Document of The World Bank

Report No: 28378

IMPLEMENTATION COMPLETION REPORT(TF-22161 TF-22169 IDA-27170 PPFI-P8390)

ON A

CREDIT

IN THE AMOUNT OF US$ 15 MILLION

TO THE

KYRGYZ REPUBLIC

FOR A PRIVATE ENTERPRISE SUPPORT PROJECT

MARCH 30, 2004

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CURRENCY EQUIVALENTS

(Exchange Rate Effective March 30, 2004)

Currency Unit = KGS KGS 1 = US$ 0.02321

US$ 1 = KGS 43.08

FISCAL YEARJanuary 1 December 31

ABBREVIATIONS AND ACRONYMS

CAS Country Assistance Strategy DITAC Directorate for Investment and Technical Assistance CoordinationEBRD European Bank for Reconstruction and DevelopmentERIS Entrepreneurial Referral and Information Service FERD Fund for Enterprise Restructuring and DevelopmentFINSAC Financial Sector Structural Adjustment Credit Goskominvest State Commission on Foreign Investment and Economic AssistanceIFC International Finance CorporationKPPA Kyrgyz Project Promotion Agency NBKR National Bank of the Kyrgyz Republic NPRS National Poverty Reduction Strategy PAU Project Administration UnitPCB Participating commercial bankPDO Project development objectivePESAC Privatization and Enterprise Sector Adjustment CreditPESP Private Enterprise Support ProjectPHRD Policy and Human Resources DevelopmentROE Return on equitySAR Staff Appraisal ReportSSN Social Safety Net Credit USAID United States Agency for International DevelopmentWTO World Trade Organization

Vice President: Shigeo KatsuCountry Director Dennis de TraySector Manager Tunc Uyanik

Task Team Leader/Task Manager: Alexandra Gross

KYRGYZ REPUBLICPrivate Enterprise Support Project

CONTENTS

Page No.1. Project Data 12. Principal Performance Ratings 13. Assessment of Development Objective and Design, and of Quality at Entry 14. Achievement of Objective and Outputs 65. Major Factors Affecting Implementation and Outcome 96. Sustainability 117. Bank and Borrower Performance 128. Lessons Learned 139. Partner Comments 1510. Additional Information 18Annex 1. Key Performance Indicators/Log Frame Matrix 19Annex 2. Project Costs and Financing 22Annex 3. Economic Costs and Benefits 25Annex 4. Bank Inputs 26Annex 5. Ratings for Achievement of Objectives/Outputs of Components 28Annex 6. Ratings of Bank and Borrower Performance 29Annex 7. List of Supporting Documents 30Annex 8. Beneficiary Survey Results 31Annex 9. Stakeholder Workshop Results 36

Project ID: P008524 Project Name: Private Enterprise SupportTeam Leader: Alexandra L. Gross TL Unit: ECSPFICR Type: Intensive Learning Model (ILM) of ICR Report Date: March 30, 2004

1. Project DataName: Private Enterprise Support L/C/TF Number: TF-22161; TF-22169;

IDA-27170; PPFI-P8390Country/Department: KYRGYZ REPUBLIC Region: Europe and Central Asia

Region

Sector/subsector: Other industry (95%); Banking (5%)Theme: Other financial and private sector development (P); Regulation and

competition policy (P)

KEY DATES Original Revised/ActualPCD: 08/20/1993 Effective: 08/14/1995 01/17/1996

Appraisal: 06/15/1994 MTR: 03/27/1997 06/10/1997Approval: 05/04/1995 Closing: 06/30/2000 06/30/2003

Borrower/Implementing Agency: KYRGYZ REPUBLIC/GOSKOMINVESTOther Partners: Japanese Government

STAFF Current At AppraisalVice President: Shigeo Katsu Johannes F. LinnCountry Director: Dennis de Tray Michael A. GouldSector Director: Anil Sood Kadir T. YurukogluTeam Leader at ICR: Alexandra Gross Mohamadou DiopICR Primary Author: J. Matthew Mitchell; Carlo Segni

2. Principal Performance Ratings

(HS=Highly Satisfactory, S=Satisfactory, U=Unsatisfactory, HL=Highly Likely, L=Likely, UN=Unlikely, HUN=Highly Unlikely, HU=Highly Unsatisfactory, H=High, SU=Substantial, M=Modest, N=Negligible)

Outcome: U

Sustainability: L

Institutional Development Impact: M

Bank Performance: U

Borrower Performance: S

QAG (if available) ICRQuality at Entry: U

Project at Risk at Any Time: Yes

3. Assessment of Development Objective and Design, and of Quality at Entry

3.1 Original Objective:

The original objective of the Private Enterprise Support Project (PESP) was to provide an integrated

program of technical assistance and loans for working capital and investment to private enterprises to promote their successful adaptation to a market-based system. This objective was an important element of the country’s economic reform program, which aimed to address the major macroeconomic instability that characterized the first years of Kyrgyz independence, and promoted the transition from the centrally-planned system of the Former Soviet Union to a market-based economy.

In response to these challenges, the Bank developed a comprehensive series of rehabilitation, adjustment and investment operations designed to stabilize the economy, create a conducive environment for private sector development, and finance viable investment projects and technical assistance. The 1993 Country Assistance Strategy (CAS) set the strategic context for the PESP and three other operations: the Rehabilitation Credit in 1993; the Privatization and Enterprise Sector Adjustment Credit (PESAC) in 1994; and the Social Safety Net Credit (SSN) in 1994. The Rehabilitation Credit provided financing for critical imports to sustain the economy while adjustment and investment operations were under preparation. The PESAC concentrated on improving the pace and quality of privatization and enterprise sector adjustment, emphasizing greater transparency in the process. The SSN Credit supported capacity-building to deal with the social aspects of economic transition, including poverty reduction and the deployment of displaced workers.

PESP was the first investment operation to target the enterprise and banking sectors. In hindsight, the development objectives were too broad and difficult to achieve within the timeframe of the project. In addition, the project design and implementation arrangements were overly complex, involving (i) the establishment of a new, state-owned financial vehicle, the Fund for Enterprise Restructuring and Development (FERD) (ii) a Project Administration Unit (PAU); and (iii) a foreign consultant to manage the operations of the credit line and enter into a twinning operation with a local bank. As a result of these deficiencies, the project did not achieve its original objectives and was restructured in 1998 to channel resources instead through local commercial banks. It continued to perform poorly, however, and in 2001 was further modified to target small and micro enterprises. Subsequently, performance and disbursements began to improve slightly.

3.2 Revised Objective:

By 1998, only one sub-project for US$0.5 million had been financed under the credit line. As a result, the Bank and the Borrower agreed to restructure the project to concentrate on the Borrower's need to reform the enterprise and financial sectors, and strengthen the capacity of the commercial banking system. The project became a credit line providing financing to private enterprises through local commercial banks. The FERD was dissolved and responsibility for implementation of the credit line was transferred to the National Bank of the Kyrgyz Republic (NBKR) which established an Apex Unit for the project within the Directorate for Investment and Technical Assistance Coordination (DITAC). The Investment Promotion Unit at Gaskominvest assumed responsibilities for the technical assistance component.

The restructured project included new performance indicators. The key indicators were: (i) improved risk management and management information systems combined with better appraisal capability in commercial banks; (ii) enhanced risk management systems of the NBKR; (iii) improved infrastructure in the PAU for providing project preparation guidance to private enterprises; and (iv) improved financial management and project preparation.

3.3 Original Components:

Lending Component: The lending component consisted of US$14.2 million for investment and working

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capital sub-loans through the FERD to eligible enterprises. Eligible enterprises included viable and sound private enterprises and state-owned enterprises at an advanced stage of privatization. A private enterprise was defined as having at least 51 percent control by private investors.

The project included lending for incremental working capital sub-loans up to US$1.0 million equivalent and free-standing working capital sub-loans up to US$200,000 with terms between one and eight years. In order to receive project funds, eligible enterprises had to produce financial statements and a feasible business plan. The project required enterprises to assume the foreign exchange risk and pay market-based interest rates. Beneficiaries also had to meet minimum financial and economic requirements, such as debt servicing capacity in foreign exchange, satisfactory environmental reviews, and have a financial and an economic rate of return for their project of at least 15 percent.

The design of the lending program was based on a survey of 50 enterprises during project preparation. This survey resulted in a pipeline of 27 eligible sub-projects with total estimated investment cost of US$49 million and a related credit demand of US$34 million. The preparatory work also included a review of other donor-financed lending products to ensure there was no overlap of donor resources. Among other donors, for example, the European Bank for Reconstruction and Development (EBRD) had established a credit line for large enterprises and had an estimated pipeline of US$20.4 million.

Technical Assistance Components: The project included two technical assistance components:

(i) The technical assistance for enterprises (US$620,000) consisted of consulting services to prepare diagnostic studies and business plans of individual firms and provide technical, managerial, and financial assistance to help implement the proposed business plans. Foreign firms primarily provided these services after having signed partnership agreements with local firms. Eligible firms were required to cofinance the contracts. A Japanese PHRD grant also supported this component with funding for diagnostic and pre-feasibility studies of sample enterprises and established regional centers to provide local enterprises with access to market information.

(ii) The technical assistance for the financial sector complemented other donor activities in the sector and included: (i) a diagnostic audit of Savings Bank (US$200,000); (ii) a review of the legal and regulatory framework of insurance companies (US$100,000); and (iii) a trade finance study (US$50,000).

Implementation Arrangements: During project preparation, the Bank and the Borrower determined that local banks had neither the operational capability nor the capital to engage in lending activities or manage a credit line. Thus, in order to bypass the weak banking system, the Fund for Enterprise Restructuring and Development (FERD) was established under the project to channel funds to eligible enterprises in the form of sub-loans. The FERD was a government-owned financial intermediary vehicle. It had no staff, minimum capital, physical assets or structure of its own. Rather, it was materialized by its statutes, operating procedures and a bank account at the NBKR. Its operations were fully managed by an international bank that was selected as the Fund Manager financed under a Japanese PHRD grant and entered into a twinning arrangement with a local bank.

