Tfhenment of

The World Bank

FOR OFFICIAL USE ONLY

PROJECT PERFORMANCE AUDIT REPORT

ICELAND: SIGALDA HYDROELECTRIC PROJECT(LOAN 951-IC)

June 30, 1981

Operations EvaLuat.un vepat i-nent

This document has a restricted distribution and may be used by recipients only in the performance oftheir official duties. Its contents may not otherwise he disclosed without World Bank authorization.

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PROJECT PRRFORMANCE AUDIT REPORT

TrRT.ANTh RTGAT.DA HYDRORLECTRTC PROJECT

(LOAN 951-IC)

TABLE OF CONTENTS

Project Performance Audit Basic Data Sheet .................... ii......................................... i

Annendices A and B Comments from the Government and from . .

the Borrower

ATTAUMXTv. DDATf rADTTTAM DVDADM

A.. ,L,,tUL.L,................................. ...

II. Project Appraisal ............................................ 1TTT. Ct-- T -1 ------ lorJ1.L.L.Le LUCL ip'e L.Lt LLU I*** ********....................

IV. Project Costs and Disbursements ........................ 7V. rinancial Performance .................................. I

VI. Institutional Performance .................................... 12

vIu. rrojectJ ustl1cation .................................. 1a

VIII. Lessons to be Learned ........................................ 14

Annexes

1. Income Statements 1972-80 ......................... ... . 152. Balance Sheet 1972-8 0..................................16

3. Source and Applications of Funds 1973-80 ............... 174. Economic Rate of Return - Calculated in

September 1980 ....................................... 18

This document has a restricted distribution and may be used by recipients only in the performance oftheir official duties. Its contents may not otherwise be disclosed without World Bank authorization

PROJECT PERFORMANCE AUDIT REPORT

ICELAND: SIGALDA HYDROELECTRIC PROJECT

(LOAN 951-IC)

PREFACE

This report presents the results of a performance audit of the

Iceland: Sigalda Hydroelectric Project for which Loan 951-IC of US$10 mil-lion was made in December 1973. The loan was fully disbursed and closed inDecember 1977.

The report consists of Highlights prepared by the Operations Evalua-

tion Department (OED) and a Project Completion Report (PCR) prepared by theEurope, Middle East and North Africa Regional Office. The Bank's projectstaff carried out a project completion mission to Iceland in September 1980and the Borrower prepared a final progress report dealing mainly with thephysical implementation of the project. The information obtained from thesesources has been taken into account in the preparation of the PCR.

Following its abbreviated procedure, OED has reviewed the Appraisal

and President's Reports, the loan documents, the Minutes of the Board discus-sions and the PCR. OED has also discussed the proiect with Bank staff. Onthe basis of this limited review, OED finds that the PCR's discussion andanalysis of the proiect's cost overrun, the main difficulties enrnnttrPdduring project construction and the failure to achieve the project's financialobiectives are carefully and clearly nresented. Furthermore- OED finds no

reason to disagree with the general conclusions of the PCR.

Following normal OED procedures, a draft copy of this report was

sent to the Government and the Borrower forutheir onmmntg thos rotnwhich were received have been taken into account in finalizing this report andhave also beejn reprroducted asc Appendlince

- ii -

PROJECT PERFORMANCE AUDIT BASIC DATA SHEET

ICELAND: SIGALDA HYDROELECTRIC PROJECT

(LOAN 951-IC)

YEY PRO.TPCT DATA

Item Expectation Current Est.

Total Project Cost (US$ million).a 64.3 88.0Overrun (7) 37.0

Loan Amount (US$ million) 10.0 10.0Dibursed 10

Cancelled Nil

(Unit 1 only) 10/76 04/77(TTn,4- -A/b n12-/78 t

Proportion Completed by Appraisal

Proportion of Time Overrun (%)L-/ 18%Ecoomi D,-"- o 'LX -r ('/" -LV. I .J.

Financial Performance Satisfactory Unsatisfactory

but recognized

probable cashflow problems.

Institutional Performance Good with room Good andfor improvement. improving.

