Financial Rate of Return (FRR)of 3 1.2% (see Table 5. I).15 The economic rate of return is lower than the financial rate of return sincethe economic evaluation does not take into account externalities and captures only savings in variablefuel costs. Only in the long term, or with a considerably bigger investment, would savings in othervariable costs and in capital costs materialize (see para. 12, Annex 12). Taking into account such long-term effects as well as the demonstration effect associated with the activities financed by the project,and the associated externalities (see paras. 1.26 and 5.1), would further increase the calculated ERR.

Table 5.1: Base Case: Project FRR and ERR

Share Base Case* FRR Base Case* ERRApartment buildings. average RR 78.3 33.2 27.7Single family homes 8.7 15.5 7.7Schools 13.0 29.7 27.2Total Project 100 31.2 25.9* The assumptions for this Base Case are: Costs and energy savings according to technical assessments, heat tariffs to reachfull cost recovery level by the end of 1997, investment according to assumptions in Annex 12, paras. 1-3.

B. PROJECT RISKS

5.8 Various quantifiable and non-quantifiable risks exist that may endanger successful projectimplementation. Those risks, the likelihood of their occurrence, appropriate mitigation measures, andan analysis of their impact on the expected project returns, are discussed below. Quantifiable risksrelate to incentives: (a) that the Government will not adjust energy prices and/or existing heating subsidyprograms appropriately, and hence make the cash flow of investments not sufficiently attractive toindividual households; (b) that energy savings have been overestimated; (c) that the costs for therehabilitation measures rise significantly; and (d) that interest rates may raise so as to deem the project-specific Government contribution unsustainable. Other risks, specifically related to the institutional andbehavioral environment of project implementation are hard to quantify. These risks are: (a) theorganizational capabilitics of homeowners and their associations are overestimated, (b) too fewhouseholds will be able or willing to participate; and (c) within the given legal franework, homeowners'associations may not be able to fulfill the role of borrowers and significant payment arrears will occur(see para. 3.8).

Likelihood of Risks and Mitigation Measures

5.9 The likelihood of situations to occur that may risk project success, and appropriate mitigationmeasures, vary substantially with the respective situation. For example, it is considered unlikely that,given the current budget situation, the Government would not adjust energy prices appropriately andincrease heating prices to full cost recovery level. Ongoing Government discussions with the Bank,

is The RRs for the complete investment component for apartment buildings were computed as a weighted averageof the RRs for the fourteen assessed buildings, assuming a distribution of 60:30:10 between packages A, B and C, andweighted according to the building types' relative importance with respect to the overall urban structures (see Table 6 inAnnex 12 for the weightings which correspond to the prevalence of particular building types in urban areas in Lithuania).The RRs calculated for investments in single family homes are generally much lower than those calculated for investmentsin apartment buildings. For the calculation of the overall project RRs, the average RRs of the three investmentcomponents (apartment buildings, single family homes, schools) were weighted according to the allocation of projectfunds (see Table 3.1 in Section 3).

- 35 -

concerning the possibi!ity of a Structural Adjustment Loan (SAL), and with the IMF, indicate a strongpolitical commitment to raising heating tariffs to full cost recovery.

5.10 The existing heating subsidy program, if not adjusted by the Government, may indeedconstitute a negative incentive for households, discouraging them from investments in residential energyefficiencN rehabilitation, as it is tied to households' income and not to their expenditure for heating (seeAnnex 2) However. households' expectations concerning the future of the subsidy and the developmentof their ow%n income are likely to mitigate most of the effect of this negative incentive. Only about 10%of households arc estimated to have no interest in investing in improvements as a result of the heatingsubsidy. As the proposed project would provide financing only for about 200-300 buildings, thenegative incentive for this particular group is not likely to endanger overall successful projectimplementation. Also, the project's institution building component entails the provision for a detailedstudv of Government policies in the sector that should lead to a redirection of the subsidy to low incomehouseholds only (see para 2.1 1).

5. I1 Dramatic changes in the market interest rate could deem the project-specific Governmentcontribution unsustainable. The Government contribution will be financed out of project funds; its sizeis linked to the diffecrence between an initially fixed level of cost to the borrower (15%) and the averageof Government Treasury Bill rates'6 with the longest maturity available, issued over the previous sixmonths, plus five percent. If interest rates were to rise excessively, as could happen if the current,difficult situation in the financial sector was not dealt with successfully, the project-specific Governmentcontribution would become more and more costly and the total amount needed to finance it wouldincrease Initially this would only shorten the lifetime of the Revolving Fund, as described in paras.3.16 and 3.17. and the number of investments that can be undertaken would be more limited. While thiswill not affect the calculated economic rate of return, higher than expected interest rates mav reach alevel at Nvhich the Government contribution in the form defined for the project (see para. 3.14) wouldnot be sustainable In this case, the level of contribution would be reviewed with the Government and,as appropriate, the effective cost of borrowing would be raised in accordance with changes in marketrates and inflation so as to maintain the project's viability to the economy as a whole.

5. 12 A test and learning activity was undertaken, as part of project preparation, in order tomitigate implementation risks as they may emerge in relation to the organizational capabilities ofhomeowners and their associations, their willingness to participate, and their ability to fulfill the role ofborrowers This tcst activity included assisting selected homeowners' associations through theorganizational, borrowing, and rehabilitation process involved in residential energy efficiencyrehabilitations. On the basis of this test program appropriate technical assistance components weredesigned such as advisory centers and other support to homeowners' associations. As the scope of theproject has been kept relatively small, and the implementation arrangements are relatively simple,technical assistance can be provided to address key issues with all relevant stakeholders (see Annex 5).

5.13 Amongst the implementation risks mentioned, the risk that homeowners associations will notbe able to fulfill the role of borrowers, and that consequently commercial banks will allow paymentarrears to occur, has in particular been considered carefully. Therefore, the project design givesattention to reducing the risk of deficiencies in loan repayment by ensuring that: (a) households arecorrectly advised not to undertake investments whose repayments exceed their means to repay; (b)banks are able to correctly assess expected energy savings in loan applications presented to them, and

i6 Mid-January 1996, the rate for one month T-bills was 26.7% while three month T-bills were sold at 28.5%.

Mid-May 1996. the average three month T-bill rate was 18.8%.

- 36 -

(c) households are given positive incentives to continue repaying their loans. Technical assistanceprovided to homeowners' associations will allow homeowners to develop informed decisions about themost desirable investments, on the basis of careful assessments of cost and potential energy savings.Eligibility requirements that link the size of an investment to the degree of consensus within any givenassociation will protect poorer households from being forced - possibly by richer neighbors - intocommitments that may exceed their means. Commercial banks will receive assistance for the appraisalof loan applications in order to be able to correctly assess expected energy savings. As an indication ofhomeowners' sincerity with respect to loan repayment, they will be required to provide themselves, up-front, a downpayment arnounting to 10% of their total investment. A further indication will be providedthrough the requirement that associations may not have outstanding utility arrears (see eligibility criteriain Annex 7). The monthly Government contribution to households' loan repayments that will, for atransitory period, as a 'matching grant' reduce the costs of the loan to the homeowners to an effectiveinterest rate of 15%, is expected to be an important positive incentive for continuing loan repayment. Itwill be made visible to homeowners through their account statements which the association will berequired to distribute to all homeowners- Incentives/penalties through the heating billing mechanism arenot considered feasible or appropriate as the loans will be provided through commercial banks which,for the enforcement of loan repayments, would have to rely on usual collection procedures in lendingarrangements.

5.14 The conditions under which commercial banks will act as Government's agents in theonlending program are designed such that banks are not only obligated, by contract, to corroborate butalso have a financial interest in the timely collection of loan repayments. Part of the court cost tocommercial banks from initiating court procedures against a defaulting association will be reimbursedout of project funds. It should be noted, however, that the payment performance among privatehouseholds with respect to heating bills appears to be relatively good. While the district heatingcompanies note high payment arrears during winter months, households usually pay their outstandingbills during the summer months.

Sensitivity Analysis

5.15 The project risks taken into account in the sensitivity analysis include: (a) heat tariffs notbeing adjusted by the Government to full cost recovery as assumed; (b) lower than expected energysavings resulting from investments; and (c) higher than expected costs for labor and materials. Overall,RRs generated by the project will remain well above the 15% level for most of the simulated changes inparameters while the variations differ, depending on whether investments are undertaken in apartmentbuildings, single family homes, or schools (for details of the sensitivity analysis, see Tables 8 and 9 inAnnex 12). If heat tariffs would continue to be set at a level at which cost recovery is only about 60%,the FRR would fall from 31% to 18% while the ERR would remain unchanged. However, even at aFRR of 18% most investments would still be attractive enough as to not endanger overall projectiniplementation.

5.16 While project returns will fall as a consequence of achieving less than expected energysavings, the degree by which they fall will depend on the reason for which less savings were achieved.Actual energy savings could be below the originally assumed level due to: (a) technical reasons (e.g.particular building materials may not generate expected benefits); (b) more beneficiaries opting forinvestment measures that affect heat consumption less (e.g. all beneficiaries might opt for package B);or (c) beneficiaries opting to increase indoor temperatures rather than to reduce their energyconsumption. If, due to technical reasons, actual energy savings achieved were only 75% of what hasbeen originally assumed then project returns (ERR) would drop to 18%. If savings achieved were only

- 37 -

50% of what has been assumed, project returns would drop to 10%. If more beneficiaries thanoriginally assumed were to decide to invest in rehabilitation measures with relatively lower payoffs,including measures with a longer payback time, the rates of return would be reduced to 19% (package Bonly). If only 75% of the originally assumed resource savings were achieved because beneficiarieschose to use some of their investments for measures that do not generate any energy savings but onlyincrease their comfort, then project returns would drop, too. However, while any other such reductionin savings would reduce the ERR to 18%, in this case this decrease would be less substantial, as raisingthe comfort level would gencrate extra, additional economic benefits which are not included in thisfigure. Such additional benefits from increasing homeowners' comfort level would result from thesubstitution of supplemental heaters - as homeowners are able to raise indoor temperatures with heatfrom the DH system and do not need the supplements any more - and from improvements in occupants'health.

Table 5.2: Project Risks, Mitigation, and Effects on Returns

Risks LikelihoodtMitigation Resulting Change inERR

Quantifiable Risks

Energy prices will not be adjusted to Government's budget situation and ongoing dis- If tariffs remain fixed atcost recovery level as assumed, and cussions between the Government and the Wor]d 60% cost recovery: notherefore cash flow of investments Bank concerning a Structural Adjustment Loan change in ERR but FRRnot sufficiently attractive to (SAL) indicate Govemment commnitment to raising 18%households tariffs to full cost recovery.Energy savings lower than estimated, A project specific monitoring program will Savings -25%: ERR 18%either due to technuical reasonis or as accompany implementation and generate and Savings -50%: ERR 10%beneficiaries opt for less effective distribute information on the most cost effectivemeasures measures.Costs for the rehabilitation measures Beneficiaries will receive up-to-date advice on the Cost +20%: ERR 20%higher than expected various investment options so that they can choose Cost +50%: ERR 15%

those with the highest returns.Market interest rates higher than Relationship between market interest rate and level no change in ERR; levelexpected, therefore level of subsidies of Government contribution will be reviewed semi- of Governmentto be financed out of project cost will annually and adjusted as necessary so as to maintain contribution will bebe higher than expected viability of the project. adjusted as necessary

Non-quantifiable Risks

Organizational capabilities of Technical assistance and support to homeowners' n.a.*homeowners and their associations associations.are overestimated Too few households will be able or Government contribution that lowers cost of loans n.a.*willing to participate to an effective interest rate of 15%.Within the given legal framework, Reduced risk of deficiencies in loan repayment by n.a.*homeowners' associations may not be ensuring that: (i) households are correctly advised;able to fulfill the role of borrowers (ii) banks are able to assess expected en-ergyand significant payment arrears will savings in loan applications; and (iii) predefinedoccur elipibility criteria for borrowers and sub-projects.Heating subsidy will make cash flow Not more than 10% of urban population are as- n.a.*of investments not sufficiently sumed to find energy savings measures not in theirattractive to households interest due to the heating subsidy; therefore the

heating subsidy is not likely to endanger overallproject implementation.

n a.*: not applicable

- 38 -

5. 17 An increase in costs for labor and materials does not affect the project's viability as much asdecreases in energy savings since (a) costs occur in initial periods only while savings are achieved overthe entire project life, and (b) each unit of cost generates several units of savings. A cost increase of50% would decrease total project returns (ERR) from 26% to 15%, while the same percentage decreasein savings would cause the ERR to drop from 26% to 10%.

C. PARTICIPATION AND SUSTAINABILITY OF IMPACT

5.18 Project sustainability will crucially depend on various aspects of institutional reform and,therefore, on the commitment of Government agencies and political decision makers to implement suchreforms. Commitment on the Government's side to the project is strong at present. MCUD and MOFhave been involved extensively in project preparation, demonstrating a high level of project ownership.

5.19 Project sustainability is also supported through the participatory approach taken by variousproject preparation activities and by the project design. Direct beneficiaries of the project were involvedin project preparation during a 1995 test program which influenced project design, in particular asregards affordability aspects and the need for assistance to homeowners' associations (see Annex l-B).Continued direct participation is ensured since the homeowners, through their associations, willthemselves identify and determine the work to be undertaken in their buildings, develop the necessarydecision making processes, arrange for financing, carry out the procurement of works, and participate inthe monitoring of energy efficiency impacts. The PCU will arrange for active assistance to thebeneficiaries, monitor closely progress and impact, and launch public information programs based onthe experiences gained during this pilot project.

D. DISTRIBUTION OF IMPACT

5.20 Individuals and groups positively affected by the project. The project will have a directpositive impact on the living standards of those approximately 14,000 households that live in buildingsin which energy efficiency improvements are expected to be implemented. These households will enjoylower energy bills, a better and healthier indoor environment as well as improvements in the value oftheir assets. At the same time, they will learn about issues involved in privately organized andimplemented housing maintenance, an experience that should enable them to function more effectivelyas the housing market develops. In the medium term, an indeterminate number of households willlikewise benefit from being informed about the experiences of the project and will be in a better positionto avail themselves of long term funds that by then may be available from other public or privatesources. Other 'winners' will include contractors and consultants benefiting from contracts generatedthrough the project as well as from training provided through the technical assistance program. Asapproximately 90% of Lithuanian households own their houses or apartments, largely irrespective ofincome groups, no socio-economic group will be excluded from these medium-term benefits; however,affordability may pose a constraint for the poorest households to participate.

5.21 Individuals or institutions who may be adversely affected by the project include (a) thoseindividuals in apartment buildings who may, over time, relocate because they cannot afford the loanrepayments determnined by a majority in their homeowners' association, or because they do not want topay them; and (b) the district heating companies that will lose some revenues, though to a very limitedextent. In the former case, homeowners may have to sell their apartments and move to buildings wheremonthly charges are lower. In the latter case, the effect is likely to provide a positive incentive for the

- 39 -

DH companies to operate more effectively and to improve the efficiency of production and delivery ofheat.

E. FISCAL IMPACT

5.22 Counterpart funds required from the Government for the proposed project are about US$6.5million over the four year project implementation period. This would be a redirection of existing budgetresources for the housing sector. The annual Government contributions to the project represent lessthan 0.3% of the 1996 Central Government budget.

5.23 Contriblitions from the Government and proceeds of the Bank loan for the rehabilitation ofresidential housing totaling about US$13.8 million will be set up as a revolving fund. Proformaprojections indicate that the Fund would provide loans totaling about LT 128 Million or LT 68 Millionin 1995 terms, over a ten year period, after deduction of all debt service of the Bank loan andGovernment contributions matching loan re-payments by final borrowers (see Annex 6).

F. POVERTY IMPACT

5.24 The project will have no direct impact on the poor as a group, however, credits providedthrough the project will be the only source of funds available to low income households forimproving the thernial efficiency of their homes. Rising energy prices affect the poor particularlyharshly and any savings are the more to their benefit. Affordability analysis shows that lowmonthly repayments are achievable to most households by limiting renovation measures to the oneswith high payback, financed by medium to long term loans being shared with many otherhouseholds. In order to ensure that the project will in particular benefit homeowners in apartmentbuildings, the share of the Bank loan that can be used for lending to individual homeowners (ofapartments or single family homes) will initially be restricted to 10%. To limit the risk ofunreasonable payment demands being inflicted on low income households through majority decisionby the homeowners' association in their building, various mitigation measures would be applied(see para 4.10). In addition, homeowners' associations will be encouraged to take into accountindividual households' ability to pay in allocating the proposed government loan repaymentcontribution among apartment owners.

5.25 Some of the poor households among those eligible for the Governments' heating subsidyprogram may be negatively affected by their homeowners' association's decision to invest in energyefficiency rehabilitation. While these households may not benefit from any energy savings achievedthrough an investment - under the heating subsidy program they do not pay any heat billing exceeding15% of their income - they will still have to bear the cost for the investment. Quantitative andqualitative analysis suggests, however, that only a very limited number of households may be in aposition in which modest investments in energy efficiency may inflict additional hardship (see Annex 2,para. 9). Indeed, a test-activity undertaken as part of project preparation demonstrated that keeping aninvestment small will result in loan repayments which are affordable even to the very poor (see Annex1-B, para. 12). The project will institute a tracking mechanism and closely monitor actual impactand experiences. Policy reform features of the project - i.e. financial assistance for specializedstu'dies leading to specific action programs - will, among other things, encourage a reorientation ofexisting housing subsidies to provide greater benefit to neediest groups.

- 40 -

G. ENVIRONMENTAL IMPACT

5.26 The project is expected to have a beneficial environmental impact through conservation ofenergy resources and a concomitant reduction in the byproducts of fuel combustion. Although theseenvironmental benefits are not expected to be large due to the limited resources available and the pilotnature of the operation, a significant multiplier effect is to be expected in the medium term. The modi-fications of existing buildings are not expected to require, during the implementation of the works, re-location of residents. All investments would have to comply fully and be consistent with Governmentand Bank environmental policies and conditions. The project environrental review concluded that theBank's and the Government's primary concern would be asbestos that may be encountered in the formof pipe insulation in older buildings for which the following mitigation plan has been designed.

5.27 A two-step environmental risk mitigation procedure would be applied for each sub-project,as required, to address asbestos pipe insulation encountered in rehabilitation works financed under theproject, namely (a) identification, and (b) handling and disposal. Identification of asbestos will beeffected through a process whereby the sub-borrowers' consultants will be required to certify theabsence or presence of asbestos in each sub-project. Local inspectors from the State Labor Inspectoratewould be available to support the consultants when there is doubt.'7 Handling and disposal: Whereasbestos is certified to be present, the respective contractor will be required, as per specifications in thecivil works contract with the sub-borrower, to submit a plan for handling and disposal of the asbestos."8

Existing asbestos removal procedures used by Lithuanian district heating companies (adopted in 199 1)have been reviewed and found to be adequate to meet mitigation requirements for handling and disposal.The contractor's plan must be approved by the sub-borrower. Guidance will be provided by the StateLabor Inspectorate or the Municipal Center for Public Health, as required. Lithuanian national normsand Public Health and Occupational Safety and Health procedures for asbestos handling are beingdeveloped by a Government task force, and are expected to be established by 1997.

5.28 The consulting assistance to sub-borrowers for preparation of sub-project investmentproposals, which would include identification of hazardous material and any other environmentalconcems, would be funded by the project technical assistance component through bilateral grantsexceeding US$0.5 million. Potential environmental concerns will also be addressed in trainingprograms for these consultants (see para. 2.1 0(e)). Assurances would be sought from Government toensure TA quality and corresponding fallback financing, should sufficient grant financing not beforthcoming. Potential issues identified would be addressed by the civil works contractor, and wouldconsequently be paid for through such contracts. The project would be coordinated with demand sideenergy conservation programs of the Lithuanian Energy Agency and related activities financed by theEU. The project has been rated as environmental screening category B (for further details, see Annex13).

11 In case a sub-borrower would choose not to use the consulting services made available under the project, the

participating bank appraising such loan application will be required to undertake the corresponding environmentalinvestigation by a consultant also made available under the project.is A corresponding procedure would also apply should any other hazardous material or environmental concerns beidentified related to the residential rehabilitations by the sub-borrower or the consultant.