The Fund Manager was responsible both for the lending and technical assistance components of the project. The Bank retained the right to approve all sub-projects approved by the FERD. The goal was for the Fund Manager to train staff of the local bank, the Orient Bank, to progressively take over some of the management and lending responsibilities of the FERD. At the same time, as the banking sector developed, other local banks would take over the FERD's portfolio.

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The FERD was supervised by a Board of Directors composed of the Chairman of the NBKR, the Minister of Finance, and the Vice Chairman of the State Commission on Foreign Investment and Economic Assistance (Goskominvest). The FERD was intended to be an interim financial vehicle, and thus, the project included a sunset provision for it of 10 years.

A Project Administration Unit (PAU) was established in Goskominvest to monitor the execution of the management contract for the FERD. Other responsibilities of the PAU included (i) coordination between the Bank and the Government; (ii) ex-post review of sub-loans; (iii) supervision of consultants hired under the technical assistance components; and (iv) implementation of technical assistance under the Japanese grant.

The original implementation arrangements for the project proved to be overly complex and ineffective. The responsibilities of the PAU, the FERD's manager and the Board of the FERD overlapped and resulted in a number of conflicts during project implementation. Furthermore, project implementation was affected by the poor performance of the Fund Manager, and the fact that its local counterpart bank went bankrupt during an early stage of implementation. The project’s design allowed for changes in the implementation framework, with qualified commercial banks taking over the FERD's lending portfolio, but it was too open-ended and dependent on the development of the banking sector.

Lessons from Past Projects: The Bank incorporated several important lessons from experience with financial intermediary lending operations in designing the project. Specifically, the preparation team focused on how such operations can be hampered by unstable macroeconomic environments, the absence of market determined interest rates, political interference in lending decisions, and weak and unsound financial institutions. Thus, the project contained an explicit provision to require a market-based interest rate structure. In addition, to minimize political interference and, at the same time, address weaknesses in the private banking sector, the project designated a private international bank to manage the lending program instead of creating a new government institution.

Benefit/Risk Evaluation: The project’s evaluation of benefits in the Staff Appraisal Report (SAR) was inadequate. The SAR states the project would support successful post-privatization performance through improvements in management efficiency and productivity, marketing, and profitability. It adds that these improvements would result in tangible benefits for investors, workers and the country as a whole, without defining them. The SAR also notes that the project would: (i) develop the institutional foundation for financing projects with high financial and economic returns and technical assistance to enterprises; and (ii) contribute to capacity-building for institutional reform in the financial sector, which a follow-up financial sector loan would support. However, the SAR does not sufficiently explain the linkage between these expected results and the detailed indicators of project achievements provided in Annex 5 of the report. In this context, it does not fully assess the transition process for building local commercial bank capacity to take over the management of the FERD from the international bank and how this process relates to the timeline for transition and project performance indicators.

3.4 Revised Components:

In 1998 the Borrower and the Bank restructured the project in an effort to improve performance. The restructured project redesigned both lending and technical assistance components and introduced adjustments to take into account emerging market conditions and to reflect a more realistic view of credit demand.

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Under the new implementation arrangements, funds were channeled through qualified participating commercial banks (PCBs) directly rather than through the FERD. The FERD was dismantled. The NBKR took responsibility for the management and supervision of the credit line. As a result, DITAC, established by the NBKR in 1995, became the Apex Unit of the project. Monitoring financial soundness of the PCBs relied on the general banking sector supervision activities of the NBKR. The application/approval procedures for sub-loans remained complex, but more clearly defined. The PCB became solely responsible for credit decisions, while the Apex Unit assumed responsibility only for supervision and monitoring. The Bank retained the right of final approval of each sub-loan, with the understanding that, as PCBs progressed in terms of credit and risk management capacity, these arrangements would be modified to fully entrust PCBs to approve sub-projects introducing with only a post-review by the Apex Unit. The Bank also imposed strict eligibility requirements for PCBs in order to select the best performing banks in the country. These requirements included sound financial condition and management and annual IAS-based audits by auditing firms satisfactory to the Bank (throughout the life of the project, none of the local auditing firms were qualified by the Bank to conduct IAS-based audit of banks).

The terms and conditions for the sub-loans did not change substantially. Sub-loans up to a maximum of US$1.0 million were extended by PCBs to eligible private and privatized enterprises for their medium- and long-term investment and working capital needs. The maximum maturity was seven years for investment sub-loans and two years for working capital sub-loans. Interest rates to PCBs were set at US$ six months LIBOR plus 2 percent to cover operating costs. PCBs were given the option to charge sub-borrowers a 7 percent margin over their funding cost. The PCBs assumed the foreign exchange risk as funding was provided in US$ and PCBs could extend sub-loans in both US$ and Soms. The project beneficiaries were required to meet the same financial and economic requirements set forth in 1995 Credit Agreement.

The technical assistance component was revised to include provisions for consultancy services to: (i) help enterprises prepare and implement business plans and investment projects; and (ii) train commercial bank officers with a view to strengthening their capacity for project appraisal, risk management and loan delivery. Additionally, the PHRD grant available for the project implementation provided funding for: (i) the development of sub-project appraisal software; (ii) the development of local audit capacity through training in international accounting standards; and (iii) joint training sessions for private enterprises and commercial banks in preparing and assessing investment projects and business plans. The Apex Unit became responsible for technical assistance to PCBs and the PAU was restructured into an Investment Promotion Unit at Goskominvest and named PIU. The PIU then became responsible for technical assistance to enterprises. Despite the changes to the project design, the demand for credit funds and technical assistance remained sluggish. To stimulate demand, there were two further changes to the project design. In December 2001, the Bank and the Borrower agreed to introduce a micro-lending component. Under this component, approval procedures for sub-loans of less than US$5,000 with a maturity of less than six months were streamlined, requiring only post-review by the Apex Unit, and no prior review by the Bank. The PHRD grant financed consultants (i) to help the PCBs develop and implement new crediting and risk management procedures and train credit officers on micro-lending, and (ii) to help medium-size enterprises (above US$5,000 sub-projects) to prepare business plans.

In 2002, an amendment to the Credit Agreement enabled: (i) individuals to become project beneficiaries; and (ii) the Ministry of Finance to bear the foreign exchange risk. The amendment also reduced the amount of the credit line to US$5.5 million and extended the closing date of the project to June 2003. This extension was granted with the idea that experience with the microfinance component would contribute to the preparation of a new credit line. The Bank agreed with the Borrower that the new credit line would take

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place only if disbursement and the overall quality of the sub-projects improved during the last year of project implementation.

3.5 Quality at Entry:

Project appraisal took place before the establishment of the Bank’s formal quality assurance review process. In general, the project objectives and design: (i) responded to the priority needs of the country; (ii) reflected the Bank’s overall country assistance strategy; (iii) fit into a logical framework of ongoing projects; and (iv) took into account of some lessons learned from past projects. However, because of substantial deficiencies in risk analysis, overly complex institutional arrangements, and lack of adequate market analysis, overall quality at entry is rated as unsatisfactory.

The Bank did not adequately assess the risks of creating a new state-owned institution for credit delivery, relying heavily on a foreign contractor (the Fund Manager) to ensure effectiveness. Moreover, the absence of clear division of responsibilities between the FERD Board, the PAU and the Fund Manager created overlaps and conflicts, thus undermining the overall project implementation. While the project’s restructuring improved the framework for credit delivery, the complex lending procedures potentially could have been avoided with better preparation.

4. Achievement of Objective and Outputs

4.1 Outcome/achievement of objective:

The overall project outcome is rated as unsatisfactory. This rating is based on original project objectives and design because the revised objectives resulted primarily from deficiencies in the original project design and other external factors. The lending component performed poorly and showed only modest improvements following the restructuring in 1998. Following the amendments in 2001, there was a slight increase in demand for sub-loans, especially for micro-loans, and the participating commercial banks gained some experience in credit risk and management and lending to small enterprises.

Technical assistance had no significant impact on the lending component before project restructuring in 1998, mainly due to the reluctance of enterprises to borrow for technical assistance, and the unsatisfactory performance of the Fund Manager. After restructuring, the execution of a smaller, more clearly focused technical assistance component helped improve disbursements and the project outcome. However, actual financial resources delivered to the private sector over the expanded seven-year life of the project amounted to only 24 percent of the original level and about 30 percent of the revised target at 1998 restructuring.

4.2 Outputs by components:

Line of Credit Component: There were essentially three phases in the implementation of the lending component. During the first phase, from the Credit’s effectiveness to 1998 restructuring, performance was highly unsatisfactory. The lack of disbursement activity resulted in large part from the lack of demand for credit, largely due to complex application procedures, poor economic conditions, perceived high interest rates, excessive collateral requirements, and an unwillingness of enterprises to borrow for technical assistance to prepare sub-project applications.

During the second phase, from 1998 to December 2001, disbursements increased once the funds were channeled directly through commercial banks. While the sub-loan approval process remained somewhat complex with a three-step approval process involving the PCB, the Apex Unit and the Bank, the new

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implementation arrangements were a positive development. Under the new arrangements, the Apex Unit was in charge only of the supervision of PCBs' activities. Furthermore, the grant-funded technical assistance helped banks improve their subproject appraisal and risk management skills. As a result, the project financed 18 sub-projects totaling about US$2 million. This level was still far below the target of US$12 million for the restructured project, and the project had only one more year of operation. However, during this period the Bank rated the performance as satisfactory due to improvements in the quality of sub-projects and the delivery of technical assistance to enterprises.

The third phase began in December 2001 with the shift in focus to micro-enterprises. The result was an increase in the number of sub-projects financed. Within one year, the project had extended 72 sub-loans totaling US$318,000. The Bank extended the project’s closing date from June 2002 to June 2003 to allow for continued progress in the lending component. There was also an amendment to allow individual entrepreneurs--in addition to legal entities--to become sub-borrowers. The Ministry of Finance also agreed to assume the foreign exchange risk, enabling commercial banks to receive the proceeds of the project either in local currency or US dollars. At the end of the project, the lending component had financed a total of 293 sub-loans, of which 266 were small credits.