Cumulative Estimated and Actual Disbursements(US$ Million)

As of June 30: 1974 1975 1976 1977

(i) Appraisal estimate 1.40 4.68 8.21 9.91(ii) Actual U.32 2.41 6.60 10.00

(ii) as percentage of (i) 23 52 81 101

/a This is the cost of the entire Sigalda Development, i.e., all three units.It excludes interest during construction (see PCR para. 4.1).

/b Construction of Unit 3 was advanced by about a year.

/c For Unit 1 only. For completion date of Unit 2, see PCR para. 3.2.

- iii -

OTHER PROJECT DATA

Original

Item Plan Revisions Actual

First Mention in Files 01/27/72

Government Application 03/06/72

Negotiations 10/26/73 thru11/01/73

Board Approval 12/11/73

Loan Agreement Date 12/20/73

Effectiveness Date 03/20/74 04/19/74 & 05/06/7405/06/74

Closing Date 12/31/77 12/31/77

Borrower Landsvirkjun (NPC)

Executing Agency Landsvirkjun (NPC)

Fiscal Year of Borrower Calendar Year

Follow-on Project Name None

MISSION DATA

IJCLq UL UL i.e 0V. xian- 'ate 0

Item Mission Weeks Persons weeks Report

Identification 07/72 1/2 2 1 08/04/72S10/72 2 1 2 11/27/72

Preappraisal JLuit.-- -, *, -

Appraisal 02/73 3-1/2 3 10-1/2 11/26/73

Total 13-1/2

Supervision I 08/74 1 2 2 09/18/74

Supervision II 04/75 1 2 2 05/22/75

Supervision III 04/76 1 2 2 05/07/76

Supervision IV 05/77 1 2 2 06/30/77

Supervision V 09/78 1/2 2 1 09/15/78

Completion 09/80 1 1 1 -

Total 10

COUNTRY EXCHANGE RATES

Name of Currency: Icelandic Krona (IKr)

Appraisal Year Average - 1973 US$1 = IKr 90.1

Invervening Years Average - 1974 US$1 = IKr 100.0

- 1975 US$1 = IKr 153.7

- 1976 US$1 = IKr 182.2

- 1977 US$1 = IKr 198.9

- 1978 US$1 = IKr 271.1

- 1979 US$1 = IKr 352.6

Completion - 1980 US$1 = IKr 512.6

- iv -

PROJECT PERFORMANCE AUDIT REPORT

ICELAND: SIGALDA HYDROELECTRIC PROJECT(LOAN 951-IC)

HIGHLIGHTS

Loan 951-IC was the third loan to To--lan'a pnwar cprtAr anne the

last Bank operation in the country. The project was intended to exploit one

0 f the country's U e w n,atural a4 t- In mt4?1 1 n--a- udrn

power potential, and thereby help to diversify and strengthen the country'seconomy, whichI LJLI Lihet was basedn prdoianl on fishng, ~tog th eStb-

lishment of energy-intensive industries such as aluminium plants. The loan

was LU a L1LeUCU LU crUL ge Lhe U VLHLL Lmn U o. r ut. wo stuie wi

the use of consultants. One of these studies was expected to lead to closer

1LegLaLUiL U generatio nU LLansmisoUn LacliLtiesan con s oidatin ofthv

power sector (which included over 20 small distribution utilities) and the

other to tne creation uL an apprupriate ariLa structure or 'le counnry anU

improvements in the financial situation of the Borrower.

The project was carried out generally as designed except that tech-

nical improvements were Uade to Me transm uL1 4mUponCnt. lte fi.t two

generating units were commissioned only a few months behind schedule while

the construction of the third unit was advanced by about a year (PrCR paras.

3.2, 3.3). The final project cost was about 37% higher than the appraisalestimate (PCR para. 4.1).

The utility's average annual growth in energy sales during the

project period 1974-79 was lower than projected (4.5% compared with 5 %)mainly because the expected level of growth in energy demand from the alumi-

nium plant and from the domestic heating market did not fully materialize.

However, a new energy intensive plant has been installed and, as a result, the

utility's energy sales are expected to increase by over 15% between 1979 and1980. The project, therefore, achieved the physical objective of providing

additional energy to meet the growth in demand from various sources including

energy-intensive industries.

The overall financial performance of the Borrower was unsatisfactory.

The rates of return throughout the project period, with the exception of

1977, were below those stipulated in the loan covenant for the respective

years mainly because tariff increases which were approved by the Governmentwere inadequate and, in addition, only limited increases in the rates charged

to energy-intensive industries under long term contracts could be negotiated.

