pproaches D e c e m b e r 2 0 0 4 N o t e N u m b e r 0 2 Output-based aid in Nepal Expanding telecommunications service to rural areas by Hank Intven, Edgardo Sepúlveda, and Curt Howard A landlocked country in South Asia, Nepal has a In designing the OBA project, the project team population of around 24 million, with about drew on the successful experience in Latin America 88 percent living in rural areas, and a GDP per with using minimum subsidy auctions to provide rural capita of about $240. The government, headed by a telecommunications service. Analyzing projected capi- prime minister, functions as a multiparty parliamen- tal and operating costs and revenues for the 534 VDCs, tary democracy within the framework of a constitu- the team confirmed that a substantial subsidy would tional monarchy. In October 2002, however, the new be required to make the project commercially viable. king dismissed the prime minister and his cabinet. The The project was therefore designed around a one-time king and his appointed cabinet are now governing the subsidy, to be provided by the IDA credit, and a 10- country until elections are held. A Maoist insurgency, year renewable license for a rural service provider. Be- launched in 1996, threatens security in much of the cause of perceived security and country risk, other country, a situation exacerbated by frequent general incentives were included to increase the chances of suc- strikes. cess. The rural service provider would receive limited Telecommunications services are provided by the exclusivity for five years in the 534 VDCs. The provider state-owned Nepal Telecommunications Corporation would also have the right to obtain a domestic and in- (NTC), which had achieved a teledensity (lines per 100 ternational long-distance service license. inhabitants) of 1.78 for fixed line service and 0.21 for The license requires the rural service provider to in- GSM cellular service by 2003. Second national licenses stall and operate at least two public access lines in have been issued for fixed line service and for GSM cel- each of the 534 VDCs. The two lines are to be installed lular service. in two public call offices in different wards of each VDC. The license requires the provider to offer local, domestic long-distance, and international telephone Designing the project service, as well as free emergency calls and directory as- Despite liberalization efforts, the government recog- sistance. The license also specifies standards for quality nized that a large gap in access to telecommunications and availability of service, but it does not dictate the would remain, especially in rural areas. In 2000, 56 technology that the service provider must use. In addi- percent of Nepal's village development committees tion to the mandatory services, the service provider (VDCs) had no telecommunications service.1 That year the government decided that service provision in rural areas could be achieved more efficiently by involving the private sector through an output-based aid (OBA) Hank Intven (hintven@mccarthy.ca) and Curt Howard scheme. The new policy was first implemented in the (choward@mccarthy,ca) are telecommunications lawyers, and Eastern Development Region, targeting the 534 VDCs Edgardo Sepúlveda (esepulve@mccarthy.ca) a telecommunications in the region that lacked service. To fund the project, economist, in the telecommunications practice group at McCarthy the government would use a credit from the Interna- Tétrault LLP in Toronto, Canada. tional Development Association (IDA) of the World Special thanks to Ritin Singh, World Bank Task Team Leader of the Bank Group. Nepal Telecommunications Sector Reform Project. Supporting the delivery of basic services in developing countries pproaches may offer others on an optional basis, including and offer comments on the project design and, with its Internet service. international advisers, took these comments into ac- The telecommunications regulator, Nepal Telecom- count in revising the design. Finally, the NTA opened munications Authority (NTA), has overall responsibility the applications at a public meeting. for designing and executing the project. It has been as- The f irst round ­ In the first round of bidding, sisted in this by international advisers. IDA disburses launched in September 2000, two applications were the subsidy to the service provider in tranches, as it submitted, and a letter of intent was issued to the achieves milestones (table 1). To help ensure comple- qualified bidder proposing the lowest subsidy. After re- tion of the project, the service provider was required to assessing the security situation in Nepal, however, the submit a performance guarantee that will be forfeited company withdrew its application, forfeiting its bid if it fails to meet its obligations. bond. Discussions about the decision to withdraw the ap- Conducting the bidding plication, and issues relating to the forfeiture of the bid The NTA used a minimum subsidy auction to select a bond, took several months. By then the other applica- rural service provider. Bidders