Technical Assistance Components: Prior to 1998, there were no disbursements for technical assistance funds to support enterprises. Most of the activities financed from the Japanese grant (about US$3.3 million) did not have a clear development impact. This grant funding helped set up: (i) an Entrepreneurial Referral and Information Service (ERIS) to assist entrepreneurs in developing small and medium-scale businesses; and (ii) the Kyrgyz Project Promotion Agency (KPPA), responsible for implementing the ERIS system. KPPA was to contract with the FERD to provide technical assistance to enterprises and help build a pipeline of projects for an annual fee. Both local staff of the FERD and ERIS received intense training. However, the impact of the agencies was negligible, as enterprises made little of their services.

From 1998 to June 2003, the technical assistance focused on training programs and seminars for both enterprises and commercial banks in business plan preparation, project appraisal and risk/portfolio management. The project also provided two foreign resident advisors to the credit departments of participating banks. In addition, the project developed software on project planning and analysis for dissemination to entrepreneurs and financial institutions. Goskominvest produced promotional materials and a television campaign to promote the project. Furthermore, it developed a website to promote the development of Kyrgyz enterprises, provide information to potential foreign investors, and offer a common forum for various government agencies to promote the Kyrgyz enterprises in world markets.

Intensive Learning Survey and Workshop: At the end of the project, the Bank sponsored an Intensive Learning Survey and Workshop to assess the achievements of the project and extract lessons (see Annex 8). The workshop was held in Bishkek in June 2003 to discuss the findings of a survey of project stakeholders. About 60 enterprises and 20 officials and practitioners involved in the project responded to the survey.

Despite the poor assessment of the project overall, the survey pointed to a number of positive outcomes resulting from the final changes to project design and the new emphasis on micro loans. The survey also indicated that the project helped PCBs improve their credit policies and risk management. In particular, the project’s micro lending component helped the PCBs gain a better understanding of the benefits and constraints in downscaling the credit portfolio and focusing on small/retail banking. The Apex Unit gained experience in financial management under Bank-financed projects. The benefits for enterprises were: (i) longer-term financing at competitive rates, especially for medium sized enterprises; and (ii) simplified and more cost-effective approval procedures under the micro-lending component. In general participating

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enterprises reported improvements in revenues and product diversification.

4.3 Net Present Value/Economic rate of return:

Not applicable to this project.

4.4 Financial rate of return:

Not applicable to this project.

4.5 Institutional development impact:

The project originally aimed to develop the institutional foundation for providing financing and technical assistance to private enterprises to develop and implement business plans. To do so, the project focused on building the capability of the FERD and the PAU. However, the developmental impact was low and these institutions were ultimately dismantled. Following the restructuring in 1998, institutional development focused on commercial banks. Overall, during this period, project supervision reports indicate that the PCBs improved the quality of credit appraisals and became more careful in evaluating business plans and collateral. The Intensive Learning Survey also indicated that PCBs improved their skills in credit risk evaluation and management and built capacity to lend to small borrowers. The high repayment rate on sub-loans under the project (95 percent) reflects these improvements.

During project implementation, nine banks applied for participation, but only four were accepted due to tight eligibility criteria (DosCredo Bank, AKB Kyrgyzstan, IneximBank and Energo Bank). These four banks accounted for more than 25 percent of the assets in the Kyrgyz banking system. However, DosCredo was suspended in 2001 because it was undercapitalized. The bank did not manage to restore its capital position, and the NBKR limited its license about nine months after it was suspended from the project. Further, AKB Kyrgyzstan was suspended in 2002 because of the audits prepared by a local auditing firm, contrary to the project requirements. In 2003 the two remaining banks (IneximBank and Energo Bank) accounted for about 9.7 percent of banking sector in terms of assets. Section 10 (Additional Information) of this report provides background and more detailed information on performance of the individual PCBs.

In the final years of the project, the PESP portfolio achieved high quality and steady growth. As of end-June 2003, about 95 percent of the sub-borrowers were repaying their loans, with problem loans amounting to less than 10 percent of the PESP portfolio. PCBs disbursed US$1.1 million in small sub-loans, and US$2.5 million in medium sub-loans, thus contributing to supporting private sector development. In aggregate, at end-2002, PESP sub-loans accounted for about 35 percent and 6 percent of the foreign currency denominated long-term (over one year) and short-term (less than one year) credit portfolio of the whole banking sector.

Overall, the participating commercial banks (excluding DosCredo) have been profitable with capitalization improving to 25 percent on average as of the end-year 2002, against 22 percent for the whole sector. Return on operating assets during the same period was positive at 2.3 percent on average, compared to 1.6 for the whole banking sector. Asset quality is good compared with other Kyrgyz banks, with non-performing loans of about 12 percent on average for the three banks. The three PCBs are also among the best banks in terms of intermediation functions. On average, at end-2002, the three banks maintained a deposits-to-assets ratio of 50 percent, a loans-to-deposits ratio of 136 percent, and loans-to-total assets of 51 percent. This compared favorably to the whole sector for which the deposits-to-assets ratio was 45 percent, loans-to-deposit 61 percent, and loans-to-total assets 23 percent. Furthermore, the three banks

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enjoy depositors’ confidence, which has been a major weakness in the Kyrgyz banking sector. Their share of deposits to total banking sector deposits in fact grew from 18.8 percent in 1999 to 21.4 percent in 2003.

IneximBank had the largest portfolio of the participating commercial banks and disbursed about 48 percent and 78 percent of medium-size sub-loans and small sub-loans, respectively. AKB Kyrgyzstan disbursed 41 percent of the total PESP medium-size portfolio. The bank did not disburse micro sub-loans, as it was suspended before the new component was developed. Energo Bank disbursed 22 percent of the micro sub-loans and 10 percent of the medium size sub-loans. DosCredo Bank disbursed only 1 percent of the medium size sub-loans.

Project supervision reports also indicate that the PESP helped support the institutional development of the Apex Unit. During the final phase of the project, the Apex Unit improved its capability to supervise Bank-financed projects, including monitoring procurement and special accounts, as well as increased its knowledge of credit risk and portfolio management. This experience helped it gain skills that will benefit the unit in the future when it serves as the PIU for the Bank-financed Payments and Banking System Modernization Project and the PHRD grant available for the preparation of this project.

5. Major Factors Affecting Implementation and Outcome

5.1 Factors outside the control of government or implementing agency:

Several external factors had a negative impact on the project and contributed to the projects poor performance. The main factors were:

(i) The Russian financial crisis in 1998. The Russian financial crisis had a substantial adverse effect on macroeconomic performance in the Kyrgyz Republic. Growing external and fiscal imbalances led to a rapid depreciation of the national currency. This depreciation increased the cost of capital for both enterprises and banks. As a result, it became difficult for some banking system customers to pay back loans, especially those denominated in dollars, which accounted for about 40 percent of the banking system’s assets. The share of non-performing loans in the banking system’s portfolio increased significantly and banks became reluctant to lend in foreign currency.

(ii) Weakness of the commercial banking system. The weakness in the banking sector was a main reason for the original project design which bypassed the local banking system and relied on an international bank to manage the FERD. It was also reflected in the fact that, following the restructuring in 1998, nine banks applied to participate in the credit line, however, only four met the eligibility criteria and only two ended up participating in the end. The small number of PCBs limited the potential impact of the project on the overall banking system and in terms of volume of sub-loans delivered to the private sector.

(iii) The poor performance of the international contractor managing the FERD and the collapse of the contractor's local counterpart. The original project design relied on an international bank to serve as the Fund Manager and manage both the lending and the enterprise technical assistance components of the project. It also required the international bank to enter into a twinning arrangement with a local counterpart bank. This arrangement turned out to be unsuccessful due to the very poor performance of the international bank and the collapse of the local counterpart, the Orient Bank. The NBKR withdrew the license of Orient Bank and appointed an administrator to resolve conflicts between management and shareholders. This move undermined the basic framework of the project and contributed to the need for

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its restructuring.

5.2 Factors generally subject to government control:

The improved stability of the economy during the latter part of the project (1999-2003) had a substantial positive effect on the project by increasing the demand for credit, though at a much lower level than anticipated. The government's economic reform efforts most likely contributed to this result. The latest Country Assistance Strategy has shown that the Kyrgyz Republic has made considerable progress in restoring macroeconomic stability since the Russian financial crisis of 1998. During 1999-2001, real GDP grew at about five percent on an average annual basis. Consumer prices have declined from nearly 39 (1999) percent to only about 3.7 percent in 2001 and the foreign exchange rate remained relatively stable.

The government's efforts to strengthen the commercial banking sector with support of the Financial Sector Structural Adjustment Credit (FINSAC, 1996-1998) and the FINSAC Technical Assistance, also had a positive effect on the project. The FINSAC was a comprehensive reform program aimed at improving the efficiency and profitability of the financial system. The strengthening of commercial banking sector allowed the project to use commercial banks to channel the PESP funds following the restructuring in 1998.

The persistence of a poor business environment in the country appears to have had a negative impact on the project. While the government made some progress in this area, it did not go as far as it could have in eliminating legal and administrative barriers for micro and small enterprises. By joining the World Trade Organization (WTO) in 1998, the Kyrgyz Republic liberalized foreign trade and investment and streamlined registration procedures for micro and small enterprises. However, such enterprises still faced the constraints of excessive administrative barriers and bureaucracy as well as limited access to finance and trade facilities. The excessive bureaucracy continues to increase transaction costs, push some businesses into the shadow economy, and create conditions for corruption. This is likely to become a priority area of reform in the future.

5.3 Factors generally subject to implementing agency control:

The main factors subject to the control of the project implementing agencies were the management of the project, and the use of technical assistance, project promotion and project monitoring. During the first phase of the project from 1996 to 1998, there was a lack of effective unified project management. The FERD was responsible for generating marketable projects and assisting enterprises in developing them. The PAU was in charge of monitoring the performance of the Fund Manager and for managing the project’s financial sector studies. However, project records indicate that the PAU consistently and unduly interfered in the activities of FERD to an extent that threatened the project’s viability. Furthermore, the director of the PAU was also the head of the KPPA, which created a potential conflict of interest since KPPA was competing with the FERD in providing technical assistance to enterprises.