- 41 -

VI. AGREEMENTS AND RECOMMENDATION

A. AGREEMENTS REACHED DURING NEGOTIATIONS

6.1 The following agreements were reached during Loan negotiations

(a) During project implementation, MOF will maintain staff for the disbursement of funds and forrelated coordination activities, whose qualifications, experience, and terms of referencc aresatisfactory to the Bank [para. 4.21;

(b) During project implementation, a Project Coordination Unit will be maintained x' ith functionsand responsibilities satisfactory to the Bank and with staff whose qualifications, experiencc andterms of reference are satisfactory to the Bank Ipara. 4.6];

(c) Agreement was reached on the performance indicators for all project objectives and that theGovernment woula: maintain policies/procedures adequate to enable it to monitor and evaluatc. onan ongoing basis, project implementation and the achievement of the objectives Iparas. 4 12. 4 19and 4.231,

(d) On or before March 31, 1997, and semi-annually thereafter, Government will review and agrcewith the Bank the appropriateness of the formula for determining the onlending interest rate. andof the level of the project-specific subsidy, with a view to ensuring its justification Ipara. 3 161:

(e) By May 1, 1997, Government will provide evidence, on the basis of previously agreed indicators.of the provision of adequate advisory services to homeowners and their associations, inorganizational and financial matters as well as with respect to technical and engineering issues[para. 2.9];

(f) By September 1, 1997 (or before the date falling one year from the date of Loan effectiveness)and annually thereafter, Government will (a) review with the Bank: (i) the overall implementationof the project, (ii) the performance of MOF, the HCF, the PCU, the Participating Municipaliticsand the PFIs in implementing the project; (iii) the levels of repayment by Beneficiaries under sub-loans; (iv) the adequacy of technical and financial advice to enable HOAs and individual home-owners to evaluate the benefits of participating in the project, and (v) the appropriateness andlevel of the Government contribution to loan repayments; and (b) on the basis of this revicwVimplement changes to the implementation arrangements and the Operating Procedures required toensure the efficient completion of the project and the achievement of its objectives [para. 4.231.

(g) By October 1, 1997 Government will have completed a comprehensive study resulting in (X) aspecific action plan to refocus or target existing government assistance programs for the housingsector to the neediest groups in society; such plan to be discussed and agreed with the Bank. and(ii) recommendations for reform of the existing government energy subsidy program forresidential households [paras. 2.11, 3.15 and 3.171;

(h) By October 1, 1998 Government will have completed a study resulting in recommendations for astrategy to promote energy efficiency rehabilitation of residential buildings [para. 2.1 11;

(i) By October 1, 1997 the two participating municipality will each have undertaken a study of theirhousing maintenance organizations with recommendations to be discussed and agreed with theBank including options to reorient and/or privatize the maintenance operations [para. 2 14]1

(j) By June 1, 1998 Government will undertake a comprehensive mid-term review of the project,under terms of reference satisfactory to the Bank, and furnish to the Bank, a report intcgrating theresults of the monitoring and evaluation activities performed as described under paragraph (c) ofthis Section, on the progress achieved in the carrying out of the project, and setting out

- 42 -

recommendations to ensure further efficient carrying out of the project and the achievement of itsobjectives. The Government will review this report with the Bank, by July 1, 1998 or a later dateacceptable to the Bank, and, based on the conclusions and recommendations of the report and theBank views on the matter, refine the project design as appropriate and take all measures requiredto ensure the efficient completion of the Project and the achievement of its objectives [paras. 4.12and 4.241.

(k) Procurement/disbursement arrangements. accounting/ reporting requirements, location of specialaccount, and supervision schedule were confirmed [paras. 4.22, 4.25, 4.31, 4.33, 4.37]; and

(I) On or before December 1, 1996 (or three months after the date of Loan effectiveness) andquarterly thereafter, the HCF Board will meet to review project implementation [para. 4.7].

B. CONDITIONS OF EFFECTIVENESS

6.2 Following the signing of the Loan Document, the requirements for effectiveness of the LoanDocument must be completed by the Borrower. in accordance with the following provisions:

(a) Signed Subsidiary Loan Agreement satisfactory to the Bank, between the Ministry of Financeand at least one commercial bank [para. 3.91;

(b) Evidence satisfactory to the Bank, that the PCU has been appropriately established within HCFto coordinate project related activities, and that a manager, a technical assistance coordinator, animplementation officer and an accounting officer, with qualifications, terms of reference, andexperience satisfactory to the Bank have been appointed [paras. 4.2 and 4.6];

(c) Signed Implementation Agreement, satisfactory to the Bank, between the Ministry of Finance andthe Housing Credit Foundation [paras. 4.3 and 4.16];

(d) Evidence satisfactory to the Bank, that Operating Procedures acceptable to the Bank have beenadopted by HCF, MOF, and by each commercial bank that entered into a Subsidiary LoanAgreement with MOF [paras. 2.6. 4.10 and 4.181.

C. CONDITIONS OF DISBURSEMENT

6.3 The following conditions would be met:

(a) Prior to disbursement to a municipality: Signed Subsidiary Loan Agreement, satisfactory to theBank, with each project municipality for which disbursements are to be made Iparas . 4.2 and4.15]; and

(b) Prior to disbursement to a commercial bank: Signed Subsidiary Loan Agreement, satisfactory tothe Bank, with each commercial bank to which disbursements are to be made [paras. 4.2 and4.141.

D. RECOMMENDATION

6.4 With the above agreements and conditions, the proposed project would be suitable for a Bankloan of US$ 10 million at the standard variable interest rate for US dollar single currency loans with amaturity of 20 years, including 5 years grace period. The Borrower would be the Republic ofLithuania.

- 43 - Annex I

1. SOCIAL ASSESSMEENT

1. A social assessment was conducted to ascertain the level of demand for the project, todetermine likely impact on beneficiaries, and to understand the roles, responsibilities, strengths andweaknesses of various project stakeholders. The social assessment consisted of two majoractivities: (a) a survey of 2007 households, conducted in Vilnius, the capital city, and Kaunas, thesecond largest city in Lithuania, investigating energy consumption patterns, living standards,attitudes towards housing and maintenance, and the organizational capacities of homeowners'associations; and (b) a test-activity launched by MCUD involving assistance to four homeowners'associations in buildings where energy efficiency improvements were considered and planned andwhere implementation was initiated, supported by qualitative interviews of households andhomeowners' association leaders and by systematic participant observation by a team of social-scientists.

A. HOUSEHOLD ENERGY CONSUMPTION AND ATTITUDE

Survey Design

1. Field work for the survey was carried out from January to May 1995, strategically focusing ontwo cities, Vilnius and Kaunas. About 607 buildings were involved; 2007 interviews wereconducted; and 94 homeowners' associations were visited. Interviews were conducted using aquestionnaire especially designed for this task. Random sampling was applied to the sample frameof the household survey. The building-strata resulted from cross-combinations of: (i) threeconstruction periods (before 1957, 1958-1983, and after 1984); (ii) six types of building materials(brick, concrete, panel, karkas, wood, and other); and (iii) seven height categories (individualhouses, 1-2 storey apartment buildings, 3-4 storey, 5-8 story, 9-11 storey, 12-15 storey, and 16storey apartment buildings).

Housing and Privatization

2. The large majority of the households live in apartment-buildings (85%) or in multi-familyhouses (5 %). Only 5% of the households live in single-family houses, although this figure rises to9% in Kaunas against 2% in Vilnius. Due to insufficient housing, 6% of the households surveyedlive in communal dwclliigs (or dormitories) where they share the kitchen and the bathroom withother households.

3. Ninety-four percent of the households surveyed reported to own their home. The incidence ofhome ownership amongst pensioners is particularly high (97%). Even families living in dormitoriesreceived privatization vouchers and now most of them own their room(s). Residential mobility hasgrown as a consequence of the privatization program. While a third of the households have beenliving in the same home for the last 20 years, one household out of two has been living in the samehome for the last 10 years, and one household out of four has moved home in the last five years.Amongst pensioners, however, more than 56% have lived in their home for more than 20 years andnearly 80% for more than 10 years.

- 44 - Annex 1

Energy Use and Energy Efficiency Rehabilitation

4. About 95% of the homes are heated with a central heating system. Either the central heatingsystem is connected to a district heating network (92% of homes) or the building operates its ownboiler (8% of the homes). Individual boilers are mostly found in individual houses and 1-2 floorapartment buildings. Three out of four households entirely depend on central heating and do notuse an additional heating system. Electricity is widely used for supplementary heat by theremaining 25 %. Additional heat is almost exclusively used to cope with a deficient main heatingsystem, either where the level of heat is insufficient (for 48% of the households during the heatingseason) or when the collective central heating system is shut down (happens to 46% of thehouseholds during the heating season, and to 92% outside the heating season). Pensioners aremuch less likely to use supplementary heat (12%), and only 8% use electrical heaters for thispurpose.

5. Although half of the households are satisfied with the heating system and enjoy a comfortableheat level (51 %), quite a large number of households considered their apartment cold during thewinter 1994/1995 (43%). Households connected to a central heating system are much more likelyto be dissatisfied with their heating system than households connected to piped gas (20% of thehouseholds connected to a central heating system are very satisfied with the heating system, whilethis opinion is voiced by 55.5% of households which use piped gas for heating). Approximatelyone quarter of all households express strong discontent regarding their heating system.

6. People own their apartments, but few have yet carried out major repair work to improve thethermal resistance of either the building or their own apartment. It is common for households tocarry out temporary winter insulation work, such as window insulation with plastic film (about 75 %of the households) or door insulation (about 50%). Balcony glazing is very popular, and onehousehold out of four who has a balcony has glazed it in the last five years. Major work, such asrenovation of the heating system, is unthinkable for the majority of the people due to the involvedcost.

Household Incomes and Expenditure for Energy

7. The data support the commonly held belief that in Lithuania, as in many other EasternEuropean countries, income groups are randomly scattered across apartment buildings, irrespectiveof an apartment buildings' quality. Also, the data do not show any significant relationship betweena household's income and the state of the heating system in the household's building.

8. On an annual basis, households devote on average 1 1 % of their monthly income to energyexpenditure (electricity, heating, hot water, gas, etc.); in the winter this figure raises to 15%.Network fuels represent 90% of the energy bill. Although the energy bill increases with income,the financial burden is not distributed with equity among households. Low income households beara relatively higher burden than any other income groups. Energy bills absorb at least 20% of theirmonthly income and up to 26% during the winter months. Meanwhile, for the high incomehouseholds the energy bill never exceeds 22% of their income during the winter month, and dropsto a maximum of 15% on an annual basis.

9. On average, due to their higher energy consumption, households living in individual housesspend more to meet their energy requirements than their counterparts living in apartment buildings.

- 45 - Annex I

The former pay, on average, 60% more than the latter. People living in brick houses have aparticular high energy bill. The smaller the building, in general, the higher the energy bill per sqm.

10. Although a large majority of consumers admit that they have financial problems to pay theirenergy bills (73%) only half of them agree that they would consume less if prices were higher.More generally, they say that it will be impossible to pay more (87%). However, the statement that'it would be impossible to pay if prices were higher' should be interpreted with caution as it issupported also by about half of the respondents in the highest income quartile for whom the heatingbill does not regularly exceed 2% of their income. The social program aimed at providing financialsupport to low-income families is perceived as inefficient by almost 90% of the households.Indeed, nearly 60% of households in the lowest income quartile admit having financial problemspaying their energy bills, among pensioners the share of households expressing this opinion rises to80%.

Attitudes towards and Knowledge about Energy Saving

11. There are mixed opinions about energy savings actions. Fifty-five percent of the householdsdo not agree that 'energy saving is a waste of time' (the rest agrees or has no opinion). Mostpeople think that they would reduce their energy bill if they could save energy. On the other hand,80% of al; surveyed households estimate that their energy consumption has already reached aminimal level, and that a reduction in the level of consumption would inflict a hardship on theirfamilies. Interestingly enough, the attitude that reducing the energy consumption would be ahardship is most widespread amongst households who are content with their heating systems (aresult which suggests that answers provided to the question whether saving energy would be ahardship should be interpreted with caution). Also, households who admit having 'financialproblems paying their heating bills' are more likely than other households to state their wish for ahome heat meter (on average this is stated by half the respondents). This appears to imply that ashouseholds feel the burden of their energy bill they would try to save energy, in order to save ontheir bill; nonetheless they may not find themselves in a comfortable situation as a result (since theyconsider themselves already having reached a minimal level). Pensioners, on the other hand, arethe group least likely to express a wish for a home heat meter even though the share of respondentsamongst pensioners who expressed wanting to have one is still close to 50%.

12. About half of the respondents did not know how to save energy or where they could getadvice on energy saving issues. However, not knowing how to go about it does not appear toimply a negative attitude towards energy savings in general. Setting up an information center or abuilding demonstration project was seen as somewhat useful (14% and 15%), although people thinkthat television is the best medium for conveying information about insulation issues (48%). Ingeneral, richer households tend to be better informed about how to save energy (67% in the lowestquartile said they did not know how to save energy, while this was stated by only 45 % in highestquartile).

13. Most households do engage in some kinds of energy saving behavior. They turn off thelights in unoccupied rooms (about 90% of the households) and perceive that insulating their homeswill reduce their energy bills (about 60%). Nevertheless, there is a general feeling ofpowerlessness as higher energy prices are perceived as a "bad fate".

14. People both believe that insulation would reduce their heating bill and would like to insulatetheir homes (about 75 % of surveyed households agreed with both statements). Indeed, more than

- 46 - Annex 1

40% of the respondents had indeed spent more than 15 LT over the last year on insulating theirhome, e.g. through windowstripping, glazing, etc. Households appear to invest less in insulation ifthey are convinced that there is no way they can regulate the heat level in their apartment orbuilding. The interest in insulating one's home is most prevalent amongst those who either owntheir apartments/houses or belong to co-operatives even though the interest is also very strongamongst households living on premises that belong to the municipality or a private landlord (about65%).

15. Insulating one's home appears to be less interesting, however, for households occupyinglarge apartments or houses, nonetheless occupants of larger flats and houses appear better informedabout energy savings possibilities. Consequently, there does not seem to be a relationship betweenwhether a household is well informed about insulation and whether it would like to insulate itshome. It should be noted that the interest in insulating one's home only varies slightly amongstincome groups in general (72% in lower income groups and 78% in higher income groups).However, 'having problems paying one's bill' is a statement that appears strongly related to thewish to insulate one's home.

Attitudes towards Homeowners' Associations

16. More than half of all households strongly believe that a homeowners' association would beuseful, a statement with which only 7% 'strongly disagree'. Attitudes towards the importance ofhomeowners' associations appear to be only slightly influenced by the level of education and byincome. While 54% of household heads that are university level graduates agreed that 'anassociation would be useful', this opinion was only shared by 49% of household heads with onlyelementary school education and by 37% of household heads with uncompleted secondaryeducation. Gender or age appear not to influence attitudes towards associations.

17. Homeowners' associations were reported to exist in the buildings of 12% of the surveyedhouseholds. The incidence of associations is highest amongst households living in apartmentsowned by a private landlord and amongst households owning their homes (less so in municipalowned houses). In nearly all cases where a homeowners' association exists, housing maintenance isalso organized by the association. Homeowners in buildings with an association appear to be betterinformed than on average about energy savings and have more positive attitudes towards energysavings activities.

B. RESULTS OF A TEST ACTIVITY

Motivation for the Test Activity

1. MCUD launched a test activity during project preparation in order to understand the needs andcapabilities of homeowners associations, particularly within the context of improving energy efficiencyin their buildings. The purpose of the activity was to learn about homeowners associations by enablingselected associations to undertake more substantive energy efficiency improvements. MCUD staff,working with local and international consultants, helped four associations go through a process throughwhich they would borrow money from banks to implement energy efficiency measures. MCUD staffand technical consultants provided direct assistance to the associations through the many steps in theprocess, including: (i) inviting the associations to take the loan; (ii) obtaining a mandate fromassociation members, (iii) gathering technical and procedural information; (iv) preparing a proposal that

- 47 - Annex I

identified options and their respective costs and benefits; (v) choosing a course of action and invitingbids from contractors; (vi) selecting a bid; (vii) negotiating with contractors; (viii) negotiating withcommercial banks; and (ix) overseeing the construction and installation. Meanwhile, social scientistsand field assistants closely observed the process, complemented by two phases of qualitativeinterviews. The objective of the observation was to learn about the internal dynamics of theassociations, their strengths and weaknesses, their needs and experiences, and their interactions withoutside organizations.

2. The four associations were selected to participate in the test on the basis of their demonstratedinterest in energy cfficiency improvements and their organizational strength, thus they represent"champion" associations. The multi-faceted support and observation yielded valuable informationregarding the capabilities and needs of these four homeowners associations, as well as more generallessons that informed the design of the project.

Methodology

3. Four principal interaction and observation methods were used in the test activity: officialconsultation; expert advice and assistance; respondent interviews; and participant observation. Thefour approaches complemented each other and, to some degree, also produced synergy amongsteach other. In particular, the participant observation activity was the one that most effectivelycaptured dynamics, assessed impact and identified gaps and needs.

4. Official Consultation. The MCUD officially implemented the test activity. Both formally andinformally, officials of the MCUD maintained contacts with leaders of the four homeowners'associations throughout the test activity, from the earliest inquiries regarding the level of interest inparticipating in the activity through the later stage of negotiating loans through the participatingbanks. Official contacts ranged from the Deputy Minister level to working technical levels, all ofwhom were actively interested in the activity and conmmitted to moving it forward. MCUD officialsset participation rules and patterns, provided information regarding rights and procedures, andplayed an advocacy role in their offices. Their active involvement revealed the extent to whichprocedures and parameters were evolving during the activity itself, thus complicating theconsultation role. The involvement of MCUD staff also strengthened its awareness of the paucityof information available and the key role of MCUD in information flows.

5. Expert Advice and Assistance. External consultants worked in three stages on the testactivity. During the first stage, energy efficiency measurements and tests were conducted inbuildings of participating homeowners' associations and others. These were designed to providebaseline data from which to assess the impact of improvement measures. At a second stage,consultants devised energy efficiency and conservation measures (including cost and cost-savingsdata) for specific buildings, including the four participating associations, discussed therecommendations with associations and participated in discussions that lead to individual associationdecisions regarding how to proceed; and prepared bidding documents to enable the associations totender for the works. In a third stage, consultants developed operational procedures for projectimplementation, based on observations of various association meetings, and discussions withofficials and other stakeholders. The consultants infused the test activity with technicalinformation, provided insights into ways to prepare the information for homeowners, homeowners'associations and officials, and ways to use the information.

- 48 - Annex I

6. Respondent Interviews. Two types of interviews were conducted in order to understand thenature of the involvement of homeowners' association in each building, to ascertain the socio-economic status of homeowners in the test buildings, and explore the attitudes toward a number ofissues that related to the project. First, a socio-economic survey was administered to a randomsample of 8-10 households in each building in a multi-step process. The first phase, undertaken atthe first stage of contact, focused on perceptions and information about the homeowners'association, energy-saving, housing, pilot activities, banks, borrowing, and interest rates. Thesecond stage was a qualitative follow-up interview both to elaborate responses to the first stage andto identify any changes in attitude regarding such things as the performance of the association, theflow of information, and attitudes toward energy-saving, banks and other issues. In addition,homeowners' association leaders were interviewed to learn more about the specific activities of theassociations, participation patterns of homeowners, institutional issues regarding the association andthe proposed project, and to obtain inputs regarding the needs of the association that might be metthrough the project.

7. Participant Observation. A local consultant followed every step of the test activity as aparticipant observer. She attended board and general assembly meetings of the homeownersassociations, and meetings between the association and outside groups, particularly technicalconsultants, banks and contractors, keeping notes and reporting on both the content and dynamicsof the meetings. Where possible, the consultant also arranged meetings to promote communicationand facilitate the acquisition and dissemination of information. Consistent with the role ofparticipant observer, the consultant became a ubiquitous attendee, acting primarily as catalyst andinstitutional memory, but also taking an active advocacy role when appropriate. In addition to themeetings, she conducted the qualitative household interviews and continually updated theassociation leader data, recording changes in attitude and behavior, as well as perceived changes instatus.

Associations and Steps Observed

8. Four associations participated in the test activity, each of which is unique, presenting specialchallenges and special opportunities to learn about the diversity of homeowners' associations. Abrief comparison of the four associations is shown in Table 1, below.