The Government recognizes the significance of satisfactory rates of return in

the long run but has emphasized the need to consider tariff increases for

electricity against the broader background of the Governments general price

stabilization efforts in Iceland over the project period (Appendix A para.

2). The utility also had cash flow problems which were aggravated by a high

proportion of medium-term finance, by the advancement of the third generating

unit, and by the investment in another power project (PCR para. 5.2). The

internal cash generation was short of debt service requirements throughout

the project period.

- v -

The utility is well-managed and its poor financial performancein recent years is no reflection on the ability of its staff. The quality

of progress reports and project supervision by the Borrower were excellent.

Although consultants apparently were not employed to carry out thetwo studies described earlier, as originally envisaged, the Borrower statesthat considerable efforts have been made towards improving the organization of

the power sector in line with the objectives of the Sigalda project; in

particular, several governmental studies have been made and various committees

have been established. Interconnection has been taking place in recent years

and consolidation of the power sector appears to show promise. The Borrower

also states that a general revision of the tariff structure is being preparedto become effective in July 1983 (Appendix B and PCR paras. 2.5, 2.6).

The physical objectives of the project were achieved, the institu-tional objectives show promise of being achieved, while the financial objec-tives were not achieved. The recalculated economic rate of return on theproject is around 11% which is about the same as the appraisal estimate (PCRpara. 7.1).

The followIng points may be of specia1 interest:

- worse than anticipated geological conditions and domesticinflation contributed largely to cost overrun (PCR para. 4.3);

- labor strikes, erection difficuLties, and civil contractor ssite management and cash flow problems contributed to interimdelays in project construction (PCR paras. 3.3-3.6);

- cont*raor s efi4na ncialn re- ourc-eS t-n com-let t he -Jo, his wo40rk

experience in a comparable environment, and an unusually low bidprcefo he civi

4 1 wrksrU cr--- des.-&v. cl oe scrutln, fro

the Borrower and his consultants (PCR paras. 3.5, 3.8, 3.9);

- a form of contract for civil works based on target price with

advantages over standard contracts where geological conditions

are uncerta±in /rCRn paras. 3.8, O0.11

- standard financial covenants may not lead to adpaate intPrna1

cash generation during periods of high inflation, relativelylarge capita1 invactment and novernment rpQtrictions on tnriff

increases (Appendix A para. 2 and PCR paras. 8.2, 8.3); and

- the relatively low level of tariffs for large industrial con-su.mers suggest that- lng f-arm cointracts fo,r t-heal of enrg

should include provisions for tariff increases which would re-flect adequately the UtIlity cost Of future 5.3).r supplincluding expansion (PCR para. 5.3).

- vi - APPENDIX APage 1 of 2

MINISTRY OF FINANCE

ARNARHVOLL- REYKJAVIK - ICELAND

Mr. Shiv S. Kapur,Director, Operations Evaluation Dept.,The World Bank, 1818 H Street N.W.Washington, D.C. 20433 USA

DATE April 28, 1981

Subject: Project Performance Audit Report on Iceland:

Sigalda Hydroelectric Project (Loan 951-1C).

I refer to your letter of March 25, 1981 in which you ask for

my comments on the above Report. On the whole I can say that I find the

conclusions of the Report well balanced and constructive and have therefore

no particular comments to make as far as the general thrust of the appraisal

is concerned. There are, however, two aspects of the matter which I would

like to mention in order to clarify our position.

OED Note: First, it is clearly demmonstrated in the Report that the one area

This comment in which performance was less than satisfactory concerned the financialis reflectedin PCR nara. objectives. While I don't disagree with the general conclusion that the

5.3 footnote 2 .rates of return during the period in qustion were lower than planned, -PPAR High-lights mainly on account of "inadequate" tariff increases-, this matter has,

have also in my opinion, to be viewed in a broader perspective. Economic policybeen re-vised. in this country has been very much concerned with the fight against

inflation, and the measures taken have included wage and price controls.