During the second phase of the project, the Apex Unit began to supervise the credit line. As a result, the promotion of PESP improved. Staff from the unit prepared and distributed various promotional materials in various regions of the country and established a comprehensive internet site. All of these new implementation measures had at least a modest impact on the increase in lending activity from 1999 until the end of the project.

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5.4 Costs and financing:

The original project cost was US$20.3 million. This included US$15.0 million from the IDA credit, US$2.75 million from the Japanese PHRD grants, and US$2.5 million in local co-financing from sub-borrowers, commercial banks and Orient Bank. Of the US$20.3 million, 80 percent was for the credit line component and the remaining 20 percent was for the technical assistance component.

The estimated actual cost of the project is US$7.3 million or about 35 percent of the original project costs. A total of US$4.6 million was disbursed from the IDA credit line and US$2.75 million was from the two Japanese PHRD grants. In June 2002, US$7.14 million was cancelled from the IDA credit line and the remaining undisbursed balance of US$1.85 was cancelled at closing.

Project costs were overestimated at both appraisal and during the 1998 restructuring. This was compounded by weaknesses in project implementation arrangements and other external factors that reduced demand. Only US$4.6 million (30 percent of the IDA credit) was disbursed to fund sub-loans, the PAU, the FERD and project audits. None of the co-financing from local sources materialized. There were no disbursements from the IDA credit for the technical assistance component, as all technical assistance activities were funded by the Japanese PHRD grants.

6. Sustainability

6.1 Rationale for sustainability rating:

Despite the unsatisfactory rating for the project outcome, the sustainability is likely of the project's main achievements--strengthening the PCBs and supporting small and micro-enterprises following the 1998 restructuring. This rating is primarily due to the fact that external financing will continue to be available to the participating commercial banks for small and micro lending under the Kyrgyz Micro and Small Enterprise Finance Facility (see section 6.2 below for more details). In addition, the staff of the participating commercial banks that were trained under the project have continued in their roles even after the project has finished, and the banks have continued to lend using the lending methodologies developed under the PESP.

6.2 Transition arrangement to regular operations:

Follow-Up Projects to Support Enterprise and Financial Sector Development: The Bank will not to support a PESP follow-up project as was originally envisioned. This is due in large part to the fact that external financing will continue to be available to private commercial banks through the US$15.3 million Kyrgyz Micro and Small Enterprise Finance Facility set up by the EBRD, IFC, USAID, and the Government of Switzerland. The facility aims to provide small and medium enterprises with a long-term source of financing through commercial banks. The credit line builds directly upon the recent achievements of the PESP and works through two of the PCBs (among others) and uses the same lending methodologies. The credit line also provides grant funding for technical assistance, mainly to train credit officers on credit appraisal and risk management using best practices. The facility focuses on providing loans of less then US$50,000 with a maximum term of three years.

The Bank is supporting two other projects that will also help to address a number of issues that were identified under the PESP as weaknesses in the financial and private sectors: (i) the Payments and Banking System Modernization Project (approved in March 2004) which provides technical assistance to the

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Government in support of priority reforms to improve financial sector infrastructure, and (ii) the Enhancement of Business Environment Project, which is currently under preparation. This project will help improve the business climate and competitiveness through eliminating administrative barriers to businesses and improving the technical regulatory framework and quality standards.

7. Bank and Borrower Performance

Bank7.1 Lending:

During project preparation and appraisal, there were a number of positive aspects of the Bank’s performance including: (i) the identification of the need to mobilize financing for a fledgling private sector; and (ii) the integration of the project into a comprehensive economic rehabilitation and adjustment support framework. Furthermore, the Bank incorporated reasonable lessons focused on the need for macroeconomic stability and strong government commitment to reform. The staffing of Bank preparation and appraisal missions was appropriate, consisting of specialists in economics, finance, investment analysis, and business management.

However, the negative impact of design deficiencies was substantial, resulting in a complete restructuring of the project two years after it became effective. The main reasons for this were attributable to: (i) the lack of a realistic market study at appraisal, which resulted in a large overestimation of size of the credit line relative to country conditions; (ii) the reliance on a new, state-owned fund as the main vehicle for credit delivery; (iii) the unclear relationship between the FERD and the local banks; and (iv) the overlapping roles and responsibilities of the PAU and the FERD, which resulted in ambiguous reporting relationships and became a continuing source of conflict. These shortcomings could have been avoided. Therefore, on balance, the Bank's lending performance is rated as unsatisfactory.

7.2 Supervision:

While the Bank's performance during supervision varied substantially throughout implementation, on balance, project supervision is rated as unsatisfactory. There were several positive aspects of the supervision during the last three years of operation. The first was the Bank’s flexibility in responding to the government’s request to keep the line of credit open and focus on lending to micro enterprises. The second was the cautious approach to appraisal of sub-projects and the qualification of participating banks, which resulted in high quality of the portfolio and PCBs. The third was the decision to prepare an intensive-learning ICR to gain a deeper insight in the project’s implementation experience and help define a strategic future direction for supporting private enterprise in the Kyrgyz Republic.

Unfortunately, these positive elements came late in the project cycle and there were several negative elements that overshadowed the overall supervision performance: (i) the US$12 million lending component under the restructured project was unrealistically large; (ii) the Bank’s satisfactory project implementation ratings between 1998 and 2001, which did not accurately reflect the low level of activity of the lending component; (iii) the frequent turnover of task managers--seven during the eight-year life of the project--resulting in a lack of continuity and historical memory; and (iv) the lack of consistent monitoring of agreed performance indicators in project status reports.

7.3 Overall Bank performance:

The overall performance of the Bank is rated as unsatisfactory.

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Borrower7.4 Preparation:

The Borrower’s performance during project preparation is rated as satisfactory. The government was effective in establishing a coherent and comprehensive economic reform program, focusing on privatization, stabilization and structural adjustment ahead of other former Soviet Union countries. These actions helped to create a supportive operating environment for PESP.

7.5 Government implementation performance:

The government's main role was to support a stable macroeconomic environment for private sector development. The most recent CAS indicates that the Kyrgyz Republic made good progress in liberalizing prices and exchange rates as well as initiating difficult reforms. As a result, the country is beginning to see a reduction in poverty rates. Performance audits of the two Bank-financed projects (the Rehabilitation Credit and the PESAC) found that government made progress in establishing an effective policy environment for the implementation of PESP and improving the legal framework for support private sector development. Regarding the PESP, the Government took a proactive stance in trying to improve the project’s performance, especially supporting the re-focusing of the project on small enterprise lending through commercial banks. It maintained a reasonable level of commitment to the project throughout implementation. As a result, the Government’s implementation performance is rated as satisfactory.

7.6 Implementing Agency:

Implementing agency performance is rated unsatisfactory as a result of the unsatisfactory performance of the original implementation agencies--the FERD and the PAU. During the first two years of the operation of these two institutions, the project made negligible progress toward meeting its objectives. Project files indicate that management of the FERD by the international bank was unsatisfactory. The records also indicate that the PAU unduly interfered in the operations of the FERD, mainly in the evaluation of sub-loans, resulting in a number of conflicts that hindered progress.

The restructuring of PESP in 1998 clarified the project’s implementation structure and the performance of both the NBKR and the PIU (formerly PAU) of Goskominvest was satisfactory. These institutions were more effective in managing both the line of credit and technical assistance components. Project status reports consistently noted improvements of the Apex Unit in screening business plans of prospective sub-borrowers. The main deficiency was identified in the partial implementation of the amendment of 2002, and especially the provision to allow the Ministry of Finance to bear the foreign exchange risk. This depended on external factors, such as the required and lengthy process of ratification by the Parliament of this specific provision of the 2002 amendment.

7.7 Overall Borrower performance:

On balance, the overall performance of the Borrower is rated as satisfactory.

8. Lessons Learned

Lessons of Broad Applicability:

(i) Demand surveys are critical elements of project preparation. The demand survey for the PESP resulted in an overestimation of credit demand and did not go far enough in identifying demand for specific lending products. Evaluations of demand for enterprise finance should rely not only on surveys

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and technical studies of specific enterprises, but also on a realistic market studies, the existing financial infrastructure, macroeconomic development prospects, and the overall size of the credit market.

(ii) Private enterprises will not pay for technical assistance when there is a perception that donor funds are also available for such support. The PESP required partial payment from enterprises for technical assistance. However, this component was not successful as enterprises, generally were not interested such assistance, perceiving the support either as a waste or available free of charge through grant financing. In the end, the project did not disburse any funds for this component.

(iii) Implementation arrangements should be straightforward and lines of authority clear. It is important to make sure that the implementation framework is clear from the outset of the project and that lines of authority are unambiguous. Because the lines of authority and limit of roles were not fully clear under the project, the PAU often interfered with the day-to-day operations of the FERD, including the credit review process.

(iv) Line of credit projects can build in mechanisms to support business environment policy reforms. While the government has taken a number of important steps to strengthen the business environment, PESP enterprise surveys indicated a number of perceived deficiencies in the business environment continue to adversely affect private enterprise development. These include administrative procedures governing businesses; taxation policy; corruption and crime; and adequacy of the legal framework. In the future, it would be a useful if the project could identify mechanism to provide feedback to the government on many of these issues to help support the policy dialogue on business environment.

(v) The Bank should minimize changes in task managers to ensure continuity in the project. PESP had seven different task managers over an eight-year period. Such changes substantially disrupted project supervision, reduced institutional memory, and led to frequent shifts in approaches and strategies. This was a problem particularly for a project with a history of implementation problems.

(vi) Adequate attention needs to be given to strengthening the local auditing profession in underdeveloped financial markets. Auditing remains a major issues for SME support projects in underdeveloped financial and banking sectors such as the Kyrgyz Republic. In the PESP, several banks were disqualified from the project due to the lack of an audit by an auditing firm, satisfactory to the Bank. None of the local auditors met the Bank-approval standard, and most banks could not afford an international audit.