Table 1: Participating AssociationsStreet Address Location No. of Units Income/Mo Leadership Formation

(LT)Baltupio Vilnius, 4-5km. 600 350-550 Directive 1978-79Zemynos Vilnius, 7-8km 24 550-850 Dir/polarized 1987G. Vilko Vilnius, 3km 64 350-2,000 Participatory 1958S.Zakausko Kaunas,2-3km 81 850-1,350 Participatory 1979

9. Only two of the four pilot associations finally took a loan and modernized the heatingequipment in its house. The other two were upheld in their internal decision making, as well as intheir decision making about whether or not to eventually take a loan, by general communicationproblems and by overall fear and hesitation towards committing themselves to the burden of a loan.Fear and hesitation, however, do not appear to have been related to the income situation of theassociation members. Indeed, the members of the associations which eventually took a loan had, onaverage, lower incomes than the members in the other associations. However, leadership and

- 49 - Annex I

communication were rated highest in these association and appear to have contributed decisively toits success in obtaining a loan and undertaking energy efficiency rehabilitations (see also para. 12below).

10. The associations differ in a number of dimensions, but the most critical dimensions related tothe project appear to be the following:* prior experience: former cooperatives converted to homeowners' associations already have an

organizational advantage;* leadership: some leaders take a directive stance, others actively engage members in decision-

making; the latter are most effective in introducing new ideas, such as preparing members totake credit for common investments;

* resources: families with higher incomes are better prepared to invest in the buildings, as therelative impact on family income will be smaller than it would be for poorer families; yetresources are not the most decisive influence on whether or not an association eventually takes aloan;

* information: people are hungry for information; those that feel they have access, via their leaders orotherwise, are more predisposed to participate in the program.

Lessons from the Test Activity

11. The most important result of the test activity is an understanding of the tremendous transactioncosts to homeowners associations of their attempts to improve energy efficiency under currentconditions. Even with the direct intervention of high Government officials in the concemed sector, theactivity consumed a significant amount of time, much of which must be eliminated if a demand drivenprogram is extended nationwide. Under existing arrangements, very few homeowners' associationleaders would have the time or the energy required to participate in such a program without assistance,given their need both to get and evaluate information and to satisfy the questions and allay the fears oftheir members. In addition, six other important lessons emerged from the test activity that must betaken into account during project implementation:

(a) homeowners' associations vary greatly in the strength, function, experience, and openness oftheir members and leaders, for the most part, they need basic capacity building inputs;

(b) homeowners have considerable interest in improving energy efficiency, but they know littleabout technical options, costs, credit and credit conditions;

(c) despite the huge need, homeowners' associations have little access to information aboutrenovation and miaintenance;

(d) many homeowners are anxious about indebtedness and credit; although some of the anxiety maybe dispelled by access to good information, positive experiences will also be necessary;

(e) while the concept of interest rates in general appears well understood, there is consensus thatinterest rates of 15%, in a Government program, were 'outrageously high' yet just about themaximum affordable.

(f) individual homeowners and homeowners' associations are dependent on authorities andcontractors for information, yet mistrustful of them. Thus there is considerable demand forindependent advice.

12. Another important lesson from the test activity is that even very poor households are able toafford borrowing for energy efficiency improvements if the size of the investments is kept moderate.

- 50 - Annex 1

One of the pilot associations demonstrated this by, in the course of the test-activity, taking a loanamounting to approximately USD 100 per apartment owner. The association could cover the paymentsfor the loan through a 0.25 LT/sqm fee that had formerly been charged by the municipal maintenancecompany - before the association decided to cancel the contract with the company as the maintenanceactivities perfonred had been minimal. Therefore, without actually 'feeling' that they are paying extrafor the re-payment of the loan, individual homeowners yet benefit from the improvement in the house. Itshould be noted that about half of the households of this particular association are eligible for theheating subsidy described in Annex 2 (see also Annex 4 for more information on affordability).

Project Implications

13. From the lessons learned from the test activities, four important implications emerged that will betaken into account during project implementation:

(a) It is essential to produce and disseminate clear, simple and complete information tohomeowners' associations and homeowners regarding technical options for energy savingsavailable to them and procedures for obtaining both advice and credit;

(b) To gain the confidence of homeowners, and thus to accelerate the process of improving energyefficiency' in housing, the operation of the program must be simple, transparent and fair,providing open access to information and resources without favoritism, bureaucratic hindrancesor exaggerated expectations"

(c) Homeowners' associations should be encouraged to help each other learn from their experiencesand articulate their needs by creating an association of homeowners associations.

14. Through advisory centers or other mechanisms, such as an association of associations,homeowners and homeowners' associations could be provided with independent information and advice,as well as training in both technical and management areas. This can serve to empower them bothindividually and collectively to manage their affairs and protect their interests. If successful, the centerscould be expected to be self-sustaining over time. Meanwhile, the example of homeowners' associationsthat participate in the program will serve as a stimulus to homeowners in other buildings to establishassociations and will encourage officials and others to promote the further development of homeowners'associations as active elements in a strong civil society.

- 51 - Annex 2

2. EFFECTS AND RISKS ASSOCIATED WITH THE HEATING SUBSIDY

A. DESIGN OF THE HEATING SUBSIDY

1. The Lithuanian Government established, in 1994, an indirect subsidy program to reduce theburden of heat and hot water costs on needy households (the latest Decree regulating the subsidy isDecree No. 998 of 7/20/95). Heat billings that exceed 15% of household income (and hot waterbillings that exceed 5 % of household income) can be deducted from the bill and not paid, for whichthe district heating companies may claim reimbursement from the municipality.' Eligibility for andsize of the subsidy are established according to income, socio-economic classifications, heatingsystem, household size and the size of the apartment/living space:

(a) Household income. The household income is assessed by the municipal social carecenters, on the basis of income information on all household members provided by theapplicant. Municipalities have no means of assessing the correctness of the informationprovided. In theory, they could undertake spot-checks of applicants, yet limitedpersonnel does not allow for such assessments.

(b) Eligible groups. The subsidy program specifies a detailed list of "low income families"that are eligible for an exemption from paying more than 15% of their income towardstheir heating bill. These comprise families in which spouse(s) are: (i) are regularlyemployed, (ii) unemployed due to pursuing education, not finding a job (being registeredas unemployed), due to medical conditions or disability, or due to medical conditions ordisability of a family member who needs to be nursed, (iii) pensioners, old or disabled,(iv) employed or unemployed, and the other one is unemployed due to pregnancy,maternity leave (up to three years for only child, up to 8 years, if there are threechildren undcr 16, or when there is no day care center or when the child's healthrequires nursing), or a combination of maternity leave with farming of more than 2hectares of land.

(c) Size of living space and size of household. The size of the living space which to heatmay be subsidized depends upon household size and specific socioeconomiccharacteristics. Normally, billings for heating 20 sqm per household member areeligible for the subsidy, whenever a household member is disabled or a pensioner thenumber of sqm rises to 30 sqm for this household member. Single inhabitants ofapartments are eligible for a subsidy for heating 36 sqm per person. In addition, 15 sqmmay be added respectively for heating kitchen/bathroom/etc.

(d) Heating systems. Only households who live in dwellings connected to the DH systemand/or local boilers operating on metered natural gas are eligible for the heating subsidy.

B. OPERATION OF SUBSIDY

2. The number of eligible households has increased greatly between the heating seasons of1994/1995 and 1995/1996. According to a representative household survey conducted during spring1995 about 8% of urban households benefit from this program. For the heating season 1995/1996,

1 The cost of hot water is subsidized under the same decree, according to similar procedures. If the bill for hotwater exceeds 5% of a household's income then the billing above this threshold does not have to be paid by thehousehold.

- 52 - Annex 2

no official data on the number of households eligible is available as of yet. Information collectedfrom the Vilnius DH company and the Vilnius municipality appears to imply that, duringOctober/November/December 1995 more than 1/3 of all households in Vilnius were eligible for thesubsidy and received, effectively, on average 23 LT/month as a subsidy to their heating bill.

3. The increase in the number of eligible households may be attributed to a combination of thefollowing three factors: (a) prices of residential heat were increased, in summer 1995, from LT1. 12/sqm to LT 2.40/sqm in nominal terms, (b) outside temperatures in November/December 1995were relatively low in comparison to the previous year, and therefore heating bills were higher, (c)there is anecdotal evidence that the extent to which firms tend to underdeclare wages paid to theiremployees has increased over the last year. This assertion is supported by the Vilniusmunicipality's observation, that between 60% - 70% of all eligible applicants for the heatingsubsidy were employed by the private sector, nonetheless wages in the private sector tend to behigher than Government wages.

4. While the heating subsidy has certain advantages - it ensures the use of the implicit incometransfer for the purpose it has been assigned and the transaction costs involved in its administrationare minimal - there are several serious flaws in its design and operation: (a) it appears to benefit apopulation group much larger than the actual poor as municipalities have no means to control thecorrectness of income statements on which eligibility depends, (b) it excludes most of the ruralpopulation - where poverty indices are higher - as it only applies to dwellings connected to the DHsystem or to local boilers that operate with metered natural gas, (c) it is suspected that the districtheating companies may in many cases simply have to absorb the cost of the subsidy themselves, and(d) as it operates on a percentage basis it removes the incentive for eligible households to saveenergy.

C. ELIGIBILITY ACCORDING TO DWEELING SIZE

5. The amount by which a household's heating bill is subsidized is limited by the size of itsdwelling (see above). This restriction is reasonable given the assumption that poor households livein smaller apartments and also considering budgetary restrictions for the financing of the subsidy.Indeed, the survey undertaken in spring 1995 indicates that there is a positive relationship betweenhousehold income and living area in sqm. Poor households live on less space: The income groupof < 240 LT had a living space of 28 sqm (total area: 43 sqm), while those in the 900 LT or aboveincome group had a living space of 46 sqm (68 sqm).

6. However, as eligibility is calculated according to household member per sqm of dwelling, theless members a poor household has the higher the likelihood that it does not fully benefit from thesubsidy. The survey referred to above indicates indeed that 48.2% of the lowest income households(< 240 LT) belong to the group of households with the largest living area per household member(more than 26.7 sqm/person), nonetheless in this group there is relatively little space for the wholehousehold. Apparently, poor households have a tendency to live on large space per person. This isin line with information available from real estate agents in Lithuania that 1-2 room apartments arebought and sold at considerably higher sqm.-prices than 3-4 room apartments. It appears likely thatlarge apartments tend to be owned by pensioners; under the soviet system this group, then still partof a larger famnily, had access to large apartments. Given the low mobility in housing, pensionershave remained in their premises even if most other family members have moved out (see alsoAnnex 1 on attitudes towards housing and energy efficiency).

- 53 - Annex 2

7. The data available suggest therefore that at least half of all poor households do have to paymore than 15% of their income for heating. Any amount paid for heating by a household exceedingthe 15% benchrrark therefore is paid for heating the part of a dwelling that is not eligible for thesubsidy. It is this other 'rest' that may constitute an incentive to invest in energy savings,irrespective of the existing subsidy, and that may compensate also the poor household for itsinvestment by providing scope for savings.

D. RELATIONSHIP BETWEEN THE HEATING SUBSIDY AND THE PROPOSED PROJECT

8. The success of the proposed project is affected by the current heating subsidy in two ways:

(a) Households who fully benefit from the subsidy have little incentive to invest in energyefficiency savings, given that whatever they spend on energy above 15% of their incomeis paid for by the municipality. However, the subsidy's effect on the motivation forsaving energy will depend on (i) the degree by which a households' bill is subsidized (ifa household spends 15.5% or 16% of its income on heating, chances to reduce the billdown to 14% and thereby to actually save on the bill are much higher in comparison to ahousehold who spends 30% of its income on heating2 ; the same rationale applies tohouseholds who only partially benefit from the subsidy as their dwelling space is toolarge, as described under section C); and (b) the household's expectations with respect toits future income and the future of the heating subsidy (if a household expects that itsincome will increase over time then it can assume to loose its eligibility; if a householdexpects the Government to abolish the heating subsidy, or to raise the threshold, theninvesting in energy efficiency rehabilitation would be reasonable irrespecitve of itscurrent eligibility for the subsidy).

(b) There is a real possibility that poor households are adversely affected by a decision oftheir building's homeowners' association to invest in energy savings. Poor householdswho are eligible for the heating subsidy may not - if their actual bill substantiallyexceeds 15 % of their income - benefit from the energy savings derived from theinvestment at all, yet they will have to contribute nonetheless to the repayment of a loantaken to finance the investment.

9. The data available only allows rough estimates of the size of the population that may belong tothe group described under 8(b). As noted above, evidence from the city of Vilnius suggests that,during the heating season 1995/1996 the number of households eligible for the subsidy amounted tomore than 1/3. However, not all those eligible for the heating subsidy appear to belong to thepoorest households of society. The municipal social care center estimates that about 60% - 70% ofthese households had household members employed by private firms. The widespread anecdotalevidence on wage-certification fraud (firms declare low wages in order to circumvent having to paywage taxes) suggests that the percentage of real poor among these 33 % (of the population eligiblefor the subsidy) is likely to be as low as 30%. Therefore, about 10% of all households may findthemselves in a situation where there are energy efficiency rehabilitation investments undertaken intheir buildings from which they do not benefit immediately, and which they will find difficult tofinance given their limited resources. As income groups are scattered across buildings, these

2 There is no data available about the distribution of expenditure for heating - above the threshold of 15% - butthe survey data available suggests that the degree by which the threshold is exceeded cannot be too large.

- 54 - Annex 2

households may easily find themselves representing only a minority in a homeowners' associationthat discusses investing in energy efficiency rehabilitation. In order to protect poor householdsfrom situations in which unreasonably high loan repayments are imposed onto them under theproject, investment size will be linked to unanimity of decision among homeowners within anygiven association (see also Annex 4 on affordability).

- 55 - Annex 3

3. TECHNICAL DETAILS

A. PROJECT COMPONENTS, EXPECTED SAVINGS AND COST

1. The project will be directed towards thermal energy saving improvements for residential andselected school buildings. The thermal inefficiencies found in these buildings follow typical patternsfor most of the structures built under former Soviet design norms.

2. Residential energy saving improvements will be undertaken by homeowners' associations(HOA) on behalf of members, and are expected to occur primarily in multi-family residentialstructures. Some loans may also be provided for single-family houses. Credits for schoolimprovements will be channeled through municipal authorities to agencies responsible for themanagement and maintenance of school buildings.

Eligible measures

3. Project support for selected buildings will be limited to the implementation of physicalimprovements that reduce the buildings' consumption of energy for space heating at a given comfortlevel and for the production and distribution of domestic hot water. However, in cases whereserious structural problems exist, urgent repairs that do not have primarily energy-saving purposescan be justified where necessary to protect the structural integrity of the building and thereby thethermal efficiency investments, such as roof reconstruction and joint/crack repairs.

4. Typical inefficiencies that are eligible for corrective measures include low thermal resistancevalues for the building envelope assemblies (e.g. walls, roofs and windows), excessive cold weatherventilation volumes, absence of building-level temperature and balancing controls, and generaldeterioration of mechanical and building assemblies, such as windows and pipes. In addition to theabove-mentioned weaknesses, the absence of controls for heat and hot water consumption at theconsumer interface, as well as the absence of metering, contributes significantly to waste as there isno incentive to conserve. Measures that permit user control have the potential of affectingconsumer behavior and will be eligible.

5. Since the correction of all the faults of a building would not be financially feasible undercurrent circumstances, priorities will have to be determined in each case. For schools, the choice ofmeasures will be made by local officials according to municipal technical and budgetaryrequirements. For residential structures, priorities will be determined by building owners accordingto the particular social, economic and physical circumstances of each building. Engineeringevaluation listing potential improvements fitting each structure's technical requirements andproviding economic estimates will be carried out by consultants for the owners. Thus each buildingwill have an investment package tailored to its particular needs, with measures selected from a listof technically evaluated measures.

Project Preparation Studies

6. During project preparation, the Ministry of Construction and Urban Development (MCUD)obtained grants to undertake technical investigations of the physical status of a number of apartmentbuildings, hospitals and schools and analyze options for improvement. Two consulting firms wereassigned to evaluate a total of 14 apartment buildings, one school and one hospital. Technicalanalysis comprised evaluation of the state of the building envelope (roof, external walls, basement,

- 56- Annex 3

and general structural and interior condition) and the heating system within the building (incomingDistrict Heating pipes and domestic hot water pipes, building substation, distribution of heatingwater, radiators, temperature control, etc.). Options for investments in the building envelope andheating system for each building to improve energy efficiency were proposed and described - wherepossible after discussions with the HOA, and evaluated on the basis of concrete estimates of thelocal cost of materials and equipment. Energy-saving measures were assembled in efficientpackages suited to the building needs, with possible alternatives that can be added to or deductedfrom the base package.

Expected Energy Savings

7. Potential energy savings were calculated for the case study buildings. In some cases, whereteniperatures have in recent years been low due to reduced output from the DH systems, potentialenergy savings were calculated for both the "normal" (18 C) and the low (about 13 C) final roomtemiiperatures. Data from the preparation studies indicate reductions of energy consumption ofabout 20(% for basic packages, 30-40% for medium-size packages and as high as 50% in some caseswhere all possible measures are taken. Actual savings will depend on the scope of measures selectedby the owners. Minimum interventions indicate savings of about 25%. Payback times for theenergy savings part of the investments range from as low as two years, to as much as 25 years formeasures assemb'ed together in a single package.

Expected Investment Packages

8. It is expected that priority decisions will be made by the owners according to perceivedimmediate economic and environmental (comfort) impacts. The ranking of measures by paybackperiod is generally uncomplicated so the investment packages that will be chosen are fairlypredictable. For example, since immediate savings and comfort can be obtained at relatively lowcost by reducing air infi:tration through windows and doors, and since virtually all buildings sufferfrom such weaknesses, it is expected that window and door refurbishing and weather-stripping willbe a basic measure chosen by nearly all borrowers.

9. Other basic measures will include substation improvements such as building temperaturecontrol with motorized flow control valves, heat system balancing and heat exchangers for the spaceheating and domestic hot water systems, as well as basement and attic pipe insulation. Building-level heat meters will be a prerequisite for participation in the program. If a heat meter is notalready installed in a proposed building, the owner will be obliged to include one in any basicinvestment package. Building temperature controllers will be necessary in order to derive heat billsavings from building envelope improvements. Such controllers affect the flow of water in the DHsv stem. and in large quantities (more than 20% - 30% of buildings connected to each system) woulddisrupt overall system performance. However, the scope of the project is too limited for thisproportion to be reached. In addtion, DH companies have the right to review sub-stationimprovements through the existing permit process.

10. Because of their higher cost per unit of energy saved and consequent longer paybackperiods. less common investments are expected to include major building envelope improvements -e.g. roof and wall insulation - and new windows. However, since many buildings have badlydeteriorated roofs that would qualify for urgent repairs under the project, new roof assemblies thatfix immediate problems (such as leaking), ensure a long period of low maintenance costs, and at thesame time provide superior insulation are expected to be part of loan packages where affordable.

- 57 - Annex 3

'i. New sloped roof structures built over existing flat roofs are considered desirable to avoid thelong-term maintenance problems associated with flat roofs. Such assemblies would be consideredfully justified by energy-saving. The cost of such assemblies may be similar to a flat roof of equallylow maintenance needs and long life expectancy. Some HOAs may choose to invest in a newsloped roof, and some may wish to solve a roof problem in the short term by choosing shorter-livedlow-specification flat roof repairs. In either case, insulation should be installed during the repairprocess. A few HOAs are interested in building new sloped roofs raised to include additionalapartments on the old roof level. It is argued that the sale of such apartments could help cover thecost of other improvements in the building. In the event that an HOA chooses this option, the loanwould cover the cost of a new sloped roof structure with insulation, but not the incremental cost ofraising this structure and enclosing/finishing the apartment space.

12. Table 1 below gives a general description and total energy use data for two buildingsevaluated in the case studies, chosen because they are representative. The buildings, measures andcategories are the same as those used to calculate project economic analysis and affordability. (SeeAnnex 12, Economic Analysis, for a discussion of economic rationale pertaining to these measures.)The following tables list the measures typically expected to be implemented by homeowners,packaged into three prioritized categories, with costs and estimated financial pay-back times fortypical large and small buildings. Tables 2 and 3 provide cost and energy savings data from thestudies for the two representative buildings.