The persuit of this policy has been rendered particulary difficult by the

sharp increases in international oil prices, and in these circumstances

all increases of administered prices are politically very sensitive. It

would have been extremely difficult to except one particular enterprise

in this respect, and a strict adherance to the planned rates of return

via tariff increases would have been likely to endanger the whole price

stabilization effort, The oroblem is further accentuated by the fact that

periodic reviews of tariffs are confined to the ordinary market due to

the existence of fixed long term contracts for the rest of the market.

Howeer,i fllyrecognize the significance of satisfactory rates of return

in the long run, and it is indeed the objective to create a less inflationary

environment in which this can be realized.

APPENDIX A

BUREAU OF THE BUDGET Vii - Page 2 of 2

Seconuly adU by se sme uken, I am suouewnat sceptical as

OED Note: to the advisability of the Bank's suggestion referred to on page 12

This comment "that some of the revenue obtained through taxes paid by the power

is reflce-tedrinlec- intensive special customers be transferred to NPC and be consideredted in PCRpara. 6.1 as NPC's operating income". It is fairly widely recognized, I believe,footnote 1.that earmarking of taxes is not a very sound fiscal practice, and

although such action would undoubtedly benefit the NPC when looked

upon in isolation, the wider and less satisfactory implications cannot

be ignored.

Finally, I wish to reiterate that despite these relatively

Sl -In+-r A 4fc -nm,-a. nf ,, c,,-, T cons i - the~v n-ia-, aud~it r- ,

most valuable and conducive to improving the handling of similar matters

in the future.

Yours sinfely,

Raqar Arnalds

Minister of Finance

- viii -Co *nts from the Borrover APPEMDIX a

Page 1 of 9

THE JORLD BAW -

WASHINGTON D.C.

N AN7>JUN.E 22, 1931.

ATTI.: HR. SHIV S. '1APUR, DIRECTOROPERATl 3-1 IVALUAT 10ii EPART; T.

RZ. : PROJECT Pä?FORIACE R[PORT 01 ICELAiJD:SIGALDJA HYDROELECTRIC PPOJECT (LOA1 951-IC).

WE HAVE TODAY '1A lI ED OUR C:IMITS -n THE 1,1I nA K A1 FTYåPT RPD)T

0, THE SUBJECT IATTER. THE CMVIE?TS ARE 11 A LETTER, DATEDJU'E 22, 1931 READIIG AS FOLLOS:

CE NITL EfEl

OED NOTES '!E THAK YOU FOR YOUR LETTER OF MARCH 25, 1931 AID THE DRAFT OF THESUIJECT REPORT ATTACED THERETO. IE HAVE STUDIED THE DRAFT REPORTAID WISH TO PROVIDE YOU '1TH THE FOLLOH lNGDOlFENTS THEREOI:

1. IeORLD 3ANK LOA:IS TD ICELAND'S ?O'!ER SECTOR.

PPAR g L A1 951 -1 QA N j 0,T T H E ej E CON n D Ln '. T 0 iCELA S P :

lights para.1 AS EXPRESSED IN THE FIRST PARAGRAPH OF THE ''HIGHLIGHTS'' OF THEise T REPORT ALTHOUGH IT .:AS THE SECOD LOAM TO LANDSV IRKJUiI. ACCOR-vised. The

operatin DING TO OUR RECORDS THE T.!0 LOAIS TO LANDSVIRKJUN '!ERE PRECEDEDinvolving IN 1952 3Y OTHER TWO LOANS TO THE HYDRO POWEP SECTOR, ONE TO THESOG and 0SYSTEi A:D /AMOTHER TO THE LAXA POiR WORKS. ALSO, IT SHOULDLaxa con-stituted E ETIONED THAT L1 1962 THE !!RLD BAIK GRANTED A LOAN TO THEone loan, REYKJAVIK MUNICIPAL DISTRICT HEATING SERVICE.i.e. 46-IC.

2. DAN MIA INTE A'JCE PROGRA1.

The comment IN PARAGRAPH 3.11 OF CHAPTER III, PROJECT 11PLEMENTATION, OFrefer; THE REPORT, IT IS INDICATED THAT A D I A PROGRAM ISPCR para. MISSIG FOR THE LURFELL WORKS. THIS PRORA:1 HAS '7EEi EXISTU.G 13.12 whichhas been THE PAST ALTHOCH ;NOT FULLY FORIAL IZED UNTIL RECENTLY AND THErevised. RESPECTIVE DAM M

1AMHITORÅIN WMLAA HAS AL EFAY EEREPIVEi ey TWC:

BANK AS WAS ACKNOUJLEDOED I A LETTER TO LANDSVIRKJUI FROM THEBAK'S PO'1ER AND ENERGY DEVELOPrEiJT DIVISIW!, DATED MAY 4, 19S1.