Key Lessons from the Intensive Learning Survey and Workshop

(i) Project preparation should include detailed demand surveys to provide insight into the demand for specific financial products and services. The size of the project and the features of the sub-loans should be determined as accurately as possible, through a consultation process involving surveys and focus groups with entrepreneurs and practitioners during project preparation. The Intensive Learning Survey indicated that enterprises were particularly interested in the following products: leasing (94 percent); capital financing (78 percent); mortgages (67 percent); and insurance products (61 percent). None of these products were offered through the project, however, this was in part due to the rudimentary development of the financial sector at the time of project preparation.

(ii) Project design should be as flexible as possible so that it can be adapted to changes in the enabling environment during implementation. In this regard, surveys and focus groups could provide

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the necessary feedback information on constraints, obstacles and areas for improvement. The surveys and workshops should involve all stakeholders, including officials, financial intermediaries and enterprises.

(iii) In countries with underdeveloped financial and banking sectors, quality of technical assistance is crucial to the success of a credit line. The micro-lending component benefited from the direct support of a consultant, who provided on-the-job training, developed policies, guidelines and procedures which were consistent with the existing environment and easily received and implemented by the banks.

(iv) Financial intermediaries should be allowed to issue sub-loans in both domestic and foreign currency. However, the important issue remains the revenues and the cash management capacity of sub-borrowers, which should be an integral part of the credit evaluation process.

(v) Interest rates should be market-based, if a market exists, or close to the measurable credit risk. This is critical to ensure that the credit line does not distort financial markets and so that participating commercial banks can fully cover their costs.

(vi) Credit policies in countries with underdeveloped financial infrastructures should focus on the cash and revenue generation capacity of sub-borrowers rather than the collateral. Because court systems are often slow and ineffective, collateral can be difficult to realize and not provide a guarantee of repayment.

(vii) The spectrum of the financial intermediaries for Bank credit lines could be enlarged to include microfinance organizations and/or small non-bank financial institutions. This would enable the development and broadening of the product and customer base, especially in the rural areas, as banks are sometimes reluctant to downscale their portfolios and to invest in regions with low financial density. It is important to recognize however, that lending to these institutions could be more risky because typically less developed and supervised/regulated.

9. Partner Comments

(a) Borrower/implementing agency:

On March 10, 2004, the Kyrgyz authorities submitted a set of comments on the project and provided a number of additional inputs to the main text of the ICR (see below). Most of these comments and corrections have been incorporated in the text.

In addition to the comments below, the authorities actively participated in the ILI Survey and Workshop, which took place at the end of the project in June 2003. Their comments are reflected in the summary report in Annex 8.

National Bank of the Kyrgyz RepublicComments for the Implementation Completion Report of the

Private Enterprise Support Project (PESP)March 10, 2003

In response to your message of January 27th, 2004, regarding the PESP draft ICR report, the National Bank of the Kyrgyz Republic would like to inform you of the following:

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In Subsection 3.4, it is written that Banking Supervision Department of the National Bank of the Kyrgyz Republic is responsible for the reliability of the Participating Commercial Banks. It is necessary to point out that the Department never had such authorities. The Banking Supervision Department supervises the whole banking system in accordance with the banking legislature of the Kyrgyz Republic.

In the same subsection it is necessary to note that the external audit of the Joint-Stock Commercial Bank “Kyrgyzstan” was made by international auditing companies Arthur Andersen in 2001 and Delloite and Touche in 2002. The data on the bank’s development starting from 1999, mismatch the data according to call reports. Since the call reports are not an open type of information and are used by the National Bank of the Kyrgyz Republic to fulfill its regulatory functions, we offer you to exclude the above-mentioned figures from the report.

Concerning “Energobank,” it is incorrect to call it the financial unit of the power conglomeration. It is true that there some energy groups are in the list of its share-holders, but there are not only them in the list. The data on the bank’s development for the period of 2000-2002, mismatch the data of call reports. Since the call reports are not an open type of information and are used by the National Bank of the Kyrgyz Republic to fulfill its regulatory functions, we offer you to exclude the above-mentioned figures from the report.

In the same subsection, in the resume of the banks, there is another incorrect information about “Ineximbank.” It is stated, that the bank was previously owned by a Turkish company, which went bankrupt in 2001. The Bank had not Turkish founders (nor Turkish shareholders). Also we would like to note that the participation of European Bank for Reconstruction and Development in the authorized capital stock of the bank practically started in January 2004. From our point of view, it is necessary to make more exact the information given about Kazakhstan’s “Temirbank” obtaining a sizeable share holding of the “Ineximbank.” The data on the bank’s development for the period from 1999, mismatch the data of call reports. Since the call reports are not an open type of information and are used by the National Bank of the Kyrgyz Republic to fulfill its regulatory functions, we offer you to exclude the above-mentioned figures from the report.

In section 4 on “Task implementation and the results” there is incorrect information about “Dos-Credobank” status, it is stated in the report that the license of the bank has been recalled. The information is incorrect. “Dos-Credobank” had problems with insufficient capitalization, but the license of the bank has not been recalled, the Bank had a limitation on implementation of some types of banking services. The information given about the bankruptcy of “Dos-Credobank” is not correct. In the same subsection there are given two different dates of Doscredobank’s dismissal from the project (2000 and 2001).

In subsection 5.2 “Factors, controlled by the Government” it is necessary to define the rate of inflation: Consumer price index was at the rate of 39.9 percent in 1999 and 3.7 percent in 2001.

In subsection 5.3 it is stated that after the restructuring of the project in 1998, NABK took a common responsibility for the realization of technical assistance component of the project. The information is incorrect, since the responsibility for the realization of the technical assistance of the project originally were taken by the State Committee on Foreign Investments and later passed to State Committee of the Kyrgyz Republic on State Property and Direct Investments.

In subsection 7.2 on “Supervision”, an incorrect amount of the allocated funds shown i.e. 2 mln US Dollars, while real amount of allocated funds was 3.83 mln USD, which is accordingly 32 percent of the

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revised amount of the credit line.

Due to some unclear interpretation of the questions concerning the exchange rate, the growth of the monetary base, in the Annex 8, we would advice you to exclude the some of the information given in the Annex. Particularly, the statement ,given in the document: that the growth of the cash component of the money supply is the evidence of the growth of the cash-flow rate, but the strict stating that it leads to the growth of the informal relations, is very disputable. High level of cash US dollar flow and money supply increase are not the reason of the hidden profit in foreign currency and imperfect reflection and the financial information but rather a sequent of it.

Also we would like to note, that the duties of the Project administration unit, created within the General Directorate of the State Commission of the Kyrgyz Republic on foreign investments and economic assistance, after the first restructuring of the credit line were handed over to the Division on Investment Advancement of the State Commission of the Kyrgyz Republic on foreign investments and economic assistance.

From the beginning of 2001, due to the changes in the administrative structure of the Government of the Kyrgyz Republic, the assignee on the realization of the technical assistance of the project was a State Committee of the Kyrgyz Republic on State Property and Direct Investments.

The year of creation of the Directorate on Investments and Technical Assistance Coordination (DITAC) written in the document, is wrong as well. In the document it is written that DITAC was created in 1998, but it was created in 1995.

The National Bank of the Kyrgyz Republic does not agree with the results of evaluation given by ICR in subsection 4.1 on “Results and implementation of the objectives”, since, despite the fact of incomplete realization of the project funds, we consider the project to be completed satisfactory, because of the high level of recurrency of the loans, considering the level of overall development of the banking sector in the Kyrgyz Republic. Adjustment of the credit funds would be much higher, if there were more participating banks, as the National Bank mentioned more than once.

Yours sincerely,Gulnura DyikanbaevaChairman of the Board

National Bank or the Kyrgyz Republic

(b) Cofinanciers:

Please see Implementation Completion Memo for Japanese PHRD Grant Trust Fund 22169 finalized in March 2003.

(c) Other partners (NGOs/private sector):

As part of the Intensive Learning ICR, there has been an extensive assessment of other partners perspectives. Please see Annex 8, Summary of Beneficiary Survey and Workshop.

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10. Additional Information

Background and Overview of Performance of Participating Commercial Banks

Following is a short description of the performance of the four participating commercial banks. It is important to note that data were provided, at various stages, by the commercial banks and may not be fully consistent with NBKR data.

(i) IneximBank. The bank was the strongest performer under PESP, and is one of the most developed banks in the Kyrgyz Republic. Between 2003 and 2004, a sizeable shareholding of the bank was acquired by Temir Bank of Kazakhstan, and EBRD. The bank is now one of the first banks engaged in leasing, mortgage lending and standard retail banking products. The bank is relatively large, with total assets of US$9.1 million, or 4.9 percent of the whole banking sector. IneximBank experienced impressive growth during the last five years. From end of 1999 to the end of 2002, total assets and portfolio increased by about 130 percent and 125 percent, respectively. The bank is sound, with capitalization of 26 percent. Client deposits represent only 23 percent of the balance sheet.

(ii) AKB Kyrgyzstan. AKB Kyrgyzstan is one of the largest banks in the country, with total assets of about US$17.1 million, or 9.3 percent of the Kyrgyz banking sector. It is a former state-owned institution and privatized in the early nineties. Since 1999, total assets and loans of AKB have increased by 22.3 percent and 16.5 percent, respectively. Total loans and deposits represented 17 percent and 11 percent of the whole banking sector, respectively, in 2003. The bank has a return on equity of 9 percent and capitalization of 21 percent. The bank was suspended from PESP in 2002 because it did not provide financial audits by an auditing firm satisfactory to the Bank (as required under the Subsidiary Loan Agreement signed between the NBKR and the PCB). Despite this, the bank has maintained high standards in terms of governance and credit and risk management policies. This performance enabled the bank to be selected as PCB under the new EBRD credit line. Its staff have also received training from PESP consultants, and the bank is currently engaged in micro lending with its own funding.

(iii) Energo Bank. The bank has had a relatively troubled history. The bank was owned by the energy conglomerate and other shareholders, thus most of its business came from collection of bills and lending to suppliers and contractors involved in energy generation and distribution. As the conglomerate started to privatize activities and to reduce its monopoly position in the country, the bank was slowly restructured to focus more on commercial and mortgage lending to medium-sized customers. Despite these changes, the bank managed to grow and to remain profitable throughout the life of the project. Its assets grew by about 35 percent from 2000 to 2002 to account for about 4.9 percent of the banking sector. Energo is now well capitalized, with total capitalization of 19 percent and a return on equity (ROE) for 2002 of about 9 percent. The portfolio is relatively large, or 7.5 percent of the whole banking sector and 43 percent of its total assets. Total deposits represent 7.7 percent of the banking sector base and 73 percent of the bank's assets.