Table 1: Description of representative buildings

Case Constr'n Number Heated Energy Need * Estimated Energytype of area in Savings

floors apts m2 kWh/yr kWb/m2/y Package kWh/yr %

Large Lg panel 5 100 4,960 1,252,085 252 A 281,307 22B 430,707 34C 559,477 45

Small Brick 5 32 2,882 457,600 159 A 78,990 17B 199,467 44C 191,688 42

* Need at entrance piping from DH system; calculated, based on 80% efficiency of building system and calculated demandat apartment.

- 58 - Annex 3

Table 2: Typical Large Building (100 Apartments)Investment total cost cost/apart energy saved energy saved LT/year savings per payback, years

month perapartment

LT LT % of consump. kWh/y financial economic LT financial econom

Heat Meter Al 5000 50 0 0 0 0 0 na

Temperature Control A2 11500 115 12.0 150250 10743 14274 9 1.07 0

Heat System Balancing A3 7920 79 2.0 25042 1791 2379 1 4.42 3

Pipe Insulation A4 9900 99 6.5 81546 5831 7747 5 1.70 1

Stair Case Improvement A5 6780 68 3.8 47994 3432 4559 3 1.98 1

Window Improvement BI 66080 661 9.9 123475 8828 11730 7 7.48 5

Basement Insulation B2 49595 496 6.1 76790 5490 7295 5 9.03 6

Window Change Cl 367594 3676 20.5 256852 18365 24401 15 20.02 15

Roof Insulation C2 143840 1438 4.4 54801 3918 5206 3 36.71 27

Packages No.: A 41100 411 22.5 281307 20113 26724 17 2.04 1

B 156775 1568 34.4 430707 30796 40917 26 5.09 3

C 602129 6021 44.7 559477 40003 53150 33 15.05 II

A= Heat Meter + Temperature Control + Heat System Balancing + Stair Case Improvement + Pipe Insulation;B =A + Basement Insulation + Window Improvement;C= A+ Basement Insulation + Roof Insulation + Window Change

Table 3: Typical Small Building (32 Apartments)Investment total cost cost/apart energy saved energy saved LT/year savings per payback, years

month perapartment

LT LT % of consump. kWh/y financial economic LT financial econo

Heat Meter Al 5000 156 0.0000 0 0 0 0 na

Temperature Control, incl. A2 12036 376 0.1000 45760 3272 4347 9 3.68 2Circulating PumpHeat System Balancing A3 13098 409 0.0107 4899 350 465 1 37.39 28

HeatExchanger A4 3540 III 0.0200 9152 654 869 2 5.41 4

New Doors BI 14954 467 0.0707 32370 2314 3075 6 6.46 4

Window Improvement B2 44840 1401 0.2663 121862 8713 11577 23 5.15 3

Prefabricated Substation Cl 24122 754 0.0994 45505 3254 4323 8 7.41 5

Thermost. Radiator Valves C2 25403 794 0.0282 12893 922 1225 2 27.56 20

Roof Renovation C3 57159 1786 0.0156 7136 510 678 1 112.03 84

Packages No.: A 33674 1052 0.1726 78990 5648 7504 15 5.96 4

B 93468 2921 0.4359 199467 14262 18949 37 6.55 4

C 179576 5612 0.4189 191688 13706 18210 36 13.10 9

A= Heat Metei + Temperature Control + Heat System Balancing + Heat Exchanger;B= A+ New Doors + Window Improvement;

C= Prefabricated Substation + Heat System Balancing + New Doors + Window Improvement + Thermostatic RadiatorValves + Roof Renovation

- 59 - Annex 3

Table 4: Description of MeasuresHeat Meter Building level heat meter consisting of a flow meter, two

.............................................................................................. .................................temperature meters and a display un.i.tTemperature Control Building level temperature sensors and motorized valves, can be

combined with a circulatin' pm.............................................................................................. .................................................... ...................................................................H eat System Balancing Riser valves and balanU ~~~~~~~~~~~ingStaircase Improvement Tightening of staircase windows; replacing exterior doors, and

.................................................................................................................................adding door closers Heat Exchanger Replaces direct connection of building to district heating system with

indirect connection.................................................................... ......................... ............................................................................... .......................... .................... .........Pipe nsu!ation Insulation of exposed heat system .piping in basement and attic spacesWindow Improvement Refurbishing of existing windows, including weather-stripping,

refitting, caulking painting and hardware where required..... ......................................................................................... ................. . ........ ?!p . n. q i eBasement Insulation Insulation of under side of first floor slab

.............................................................................................. ....................... ........................................ ..................................................................................... .......................Ne D o rN w d o s f om a rt n s to t ic seew x e i r d o sNew Doors New doors from apartments to staircase, new exterior doorsWindow Change All new windows, local manufactureRoof Insulation New rigid insulation (mineral wool or polystyrol) with imported

.u~~~~~~~~~~~~~~~~~~~.~rfacmg........................... . .. . . . . .. . . . . ............................................................... ............ ................. .. ............... .................. .....in .Prefabricated Substation Combines heat meter, automatic control, heat exchangerThermostatic Radiator Valves Heat. supply can bejsted to heat demand in each room

.......... .................................................................................... ............ .... .. ...... ....................................................................................................Exterior Insulation*, Gable ends only Externally applied insulation with weathering surface, on windowless

..... e.......................................................................................... .a..l......................... ..s ,

Exterior Insulation*, Entire Building Externally applied insulation with weathering surface, on end wallsand walls with windows

*While these measures are effective for energy conservation and for reducing maintenance costs in older large-panelbuildings, they are costly, and have long payback times. They are therefore expected to be chosen on a limited scale byhomeowners under this project, and so have not been included in project financial and affordability analyses that areintended to be representative for the overall project.

Costs

13. Costs vary significantly depending on size, design, and condition of building. Based on thecase studies, preliminary cost estimates for the expected packages range from about Litas 350 perapartment unit for basic measures (in large buildings), to Litas 10,500 (in small buildings) forcomplete packages covering all evaluated energy improvement interventions. In some cases withlow initial cost and rapid payback time, the incremental cost per month to amortize the loan isestimated to be covered by the cash energy savings. However, assumed "before and after" roomtemperatures, heat consumption measurement and tariff calculation, and consumer behavior allinfluence the calculation of such estimates.

Implementation

14. The implementation of technical activities will ensure full participation of beneficiaries andfollow transparent and competitive procurement procedures.

15. Design. Physical design/engineering will be done in two stages: evaluation of the buildingand its needs, along with schematic design, will be accomplished by local consultants under closesupervision of foreign consultants with expertise in energy-saving analysis and design, provided

- 60 - Annex 3

through Technical Assistance. Preliminary and final design will be developed by the localconsultant with foreign consultant guidance as needed.

16. Construction. The construction industry has excess capacity, is adapting to market forcesand virtually all construction enterprises are operating without State support. Project constructionwill be undertaken by local firms of varying sizes in order to expand the participation of smallenterprises, as well as to provide the mix of skills necessary for the range of work required toimplement the project. It is expected that there will be good opportunities for small new firms ableto implement measures that are labor-intensive and that require a certain degree of skill such asrefurbishing of windows.

17. Supervision and commissioning. Supervision of construction for design intent will be carriedout by the HOA's consultant. Governmental construction permit procedures will ensure thatbuilding and public safety regulations are observed. In addition, it is expected that the participatingcommercial lending institutions will use their own inspection procedures for certification ofpayments from the loan. In addition, the Procect Coordination Unit (PCU) may assist in inspectinginstallations for integrity of energy conservation performance.

B. CAPACITIES OF THE LITHUANIAN CONSTRUCTION INDUSTRY

1. Constructionfirms. Prior to independence, the construction industry in Lithuania includednearly 300 construction and assembly firms that employed up to 12 percent of the nation's laborforce and generated about 20% of total GNP. During 1991-93, however, employment in the sectordropped to less than 5 % of the labor force and the contribution to GNP fell to 7.4%. After reachinga nadir in 1993, the Lithuanian construction industry has begun to adjust to the structural changesof economic transition and the resulting new market conditions by privatizing and downsizing. Theproblem of overcapacity is being addressed, but not yet resolved. The export of Lithuanianexpertise and labor has softened the impact of reduced construction activity at home (foreign workin the FSU increased by 30% after independence, and represented about 16% of the industry's 1993domestic volume).' According to the Ministry of Construction and Urban Development, 98% ofconstruction and building materials industries are privatized [1994]. Most of these are not ready tocompete and survive under the current changing market conditions, and significant restructuring isexpected to occur in the industry over the next five years. Encouraged by favorable tax treatment3small companies are entering the market to meet the demand for small-scale private construction,alterations, and repairs.

2. Building Materials, Distribution and Retailing. The building materials industry's productionhas also dropped since 1990, but not as much as construction activity, thanks largely to exports,which actually increased after 1990. However, the impact of superior imported materials and

I While over 5,000 firms are now registered with the Ministry of Economy as construction firms, this number isthought to be highly inflated. A more likely number is 550-600 active firms, plus self-employed journeymen working onan opportunity basis. The majority are privatized joint-stock companies. Proprietorships and foreign joint venturesrepresent a very small part of the whole. The nature of Lithuania's privatized joint-stock companies is similar to that ofother FSU countries.2 The impact of such restructuring will be felt primarily by the companies that are too large, inefficient andfocused on single technologies to compete for the small-scale construction and rehabilitation projects that will constitutethe thrust of market demand for the next several years.

Firms with fewer than 50 employees pay 50% of the rate paid by larger firms.

- 61 - Annex 3

methods is being felt, as Lithuanian production systems and design are outdated. While theindustry is trying to modernize, sufficient financing for needed capital investment is unavailable.Both local and imported materials are readily available in Lithuania, and there are no restrictions onthe import or use of foreign construction materials as long as they meet the standards of theexporting country. Local industry produces the basic products of cement, lime, wood, glass, clay,metals, and plastics.4 Wood windows and doors are made in Lithuania, and the production ofmineral wool insulation is expected to start soon. The construction materials and suppliesdistribution system has not yet developed in Lithuania. For all practical purposes wholesale tradedoes not exist.5

3. Design Firms and Labor. Lithuania has an abundance of trained and experienced architectsand engineers, but no system of regulation and licensing. Most are still to be found in large "designinstitutes" that formerly were state entities, and many individuals moonlight as private consultants.The construction labor force is well-trained and sufficient to support currently projected increases inconstruction activity . Lithuania has a well-developed training program for construction trades, andenrollment is deemed sufficient to fulfill skilled labor requirements in the near future. Design andconstruction professionals are also readily available, according to industry managers.

4. Technology and Equipment. In Lithuania, construction materials and methods, and theconcomitant problems, are typical of FSU countries: brick and concrete are the main structuralmaterials, with large panel pre-cast concrete being the most common for buildings built in the last20 years. The effect of this single system approach on the construction industry is to make it morerigid and less flexible in adapting to new demands of varying scale and of competition in themarket. Light wood or steel frame construction is likely to become more popular. It is felt that thestrongest part of the housing market will be for low-rise, detached or high-density row housing.The heavy equipment in the inventories of large firms in Lithuania exceeds any current or projectedindustry need. Some of this is stockpiled abroad in other FSU countries, but the surplus is stillclear. This equipment is generally quite old, however, often dating to the '50's and '60's. In thenear future, the industry will face the need to replace much of its equipment. However, equipmentrental firms are being established and construction firms frequently borrow equipment from eachother.

5. Procurement systems and experience. Although experience is limited, Government seeks topromote competitive bidding and has instituted procedures for public procurement followingmethods acceptable to the Bank. The legal structure for the system is in place, and Bank standarddocuments are accepted. The private sector has also begun to use competitive procurementmethods.

4 Controls on imported materials are expected to increase as current review and revision of standards and normsrogresses.

Although over 700 building materials wholesalers are listed with the Ministry of Economy, they are thought tobe mainly manufacturers and foreign product representatives. Contractors are obliged to overstock in order to maintainneeded materials levels (many operate their own retail outlets in conjunction with their construction activities). Foreignmaterials and supplies are readily imported and available, at import duties ranging from 10 to 25%, in addition to 18%VAT. Better quality and appearance have made imported products popular to the broader public in spite of being two tothree times more expensive. However, prices for imports are falling as foreign manufacturers started to avoidintermediary local companies and come directly into the market. Increased competition from foreign imports has forcedsome local producers to shut down or reduce production.6 About 120,000 jobs in construction were lost since 1990. While many workers have been absorbed in otherareas, former workers can be considered as a part of the available labor pool.

- 62 - Annex 3

C. AVAILABILITY OF ENERGY-RELATED BUILDING MATERIALS

1. Loose insulation for attics is manufactured in Lithuania and is inexpensive. High densitymineral wool insulation for roofs is not made in Lithuania, but joint ventures between Lithuanianand Nordic companies will soon meet anticipated increase in demand. External wall insulation,because of the high cost of imported materials and continuing low energy pricing, is not expected tobe demanded in significant quantities in the near future. Lithuanian firms have little experience inthe fabrication of external insulation, but a few are in the process of importing this know-how orcreating new local products that are significantly cheaper than imported ones, a step that might havethe effect of increasing demand.

2. Windows and doors manufactured under former Soviet conditions and standards are among theweakest links in building energy conservation. Where new windows and doors are necessary,imported PVC or wood units are unaffordable. However, local production of European type hasbegun, and the products are significantly cheaper than the imports. While heating system equipment- including exchangers, pumps, valves and electronic controls - is mostly available locally or fromRussia, Lithuanians are turning towards more technologically sound imported products. Localcompanies can be expected to improve their participation in the market by adapting moderntechnologies to their production as well as through joint ventures with foreign producers. Systemquality and range of choice of equipment will improve through this process.

- 63 - Annex 4

4. AFFORDABILITY AND SUBSIDY ANALYSIS

Onlending Terms to Ultimate Borrowers and Affordability

1. As described in Section III-C and in Annex 6, proceeds of the project would be onlent, in localcurrency, to the final borrowers (homeowners and homeowners' associations) through commercialbanks. Terms would be determined as follows and are subject to adjustments as experience is beinggained:

(a) Loan amount: Up to 90% of investment. Minimum downpayment of 10%.

(b) Maturity: From 3 up to 10 years and in all cases no more than the length of the expectedpayback period (size of loan divided by estimated annual savings in energy cost).

(c) Repayment method Graduated payment method, currently assumed at a graduation rate of12% p.a. (or average inflation rate for the next decade). At this rate, payments wouldbasically be maintained in real terms. For a 10 year loan, this method yields negativeamortization in the first three to four years. For loans with maturity of six years or less, allamortization would be positive.

(d) Interest rate: Proceeds from the project would be onlent from the revolving fund (seeAnnex 6) through commercial banks at the prevailing rate.

2. Affordability is difficult to determine based on available data and knowledge. Official incomedata does not provide the full picture of resources available to households. Household income hasfluctuated greatly during the past year. There is little 'rule of thumb' to indicate what is consideredto be affordable (such as housing expenditures as share of income) in the context of Lithuania.However, examining ten case studies in the cities of Vilnius, Kaunas and Alytus which involveinvestments ranging from LT 400 to LT 6400 per apartment for various renovation packages (Table1), it is evident that loans for certain renovations would have significant financial burden onhouseholds with low income.

3. Of particular concern is the potential impact of borrowing for those who are currentlyqualified for the government's subsidy for residential heating and hot water. As monthly loanpayment would be offset by less saving in energy cost for these apartment owners (part of thesavings will be reaped by the government in terms of reduced subsidy on utilities) the incentive forthem to renovate for energy efficiency is lower than for their neighbors in the same building. Thismight cause two types of problems: poor households may be forced to participate because they areusually a minority; or households currently enjoying subsidies will be blocking otherwise goodmeasures to improve energy efficiency because they see themselves benefiting less by comparison.However, this is not expected to affect a significant portion of the population. This matter will beclosely monitored and studied during the initial year of project implementation. In the longer term,it will be addressed through the rationalization and consolidation of the social safety net system, andthe rationalization of household spending.

- 64 - Annex 4

Subsidy

4. In addition to potential difficulties faced by households in meeting their monthly payments ifno subsidy is to be provided, detailed beneficiary studies revealed apprehension towards taking aloan, even if affordable, because of the substantial transaction costs involved in organizing suchcollective actions, and the social learning cost of moving from a 50 year tradition of relying on theGovernment to take care of housing. Hence, an initial incentive in the form of a subsidy is requiredduring initial project implementation. Mistrust and apprehension amongst households concerningthe correctness of available information, including information on energy savings to be expectedfrom specific rehabilitation measures, increases their perceived risk of such activities. Qualitativeinterviews with households willing to and already engaged in collective activities for energyefficiency improvements indicate that interest rates of, at maximum, 15% would be consideredacceptable (see Annex 1-C). A tradition of receiving benefits for free and government loans at 5%or 8% appears to have created resistance against loans at interest rates higher than 15%. Fromcurrently available data, a subsidy which will yield an effective interest of 15% seems appropriatefor the first year of project implementation. This would place most households at a comfortableposition of spending less than 2-3% of their income for comprehensive renovation packages. It isexpected that the subsidy level will be reviewed semi-annually to take into account the changes inpeople's attitude to borrow for cost effective energy saving measures, and market interest rates.Over time this general subsidy will be phased out or reoriented to the neediest.

5. Subsidies will be provided on a month to month basis in the form of reduced paymentobligation. All borrowers in good standing will be eligible. Although administratively this is morecumbersome than a lump sum subsidy at the time of investment, the matching payment method willhave the added advantage of making the subsidy evident to program beneficiaries throughout the lifeof the loan.

6. Using data from five case studies, the financial burden on poor households including singlepensioners with no other sources of income and those in the three lowest income deciles isexamined and presented in Table 2 and Figures 1-4. The Figures show percentages of householdincome that would have to be spent on servicing the debt for energy efficiency renovations underthe following four discrete situations: (1) with Government subsidy and with the full benefit ofenergy savings; (2) with Government subsidy but without any benefit of energy savings; (3) with noGovernment subsidy but with full benefit of energy savings; and (4) with neither subsidy norbenefit of energy savings. This is obviously a simplification of real life situations where manyhouseholds in these income categories are eligible for some but not the full heating and hot watersubsidies (i.e. most cases lie between Figures I and 2 with repayment subsidies, and betweenFigures 3 and 4 without repayment subsidies).

7. As illustrated in Figures 1 and 2, with Government subsidies in loan repayment, even the verypoor households will be able to afford the very modest packages (cases la and 2a). This holds trueeven in cases in which part of the savings will benefit the Government as a reduction in heatingsubsidies. With the exception of the poorest 10%, many basic packages (such as 5b and 9b) arewithin the reach of low income households. As demonstrated in Figures 3 and 4 , most householdsin low income groups would not be able to afford the basic packages (cases Sb, 9b and 10) withoutGovernment subsidies. For the project to gain acceptance by the majority of the population at theoutset, subsidies on repayment appear to be well justified.