- ix -

APPENDIX BPage 2 of 9

3. ~~'9 FTANPA <BJECT.VE WF THEPl) SIALA YDEETRý I f1C P rET,

l N GENERPAL . FNl D THE APPRA l SAL OF THF r)jVEI OPIlENT OF THE

SIGALDA HYDROELECTRIC PROJECT TO -E ACCEPTADLE AS SET FORTH 1i

THE REPORT. THE PHYSICAL OBJECTIVES OF THE PRJECT 9ERE

ACHIEVED AND THE INSTITUTIOXAL OBJECTIVES SHOW PROlISE OF

3EING ACHIEVED, WHILE FINANCIAL 03JECTIVE- ýJERE NOT FULLYACHIEVED, ALL AS OUTLIED IN THE REPORT.

IN THE FOLLO 1ING JE I-OULD L :KE TO CO 1MElT VORE CLOSELY Oi THE

F i A 1 CAL 0O2JECTi VLS

A. TARIFFS FOR THE ORDINARY MARKET AND THE PRICE EQiALIZATIDIAV

- - --------------------------------------------

WIT .rUPi To THISThese com-ments are FINANCIAL TARGETS, WE C AOT -UT AGREE T3 THE FACT T:AT 'YE

reflected HAVE HAD DIFFICULTIES 11 JDTAI!IVIG GO, V1HTAL AUTHO2I-in PCR ZATIONS FOR NJFCESSARY TAR 1FF ADJUT;ENT: V0 AS T, 1para. 5.3, FULLY INCREASED COSTS DUE TO THE IJFLATIO DUIN-3 THE PROJETfootnote 2,page 11. PERIOD. PRICE REGULATIOS APPL IED 3Y THE 3JVER'1E;TS T9ROUGH

THIS PER1OD FOR ANTI INFLATIONARY PURPOS1S HAV_ -EE; Ai

OBSTACLE IN THIS RESPECT. I THE YEARS FOLL31,WJG THE CYI-PLETION OF THE PROJECT, THIS SITUATIOl! HAS COlTI'HED TOHAMPER OUR EFFORTS TO REACH AN AJEQJATE TA FF LEVEL. l1930, HOEVE , 'E :1ANAGED TO HAVE DUR TAR l FFS I NPROVED C)ii-SIDERABLY UY SEVERAL UP IARDS ADJUSTICES 'ESULTi V 1:! A

90.7 0/0 CUlULATIVE lINCREASE TH2OU-HOJT T1HE YEA, ALTHOHTHE AVEPAGE ICREA3E WAS NOT M-ORE THAN 5) */ t OVER THE YEAR

EFORE. THE TAR ÄFF S AiSJSTED AT THE 1:1) 9F 1-31 lILL OFCOURSE APPLY '!lTH FULL 9E VHT lii 1901 AN THUS FAO IL I TATEGREATLY OUR EFFORTS TO RECTIFY THE SITJATI1 1 THE NEA,?

etlTllD Al t,rt' .IIL' ~ l'' ~ ~ ,rtIIC m. 1FUITUIRE ALOn ':iTH TAI FF IC)E. ASE TH,1niS Yl E-A ii CO. 32 'iT i I 1 0

OF A 16 0/0 11NCREASE IN JANUARY AND A 9 0/û 1 REASE l *AY.

x APPENDIX B

Page 3 of 9

IT SHOULL ALSO 13 NOTED THAT 'E ARE STU)Y l!, TI! POSS I IL I TY

OF HAVl 1 G THE PR I CE ETJAL l ZAT Io:: TAX LE'' lE ý 0l THE ?ETA IL

SALES Or ELECT Cl TY TO E iWE 0) LESS AOL iSHl AS EUCH

9ITH A CORRESPOVJ.13 HICREASE 1N OUR TAR IFFS. THESE STUTJIES

ARE STILL ON A DI SCUSS 10l LEVEL 9 TH THE Hl I 1 STRY OF l '!JDUSTRYAD -E..- R ,rETrH-ER E N1T VrT 1 A POSIT10:i TO F TL

RESULTS OF THIS APPROACH.