(iv) DosCredo Bank. The bank was a relatively active participant in the PESP until it was suspended from the project in 2001, as a result of its cross-participation with another commercial bank. Netting this position, DosCredo was undercapitalized. The bank went bankrupt a few months after it was suspended from the project, following the NBKR's increase in minimum statutory capital requirements in July 2001. Despite the bank's insolvency, its sub-projects are still performing.

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Annex 1. Key Performance Indicators/Log Frame Matrix

A. Project Implementation Indictors at Appraisal

Indicator Target Actual Recruitment and Appointment of FERD/TA Managers

Before Credit effectiveness Achieved with delay. There credit became effective in January 1996. The Project Status Report of March 1996 indicates that three managers of the FERD and seven local counterparts were fully operational.

Creation and Staffing of the PAU

Creation Before Board presentation and fully operational by May 31, 1995

Achieved with delay. The PAU became fully operational by the effectiveness date of the project.

Credit Effectiveness

Three months after Board approval.

Not achieved. The Credit’s effectiveness date was about six months later than originally planned due to additional time required for the Parliament to ratify the Development Credit Agreement and operational problems with the Orient Bank, the local counterpart institution for the lending component.

Disbursement Beginning four months after Board approval with Credit fully utilized by December 31, 2000.

Not achieved. The project did not become effective until eight months after Board approval. By the mid-term review only US$0.5 million of the project’s main component had disbursed only 4 percent of the original allocation. The Credit was not fully utilized, and the Closing Date was extended.

Compliance with Legal Covenants

In line with Development Credit Agreement

Partially Achieved. There is no indication that the Borrower was in violation of any covenants. However, several project reports indicate that the PAU interfered substantially with the operations of the FERD and the Fund Manager, which was a violation of the Development Credit Agreement.

B. Performance Indicators at Appraisal

Target Actual Financial Sector

Review of the Insurance Sector

By September 30, 1996 Not applicable. This component was dropped from the project.

Policy and Institutional Impact

Completion of a restructuring plan for local insurance companies

Not applicable. This component was dropped from the project.

Formulation of new insurance regulations

Not applicable. The planned study of the insurance sector was dropped from the project.

Feedback to the FY1996 Financial Sector Adjustment Credit

Not reported.

Strengthening of the Krygyz Oriental Bank

Not achieved. The NBKR revoked the bank’s license in 1996, and the bank was subsequently liquidated.

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Enterprise Development

Completed diagnostic work on at least 50 enterprises

Achieved. The project completed diagnostic studies for a total of 56 enterprises of which 30 were in the engineering industry and 26 were in the food and textile industries. Consultants prepared feasibility studies of 20 enterprises for appraisal by the Fund Manager.

Assistance to at least 20 enterprises in implementing business plans

Partially achieved. There was no activity on the formal technical assistance component for enterprises due to enterprises' unwillingness to pay the required co-payment for services. However, the FERD did carry out a considerable amount of complementary quick diagnostic work for the preparation of 17 business plans.

At least 30 percent of the cost of enterprise support recovered through IDA sub-loans.

Not achieved. Project records do not indicate any disbursements for enterprise support and related co-payments as originally anticipated.

Improvement in productivity and efficiency of enterprises assisted, indicated by financial viability and profitability.

Not reported. During the time when these indicators were applicable (prior to 1998), the project provided financing to one enterprise, and there is no analysis of productivity indicators or financial viability.

Training and Local Participation

Number of local staff and managers of project units and enterprises trained and ratio of trained to total project unit staff

Not reported. This indicator was not monitored in the Project Status Reports during the time when it was applicable (prior to 1998).

Performance of Sub-loans

Ex-post volume of foreign exchanged generated by project financed

Not reported. During the time when these indicators were applicable (prior to 1998), the project provided financing to one enterprise, and there is no information available on the foreign exchange this project has generated.

Success in redirecting sales to hard currency markets.

Not reported. During the time when this indicator was applicable, Project Status Reports do not report on the issue.

C. Performance/Impact Indicators at Restructuring in 1998

Indicator AchievementImproved Risk Management Systems and Management

Achieved. Project Status Reports and the results of the ILI Beneficiary Survey indicate that staff of the participating banks substantially improved their knowledge of risk management.

Enhancement of Risk Management Systems in NBKR’s Bank Supervision Department

Not Achieved. This is mainly because the Bank Supervision Department of NBKR received technical assistance under USAID funding. Technical assistance included: (i) a resident advisor, who worked for about three years with the Banking Supervision and Licensing and Methodology Departments to improve the capacity of the off- and on-site supervision, including the development of a new early warning and reporting system; and (ii) computer software for risk management.

Improved infrastructure and capability in the Investment Promotion and Private Sector Development section of Goskominvest

Achieved. The project established a Technical Assistance Unit for enterprises in the Investment Promotion and Private Sector Development Unit of Goskominvest. A short-term consultant and long-term adviser were recruited to manage

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the technical assistance and training activities designed to help enterprises develop bankable projects. In addition, under the Japanese grant funding, a new software package for business planning was acquired.

Improved financial management and project preparation /appraisal capability in enterprises that would become commercial bank customers and use the IDA credit line

Achieved with qualification. Project Status Reports indicate enterprises received training in these areas but do not provide qualitative or quantitative details on the improvements in their operations. However, there were some notable improvements that resulted from the new software for business planning and financial analysis. Business plans are reported to have substantially improved in terms of quality.

D. Performance Indicators with the Project Amendment of 2002

Indicator AchievementTwo staff from each participating bank and two from the Apex group to be trained in micro-finance and small business lending

Achieved. The project hired a consultant to help the Borrower and the PCBs (i) define the upper and lower micro credit boundaries and activities that qualify for financing; (ii) develop and implement a micro-credit program using PESP funds; (iii) introduce interested PCBs to best practices in micro-financing through workshops and training programs; and (iv) develop streamlined banking procedures conducive to micro and small lending. As a result, a number of staff of the commercial banks and in the Apex Unit of the NBKR received extensive training. The numbers of trained staff were not monitored explicitly.

Sub-Borrowers to give evidence of growth in: (i) employment; (ii) output; (iii) dollar/som value of output

Undetermined. Project Status Reports do not contain information on these indicators. However, the report of the ILI Beneficiary Survey and Workshop noted that 93 percent of the respondents of the survey had reported positive changes in income. The survey also indicated that there were no significant changes in the level of employment, only in the salaries.

Increased credibility of banks among borrowers and non-borrowers based on: (i) increasing numbers of sub-borrowers(ii) continued high level of loan repayments

Achieved. The number of sub-borrowers increased, particularly after 2001 with the shift in focus on lending to micro enterprises. Project Status Reports indicate that the repayment rate on loans continued to be high at 95 percent.

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Annex 2. Project Costs and Financing

Following is an estimate of the projects costs according to the Bank's available records. Due to the numerous changes in staffing and institutional changes during the life of the project, the borrower was unable to fully confirm the details of the data.

Financing Plan

EstimateActual/Latest

Estimatein US$ .000

Appraisal Actual

IDA 15,000 4,583

Orient Bank 780 -

750 -

Sub-borrowers 1,000 - 2,750 2,682

Cancellations 8,989 TOTAL 20,280 16,254

Note: Local co-financing did not materialize.

Japanese Government

Financing Plan

Disbursements

Other Local Banks

Project Costs by ComponentPlease note that differences in the total project costs are the result of fluctuations of the SDR/US$ exchange rate. In addition, local co-financing is not included in the 1998 restructuring cost estimates.

in 000 US Dollars

Appraisal (1995)

Restructuring (1998)*

Actualin %

(Appraisal)in %

(Restructuring)

16,180 13,196 4,134 26 313,750 3,031 2,774 78 96

150 11 170 13 182

200 - - - - 0 174 187 - 1070 108

Sub-Total Project Cost 20,280 16,520 7,265 36 44 8,989 44 54

20,280 16,520 16,254 80 98

Audit of Project Accounts

ContingencyRefund of PPF

b/ Cancellation of funds allocated to the Credit Line, resulting from a project amendment in 2002 and cancellation of undisbursed balance at closing.

Unallocated

Total Project CostCredit Cancellation b/

a/ An estimated contribution of US$14.18 million equivalent from IDA and US$2.00 million equivalent from local counterpart banks. Due to medium-term capital limitations in the commercial banking system, funds from counterpart banks did not materialize.

Technical Assistance

Project Cost by Component

Estimate Actual/Latest Estimate

Investment Projects (Credit Line) a/

Source: SAR and actual amounts by category from Loan No. 27170, and Trust Funds (Nos. 22161 and 22169)

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Project Costs by Procurement Arrangements (Appraisal Estimate) (US$ million equivalent)

Expenditure Category ICBProcurement

NCB Method

1

Other2 N.B.F. Total Cost

1. Works 0.00 0.00 0.00 0.00 0.00(0.00) (0.00) (0.00) (0.00) (0.00)

2. Goods 0.00 0.00 150.00 0.00 150.00(0.00) (0.00) (150.00) (0.00) (150.00)

3. Services 0.00 0.00 2220.00 0.00 2220.00(0.00) (0.00) (2220.00) (0.00) (2220.00)

4. Miscellaneous (*) 0.00 0.00 14180.00 0.00 14180.00(0.00) (0.00) (14180.00) (0.00) (14180.00)

5. Miscellaneous 0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

6. Miscellaneous 0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

Total 0.00 0.00 16550.00 0.00 16550.00(0.00) (0.00) (16550.00) (0.00) (16550.00)

(*) Including sub-projects under the Investment Projects Component.Note: Excluding US$950,000 of PPF Refinancing.