- 65 - Annex 4

Affordability Analysis

Table 1: Sample Cases of Base Package for Energy Efficiency Improvement

No. Address Type Units Temp Investment Savings Investmt PaybackC Litas Lltas per Unit. Years

la Zirmunu 15 - Minimal Package Homes 100 18 40,600 11,279 406 3.6lb Base Package 235,395 19,431 2,354 12.1

2a Narucio 37 - Minimal Package IHomes 16 18 19,690 3,628 1,231 5.42b Base Package 94,675 6,800 5,917 13.9

3a Mildos 11, Vilnius Homes 32 18 179,576 16,064 5,612 11.23b 38 18

4 Zadeikosl 1, Vilnius Homes 64 18 258,827 32,518 4,044 8.0

5a IS. Zukausto 33, Kaunas Homes 81 18 261,266 39,613 3,226 6.65b - 13 261,266 29,390 8.9

6a Partizanu 104, Kaunas Homes 60 18 253,067 20,718 4,218 12.26b 13 253,067 15,093 16.8

7a V. Kreves 66, Kaunas Homes 100 18 243,094 19,308 2,431 12.67b 13 243,094 14,854 16.4

8 tTaikos 151, Vilnius Homes 32 18 167,328 12,659 5,229 13.2

9a |Jaunimo 12, Alytus Homes 20 18 90,502 7,343 4,525 12.39b = 13 90,502 5,490 16.5

10 Jaunimo 60, Alytus Homes 22 18 139,937 7,065 6,361 19.8

Affordability Analysis

Table 2: Loan Payment As °/e of Before Tax Household Income__~~~_ _ __ 7L_ X__ r. _ __H_I

With Benefit of Energy Saving Without Benefit of Energy SavingInvestment Average Household Income (Litas/mo) Average Household Income (Litas/mo)

Per Unit Maturity Subsidy Poorest Decile 1 Decile 2 Decile 3 Poorest Decile 1 Decile 2 Decile 3Case (1995 Litas) (Year) (%) 230 430 770 980 230 430 770 980

la Minimal 406 22 0 0 5 3 2 12a Minimal 1,231 6 38 0 0 0 0 8 4 2 25b Base 3,226 6 38 4 _ 2 1 1 21 11 6 59b Base 4,525 10 51 4 2 1 1 20 11 6 5 a'10 Base 6,361 10 51 10 5 3 2 28 15 8 6

la Minimal 0 1 1 0 0 6 3 2 22a Minimal 0 3 1 0 0 13 7 4 35b Base 0 14 7 4 3 34 18 10 89b Base 0 24 13 8 5 42 22 12 1010 Base 0 38 20 1 1 9 58 _ 30 17 13

Poorest is defined as single pensioner with no other sources of income living aloneFor purpose of comparison, average pension is adjusted to take into account the tax exem t_status of pension. _

Alfordability Analysis

Loan Payment As % of Before Tax Household Income

Figure Wt usde it nrySvFigure 3: Without Subsidies/With Energy SavingsFigure 1: With Subsidies/With Energy Savings|30 30

25 25 _______________ _

20 20 ._De_le 115 % is 0~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ Deale 2

% 15 -OPooresll % 15 _D_ le

U Derile 110 . _ Decile 2 lO _ __L

UDcl Docile 3 -- 5.__ ________ 5____ . __ 5-- -- -

0. I r6ii-L 0 r1r El.m la 2a Sb Base Ob Base 10 Bass la 2a Sb Base 9b Base 10 Base

Minimal Minimal Minimal Minimal

Figuro 2: With Subsidios/Wlthout Enorgy Savings Figuro 4: Without Subsidies/Without Energy Savings30 30

25 -_- _ ____ _ _ -_. 2520 ODedle I Cl Poorest~~~OPo,es

2 0 \ - -_ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ \ D e c ile 1 2 0 - - _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ 0 P o es l

* Docile 2 M Decile 1% 15 - UDecile3 % -_____ 6. DeciIo2

E Decis 3

5- 5- _

1a 2a Sb Base 9b Base tO Base la 2a Sb Base 9b Basa 10 Base >Minimal Minimal Minmal Minmal __ _ . _ . _ _ ._ _ _ _ _ __ _ _ __ _ _ _ _ _ ., ._ .AMiniml Minmal c

- 68 - Annex 5

5. TECHNICAL ASSISTANCE AND INSTITUTIONAL DEVELOPMENT

I The following table summarizes 11 Technical Assistance (TA) components that are believed tobe essential to (a) support the various stakeholders in their participation in the project, and to (b)document steps taken and progress made, on the technical as well as on the social/institutional side,such that the proposed project can indeed provide lessons learned from its implementation for thedesign of other programs and projects and institutional environments.

Implementation consultant To start as soon as Total: USD 434,000 Danish Ministry of HousingI to Project Coordination possible. PCU should be (USD 321,000)

Unit (PCUJ) fully established by August1996.

Advice to homeowners Advice-Team should start Total: USD 364,200 possibly SIDA (Sweden)and homeowvners' no later than September (USD 254,000)

2 associations on ffnancial, 1996legal and social aspects, Advice activities to bethrough advisory centers transferred, into advisoryrun by the Lithuanian Asso^ centers, to be set upciation of Homeowners' starting January 1997Associations (AHA), (Vilnius) and July 1997

_ (Ka~~~~~~~unas)Advice to homeowvners Energy Efficiency expert Total: USD 554,000 EU and Dutch financingand homeowners' (foreign) , jointly with local (USD 584,000)

3 associations in all team, starting from Augusttechnical issues arising 1996, over implementationfrom investing in energy period, to provide technicalefficiency improvements in advice to homeowners andtheir buildings, including their associations, initiallyassessment of the scope on an ad-hoc basis, adjustedfor energy efficiency to individual requests, laterimprovements, the accessible to a widerpreparation of investment public, possibly throughproposals acceptable to advisory centers set up withcommercial banks deciding financing under this TAabout loan eligibility, and component. The assistancecontinued assistance during to be organized such that,the procurement of works later on, it can be provided,and the supervision of their in a qualified form, on a

_ implementation. fee-for-service basisTechnical Monitoring of Monitoring of buildings Total: USD 380,000 Dutch or SIDA financing

4 Energy Savings undertaking investments possibly forthcoming forover at least two heating USD 205,200seasons per building,until at

_ ~~~~~~~~~least 1997/1998.Social Monitoring To start with first lending Total: USD 332,000. Danish Ministry of Housing

5 operation in 1996; ongoing (USD 205,000)over 3 YearS minimum

Public Information To start before/during first Total: USD 210,000. Danish Ministry of Housing6 Program lending operation in 1996; (USD 210,000)

activities over a minimumof three vears.

-69 - Annex 5

Type ot Auiistance Tklg &umi ppsiCP ble Sciartes n(~~~~~~~~~~~~~~~~. . -- . .- . .--.:-..--:.ie-.., .. , - , :'., , . , . . , . .. . . . . ... . ',., ,. , ,.,. . , = . .. ... .... .. . . . . . .. ............. _a d i(a) Loan Appraisal To start in 1996 and Total: USD 196,000. Dutch financing (USD

7 Support for Banks continue for three years 96,000)minimum

___ (b) Training for Banks8 Training for Consultants / To start before/during first Total USD 86,600 Danish Ministry of Housing

Contractors lending operation, for at (USD 86,600)least one year.

9 Study on housing To be completed by USD 25,000 for each to be determinedmaintenance organizations October 1, 1997. municipalityin two municipalities 96/97: USD 50,000.

Study on Government To be carried out between 96/97: USD 100,000 to be determined10 assistance programs to the August 1996 and September

housing sector, including 1997.existing 'Bustas' program,renovation and heatingsubsidy programs, torefocus or target assistanceto the neediest groups insnc:etyProject Coordination Unit Activities to start in May Total: USD 223,200 Recurrent costs to be

11 tPCU) 1996. Fully functional by financed by GovernmentAugust 1996. counterpart funds

Total USD 2,900,000 Financing likely to beSunimary secured: USD 1,961,800

Financing outstanding/from project funds:

USD 938,200

- 70 - Annex 6

6. FINANCIAL PROJECTIONS FOR A REVOLVING FUND

1. Under the proposed project, the Government of Lithuania (GOL) and the Bank loan wouldprovide a total of about US$13.8 million for the rehabilitation of private homes to improve thermalefficiency. In order to increase the impact of this pilot project to meet a greater part of theprojected financial needs for rehabilitation of private homes, loans for Residential EnergyEfficiency Improvements will function as a revolving fund in local currency.

2. Proforma projections of the revolving fund (RF) and assumptions used for the projections areprovided below. The model indicates that the RF would be financially sustainable for about tenyears. During this period, the revolving mechanism would allow it to provide loans up to a total ofabout 128 million Litas (or 68 million Litas in 1995 terms) after servicing the Bank loan over thefull 20 year period, and providing all applicable subsidies to borrowers during the ten year period.Technical assistance to be provided under the project will include the development of a strategy forredirecting or phasing out of the RF.

Sources of Funds

3. Bank Loan - US$8.2 million will be passed on from the MOF, through the RF, to commercialbanks to provide loans to homeowners. Funds will be passed on to the RF in local currency. TheBank loan is to be disbursed over eight semesters starting July 1996.

4. Government Contribution - US$5.6 million will be provided directly to the RF and in localcurrency over seven senmesters starting July 1996.

5. Repavment of Loans - Monthly payments to be made by borrowers (interest and principal) willbe collected by participating commercial banks and paid into the RF. For lending to owners ofsingle family home and individual apartments, the commercial banks will bear the full credit risksand include a 4% spread to cover such risks. For lending to HOAs, the funds will be onlentthrough commercial banks with 100% government guarantee at the outset. Accordingly, thecommercial banks will process the loans (appraisal, negotiation, disbursement and collection) on afee for service basis. Specifically, the banks will be paid a I % fee on funds disbursed (to covercost of loan processing up to and including the cost of disbursing the funds), and a 3% fee onfunds collected from HOAs (to cover loan servicing costs). The commercial banks will have theoption to take on all or part of the credit risk over time. The spread and fee structure will be re-negotiated periodically to reflect changed circumstances. Graduated payment method (at 12% p.a.)may be used to improve affordability in the initial year(s) and maintain monthly payment more orless level in real terms. 60%, 30% and 10% of funds are expected to be passed on as ten-year, six-year and three-year loans respectively, reflecting roughly the different payback periods of varioustypes of investments.

-71- Annex 6

Uses of Funds

6. Repayment of Bank Loan - MOF will be responsible for servicing the full Bank loan includingthe US$1.8 portion onlent to municipalities for the renovation of schools. However, out of the RFaccount, the portion of the loan has to be serviced that covers loans to home owners and HOAs,cost to establish and operate the Project Coordination Unit, cost to cover the annual audit asrequired by the Bank, as well as activities under the technical assistance and institutionaldevelopment components not financed through grants.

7. Government Subsidies - Government subsidy will be financed out of the RF with theobjectives to improve affordability, reduce risk avert behavior, and encourage participation (seeAnnex I and Annex 4 on willingness to pay and affordability). All borrowers in good standing willbe eligible for the subsidy which will be presented as a reduction in monthly payments. At thebeginning of the project, the level of subsidy will be set so as to give the borrowers a costcorresponding to a loan interest of 15%. As of January 1996, subsidy for 10, 6 and 3 year loansare estimated to be 51 %, 37% and 22% of total payment. This represents the difference in monthlypayment between an estimated market rate of 33 % (T-bill at 28 % plus I % for the Ministry ofFinance to cover administrative costs for the RF and credit risks for lending to banks, plus 4%spread to cover cost and credit risk for lending to home owners and HOAs) and 15 %. The subsidylevel will be reviewed and determined periodically.

8. Loans Processed through Commercial Banks - Funds after payment of all applicableGovernmnent subsidies and debt servicing obligations will be available for lending throughcommercial banks.

General Assunptions

9. The following general assumptions are the basis of the calcuations for the Fund:

(a) Domestic inflation rate: 20% for 1996, 15% for 1997, and 10% for 1998 and thereafter.

(b) Exchange rate: As of January 1996, the local currency is officially pegged to the USD at 4Litas per Dollar. All loan proceeds would be passed on in Litas to the Fund, commercialbanks, and ultimate borrowers. MOF would bear the full exchange risks associated withthe Bank loan in Dollars. Based on the projected international and domestic inflation rates,a reserve will be included in the RF to cover possible fluctuations in the exchange ratebetween the Dollar and the Lita.

(c) Downpavment: 10% for all loans to homeowners and HOAs.

Tablo 1: Financial Projectiuns of the Revolvinig Fund (RF) ______

Proiectlions (1996 - 20161 ________ ___

Pavynents on Loans ol 1000 LIlas ('000 LilasI.

Year j I ~ ~~2 3 4 5 6 7 8 9 10 I1I

Io Year Loanis 02 0-26 030~ 6 33 037 0142 047 02 08 065' 03 _ _ 0 086yeagILoa 0.1 033 _~37 0.41_ _046 _051 027 __ _-07__ _3 year Loans 0 24 019 ____ _56__30_ _is

0%- io Y-ea L oasis - 0067 016 -601-8 062-0 -0 22 -- 0.25 028 031 0'35 -0 39 021T -01 ___ __30% GYe-a-Lo-ans- - 0-.05 010 OIl 0.12 01 4 0.5 008__ ___ 02 __ _10% 38(Lon _____ - 002 005- 006 003 ___--___- 01la

Total belaic subsidy ___ 0--614 0-.3-1 -034 03i5 -036 0.40 0-36 0.31 03Y5 0.9 21__ __ __ -______

51% loYearLoans 0 04 0 08 009 0 10 011 _0.13 0 14 016 0.10 020 011i -a01 6__ __38% 6Y~ea- Lo-anls 00o 2 004C - 004 0 -. 05- 0-605 0066 003i 0.00 000 0.00 000 -0.10

22% 3ye-voan 00 001 6001 00 - 6 -6000-- -000 6.000 0.0-0 0.-00- 000 -o 0.0-0 __ ______

Total Subsidy _ 0 06 0 13 0-&14 0.1i5 017-- 019 017 0.16 01 020 0.11 _ ________Total after subsl __ 008 I018 00 0.20 0.20 0.22 0.19 0 15- 0.17 0 19 0.10 __ __ __ __

5% AdjustbsentsAilWe-,Adjuslgnents 0--08 061-7 -0 19 019g 0 19 0 021 018l -015 016 018 -0.10 _

-- 77.7 --.--. -l -- -.- O;. -.

Fe lof ColIlect(io 0%Alowanice for bad debtti 2.0% -- ToUa Adiusliwttit 5.0% ____

ExchangeRate 4Summiarof the Revolvin)Fund N

Bank & Debt -- FilRisk Dilabursemenn Peiod boaits Revolvini LoAns 90% Las jleto 199 ._Yea, GO1 _Servico Ad]. I 2 3 4 6 6 7 A 9 10- - Loans InvesItilts Innlaton Factors Loans lnvuslntls ___

1 24600 -5 -2 238 ___ 1 _ 2.4 26 2% 1.20 2.0 22___-2 9200 -410 _ .126 401 .9690 ___ _ .2 9.7 10 8 15% 1.38 7.0 78 ___

3i 16800 .748 300 449 18.40 -102 -- ___- - 3 19.1 21.2 10% 1 i52 12 6 14 0 __4 220 .OM 1260- -645 444 1836 3227 -28204 -4 28.2 31.3 10% 1 67 16.9 188 a__ _5 400 -89 129 439 1818 384 47-182 5 12 5 13.9 1 0 1.84 8 8 7.65 W -1639~~ -1.2.--- - .77-.6 4 15 01202 4.4528__2_6 .2592 .1808 492 1708 3578 5345 2112 -0445 6- . 94 105 0 202 47

-7 ___ .3295 28~30 423 2013 3538 5202 2365 1598 -9732 ___ 97 10.8 10O% 2i.22 44 4 oa8 _______ .3205 .3278 345 -- 1730 3982 523 232 190 14 .19 -- 8 112 1.4 -10 l 2.44 -46 51Reflow ILPayment9 .3~~95 .3759 387 1413 3405 5860 -32315 1772 1844 18965 -12653 9 12 7 14_1 10% 2 69 4.7 5 After Year

10 __ _ -3295 .4275 ~~~~~~433 1C583 2781T -5038 2593 -1752 1826 -2122 2141 -13572 10 13 6 15.1 10% 2.96 4 6 5.1 l0Il .3295 .4820 220- 1773 3115 4113 2228 1062 1805 2101 2308 2207 1 1 22020 8125Il -320, f.~414 130 34011 4000 18210 I OtlU 21)22 2017 2374 2572 1 10 Years 21503 8?iU

--13 3295 __800)2 10413 5150 -2030 1377 1738 2320 2347 2548 - 13 - 128 4 142 7 Li__thas -682 757 136 935.71 4 :i-295 6i746 _ 2726 2283 1543 1419 1999 2829 2518 IA____ 15116 10042

15 - 3295 .7481 i___ - 206 1728 1589 ~1633 2259 2820 IS5 2 51 (Revolviit 1 acto(-10 years-- ___ 11235 1077616 .3295i 8270 913 1780 1829 1845 2423 16 - ~ - 79 150I?7 -3295 .-9 i116 ____ 40 _2048 2067 1979 17 ___ 735 I12411-la 39 104___ 10182 2315 2217 18 5813 13319

19 -~~~~~~3295 -10999 1223 2483 193705 14294.3295 -120.45 __ 1312 20 _______ ___ 1312 15340

115785 1139481- 5--0 -53161 92 ___

_ _ _ _ _ _ _ _ _ _ _ ... - - - - - - - - - _ _ _ _ - -~~~~~~~~~~~~~~ -0 0

- 73 - Annex 7

7. ELIGIBILITY CRITERIA

A. ELIGIBILITY CRITERIA FOR PARTICIPATING FINANCIAL INTERMEDIARIES

1. A set of eligibility criteria shall be used to determine the suitability of Lithuanian banks asparticipating financial institutions (PFI) in the proposed project. To qualify, a PFI must:

(a) have an acceptable audit report which covers one full year of operations, incorporates aportfolio review, and is prepared by an internationally recognized audit firm in accordancewith International Accounting Standards (IAS);

(b) have been in existence and have produced operating results for a minimum of two years;

(c) agree to engage in an institutional development program designed in conjunction with theWorld Bank to address any identified deficiencies, and to be implemented with theassistance of an internationally experienced bank or other acceptable experts;

(d) provide a Certificate of Compliance from the BOL stating that (i) it has a valid bankinglicense together with the type and date of license; (ii) the BOL is not aware of any criminalproceedings ongoing against the bank or any of its shareholders holding voting rights inexcess of 10%; and (iii) the bank is in general compliance with all relevant banking lawsand regulations,

(e) have minimum assets, as defined under IAS, equivalent to US$25 million;

(f) have minimum equity capital (net worth) assets minus liabilities, as defined under IAS, inan amount equivalent to US$2 million and would increase its capital as necessary to complywith future increases required by BOL;

(g) have a minimum BIS risk weighted capital (as defined under IAS) adequacy ratio of 6% byyear-end 1996, 7% by year-end 1997 and 8% by year-end 1998;

(h) have an exposure to one borrower as a percent of its IAS equity capital of no more than35% by year-end 1996, 30% by year-end 1997 and 25% by year end 1998;

(i) have aggregate exposure to insiders (defined as council members, members of theManagement Board, employees in a management position and shareholders with votingrights in excess of 10%) of no more than 80% of IAS equity by year-end 1996, 70% byyear-end 1997 and 60% by year-end 1998; and

(j) have independent Board composition and functions acceptable to the Bank.

B. ELIGIBLE BORROWERS

(i) Homeowners' Associations

2. Homeowners' Associations who wish to apply for a loan under the proposed project will haveto provide documentation verifying that:

(a) Homeowners' Association is duly formed (with standard By-laws), registered andestablished (in operation).

Bank for Intemational Settlement.

- 74 - Annex 7

(b) Necessary decisions regarding the loan application have been taken by general meetings ofthe Association.

(c) The individual homeowners and the Association do not have any outstandingarrears forutility services or maintenance fees to the Association.

(d) Collection of charges for heating, hot water, and ongoing housing maintenance is managedby the Association, or an agency/individual contracted by the Association for this purpose.

(e) Heat meter is already installed and in operation in the building or is included in theinvestment proposal.

(f) The Association agrees to participate in a monitoring program coordinated by externalconsultants (technical monitoring of energy efficiency and social monitoring throughinterviews and/or surveys).

3. Depending on the amount of the expected loan repayments, and the corresponding apartment-size related charge to the apartment owners, the assosciation will have to comply with the followingrequirements:

(a) For a loan resulting in monthly repayments which, added to the heating costs, exceed thenation-wide standard heating tariff per sqm, a requirement for a 2/3 majority in favor of theloan at a general meeting of the homeowners' association.

(b) For a loan resulting in monthly repayments which, added to the heating cost, exceed twicethe nation-wide standard heating tariff per sqm at the time of the decision, a requirementthat all apartment owners (not just association members) have voted in favor of such a loan

(ii) Single Family Homeowners

4. Single Family Homeowners who wish to apply for a loan under the proposed project will haveto provide documentation verifying that:

(a) Ownership (title)

(b) Borrower is not staff of participating banks or the PCU.

(c) The home owner have no outstanding arrears for utility services

(d) The home owner agrees to participate in a monitoring program coordinated by independentconsultants (technical monitoring of energy efficiency and follow-up interviews and/orsurveys).

(e) Other (according to bank assessments)

5. Borrowers may through the PCU be offered surveying of the land under the buildings in orderto facilitate registration in the official land and property register expected to be established by theGovernment.