were required to submit tion had expired. Moreover, security in Nepal was an application providing evidence that they met eligibil- clearly deteriorating, and the NTA, its international ad- ity requirements (including operational experience, fi- visers, and the World Bank decided to review the OBA nancial capacity, and Nepalese participation) and project in this environment. specifying the OBA subsidy they required. Unlike in Midcourse corrections ­ Despite the initial failure to some minimum subsidy auctions, the maximum sub- secure a rural service provider, the project team be- sidy available was not publicly announced. With lim- lieved that the process could still succeed if the OBA ited competition expected, there was a risk that bidders package was revised to mitigate country risk and im- would have little incentive to propose a subsidy much prove its financial attractiveness. To further boost the below that amount. Nevertheless, there seemed to be chances of success, the international advisers under- sufficient interest from serious bidders to run an auc- took extensive marketing to increase awareness among tion rather than pursing an alternative, such as a nego- potential bidders. tiated service contract with a single service provider. In the regulatory sphere the package was revised to The NTA conducted a transparent auction. It de- make the assignment of spectrum to the rural service tailed the auction procedures in the request for appli- provider more secure. But the biggest regulatory cations (RFA), posted drafts of the RFA and license on change related to consumer tariffs and interconnection the Web before the auction, and solicited comments charges. In the first round of bidding the RFA simply on the proposed approach. The NTA also held a prebid applied the existing regulatory framework for con- meeting allowing potential bidders to ask questions sumer tariffs and interconnection charges, noting that Table 1 Network rollout and subsidy payment schedule Timeline Rollout Subsidy payment Milestone (from license date) obligation (percentage of total) 1 6 months Activation of VSAT network hub station 20 2 6 months Activation of access lines in 20% of VDCsa 20 3 9 months Activation of access lines in 50% of VDCsa 30 4 18 months Activation of access lines in 100% of VDCsa 20 5 24 months Certification that quality of service standards 10 have been maintained Note: The schedule assumes that the rural service provider uses VSAT technology (as is the case), logical choice for most of the 534 VDCs given the mountain- ous terrain. If the provider had not used VSAT technology, it would have received subsidy payments according to a different schedule. aActivation means that the mandatory services are available at the public call offices, as certified by an independent technical consultant. Supporting the delivery of basic services in developing countries pproaches the service provider would have to negotiate intercon- · Adapting to the security situation. To mitigate the risk of nection with NTC. In the absence of a negotiated increased Maoist action, the rural service provider agreement the NTA would approve the default inter- would be permitted to serve alternative areas if connection charges set out in its 1999 Guidelines for security in the designated areas deteriorated. Interconnection. No comparable guidelines existed for consumer tariffs. The second round results ­ The second round of bid- The project team recognized that this regulatory ding, launched in February 2003, again attracted two framework was imperfect. But given the overriding ob- applications, though the bidders were different (except jective of moving forward with the OBA project, it was for one party in one consortium). The qualified bidder decided to proceed with this framework, subject only with the lowest bid ($11,865,000) was a consortium to feasible changes to the RFA. For the second round led by STM Communications Services, a U.S.-based of bidding the RFA included specific default consumer satellite service and equipment provider. After comple- tariffs and interconnection charges for the rural service tion of the licensing preconditions, the NTA issued a li- provider. cense to STM's new Nepalese affiliate, STM Telecom Sanchar, in November 2003. Requiring consistent application of the guidelines to the rural service provider and NTC had the advan- The minimum subsidy auction in Nepal resulted in tage of helping to avoid the interconnection difficulties a higher subsidy per locality than the average of earlier that new rural operators often experience with incum- ones in Latin America (table 2). This outcome can be bent operators. Lack of clear guidelines often results in attributed to several factors, including the relatively delays in achieving interconnection and rural service high proportion of remote and mountainous localities provision. Further, having the guidelines as a "base" al- in Nepal and the generally lower per capita income in lowed the international advisers to devise a reasonable the 534 VDCs compared with project areas in Latin and