Project Costs by Procurement Arrangements (Actual/Latest Estimate) (US$ million equivalent)

Expenditure Category ICBProcurement

NCB Method

1

Other2 N.B.F. Total Cost

1. Works 0.00 0.00 0.00 0.00 0.00(0.00) (0.00) (0.00) (0.00) (0.00)

2. Goods 0.00 0.00 0.00 0.00 0.00(0.00) (0.00) (0.00) (0.00) (0.00)

3. Services 0.00 0.00 0.00 1.95 1.95(0.00) (0.00) (0.00) (1.46) (1.46)

4. Miscellaneous (*) 0.00 0.00 4.13 0.00 4.13(0.00) (0.00) (4.13) (0.00) (4.13)

5. Miscellaneous 0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

6. Miscellaneous 0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

0.00(0.00)

Total 0.00 0.00 4.13 1.95 6.08(0.00) (0.00) (4.13) (1.46) (5.59)

1/ Figures in parenthesis are the amounts to be financed by the IDA Credit. All costs include contingencies.2/ Includes civil works and goods to be procured through national shopping, consulting services, services of contracted staff

of the project management office, training, technical assistance services, and incremental operating costs related to (i) sub-projects, (ii) managing the project, and (iii) re-lending project funds to local government units.

Project Financing by Component (in US$ million equivalent)

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Component Appraisal Estimate Actual/Latest EstimatePercentage of Appraisal

IDA Govt. CoF. IDA Govt. CoF. IDA Govt. CoF.Investment Projects 14.18 2.00 0.00 4.13 0.00 0.00 29.1 0.0 0.0Technical Assistance 0.97 0.18 2.60 0.24 0.00 2.53 24.7 0.0 97.3Project Audit 0.00 0.00 0.15 0.02 0.00 0.15 0.0 0.0 100.0Refunding of PPF 0.00 0.00 0.00 0.19 0.00 0.00 0.0 0.0 0.0Contingency 0.20 0.00 0.00 0.00 0.00 0.00 0.0 0.0 0.0Cancellation (*) 0.00 0.00 0.00 -8.99 0.00 0.00 0.0 0.0 0.0

(*) Cancellation due to project restructuring in 1998. Note: The appraisal estimate of Government financing includes co-financing by local enterprises to investment projects and technical assistance, including a contribution by Orient Bank. Co-financing comes from the Japanese Government PHRD grants.

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Annex 3. Economic Costs and Benefits

Not applicable to this project.

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Annex 4. Bank Inputs

(a) Missions:Stage of Project Cycle Performance Rating No. of Persons and Specialty

(e.g. 2 Economists, 1 FMS, etc.)Month/Year Count Specialty

ImplementationProgress

DevelopmentObjective

Identification/Preparation12/00/93 1 COUNTRY OFFICER

1 SENIOR OPERATIONS OFFICER

1 ECONOMIST

Appraisal/Negotiation06/00/94 1 TASK MANAGER

1 PRIVATE SECTOR DEVELOPMENT SPECIALIST

1 BANKING SECTOR SPECIALIST

1 BUSINESS MANAGEMENT CONSULTANT

1 BANKING SECTOR CONSULTANT

1 FINANCIAL ECONOMIST1 LEGAL SPECIALIST1 SR. INVESTMENT OFFICER1 YPP-FINANCIAL

SECTOR/INSTITUTIONS12/00/94 1 PRINCIPAL FINANCIAL

OFFICER(Post Appraisal Mission)

1 BANKING SECTOR CONSULTANT

Supervision03/20/1996 2 SR. OPERATIONS

OFFICER (1); PR. FINANCIAL OFFICER (1)

S S

10/26/1996 1 PR. FINANCIAL OFFICER (1) U S02/17/1997 1 SR. OPERATIONS OFFICER

(1)U S

10/25/1997 1 FINANCIAL SPECIALIST (1) HU HU02/17/1998 1 PROGRAM TEAM LEADER (1) S S11/03/1998 3 PROGRAM TEAM LEADER

(1); FIN. SECTOR SPECIALIST (2)

S S

05/20/1999 1 PROGRAM TEAM LEADER (1) S S10/26/1999 2 FIN. SECTOR SPECIALIST(2) S S05/25/2000 2 FIN. SECTOR SPECIALIST (2) S S09/15/2000 3 FIN. SECTOR SPEC. (1);

OPERATIONS OFFICER (1); PROCUREMENT SPEC. (1)

S S

09/15/2000 1 TTL (1) S S11/12/2000 2 SR. FIN. SECTOR S S

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SPECIALIST; FIN. SECTOR CONSULTANT

06/06/2001 1 LEAD FIN. SPECIALIST S S06/22/2001 1 TTL (1) S S11/07/2001 3 TTL (1); LEAD FIN.

SPECIALIST; FIN SECTOR CONSULTANT

S S

02/2002-06/2002(Field-based supervision)

1 FINANCIAL SECTOR CONSULTANT

S S

09/01/2002 1 TTL (1) S S11/11/2002 3 TTL (1); SR. FIN. SECTOR

SPECIALIST; FIN. SECTOR CONSULTANT

S S

02/10/2003 2 SR. FIN. SECTOR SPECIALIST; FIN. SECTOR CONSULTANT

S S

06/10/2003 2 TTL (1); FIN. SECTOR CONSULTANT

S S

06/18/2003 2 TTL (1); FIN. SECTOR CONSULTANT

U U

ICR12/00/03 2 TTL (1); BANKING

SECTOR CONSULTANTU U

(b) Staff:

Stage of Project Cycle Actual/Latest EstimateNo. Staff weeks US$ ('000)

Identification/Preparation NA NAAppraisal/Negotiation NA 506.1Supervision NA 855.6ICR NA 31.0Total NA 1.392.7

Note: No costs of project identification and preparation reported; NA=Not available in the project imformation system.

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Annex 5. Ratings for Achievement of Objectives/Outputs of Components(H=High, SU=Substantial, M=Modest, N=Negligible, NA=Not Applicable)

RatingMacro policies H SU M N NASector Policies H SU M N NAPhysical H SU M N NAFinancial H SU M N NAInstitutional Development H SU M N NAEnvironmental H SU M N NA

SocialPoverty Reduction H SU M N NAGender H SU M N NAOther (Please specify) H SU M N NA

Private sector development H SU M N NAPublic sector management H SU M N NAOther (Please specify) H SU M N NA

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Annex 6. Ratings of Bank and Borrower Performance

(HS=Highly Satisfactory, S=Satisfactory, U=Unsatisfactory, HU=Highly Unsatisfactory)

6.1 Bank performance Rating

Lending HS S U HUSupervision HS S U HUOverall HS S U HU

6.2 Borrower performance Rating

Preparation HS S U HUGovernment implementation performance HS S U HUImplementation agency performance HS S U HUOverall HS S U HU

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Annex 7. List of Supporting Documents

A. Selected project preparation, appraisal, and supervision documents

Staff Appraisal Report, The Kyrgyz Republic, Private Enterprise Support Project, April 14, 1995, 1.Report No. 13893-K.Project Reappraisal Mission Back-to-Office Report, April 15, 1998. 2.PESP Aide Memoires and Project Status Reports.3.

B. Project credit and grant documentation

World Bank Integrated Controller's Systems, Category Recap Data as of November 18, 2003 for 1.Credit No. 27170, Trust Fund 22161, and Trust Fund 22169.Implementation Completion Memorandum for PHRD Grant TF216192.Letter of June 3, 1996 from the International Development Association to the State Commission on 3.Foreign Investment and Economic Assistance, Re: Kyrgyz Republic, Private Enterprise Support Project (Credit No. 2717-KG), and Amendment to the Development Credit Agreement. Letter of September 15, 1998, from the International Development Association to the Ministry of 4.Finance, Re: Private Enterprise Support Project (Credit No. 2717-KG), Amendment to the Development Credit Agreement.Letter of May 31, 2002 from the International Development Association to the Ministry of Finance, 5.Kyrgyz Republic, Re: Credit No. 2717-KG (Private Enterprise Support Project) Amendment to the Development Credit Agreement. Memorandum to ECA Vice President, Johannes Linn, from Country Director ECCU8, April 26, 2002.6.

C. Related project reports and strategy documents

Project Performance Audit, Kyrgyz Republic, Rehabilitation Credit (RC), Credit No. 2491-KG and 1.Privatization and Enterprise Sector Adjustment Credit (PESAC), Credit No. 2639-KG, August 28, 2000. Rehabilitation Credit (Cr. No. 2491-KG), Report No. 20900. Memorandum of the President of the International Development Association and the International 2.Finance Corporation to the Executive Directors on a Country Assistance Strategy for the Kyrgyz Republic, April 22, 2003. Intensive Learning ICR Survey and Consultant Report, May 2003.3.

D. Sector reports

Ernst and Young, Private Enterprise Restructuring in the Kyrgyz Republic: Engineering Sectors, 1.Feasibility Studies (date uncertain but circa 1995/96).Ernst and Young, Private Enterprise Restructuring in the Kyrgyz Republic: Food and Textile Sectors, 2.Feasibility Studies (date uncertain but circa 1995/96). SIAR, Social Marketing and Research, Draft Report on Private Enterprise Support Project Survey, 3.Prepared for the World Bank, April 2003.

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Annex 8. Beneficiary Survey Results

Intensive Learning Implementation Completion ReportSurvey and Workshop

Summary Note

An Intensive Learning ICR (ILICR) was organized to supplement the findings of the Implementation Completion Report for the Private Enterprise Support Project (PESP). The main objectives of the ILICR were to summarize the achievements of the PESP project in meeting the original project development objectives (PDOs), the lessons learned during the implementation of the project and their applicability/replicability in designing similar projects in the future. The ILICR was organized on a participatory approach basis, involving the main stakeholders of the project, including the sub-borrowers, the participating commercial banks (participating banks), the representatives of the National Bank of the Kyrgyz Republic (NBKR) and the Ministry of Finance.

The ILICR focused on the last phase of the project, after the 1998 restructuring. This is primarily due to the fact that prior to that date only one sub-loan was disbursed, but also because the implementing and management agencies and most of the project’s stakeholders and practitioners were not involved or available for interviews. The ILICR involved a survey/interview organized by a local consulting firm (SIAR). The survey included 75 stakeholders: six SME sub-borrowers and 44 small sub-borrowers, eight bankers (three from Ineximbank, three from AKB Kyrgyzstan and two from Energo Bank), three representatives of the NBKR and four Ministry of Finance officials. The survey was followed by a workshop to discuss the findings of the survey and the overall performance of the project. The workshop was organized in Bishkek during the Bank's final supervision mission of the project in June 2003. About 20 of the interviewed stakeholders participated in the workshop.