(iii) Individual Apartment Owners

6. Individual Apartment Owners who wish to apply for a loan under the proposed project willhave to provide documentation verifying that:

- 75 - Annex 7

(a) Ownership (title)(b) Home owner belongs to a homeowners' association which has a loan approved through this

project for energy efficiency improvements of common areas in the building.(c) Borrower is not staff of participating banks or the PCU.(d) The home owner has no outstanding arrears for utility services(e) The home owner agrees to participate in a monitoring program coordinated by independent

consultants (technical monitoring of energy efficiency and follow-up interviews and/orsurveys).

(f) Other (according to bank assessments)

C. ELIGIBLE SUB-PROJECTS

(i) For Apartment Buildings

7. Investment proposal documented according to guidelines/Operating Procedures.

8. All investments to be financed by the loan must be physical improvements that reduce thebuilding's consumption of energy for space heating and for the production and distribution of hotwater. In cases where serious structural problems exist, urgent repairs that do not have primarilyenergy-saving purposes but will protect the structural integrity of the building and thereby thethermal efficiency investments, are eligible if undertaken at the same time as the energy efficinecyimprovements (for example, roof reconstruction and joint/crack repairs).

9. Specific eligible improvement measures are (new insulation must meet latest Lithuanian normsfor thermal resistance).

(a) Modernization or replacement of heating system (e.g. instalement of heat exchanger,balancing valves, dual pipe heating system);

(b) Change from centralized domestic hot water preparation to heat exchanger in the building'ssubstation.

(c) Instalment of heat meter;(d) Instalment thermostatic radiator valves.(e) Wall rehabilitation due to cracks.(f) Wall insulation.(g) Window repairs.(h) Window tightening with strips.(i) Window exchange.(j) Glazing of balconies.(k) Staircase window repairs or replacement(1) New staircase entrance doors with door closers or repair of existing exterior doors.(m) Roof insulation.

(n) Roof repair(o) Construction of pitched roofs with new insulation.

- 76 - Annex 7

10. The borrower must have sought qualified advice regarding the estimated energy savings ofthe investments.

11. The building must be fundamentally structurally sound: with the proposed investments, thebuilding is expected to have a continued life of a minimum of 15 years without major renovations.

12. The investment proposal in total has an estimated payback period of less than 10 years.

13. Evidence that all necessary permits have been obtained.

14. Examples of investments NOT eligible are:

(a) extra facilities in basement or under pitched roof;

(b) construction of new apartments under a new roof;

15. A borrower may do additional investments at the same time with other funds.

(ii) For Single Family Homes

16. Investment proposal documented according to guidelines provided by and through theAdvisory Service.

17. All investments to be financed by the loan must be physical improvements that reduce thehouse's consumption of energy for space heating and for the production and distribution of hotwater. In cases where serious structural problems exist, urgent repairs that do not have primarilyenergy-saving purposes but will protect the structural integrity of the building and thereby thethermal efficiency investments financed by the loan, are eligible if undertaken at the same time asthe energy efficinecy improvements (for example, roof reconstruction and wall joint/crack repairs).

18. Specific eligible improvement measures are (new insulation must meet latest Lithuaniannorms for thermal resistance):(a) Modernization of heating system including heat meter (if not already existing)

(b) Individual heating system (e.g. oil or gas boiler, wood ship/peat furnace, multi-fuel boiler)(Note: installation of electrical heating system is NOT eligible).

(c) New piping system

(d) Instantaneous domestic hot water heater.

(e) Instalment of thermostatic radiator valves

(f) Water saving shower heads

(g) Glazing of outdoor area or balcony

(h) Wall rehabilitation due to cracks

(i) Wall insulation

(j) Window improvement: tightening with strips; inside third pane; repair of windows;replacement of windows.

(k) New entrance doors with door closers

(1) Roof insulation

- 77 - Annex 7

(m) Roof repair, if necessary as part of insulation

(n) Construction of pitched roof with new insulation (if currently flat roof)

19. The borrower must have sought qualified advice regarding the estimated energy savings ofthe investments.

20. The house must be fundamentally structurally sound: with the proposed investments, thebuilding is expected to have a continued life of a minimum of 15 years without major renovations.

21. The total living space of the house must be less than sqm (specified appropriately inOperating Procedures).

22. Proposed investments must be less than Litas/sqm of the living space (specifiedappropriately in Operating Procedures)

23. The investment proposal in total has an estimated payback period of less than 10 years.

24. Evidence that all necessary permits have been obtained.

25. Evidence provided that the house is adequately insured (the insurance will be assigned to thebank through the sub-loan agreement).

26. Examples of investments NOT eligible are:

(a) additional facilities in basement or under roof;

(b) construction of new living space under a new roof;

27. A borrower may do additional investments at the same time with other funds.

(iii) For Individual Apartments

28. Investment proposal documented according to guidelines provided through the OperatingProcedures.

29. All investments to be financed by the loan must be physical improvements that reduce thehouse's consumption of energy for space heating and for the production and distribution of hotwater.

30. Specific eligible improvement measures are (new insulation must meet latest Lithuaniannorms for thermal resistance):(a) Hot water meter.

(b) Window improvement: tightening with strips; inside third pane; repair of windows;replacement of windows.

(c) New door to staircase

(d) Instantaneous domestic water heater (if not centrally installed).

(e) Thermostatic radiator valves (if building has dual pipe system)

- 78 - Annex 7

(f) Shower head (to reduce hot water consumption)

(g) Balcony glazing.(h) Repair or replacement of leaking hot water pipes.

(i) Repair or replacement of leaking water taps.

31. The borrower must have sought qualified advice regarding the estimated energysavings of the investments.

32. The investment proposal in total has an estimated payback period of less than 10 years.

33. Evidence that all necessary permits have been obtained.

- 79 - Annex 8

8. MONITORING AND EVALUATION

A. CONCEPTS OF MONITORING AND MEASURING

1. In most projects, project monitoring is primarily a management tool used to obtain informationabout implementation progress and impact that can be used to overcome problems and bottlenecks.to identify new opportunities and challenges, to incorporate lessons from experience into ongoingoperations, and to assess the relative success of the overall project and its components in meeting itsobjectives. These objectives are of particular relevance for the proposed EnergyEfficiency/Housing Pilot project, as it is fundamentally designed to develop the capacity ofindividuals and institutions to assume ownership of project activities and outcomes. By definition,such projects as this are designed and implemented based on very limited knowledge andexperience. Even if desired outcomes and impact are clear and easily defined, implementationapproaches are well articulated and structured, and implementation mechanisms appear to beacceptable to various stakeholders, the project itself offers the first test of the validity andcompatibility of project concepts. The project itself is also the principal source of new informationthat can be used to refine or reject project concepts and generate new, more appropriate ones.Thus, in this type of project, monitoring for learning is even more important than monitoring forassessment.

Monitoring Objectives and Project Context

2. The institutional context of the proposed project is both a major challenge and a majoropportunity. The impact of the project will depend on the successful creation of new institutions,redefinition of existing institutions, and both the creation and modification of relationships betweenold and new institutions. The project will involve a matrix of institutions from the public andprivate sectors, NGOs and civil society. Target beneficiaries are homeowners, who participate inthe project through new homeowners' associations. These will ultimately be served by a newadvocacy/service entity, an association of homeowners' associations. The Ministry of Constructionand Urban Development (MCUD) will play catalytic and oversight roles to set, oversee andimplement new housing sector policies. Banks will serve new clients in new ways, as willcontractors.

3. Similarly, relationships will change. Currently, most interactions between institutions, andbetween institutions and individuals are hierarchical, ad hoc, and monopolistic, manifesting strongpatron/client arrangements. Through the project, relationships between institutions and individualsin the housing sector will become more transparent, accountable and systematic, based on supplier/consumer partnerships that reflect both vested interests and interdependencies, as well as informedchoice. Project monitoring will track the creation and reorientation of institutions and relationships,and the impact of such changes on project implementation and the lives of intended beneficiaries.

4. Under the proposed project there are eight specific project objectives to monitor, oneanticipated impact and one condition for effective implementation. The objectives are measurableoutcomes to which specific project interventions are directed:

(a) Reduction in heating cost for homeowners

(b) Strengthened self-management in buildings (homeowners' associations)

(c) Increased access for homeowners to technical information

- 80 - Annex 8

(d) Information on energy to be saved through energy efficiency rehabilitation in schools

(e) Reduced transaction costs for credit and residential improvements(f) Increased client orientation (amongst banks, officials, contractors, consultants)

(g) Increased transparency in credit and contracting (through standardization and accountability)

(h) Increased private sector contractor demand and quality.

5. Energy saving investments may not be affordable to all residents in some buildings. If themajority of homeowners in their building nevertheless wants to invest in energy efficiencyimprovements, some homeowners may choose to relocate to more affordable accommodations. Anindirect impact of the project may thus be:

(a) Market-based residential readjustment

6. Finally, effective implementation of the project will require increased coordination among anumber of institutional stakeholders, including the Ministry of Finance, Ministry of Constructionand Urban Development, Ministry of Energy, municipalities, banks, contractors, and others. Aproject implementation mechanism that should be monitored is therefore:

(a) Increased coordination among housing-related institutions.

Project Monitoring Overview

7. Project monitoring will systematically gather data that can be used to measure changes in theareas listed above, as well as to identify problems that impede progress. The monitoring programwill thus serve both the ongoing monitoring needs of project management and the periodicstocktaking and evaluation needs of various stakeholders. Above all, the approach will provide apractical learning tool to aid in the design of a larger follow-on project.

8. Monitoring techniques will include household socio-economic surveys, participant observationand simple, unobtrusive record-keeping. The monitoring will involve a range of stakeholders bothas subjects and recipients of the data. Basic institutional monitoring will occur throughout theproject period, expanding in coverage as project activities increase in number and location.Household and impact monitoring will be conducted on a rolling basis, including new stakeholderswhen they are drawn into the project and maintaining contact thereafter.

9. Monitoring will be managed by staff in the Project Coordination Unit (PCU), utilizing threeprimary mechanisms: first, participating institutions, which will periodically provide informationregarding their operations; second, staff in the PCU who will be responsible for most of thequalitative data-gathering and follow-up to obtain standard records from various institutions, as wellas analysis and reporting; and third, a part-time survey team will be engaged to conduct householdsurveys in buildings as they join the program (Baseline Survey), as well as periodic follow-upsurveys to obtain information about different processes and to assess satisfaction levels and impact.These Milestone Surveys will be conducted at the time the loan is requested, when it is granted,

when tendering is compieted and when the work is completed. The team can be mobilized fromUniversities or one of the local research firms. The head of the survey team, who serves as atechnical advisor to the PCU, will prepare data gathering and analysis strategies, mobilize interviewteams, enter and process the data, and analyze results. Questionnaires will be simple, standardized

- 81 - Annex 8

instruments that can be used repeatedly, both capturing new entrants in the program andestablishing periodic follow-up interviews to use comparatively to assess impact and identify trends.

Monitoring Project Objectives and Anticipated Outcomes

10. This section describes in more detail the anticipated specific objectives and outcomes of theproject and how they will be monitored. Each will be described in terms of the stakeholders to beaffected, the dimension observed, indicator to be monitored, data source, data collection methodand the frequency and timing of data-gathering.

11. Reduce Heating Cost. The most tangible benefit of the project should be a decrease inheating use and the reduction of heating costs to homeowners, individually and collectively, and toschool administrations. The indicator is the amount of heat obtained during the winter months,shown in heating bills. The data can be obtained routinely from schools and from Homeowners'associations, as well as a sample of homeowners in large buildings. Data should be gathered at thebeginning of involvement in the project, as part of the baseline interview, and collected quarterlythereafter. Homeowner sampling should be strategic, to assess the relative impact on low floorsand high floors, and from exposed and relatively unexposed areas, if appropriate. The data shouldbe prepared for annual comparisons on a building-by-building basis, as well as on the basis oflocation and household vs. Association changes, adjusted for tariff increases, as they occur, as wellas the relative severity of the weather.

12. Strengthen Self-Management. The project will strengthen homeowners' associations directly,by providing information, management advice and technical support, and indirectly by providingthe opportunity to fulfill maintenance and upgrading responsibilities. Monitoring will focus on thehomeowners' associations, based on the qualitative inputs of involved PCU staff, as well asquantitative indicators. Through periodic contacts, PCU staff will chart changes in the structureand function of associations, looking at patterns of membership on the association board (ismembership opening up?), communication patterns between the board and households (is the flowof information back and forth between board members and households increasing in quantity andquality?), increase or decrease of responsibilities (does the association have new responsibilities orhas it reduced its work load?), and levels of satisfaction (do homeowners have more confidence inthe board?). The number of indicators is expected to expand during early project stages and thendecrease, as some are found to be more robust than others. PCU staff will draft a brief annualreport on each association, as well as identify trends that emerge from a comparative analysis ofassociations over time.

13. Once an association takes a loan through the project, and the work is completed, the strengthof an association can be measured by two indicators: increasing investment--taking a second orthird loan; and enforcing cost recovery. On an annual basis, the Liaison Officer will report on thenumber of associations that take a second loan and changes in the average time lapsed between firstand subsequent loans, both of which are indicators of the confidence and effectiveness ofassociations; and the level of cost recovery achieved, which is an indicator of the strength of theassociation. We would expect to see the number of multiple loans increase over time, the timebetween loans decrease, and cost recovery levels increase.

14. Increase Access to Technical Information. Participating banks, the Ministry of Constructionand Urban Development and the Homeowners' association Advisory Services will each prepare anddisseminate technical material that is intended to help associations make investment decisions and to

- 82 - Annex 8

plan and implement the investment process. On an annual basis, each institution will provide datato the Liaison Officer regarding the number of flyers, brochures, booklets and the like that itproduces, as well as the number it disseminates and patterns of dissemination. On the consumerside, data will also be gathered regarding the extent to which publications reach associations andhouseholds. Each association that expresses an interest in the program will be asked to complete aBaseline Survey, one element of which will focus on the number and types of publications availableto the association. Similarly, sample households who will also be interviewed at the same time willbe asked about their familiarity with technical materials. These data will be reported on an annualbasis, in aggregate. In addition, a before-and-after comparison will be made within eachassociation, comparing the level of information available at first contact compared to the level uponcompletion of the work, and identifying sources of the materials. The association and householdsurveys are expected both to stimulate demand for technical materials and to indicate changes inaccess to the materials over time.

15. Reduce Transaction Costs. Improved procedures and increased access to information shouldspeed up three processes which are currently either very lengthy, uncertain or risky: deciding toinvest in improvements; obtaining the loan; and completing the work satisfactorily. In each case,the focus is on the costs incurred by associations, either direct cost or indirect losses of time. Theprime indicators are the amount of time and direct cost required at three points in the process. TheLiaison Officer will request each association to record major events and provide data to answerthree questions:

(a) how much time elapsed between the association's initial inquiry about the program and thedecision to proceed with a specific investment program?

(b) how much time elapsed between the association's decision to invest and the bank's decisionto grant a loan, how many steps were required and what direct and indirect costs wereinvolved in going through the steps of the program?

(c) how much time elapsed between approval of the loan and completion of the work?

16. Data will be aggregated and reported on an annual basis to identify changing patterns in eachof the three discrete areas, as well as in the overall process.

17. Establish a Client-Centered Orientation in Participating Institutions. If the project issuccessful, homeowners' associations and other institutions will develop new perceptions and newinteraction patterns. Associations will see the other institutions (the Ministry, banks, consultantsand contractors) as partners and collaborators, rather than unapproachable or predatoryorganizations; and the institutions will see the associations as clients whose interests and rights areto be protected and respected, because of mutual interest. Data in this regard will relate primarilyto levels of satisfaction from the point of view of the associations. The initial Baseline Survey foreach participating association will assess perceptions regarding the responsiveness, effectiveness andaccessibility of each of the institutions. Subsequent Milestone Surveys, executed for eachassociation at points of making the decision, obtaining the loan and completing the work will alsoassess satisfaction. A satisfaction profile will be developed for each association, which will beaggregated and compared, to identify annual trends, as well as satisfaction levels with eachinstitution. A simple satisfaction scale will be developed to permit comparisons over time. Thesedata will be supplemented and embellished by qualitative data obtained in periodic inquiries by theLiaison Officer.

- 83 - Annex 8

18. Increase Standardization. Transparency and Accountability. As part of their participation inthe project, institutions will be required to develop simple, clear procedures for completing theirtasks. The Ministry will establish clear, simple guidelines for participation; banks will preparestandardized loan application forms that are clear, intelligible and self-explanatory; contractors willprepare equally clear and simple proposals, cost estimates and accounting procedures. Each ofthese institutions is also expected to improve the quality of their guidelines, applications, proposalsand other forms and formats, as they gain experience and obtain feedback. The PCU will maintaincontacts with each institution to provide feedback and record changes in procedures or forms.These will be reported on an annual basis, indicating the numbers and types of modificationsintroduced during the year. Follow-up surveys and qualitative inquiries by the PCU will documentchanges in the amount of time required to fill in various forms and review proposals, for example,as well as the perceived ease of doing so. This will be reported informally as ideas forimprovements emerge and more formally on an annual basis, with specific recommendations foreach participating institution.

19. Increase Private Sector Contractor Demand and Ouality. Homeowners' associations areexpected to constitute a significant demand for contractors through the project, and their individualand collective demands are expected to improve the quality of the work that is done. The principalindicators of success are increased volume of work and increased levels of satisfaction. On anannual basis, participating contractors will inform the PCU of the amount of work obtained throughthe project. This information will be verified by associations and reported in an annual report thatcompares the number of contractors involved and the volume of business over time. At thecompletion of each job, associations and homeowners will be surveyed to determine their relativesatisfaction with the work that has been done, as well as to highlight problems that occurred and theresponse of the contractors. This data will also be aggregated by the PCU, supplemented byinformal discussions and inquiries, and reported annually to determine trends and identify areas ofthat need attention.

20. Market-based Residential Readiustment. The privatization of housing in Lithuania hasresulted in a number of misalignments between family size and housing size and increasingly, asenergy prices have risen precipitously, growing disparities between heating costs and ability to pay.Although associations and individuals have apparently helped each other overcome the impact of

such misalignments, the investments made by homeowners' associations through the project,combined with strict cost-recovery requirements, may over-extend these informal bufferingmechanisms, making it necessary for some families to find more affordable housing. In order tomonitor the situation, and to prepare mitigation plans, if appropriate, a PCU Officer will keep trackof household movement and interview each household to ascertain reasons for moving, the causalsequence, destination, and particular issues that arose in the decision to move as well as the processof relocation and relative conditions in the new site. This issue will be reported annually,identifying causes, procedures and concerns, as well as identifying promising areas of intervention,if appropriate, to ease the transition.

21. Increased Coordination Among Participating Institutions. Experience to date hasdemonstrated how critical it is for participating institutions to coordinate their efforts and harmonizetheir approaches in order to meet the needs of homeowners efficiently and effectively, as well as tomeet their own needs. Although the project implementation structure offers a mechanism tofacilitate coordination and harmonization, the issue will also be monitored more specifically on anannual basis. Each participant will prepare an annual report that describes their coordination effortsand identifies points in the interface between that institution and others that needs attention. Each

- 84- Annex 8

institution (the Ministry, banks, contractors, homeowners advisory services, and the Association ofHomeowners' associations) will establish its own method for gathering ideas and reporting. At thesame time, on a semi-annual basis, the Liaison Officer will contact homeowners' associations toidentify weaknesses in coordination mechanisms and areas of slippage, as well as recommendedactions to be taken. This semi-annual report will provide feedback both to the project as a wholeand to participating institutions.

B. PERFORMANCE INDICATORS

Overall objectives: (a) Support and enable private initiative to improve residential energyefficiency;

(b) Support public initiative in improving energy efficiency in schools;(c) Support the implementation of Government policies with respect to

sustaining the privatization of housing, enabling increased privateinitiative in housing maintenance in general.

Objectives Input Indicators Output/Impact Indicators

Promoting and facilitating energy Number of buildings assessed * Number of buildingsefficiency rehabilitation of rehabilitatedresidential housing

Promoting private initiative in Number of homeowners' * Total amount of investmentshousing and energy eMciency associations advised / supported undertaken by homeowners'through the support of the associationsorganization of homeowners * Energy saved

Supporting municipalities in the Total amount disbursed to * Number of pupils inenergy efriciency rehabilitation of municipalities. rehabilitated schoolsschools * Energy saved

Developing the use of private energy Number of courses/seminars * Number of consultants whoefficiency consultants provided. completed training

Introducing the commercial banking Total amount of lending to * % of commercial risk whichsector to the concept of long-tern homeowners' associations, banks are willing to assumelending for housing and housing apartment owners and owners of regarding lending toimprovement single family homes for energy homeowners' associations

efficiency rehabilitation.