consistent set of consumer tariffs for the rural ser- America. Another likely factor is the higher level of risk vice provider. Nepal was hence able to avoid a situa- due to political insecurity. In the end the bidders deter- tion as in some other countries whereby new service mined the subsidy required. Interestingly, the subsidies providers incur financial losses on certain types of calls proposed by the four bidders in the two rounds were because of unresolved inconsistencies between con- not far apart. sumer tariffs and interconnection charges. Other measures were also adopted to increase the chances of success: Next steps ­ and Lessons Learned STM began to roll out its network in April 2004. · Accelerating the payment schedule. The schedule of Though progress was slowed by customs delays and subsidy payments was accelerated to offset start-up greater Maoist activity in the region, STM achieved the costs. first and second rollout milestones by October 2004 · Increasing flexibility for proving financial capacity. Bidders and is on track to meet the third by the end of Decem- were given more options for demonstrating suffi- ber 2004. STM intends to develop itself as a full-service cient financial capacity to undertake the project. telecommunications operator in Nepal. Table 2 Outcomes of minimum subsidy auctions for new public rural telephones Dominican Indicator Chile Colombia Republic Peru Nepal Projects 200 6 1 7 1 Average subsidy per locality 3.6 4.6 6.8 9.5 11.2 (thousands of U.S. dollars) Localities served 6,059 7,415 500 4,420 1,068 Population served (millions) 2.2 3.7 1.0 1.6 4.0 Source: World Bank and other sources. Supporting the delivery of basic services in developing countries pproaches Several features that distinguish the Nepal telecom- The project made progress toward market conditions de- munications project suggest lessons for other OBA spite a political and regulatory environment that is far from per- projects. fect. Despite several years of donor financing and Nepal's was the first OBA project for telecommunications technical assistance, Nepal's telecommunications sec- in which the World Bank funded the subsidy. In earlier tor remains largely state controlled, service levels and projects general government revenues or universal ac- coverage are far from adequate, and many parts of the cess funds typically financed the subsidies. Nepal regulatory framework are still being developed. It planned to set up a universal access fund, but had not would have been easier to complete an OBA project, yet done so when the project started. Because the fund and to attract new investors to the sector, with a ro- was expected to take several years to generate enough bust institutional structure and comprehensive regula- resources to finance an OBA project of this size, the tory framework in place. government decided to jump-start its universal access Even as the government and the NTA worked to im- program by using IDA funds, demonstrating that inter- prove the regulatory framework, they decided, with national financial institutions can provide technical as- IDA, to proceed with licensing a rural service provider, sistance and financing to help speed the expansion of making changes to the regulatory framework where telecommunications service. possible through license conditions. Though this ap- When the first round of bidding failed, the project team proach was far from optimal, it increased the viability persisted--and succeeded--with a second round. The of the project. Now service is being rolled out to about government's strong commitment to sector reforms 4 million people who have never before had it. and rural access, the NTA's leadership, and the project Notes team's drive created the momentum needed. Drawing 1 on the knowledge gained in the first attempt, the Nepal is divided into five development regions, which are further divided into districts. These are then divided into project team revised important aspects of the project village development committees, which in turn are made up to increase the chances of success. of wards, the smallest administrative unit in Nepal. About OBApproaches OBApproaches is a forum for discussing and dis- The case studies have been chosen and presented seminating recent experiences and innovations for by the authors in agreement with the GPOBA man- supporting the delivery of basic services to the poor. agement team, and are not to be attributed to The series will focus on the provision of water, en- GPOBA's donors, the World Bank or any other af- ergy, telecommunications, transport, health and filiated organizations. Nor do any of the conclusions education in developing countries, in particular represent official policy of the GPOBA, World Bank, through output, or performance,-based approaches. or the countries they represent. Global Partnership on Output Based Aid World Bank Mailstop: H2-202 600 19th Street, NW Washington, DC 20433, USA To find out more, visit www.gpoba.org The Global Partnership on Output-Based Aid Supporting the delivery of basic services in developing countries