Findings

During the workshop, the stakeholders discussed the achievements of the project in meeting the original PDOs set forth during appraisal in 1995. The stakeholders confirmed that the lack of disbursement was the main reasons for not meeting the PDOs, as the project failed to facilitate the delivery of financial resources to the private sector to the extent originally anticipated, and this despite the decisive improvements after the NBKR took over the implementation responsibilities in 1998. The officials also indicated that a number of factors contributed to the disappointing performance, including: (i) deficiencies in the project design, including excessively complicated implementation arrangements; and (ii) the macroeconomic conditions and business environment of the country on the aftermath of the first banking and financial crisis of 1995. The enterprises and the representatives of the banks did not comment specifically on the PDOs and the overall achievements of the project, as most of them were involved only after the 1998 restructuring and because they had little involvement and knowledge of the project structure.

Following the 1998 restructuring, the stakeholders of the project, including participating banks and enterprises, identified the following as the main obstacles to project implementation: (i) the lengthy approval procedures, with too many parties involved in the decision making process; (ii) the limited number of participating banks and their reluctance to operate in the regions; and (iii) the excessive collateral requirements. The representatives of the banks also indicated that the economic conditions and the business environment continued to be constraining factors after the Russian crisis, especially in the business environment which did not favor lending and small-scale entrepreneurship thus reducing the opportunity to find bankable projects. Interestingly, corruption, inefficient judiciary and excessive inspections and requirements ranked as the major factors affecting businesses in the country, even more than inflation, high

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interest rates, transportation costs and taxation.

The entrepreneurs were specifically asked the benefits of the projects and the main obstacles encountered in dealing with the project’s requirements, especially the application and approval procedures. The enterprises considered the terms and conditions of the sub-loans the main elements of attractiveness of the PESP project, compared to other sources of financing available in the country. In particular, 88 percent of the sub-borrowers considered the interest rate extremely competitive and the main decision factor in applying to PESP. Others ranked the availability of long-term financing and the quality of the participating banks, respectively. In few cases, and especially enterprises under the SME component, indicated the application and approval procedures as major constraints to the project. Collateral requirements were perceived as major impediment in applying for funding to the banks, especially for the SMEs. Collateral requirements differed depending on the nature of the collateral: real estate, for example, was about 148 percent of the loan amount, while vehicles and machineries were about 90 percent of the loan amount. (This result was surprising, since the subsidiary loan agreement signed by the participating banks and the NBKR established 120 percent of the sub-loan amount as minimum collateral requirement). Most of the small entrepreneurs, 71 percent, indicated that the minimum size of the sub-loans was too small and, in some cases, the maturity was too short. In particular, 64 percent of the small borrowers indicated that, if possible, they would have borrowed up to US$50,000.

The following table summarizes the enterprises that were interviewed for the survey and categorizes them by nature of business, revenues, employees, and import/export orientation.

Table II. Type of Enterprise and Nature of Business

Characteristic Basis SMEs Small Borrowers

Nature of Business Ø TradeØ ManufacturingØ Services

171

308

13Years in Business Ø Less than 1

Ø 1 – 3Ø 3 – 7Ø Over 7

0054

3132213

Number of Employees Ø Less than 5Ø 5 – 25Ø 25 – 100Ø Over 100

1251

162852

Annual Revenues [Two enterprises refused to answer this question, and another two said they had no revenues]

Ø Less than US$10,000Ø US$10,000 – US$50,000Ø US$50,000 – US$200,000Ø Over US$200,000

1133

331365

Currency Denomination of Revenues (%)

Ø SomØ US$Ø Other

8288

8677

Import (raw material&equipment-%)

Ø YesØ No

6733

8713

Export (finished goods&services-%)

Ø YesØ No

3367

1882

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The following table presents the major obstacles and benefits of the project according to the respondents of the survey.

Table II. Benefits and Obstacles

Responses SME Lending Component Small Lending ComponentBeneficial factors Ø Favorable terms and conditions

of the loans (interest rate and maturity)Ø Stabilization of foreign exchangeØ Improvements in the quality and viability of business plans

Ø Streamlined application proceduresØ Simplified approval processØ Favorable terms and conditions of the loans (interest rate)

Obstacles Ø Complicated approval processØ Excessive collateral requirementsØ Market and business environmentØ No sufficient number of PCBs

Ø The US$5,000 limit of the loanØ Complicated application processØ Collateral requirements

Benefits

The survey and the workshop also tried to assess the financial, economic and developmental benefits of the PESP credit to the main beneficiaries of the project, the enterprises and the participating banks. Enterprise and participating banks were asked for comments, suggestions and proposals for changes to the credit line in order to: (i) identify areas for improvement; and to (ii) assess the developmental impact of the project and its replicability.

In general, the interviewed enterprises were largely satisfied with the services rendered under the project: in particular 88 percent responded that they would apply again for PESP sub-loans. A total of 93 percent said that they were able to achieve the objectives of their business plans, and 68 percent responded that PESP financing had been critical in achieving these objectives. The enterprises provided comments on the main qualitative and quantitative benefits of the PESP financing. Among the main four qualitative/quantitative benefits of the PESP sub-loan, the enterprises ranked the possibility to improve: (i) their revenues generation capacity; (ii) product quality; (iii) product diversification; and (iv) cash flow management. In particular, 58 percent of the interviewed enterprises were able to increase revenues up to 50 percent after borrowing from PESP, and 18 percent of above 50 percent. Only three enterprises out of sixty posted losses after borrowing from the PESP. Very few enterprises were able to hire additional employees, but most of them were able to increase salaries.

The interviewed officials, participating banks and enterprises also commented on the replicability of the project experience and proposed suggestions for improvements. Most of the respondents wanted to broaden the range of available products to include leasing, capital financing, mortgages and insurance products. The second proposed improvement was to broaden the number and type of intermediaries, to include micro-lenders and credit unions. Most of the enterprises suggested to completely eliminate the NBKR oversight and approval requirement, and most of the officials instead suggested to introduce Som lending into the PESP scheme.

When asked to comment on the replicability of the experience under the project, the officials and the participating banks confirmed that the project was particularly useful in: (i) enhancing credit and risk management policies; (ii) reaching a better understanding on business planning and cash flow analysis; (iii)

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recognizing the importance of financial information in credit decisions; and (iv) exploring the possibility to expand into retail and micro-lending. The participating banks particularly stressed this last point during the workshop. The participating banks confirmed that the micro-lending credit procedures, policies and guidelines developed with the technical assistance provided under the PESP project will continue to be applied in the future. They also confirmed that they will continue to target micro-borrowers and to downscale the banks’ portfolios to minimize risks and maximize revenues.

A surprising result of the survey was that the US$ Currency Preference

Som37%

US$46%

Other17%

denomination of the sub-loans under PESP was not a major issue according to officials, representatives of the banks and entrepreneurs. In particular, only 37 percent of the respondent enterprises expressed their preference for local currency lending, compared to 46 percent which would prefer to borrow in US$. This result was particularly interesting considering that most of the respondent enterprises import their raw materials and equipment from abroad, while most of the revenues are generated domestically. This could be due to the fact that during the last four to five years the Som exchange rate stabilized, if not appreciated, against the US$, thus increasing enterprises’ confidence in financing their projects in foreign currency. However, there are also signs that the Kyrgyz economy is further dollarizing and informality is growing. The evidence shows that the NBKR continues to buy currency while the economy improves and the monetary base increases, thus possibly indicating possible increases in the level of informality in the country. Dollarization and informality could have been factors affecting PESP in terms of un-disclosed revenues in foreign currencies and inaccurate financial information disclosure. It is interesting to note that all funds disbursed and outstanding under PESP represent about 35 percent of the foreign currency denominated long-term credit portfolio of the whole banking sector in the Kyrgyz Republic.

Conclusions

The ILICR survey and workshop were extremely helpful in providing critical information to evaluate the success of the project and the possible lessons applicable to project design, implementation and supervision. The main conclusions and lessons of the ILICR exercise are:

(i) the size of the project and the features of the sub-loans should be determined more accurately, maybe through a consultation process involving surveys and focus groups with entrepreneurs and

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practitioners during project preparation;

(ii) the project design should be as flexible as possible, to enable to adapt to changes in the enabling environment during implementation. In this regard, surveys and focus groups could provide the necessary feedback information on constraints, obstacles and areas for improvement. The surveys and workshops should involve all stakeholders, including officials, financial intermediaries and enterprises;

(iii) in underdeveloped financial and banking sectors, technical assistance and the quality of this assistance is crucial in the success of a credit line. The micro-lending component benefitted from the direct support of a consultant, which developed policies, guidelines and procedures which were consistent with the existing environment and easily received and implemented by the banks;

(iv) financial intermediaries should be allowed to issue sub-loans in both domestic and foreign currency. However, the important issue remains the revenues and the cash management capacity of sub-borrowers, which should be integral part of the credit evaluation process;

(v) interest rates should be market-based, if a market exists, or close to the more measurable credit risk; and

(vi) credit policies in countries like Kyrgyzstan, with underdeveloped financial infrastructure, should focus on the cash and revenue generation capacity of sub-borrowers rather than the collateral, which seems more a blockage than a guarantee of repayment.

In addition to the above, the spectrum of the financial intermediaries for Bank credit lines should be enlarged to include microfinance organizations and/or small non-bank financial institutions. This would enable the development and broadening of the product and customer base, especially in the rural areas, as banks are sometimes reluctant to downscale their portfolios and to invest in regions with low financial density. Lastly, auditing remains a major issue for credit lines in underdeveloped financial and banking sectors. Optimal methodologies for qualifying auditors and/or technical assistance to train auditors on bank audits should be incorporated in the project design, if necessary.

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Annex 9. Stakeholder Workshop Results

The results of the Workshop were summarized in Annex 8, together with the results of the Survey.

- 36 -

- 37 -