Assisting Government in redirecting Study activities undertaken * Relevant policy decisionsand focusing assistance programs for taken / activities initiatedhousing and residential heating I

- 85 - Annex 9

9. SUPERVISION PLAN

Supervision of the project is expected to require 25 staff-weeks during the first fiscal year ofimplementation and 15 staff-weeks during each of the following three fiscal years. The schedule belowis in addition to regular review requirements for procurement actions, advisory services, and generaladministration.

Approximate Dates Activity Expected Skill Requirements Staff -(month/year) Weeks'

08 / 96 Project Startup Task Manager 13Financial ManagementOperations SpecialistArchitect/Engineering

I _____________________ Social Scientist l

01 / 97 Supervision Task Manager 12ProcurementDisbursementArchitect / Engineering

l _____________________ _______________________ Social Scientist l07 / 97 Supervision Task Manager 6

l _____________________ _______________________ (others as required)02 / 98 Supervision Task Manager 9

Mid-term review EconomistFinancial AnalystArchitect / EngineeringSocial ScientistProcurement

08 / 98 Supervision Task Manager 6. ______________________ (others as required)

02 / 99 Supervision Task Manager 9(others as required)

08 / 99 Supervision Task Manager 6(others as required)

02 / 00 Supervision Task Manager 4(others as required)

08 /00 Project Completion Task Manager 5ArchitectFinancial Analyst

Staff-weeks for IsRD staff only. Additional resources are expected to be obtained from consultant trust funds

- 86 - Annex 10

10. ESTIMATED DISBURSEMENT SCHEDULE

Estimated Schedule of Loan Disbursements *

(US$ millions)

BankFiscal Semester Disbursement Cumulative Cumulation asYear Ending in Semester Amount % of Total Loan

1997 12/31/96 0.30 0.30 3

06/30/97 0.30 0.60 6

1998 12/31/97 1.70 2.30 23

06/30/98 1.00 3.30 33

1999 12/31/98 2.20 5.50 55

06/30/99 1.00 6.50 65

2000 12/31/99 2.50 9.00 90

06/30/00 1.00 10.00 100

Based on estimated demand since the project is designed with a program approach.

- 87 - Annex 11

11. DETAILED PROCUREMENT ARRANGEMENTS

1. All civil works and consulting services to be financed with Bank loan funds will be procuredin accordance with the relevant Bank procurement guidelines. The Project Procurement Plan(attached) details procurement packages, mode of procurement and schedules. Procurement ofbilateral or donor financed components of the project will follow the bilateral donor's procurementprocedures.

Rehabilitation and Renovation of Apartment Buildings and Apartments/Single Family Homes

2. Procurement for each privately-owned multifamily building and single family homeparticipating in the project will be undertaken by the concerned homeowners' association (HOA) orhomeowner, according to the World Bank's guidelines for procurement for loans through financialintermediaries to the private sector. The cost of civil works for individual contracts will mostlyrange from approximately US$5,000 to US$150,000. They shall be procured under lump sum,fixed price contracts awarded on the basis of written quotations obtained from three qualifiedcontractors.

3. The energy savings improvements for multifamily apartment buildings and apartments/singlefamily homes will be procured as civil works only; goods will be procured by contractors under thecivil works contracts. Such contracts may include: (a) supply and installation of equipment (heatexchangers for heating system and domestic hot water, automatic control systems, temperaturecontrol equipment such as pressure regulators, flow rate regulators, mechanical valves governed bytemperature sensors, water flow meters, balancing valves, circulating pumps, thermostatic radiatorvalves, prefabricated substation equipment, etc.); (b) supply and installation of goods (windows,construction materials such as roofing and insulation, etc.); and (c) installation and constructionworks (e.g. tightening of windows, doors, sealing of wall joints, refurbishing of windows, doors,insulation and renovation of roof or construction of new roof including pitched roof, insulation ofwalls, fine tuning of heating system, etc.).

4. The residential component is expected to cover approximately 200-300 multifamily apartmentbuildings and single/dual family homes. This is expected to involve about 300-500 short termsingle responsibility contracts for a total amount of about US$15.4 million. Sub-borrowers willdecide whether to assemble the work into one or more contract packages, e.g., by category ofwork, such as mechanical systems, and major or minor building improvements. The contracts areexpected to take about 3 to 6 weeks for completion from the day of commencement of works,however, some imported equipment and materials would have a maximum lead time of 4 weeks.Construction of a new roof could take up to 2 months.

5. On the basis of current experience in Lithuania, the expected contracts are deemed to be toosmall and scattered both geographically and over time (4 years) to interest foreign contractorsunless they are already established in Lithuania, but international firms would not be precludedfrom participation. As private sector entities, homeowners and homeowners' associations willselect contractors. The Project Coordination Unit (PCU) will in collaboration with the Ministry forConstruction and Urban Development (MCUD) provide sub-borrowers with a list of contractorsregistered with MCUD under an existing contractor registration/certification process. The objectiveof the list will be to maximize competition while protecting the consumer, and to ensure that new,small firms satisfying predefined criteria will be given opportunities to compete for civil worksfinanced by the project. Contractors will be reviewed according to customary civil works standards

- 88 - Annex 11

regarding experience, technical and financial capability, payment terms and guarantees.Homeowners and homeowners' associations will be able to obtain guidance from energy consultantson the best procedures for their particular investments. The participating commercial banks willreview and approve: (a) the contractors selected by the homeowner or homeowners' associationprior to issuance of the written invitation to quote; and (b) the proposed decision to award contract,prior to execution.

Rehabilitation and Renovation of Schools

6. For the schools component, procurement of works and services for energy savingimprovements financed under the Bank loan for up to 20 schools in selected municipalities will beundertaken by the respective municipality in accordance with the Bank's Procurement Guidelines.The civil works (including equipment, goods and installation and construction services ) will besimilar to those detailed in paragraph 3 above for multi-family apartment buildings. Contractsnumbering 15 to 30 at a cost ranging from US$50,000 to US$400,000 will be awarded on the basisof NCB and by using the Bank's Regional NCB Sample Bidding Documents for Small Works, asmodified with the Bank's approval. Municipalities will decide whether to assemble the work intoone or more contract packages, e.g., by category of work mentioned in paragraph 4 above. Worksestimated to cost less than US$50,000 equivalent shall be procured under lump sum, fixed pricecontracts awarded on the basis of written quotations obtained from three qualified contractors inresponse to a written invitation. The invitation shall include a detailed description of the works,including basic specifications, the required completion date, a basic form of agreement acceptable tothe Bank, and relevant drawings, where applicable. The award shall be made to the contractor whooffers the lowest price quotation for the required work, and who has the experience and resourcesto successfully complete the contract. On the basis of current experience in Lithuania, thesecontracts are deemed to be too small and scattered both geographically and over time (3 years) tointerest foreign contractors unless they are already established in Lithuania, but international firmswould not be precluded from participation.

7. Each municipality will undertake its own procurement. A commission in each municipalitywill advertise the tender, evaluate bids and make recommendation for award of contracts. Contractawards will be made to the bidder substantially responsive to the bidding document and who offersthe lowest evaluated cost to the municipality. Municipal housing maintenance companies (about 24such companies exist in Vilnius) cannot participate in the Bank-financed procurement as they arenot legally and financially autonomous and do not operate under commercial law.

8. The Ministry of Economy has prepared a draft "Law on State Procurement" which will beintroduced in Parliament and possibly enacted into law in 1996. Present Government regulationspermit the use of the Bank's Guidelines and Standard Bidding Documents for public procurementmade with Bank financing.

- 89 - Annex 11

Procurement Plan

Scheduling in US$'000Component Estimated Estimated Estimated

compon. number of contractcost contracts amounts Year I Year 2 Year 3 Year 4 Mode

(US$'000)

A. Civil Works1. Apartment buildings 13,860.0 300-500 5 - 150 300.0 3,960.0 4,700.0 5,000.0 NS

see b2. Single/dual family 1,540.0 300 2-10 125.0 550.0 745.0 120.0 NS

homes see b3. Schools 2,100.0 15 - 30 30 - 400 325.0 809.0 966.0 - NCB

B. ConsultingServices

Technical Assistance1. Advice to HO/HOA 364.0 1 254.0 see c

55.0 55.02. Assistance for 524.0 1 171.0 see ctechnical assessments 192.0 161.03. Technical 380.0 1 150.0 see cmonitoring 115.0 115.04. Government 140.0 1 50.0 50.0 see cassistance study5. Housing 50.0 2 25 25.0 see cmaintenance study 25.06. Social monitoring 332.0 1 107.0 see c

98.0 127.07. Public information 210.0 1 50.0 80.0 80.0 see cprogram8. Training and 196.0 1 96.0 50.0 see cassistance to banks 50.09. Training for 86.5 1 86.5 see cconsultants/contractors10. Implementation 434.0 1 208.0 see cconsultant to the PCU 113.0 113.0(note a)OtherConsulting services 200.0 6 10 - 50 100.0 Bankfor school rehab. 100.0 guide-

linesTotals 20,376.5 1,897.5 6,247.0 7,112.0 5,120.0note a: In addition, project costs include PCU recurrent costs of about $200,000, not included above.note b: National shopping, i.e. lump sum, fixed price contracts awarded on the basis of written quotations

obtained from three qualified contractors.note c: Procurement according to donor procedures, as applicable.

- 90 - Annex 12

12. ECONOMIC ANALYSIS

A. FRAMEWORK FOR CALCULATION OF ECONOMIC RATE OF RETURN

1. Economic analysis was carried out to examine the viability of individual investments and theirconsequences for the economy as a whole. The main tangible benefit consists of energy savings.Other tangible benefits are the improvement in the building stock, increased comfort and health for theinhabitants, environmental improvements and intangibles as discussed above. For the economy as awhole, tangible benefits will derive from resource savings, evaluated as the reduction in the economy'sconsumption of natural gas, mazut and other fossil fuels that are imported.' For the individualhomeowners who invest in energy efficiency rehabilitation, benefits will derive from savings on theirheating bill, the amount of which will vary in size according to specific 'package' chosen by them.2

Table 1: Basic Characteristics of Investment 'Packages'; example for a large buildingInvestment total cost cost/apart energy saved energy saved LT/year* payback, years

LT LT % of consump. kWh/y financial economic financial economic

Heat Meter 5000 50 0 0 0 0 na na

Temperature Control 11500 115 12.0 150250 10743 12020 1.07 0.96

Heat System Balancing 7920 79 2.0 25042 1791 2003 4.42 3.95

Pipe Insulation 9900 99 6.5 81546 5831 6524 1.70 1.52

Stair Case Improvement 6780 68 3.8 47994 3432 3840 1.98 1.77

Window Improvement 66080 661 9.9 123475 8828 9878 7.48 6.69

Basement Insulation 49595 496 6.1 76790 5490 6143 9.03 8.07

Window Change 367594 3676 20.5 256852 18365 20548 20.02 17.89

Roof Insulation 143840 1438 4.4 54801 3918 4384 36.71 32.81

Packages No.: A 41100 411 22.5 281307 20113 22505 2.04 1.83

B 156775 1568 34.4 430707 30796 34457 5.09 4.55

C 602129 6021 44.7 559477 40003 44758 15.05 13.45

-: valued at 1995/1996 heat prices (see Table 4)A= Heal Meter + Temperature Control + Heat System Balancing + Stair Case Improvement + Pipe Insulation; B= A+Basement Insulation + Window Improvement;C = A+ Basement Insulation + Roof Insulation + Window Change

2. Which specific measures will be undertaken in any particular building will depend on the decisionof the respective homeowner(s) and therefore on their preferences and incomes. The analysispresented here is based on technical assessments of 14 apartment buildings, one single-family homeand one school. For the purpose of the following analysis, three 'packages' were assumed (A, B, andC) which combine various measures as follows: A= Heat Meter + Temperature Control + HeatSystem Balancing + Stair Case Improvement + Pipe Insulation; B= A+ Basement Insulation +Window Improvement; C= A+ Basement Insulation + Roof Insulation + Window Change (seeexamples in Table 1 and Table 2). These packages require, per apartment, investments of LT 350 to

I Fuel savings resulting from investments under this project will not be large, since the total loan amount is relativelysmall - corresponding to the pilot character of the project - and will result in energy efficiency rehabilitations for relativelyfew buildings in Lithuania (approximately 250 apartment buildings and 12 schools).2 Alternatively, higher comfort could be achieved with the same heat bill as before. In this case, savings will derivefrom a reduction in the use of additional heating systems. About 16% of households in urban areas currently use additionalheaters such as electric heaters to complement the insufficient temperatures provided by the DH system (see Annex 1 for asurvey on consumer behavior and attitudes). With better insulation households will no longer have to use these devices.resulting in (possibly even additional) energy savings.

- 91 - Annex 12

LT 6,000 in large buildings (60-100 apartments) and LT 670 to LT 10,500 in small buildings (12-40apartments). Rehabilitation measures in single-family homes will most likely be more expensive (e.g.between LT 10,000 and 40,000). Further technical details can be found in Annex 3.

3. About $13.9 million will be available to invest in energy conservation measures in apartmentbuildings, all of them supplied by district heat (DH). A maximum of 10% of $15.4 million availablefor the residential rehabilitation component can be lent to owners of single-family homes. For therenovation of school buildings an amount of $2.3 million is allocated. It is assumed that the loan willbe disbursed within 4 years (1997-2000).

Table 2: Basic Characteristics of Investment 'Packages'; example for small buildingInvestment total cost cost/apart energy saved energy saved LT/year* payback. years

LT LT % of consump. kWh/y financial economic financial economic

Heat Meter 5000 156 0.0000 0 0 0 na na

Temperature Control. incl. 12036 376 0.1000 45760 3272 3661 3.68 3.29Circulating PumpHeat System Balancing 13098 409 0.0107 4899 350 392 37.39 33.42

Heat Exchanger 3540 111 0.0200 9152 654 732 5.41 4.84

New Doors 14954 467 0.0707 32370 2314 2590 6.46 5.77

Window Improvement 44840 1401 0.2663 121862 8713 9749 5.15 4.60

Prefabricated Substation 24122 754 0.0994 45505 3254 3640 7.41 6.63

Thermost. Radiator Valves 25403 794 0.0282 12893 922 1031 27.56 24.63

Roof Renovation 57159 1786 0.0156 7136 510 571 112.03 1(X).12

Packages No.: A 33674 1052 0.1726 78990 5648 6319 5.96 5.33

B 93468 2921 0.4359 199467 14262 15957 6.55 5.86

C 179576 5612 0.4189 191688 13706 15335 13.10 11 71

*: valued at 1995/1996 heat prices (see Table 4)A= Heat Meter + Temperature Control + Heat System Balancing + Heat Exchanger; B= A+ New Doors + WindowImprovement; C = Prefabricated Substation + Heat System Balancing + New Doors + Window Improvement +Thermostatic Radiator Valves + Roof Renovation

4. The project costs consist of the equipment for building renovation plus labor cost for installment.Since investment decisions are made by individual homeowners and their associations the exact amountand timing of investment cannot be determined with certainty. For the base case, it is assumed that60% of households will opt for package A, 30% for package B and 10% for package C. With respectto the timing of the investment, it is assumed that 6% of investment will take place in year 1, 27% inyear 2, 32 % in year 3, and 35 % in year 4. The exact shares of foreign and local components cannotbe determined ex ante. Most materials are now available in Lithuania, at lower prices than comparableforeign materials. Prices of capital goods as well as heat tariffs are as of October 1995 (heating season1995/1996). While prices of capital goods are assumed constant in real terms, heat tariffs are assumedto increase to reach full cost-recovery level before the heating season 1997/1998 and to be constant inreal terms thereafter.

5. Energy savings constitute the main tangible benefit and are the basis on which the economicanalysis has been conducted. As a consequence of their investment, homeowners will also benefit froman increase in the value of their apartment. This increase would enter the calculation of the financialrate of return as an additional benefit as far as the increase is not derived from the lower energy billbut from lower maintenance cost and reduced occurrence of leaks and other damage that may arise due

- 92 - Annex 12

to insufficient heating and insulation.3 Other benefits are increased comfort and health for theinhabitants, environmental improvements and intangibles such as the stimulation of private initiative inhousing and maintenance in general, support for the private sector building industry and contributionsto the creation of a market for long-term loans. Neither those nor other, tangible or intangiblebenefits, have been quantified for the analysis below as the rates of return that were calculated solelyon the basis of energy savings are already substantial.

(a) Savingsfor the economy: In this project, energy savings are calculated as resource savings forthe economy as a whole. Energy efficiency improvements would translate into savings for theeconomy primarily through reduced consumption of natural gas, mazut and other fossil fuelsthat need not be imported. De facto, fuel savings resulting from investments under this projectwill not be large, since the total loan amount is relatively small - corresponding to the pilotcharacter of the project - and will result in energy efficiency rehabilitation's for relatively fewbuildings in Lithuainia (approximately 200 apartment buildings and 10-20 schools). Additionalenergy savings will arise from a reduction in the use of additional heating systems which arecurrently employed by about 16% of urban households in order to increase levels of comfort.With better insulation households will no longer have to use these devices and will therefore beable to save energy. Unfortunately, information on the magnitude of energy used by thoseadditional heating devices does not exist; therefore savings could not be quantified.

(b) Savings for homeowners: For the individual homeowners investment in energy efficiencyrehabilitation will result in financial savings, the magnitude of which will vary in sizeaccording to the specific 'packages'. After energy efficiency rehabilitations have beenundertaken, homeowners will pay less for the same comfort level. Alternatively, highercomfort could be achieved with the same heat bill as before. Investment in energy efficiencywill also increase the market value of the apartment by lowering maintenance cost, reducingthe occurrence of leaks, and other damage due to insufficient heating and insulation. Thequantification of the increase in value has not been attempted here due to the thinness of thereal estate market in Lithuania.

Evaluation of Benefits

6. Energy savings achieved through the proposed project have been calculated on the basis of areduction in (a) the cost of delivering energy due to falling demand, and (b) the heat billings receivedby homeowners from their respective suppliers (see also para. 9 below).

(a) The reduction in the costfor the delivery of heat has been valued on the basis of the variablefuel cost of the district heating system, natural gas and mazut and on the basis of natural gasprices for single-family homes. The border prices of these two fuels are very close to worldmarket prices, $90/1000m3 for gas and $96/ton for mazut.4 Taking into account conversionefficiency, fuel mix in the district heating system and losses in the district heating transmissionand distribution system of about 25 percent, the average heat cost is $17.2 per gcal, equivalentto LTO.08 per kWh (see Table 3). It should be noted that, in the long-term, when heat demanddecreases due to energy savings, not only variable fuel costs will decline, but also the need to

3 The quantification of the increase in value is difficult because real estate markets are only beginning to function inLithuania. It may be possible, however, to impute the value of a renovated apartment by taking into account its reducedenergy and maintenance expenditures.4 See 'Republic of Lithuania - Klaipeda Geothermal Demonstration Project', World Bank Report No.14584 LT.October 24. 1995.

- 93 - Annex 12

rehabilitate heat generation plants, especially small HBOs. This has not been taken intoaccount in the analysis, but is dealt with in the sensitivity analysis as a higher value of heat.For single-family homes heated directly with natural gas, the relevant opportunity cost is theborder price of natural gas (see row 2 in Table 5); for a long-term perspective, capital cost forthe rehabilitation of the distribution networks would have to be added.

Table 3: Calculation of the Economic Cost of Delivered Heat in the Lithuanian DH SystemParameter Unit ValueNatural gas $/lOOOm3 90Efficiency lOOOm3/gcal 0.142gas cost $/gcal 12.78gas share in heat production percent 60Mazut $/ton 96Efficiency ton/gcal 0.136mazut cost $/gcal 13.06mazut share in heat production percent 40total heat cost S/gcal 12.89Distribution Losses percent 25IkWh delivered = x kWh produced x 1.33Cost of delivered heat $/gcal 17.19Cost of delivered heat LT/kWh 0.080

(b) The reduction in the billing for heating is calculated separating between billings for apartmentbuildings and schools and billings for single family homes. Apartment buildings and schoolsare overwhelmingly connected to district heat. For the financial analysis, energy savings havebeen valued with the applicable district heating tariff. Assuming a 60% level of cost recoveryin the 1995/96 heating season, and an increase in heat tariffs to the full cost level within thenext three years, will lead to heat tariffs as in the first two rows of Table 4. Since theeconomic cost of delivered heat (third row) only includes variable elements for the reasonsstated above, it is below the financial, full cost tariff.

Table 4: Apartment Buildings and Schools: Heat Tariffs and Heat Cost for District Heat (LT/kWh)1995/96 1996/97 1997/98 1998/99 ... 2015

Financial Tariff, residential (apartments) 0.037 0.072 0.096 0.119 ... 0.119Financial Tariff, non-residential (schools) 0.034 0.065 0.087 0.108 ... 0.108

Economic Cost of Delivered Heat* 0.080 0.080 0.080 0.080 ... 0.080* calculated as in Table 3.

Single-family homes in Lithuania use various fuels: in Vilnius and Kaunas, heating with naturalgas has the biggest market share with about 40%. Although households may use other fuelssuch as electricity or fuelwood at the same time, for the purpose of this analysis, heat savingsof single-family homeowners were valued at natural gas cost. For the financial analysis, it isbased on the tariff of LT 0.05/kWh. Currently, this does not cover the distribution cost. Aswith district heat, it is assumed that a full cost tariff, equal to 0.067 LT/kWh, will be chargedstarting in 1998 (see Table 5).

Table 5: Single-family homes: Residential Natural Gas Tariff and Economic Cost1995/96 1996/97 1997/98 1998/99 ... 2015

Financial Tariff, residential 0.05* 0.056 0.062 0.0668** ... 0.0668Economic Cost of Gas 0.036** 0.036 0.036 0.036 ... 0.036* based on a tariff of $125/1000m3; ** based on full cost (border price + transmission + distribution cost) of$ 167/1000m3

- 94 - Annex 12

Rates of Return

7. For the purpose of assessing the profitability of energy efficiency rehabilitation investments, 14apartment buildings, one single-family home and one school were carefully assessed. For eachbuilding the measures proposed by the respective homeowners' association or the owners wereevaluated and ranked according to their payback.

8. Net benefits have been calculated comparing cash flows with and without the project. For thefinancial analysis it is assumed that district heating tariffs will increase to the expected cost recoverylevel of LT 0. 119/kWh from the current level of LT 0.072/kWh within the next three years, resultingin rising costs to the individual household (see Table 4). The same assumption was made for the caseof the single-family; prices for natural gas are assumed to be charged at full cost recovery level of LT0.0668 by 1998 (see Table 5). For the economic analysis, a VAT of 18% was deducted from the costof works and goods. Import duties ranging between 10% and 15% were not included. Energy savingsfor the economy were valued with the opportunity costs of energy, primarily natural gas and mazut forthe generation of district heat and natural gas for heating of single-family homes (see para. 6 (a)above).

Table 6: Weights of Apartment Buildings and ERRsBuilding Number Size Weights according to represenhativity Economic Rates of Return - Base Case

I large 1.09 562 small 10.93 303 small 5.46 414 small 1.82 235* large 6.38 496** large 5.46 517*** small 14.57 198 large 0.55 159 large 14.57 5610 large 6.38 2411 large 6.38 1712 small 5.46 1513 small 6.38 1014 small 14.57 1

*: identical building type as 10, 11, 1; ** identical building type as 12; *** identical building type as 14

9. For each building type, investments were grouped into packages A, B, and C and Rates of Return(RRs) were calculated for "mixed" packages. The economic RRs calculated for rehabilitation measuresin the various buildings vary according to building in a range from 2% to 56%, given the above statedassumptions. The RRs for the entire investment for energy efficiency rehabilitations in apartmentbuildings were computed as a weighted average of the individual building type RRs (see Table 6 forthe weightings).

10. For the calculation of the overall project RRs, the average RRs of the three investmentcomponents were weighted, according to the allocation of project funds (see Table 2.1 in Section 2).Quantifying only the expected energy savings results, under the stated assumptions, results in aFinancial Rate of Return (FRR) for the whole project of 31.2% and an Economic Rate of Return (ERR)for the whole project of 25.9%. The difference between the economic rate of return and the financial rateof return is very small since the economic valuation captures only savings in variable fuel costs. Only in thelong-terrn or with a considerable bigger investment would savings in other variable costs and in capital costmaterialize. Those long-term effects as well as the demonstration effect associated with the activities

-95- Annex 12

financed by the project, and the associated externalities (see para 1.28 in Section 1), are not taken intoaccount here.

Table 7: Base Case*: Project FRR and ERRShare Base Case* FRR Base Case* ERR

apartment buildings, average RR 78.3 33.2 27.7single-family homes 8.7 15.5 7.7school 13.0 29.7 27.2Total Project 100 31.2 25.9* The assumptions for the Base Case are: Equipment cost and energy savings according to technical assessments, heat tariffsto reach full cost recovery level by the end of 1997, and equipment quantity according to assumptions in para. 2

Project Risks and Sensitivity Analysis

11. The project risks taken into account in the sensitivity analysis include: (a) heat tariffs; (b)magnitude of energy savings; (c) cost for labor and materials; and (d) implementation risks. TheGovernment plans to increase the tariffs to full cost recovery level by the end of 1997. If this level isnot reached or later eroded by inflation, investment payback time and financial rate of return (FRR)will be negatively affected, whereas the economic rate of return (ERR) will remain unchanged asresource cas, and not heat tariffs, are the basis for the calcuation of savings to the economy (see Tables8 and 9). The magnituted of savings may be higher or lower than envisaged, depending on the typesof investments undertaken by homeowners. The exact composition of the investment packages isuncertain and can only be confirmed during project implementation. The choice of any specificinvestment package will determine the investment cost as well as the resulting energy savings. Themagnitude of savings may also be higher or lower than envisaged as, while the design of buildings ismore or less uniform and design values are well known, in reality building materials and constructionare not always according to design. Cost for labor and materials may be different to current estimatessince building renovation, especially with a view towards improving energy efficiency, is a novelty inEastern Europe and, therefore, cost estimates for local materials and skilled local labor are uncertain.Finally, the behavior of inhabitants has a big impact on the ultimate realization of energy savings.Compared to the current situation with some apartments heated at below normal heat levels, theinhabitants of a renovated building may decide to increase temperatures rather than save energy. Allof these factors may result in achieving less or more savings than assumed in the analysis and couldnegatively impact on the project's rate of return.

12. Overall, Rates of Return generated by the project remain well above the 15% threshold for mostof the simulated changes in parameters (for results of the sensitivity analysis, see Tables 8 and 9). Anincrease in equipment cost does not appear to affect the project's viability as much as decreases inenergy savings: A cost increase of 50% would decrease total project returns (ERR) from 26% to 15%.If actual energy savings were below the originally assumed level (50% less) then project returns (ERR)drop to only 10%. If households would decide to invest in more expensive packages, includingmeasures with a longer payback time, the rates of return would also be reduced.

(a) Apartment buildings: As can be seen from Tables 8 and 9, an increase in equipment cost of20% will decrease rates of return to 25% and 20% for FRR and ERR, respectively. If heattariffs were to remain fixed, and therfore not to rise to full cost recovery, this would reducethe FRR significantly but still leave it at 18%. Lower than expected energy savings wouldhave the most dramatic effect on the viability of the project. If energy savings were 50%

- 96 - Annex 12

lower than expected, FRR and ERR would be reduced to 13% and 10%, respectively. Ifhouseholds would decide to invest in more expensive packages, including measures with alonger payback time, rates of return would also be reduced. E.g. if only packages C werechosen, the rates of return would drop to 9% for the FRR and 5% for the ERR. The results ofthe sensitivity analysis for the rehabilitation of schools are similar to those presented for theapartment buildings.

(b) Single-family homes: Rehabilitation investment in these small buildings is both more expensiveand less profitable than in bigger apartment buildings and schools. The type of rehabilitationinvestment and the resulting energy savings depend critically on the state of the efficiency ofthe existing heat generation equipment. If the boiler has a low efficiency (as in this case),rehabilitation measures have higher returns than in the case of a higher efficiency boiler. Ratesof return are much lower than the project average under all scenarios. The assessment of thescope for energy savings in each individual building - which is to be part of every investmentproposal - is therefore of particular importance for single-family homes. Unless it can bedemonstrated that residential energy efficiency improvements will result in energy savingssignificantly higher than assumed for this analysis, the share of investments in single-familyhomes should not exceed 10% of the total lending volume.

13. Iniclusion of long-term resource cost savings: If, in the long-term, rehabilitation in buildingswould result in substantial energy savings, this would have an impact on resource savings for theeconomy. Variable cost savings other than fuel could be realized (e.g., O&M, pumping, watertreatment), and both district heating and natural gas networks would need less rehabilitation andreplacement investment, and fewer heat generation plants would have to be rehabilitated. This wouldincrease the value of energy savings by about 20% for buildings heated with district heat and about40% for natural gas, resulting in economic cost of delivered heat and gas, respectively, of 0.1 LT/kWhand 0.067 LT/kWh. This, in turn, would significantly increase the economic rates of return, from anaverage of 26% to 32%. Especially the single-family home component would benefit more thandoubling to 14%, compared to the base case.

Table 8-a: Sensit vity Analysis: Weighted Financial Rates of ReturnShare Base cost cost svgs svgs svgs no heat 40%

Case +20% +50% -25% -50% -75% meter roofins

apartment buildings, 0.783 0.332 0.271 0.207 0.244 0.149 0.050 0.392 0.331average RRsingle-family homes, 0.087 0.155 0.120 0.0080 0.110 0.050 -0.030 na 0.160average RRschool 0.130 0.297 0.240 0.180 0.220 0.130 0.020 na 0.300

FRR 1.000 0.312 0.254 0.192 0.229 0.138 0.039 0.392 0.312

- 97 - Annex 12

Table 8-b: Sensitivity An lysis: Weighted Financial Rates of ReturnShare Base 60% cost heat cost heat cost diff.pack: diff.pack: diff.pack:

Case recov. -20% +20% only A only B only C

apartment buildings, 0.783 0.332 0.189 0.330 0.330 0.437 0.246 0.095average RRsingle-family homes 0.087 0.115 0.120 0.160 0.160 0.170 0.150 0.060school 0.130 0.297 0.170 0.290 0.290 0.350 0.250 0.070

FRR 1.000 0.312 0.180 0.310 0.310 0.403 0.239 0.089

Table 9-a: Sensitivity Ana lysis: Weighted Economic Rates of ReturnShare Base cost cost svgs svgs svgs no heat 40%

Case +20% +50% -25% -50% -75% meter roofins

apartment buildings, 0.783 0.277 0.223 0.167 0.198 0.111 0.023 0.335 0.279average RRsingle-family homes 0.087 0.077 0.050 0.020 0.040 0.030 na na 0.080school 0.130 0.272 0.220 0.160 0.200 0.110 0.010 0.290 na

ERR 1.000 0.259 0.207 0.153 0.184 0.104 0.020 0.300 0.225

Table 9-b: Sensitivity An lysis: Weighted Economic Rates of ReturnShare Base 60% cost heat cost heat cost diff.pack: diff.pack: diff.pack:

Case recov. -20% +20% only A only B only C

apartment buildings, 0.783 0.277 0.279 0.212 0.343 0.389 0.193 0.062average RRsingle-family homes 0.087 0.077 0.080 0.040 0.200 0.090 0.070 0.000school 0.130 0.272 0.270 0.210 0.330 0.330 0.230 0.050

ERR 1.000 0.259 0.260 0.196 0.329 0.356 0.187 0.055

- 98 - Annex 13

13. ENVIRONMENTAL REVIEW

I The Bank has determined that this project is a category "B" project for purposes ofenvironmental analysis. As a category "B" project, a limited analysis of specific environmentalimpacts is required, but not a full environmental impact assessment (EIA). The project will financeenergy efficiency improvements for existing buildings only, and will therefore not involve newconstruction except for the installation of new roofs, mechanical equipment and, in possibly a fewcases, new external wall insulation. No changes in land use, increased ground cover, alteration ofexisting land form, vegetation or water systems, and no increases in residential density, will besupported by the project. The Bank's Environmental Assessment Sourcebook' does not coverenvironmental assessment of this situation, except indirectly insofar as (a) public health and safetyissues are present in any project involving construction. and (b) disposal of construction debris.

2. Authority in Lithuania for environmental assessment of industrial and non-industrialconstruction projects is with the Ministry of Environment's Division for Environmental ImpactAssessment Control. Procedures of this office give it the authority to review the overall project, butwill not examine each sub-project individually. No formal environmental impact assessment (EIA)is required under Lithuanian law for this project. Discussions indicate that this office welcomes theproject for its significant environmental benefits, and anticipates no negative impacts. According tothe Chief of the Division, their primary interest in the project will be to help publicize it in order tobroaden its impact as much as possible.

Environmental Benefits

3. The environmental benefits of the project include: (a) reducing waste of non-renewable fuelresources, particularly of fossil fuels, but also of nuclear-generated electric energy currently used tosupplement space heating; (b) a concomitant reduction in air pollutants'; and c) improving publichealth by improving the control of residential ambient air and domestic hot water temperatures andsupply (including overheating), and reducing interior drafts and condensation. In addition, publicinformation/education, periodic energy audits, and homeowner association participation areexpected to help rationalize consumer behavior with regard to energy conservation and therebyenhance long-term sustainability.

Potential Adverse Environmental Impacts

4. The Bank has identified potentially hazardous building materials as the only environmentalissue needing to be addressed. This risk has two aspects: (a) the potential for disturbing hazardousmaterials during the course of renovating existing buildings and the need for their safe handling anddisposal, and (b) the potential for improper use of new hazardous building materials. In this

EnvironmentalAssessmenr Sourcebook, 1991: Vol. II.

2 The pilot nature of the project and its resulting limited scale mean that pollutant reduction will be very limited. Itis the sustained application of energy conservation measures, in which this project is a first step--and the matchingpollutant reduction--that can lead in the longer term to measurable reductions. Atmospheric emissions reductions willinclude nitrogen oxides (NO.), sulfur dioxide (SO2), and carbon dioxide (CD2), from reduced consumption of natural gasand fuel oil. A lower demand for supplemental space heating will reduce the use of electric space heaters, which in turnwill reduce demand for electric power, and pollutant/safety issues associated with generation. It also reduces the publicsafety hazards associated with the use of ovens and stoves for supplemental space heating.

- 99 - Annex 13

regard, the Bank's and Government's primary concern involves asbestos insulation found onexisting piping in some older buildings. According to the Lithuanian State Public Health("Hygiene") Center (PHC), lead-based paint is not a concern since its use has been restricted toexterior, primarily marine, applications for several decades, and is not listed as a public healthproblem by Lithuanian authorities. Mitigation of asbestos risk is discussed below.

5. Lithuanian law provides for the certification of all building materials. Testing and certificationis the responsibility primarily of the PHC, but also includes government agencies for certainspecialized testing, suchi as fire hazard. Without certification, materials cannot be imported,produced or transported in Lithuania.

6. Indoor environmliental changes are not considered to be risks requiring mitigation. Whereexisting (usually excessive) air infiltration is to be reduced through energy-saving measures,technical specifications will ensure the possibility of ventilation adequate to maintain indoor airquality (one-half to one air changes per hour). Disruption due to construction work will becontrolled by the owners and their consultants, as they will have client control over the contractor.Local officers of the State Labor Inspectorate have the authority to oversee construction works onbehalf of laborers.

Asbestos

7. Because of Lithuania's established certification program, which adequately covers the use ofpotentially hazardous materials, the installation of new materials under the project will not presenthazard risks. The use of asbestos has been strictly regulated since 1993, and at present is restrictedunder Lithuanian law to use in the manufacture of painted cement-asbestos roofing tiles andunderground water and drainage piping and wire conduits. According to Lithuanian public andoccupational health authorities, however, asbestos may be encountered in the form of pipeinsulation in older buildings. Site inspections by the project team confirm this. Risks are thereforelimited to the disturbance of existing asbestos that might require disposal when building heatingequipment is upgraded. Health risks encountered because of disturbed asbestos are considered to berestricted primarily to construction workers. With proper handling and disposal, danger to buildingtenants and the general public is not expected.

Plan for Asbestos Risk Mitigation

8. Based on the potential risks outlined above, the project team has determined that a two-stepenvironmental risk mitigation procedure is required for the project to address asbestos pipeinsulation encountered in rehabilitation works financed under the project, namely identification andhandlinig and disposal.

9. Identification of asbestos in the project will be effected through a process of certification byowners' consultants, backed up by district labor inspection offices. Under this procedure, theconsultant will be required to certify the absence or presence of asbestos in each project; localinspectors from the State Labor Inspectorate will support the consultants when there is doubt.

10. Handlinig and disposal: Lithuania's Occupational Safety and Health regulations are intransition and procedures covering asbestos handling have not yet been drafted. The only asbestosprocedures in place in the country at this time are those being used by district heating companies,and are based on former Soviet norms. These have been reviewed and found to be adequate to meet

- 100 - Annex 13

mitigationi requirements for handling and disposal. Where asbestos is certified to be present, therespective contractor will be required through the civil works contract with the client to submit aplan for handling and disposal of asbestos. The contractor's plan must be approved by the client,based on Guidance will be provided by the Labor Inspectorate or the Municipal Center for PublicHealth, as required. Institutional arrangements for this mitigation plan, including evaluation criteriaand methods to be applied during project supervision, will be finalized at Negotiations. Lithuaniannational norms and Public Health and Occupational Safety and Health procedures for asbestoshandlinig are being developed by a Government task force, and are expected to be established by1997.

IBRD 261 77

To Sald.,. To RQo L A T V I A IR 67To Rqgc KILOMETERS

Nico IIIMzeikioi N ' ~J1t-f- 0 'o 20 30 40 50

To ~~~~~~~~~~~~~~~~~Jonitkis/0 1 20 30LIeP-10 / Jonisis; VXBirzoi MILES

Sec /P3Io1 P nd/l)s

S*S {p: z < : _ * 7; = 4 iAAU~~~ ~ ~ ~~~~~~~~~LIAJ adl _

tgtringa ( Plunge \ ouop

UA \ v / 39W\ ~~~~~~~~~~ ~~ ~~~~~Radvilitkis ,\ To 0..gI;-plS {. h

KLAIPEDA _,G!rqzda / aa k.

- Nemwias '.~~~~~~~~~~~~~~~~~ Tauruge 1/~~~~~~_Anl&ap \§uta >, /> Rseinici - o

11 -- , I N- , Preng

Nemunas TIourage ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~~~~ RA AES LVAIN

' Deha <. \< TaurX Kedinioi+/ ~~~~~~~~~~Ukmnerge,</ ' Reserve, \ 2 S C I METEt

Kursiu 't,>__ L Jurbarkas RIVERS-300

Lagoon~ ~ ~ ~ ~~~ ~~~~~ \ -'orn =: MAIN ROADS 50 oavy

To KoliirrodTioi - 0

\~~~~~~~~UA KAUNAadoidrys \ ,

F E D E RAT I O N i 2 7t )\L~ToVPOLAND L I T H U A N I A-s'rs *,4___ >> ,/ ~~~~~~~ ~ ~ ~~~~~Prienoi, 7

~~_01~^ .) Mariam,oolg__-~~ 7 t7 M rmlaswk I@ NATIONAL CAPITAL

POLAND BEL,RUS BINLAND E L A R u/ s g / ! | URBAN AREAS - R A AV I

RUSSIAN < _ - - ' > / 1 5 1 g 1 \ M RIVERS { 300

SWEDEN ~~ '~ f *"I- FED. t- _ ; TRUNK ROADS 150

M"iLATVIA\, / !\_ r \ ~ / 8 50|---' ffi ='\ To Susolb % 8// ~~~~~~~~~~--Voreint ) Obo , J MAIN ROADS0

: 2'.5 - g I t ~~~~~~~~P O L A N D TO ,R / o d., -INTERNATIONAL BOUNDARIES

z - ~~~~~~ , \f_ _ | (: ~~~~~~~~~~~~~~Dr'uskininka (3 i .

POLAND BELARUS r > ur,wBE LA RU S) _ {' \ , 119~

IMAGING

Report No: 15397 LTTYpe: SAR