3. THE PRICE OF POWER TO THE ICELA, DIC ALUINIUi CO:1PAY LTD.

UNDER OUR LOAN AGREE1EiT !ITH THE 1ORLD 3AM1i< FOR THE SICALDAPCR para. pn.1,7rT L PFV SIM, OF THE I TARIFF STROICTURE TO ISAL HAS OlE -5.3 hasbeen re- OF THE F 1UAGIC IAL TARGET3 Ar)OPTED. OUR EFFORTS 1 TH IS RE-

vised. SPECT RESULTED 1! A ME1 PR ICE ST?LUCTJRE PRO'! ED FOR l'1 OU?

AGREEMENT WITH ALUSUISSE OF DECE1-3ER 10, 1973. ACCORD17 1

TO THIS AREEIENT, THE PR ICE COITIIUED TO 3c 3.0 U.S. -ILLS

PER K9H AFTER SEPTE1BER 1, 1972 (PUD i i) IST E AD OP,iiO

LO!ERED ON THAT DATE TO 2.5 I1.S. ;lLLS ACCO'D170 T THE

OR IGlINAL AREETENT. FURTHER10RE, THE AREE iElT FR3 1n75

PROVED F OR THIE P , iCE TO i 7CREASE 0: JA7iUARY 1, 1976 TO

3.5 U.S. 111LLS PER K9.1 AND THEREAFTER l- STAGES TO 4.5 U .S.

MILLS 01 JULY 1, 1977. THE AGrEM N MLSii r, IE F j;,

ESCALATI0 FRlULA TO 3E EFFECTIVE AFTER 175 L IK 13 THE

PR l CE OF ?O'JER TO THE W!ORLD MARKET P 1E '7F NLli l U i,

SAiD F01 U IA|' I THE 1- PNITL1E T )E

TO THE PRESENIT PR ICE OF U.S. *'ILL3 6.477 PER .-

'aE EVE TO MA lTÄ ri THAT -Y T-F C-TC 113M OF Ol? Ar9?7E :TPCR .para.....I. .- .- 4 --

5.3 has WITH ALUSUISSE OF 1973 REV IS I'l T:E PR ICE STRUCTUE TO ISAL

been AS DESCR ISED A3OVE WE HAVE SJDSTA9TIALLY FULLFILLED Trevised. RESPECTIVE TAR3ET UNDERP THE SICAL:A LCA: AGREEMET. T13,

WE 3EL lEVE, SHOjULD DE G i VE! Al ADPROR l ATE l GHT li THE

BANK'S APPRAISAL REPORT.

This com- IT IS ALSO :102TH NOT 1G THAT .1E ARE AK IS PI?EPARAT 1 03 F3

ment is DISCUSS 1.'3 WITH ALUSUSSE FSOl F:jýTER I iPREiS 71 THE

reflected TARIFF STRIJCTJRE TO ISAL AID THE SER'lES OF SPECIAL C01-in PCR SULTANTS HAVE DEEN Er!A,ED DY US FOR PARTI1 PA? 10 : THE

footnote 1 PREPARAT RY 1iDRK . WE ' ILL Or CU SKEEP 'TjA I: l iNf 2-

page 10. OF THE PRO-RESS HEREOF.

APPENDIX B- xi - Page 4 of 9

From the IN COMPARING THE PRICE OF ENERCY TO ISAL 'ITH THE RESPECTIVEpoint of PRODUCTION COST THEREOF, THE ZO1PAR ISM 0SHOULD lE lADE ':ITHview of THE COST OF PRODUCTiON Rû' THE VJRFELL PûIER PROJECT UE TOthe powersector, THE FACT THAT BURFELL W!AS DEVELOPED AS THE MAI:1 SOURCE OFeconomic con- ENERGY FOR THE ISAL SMIELTER. THE PRODUCTION COST OF LANDS-siderations V 1J\'i1U'S NERATi' SY5TE A A Ä H'LE IS C R fl J S A iLYwould require HI*GHER THAH THAT OF 7URFELL ALONE AND TO SUCII AN EXTENT THATthat tariffsto any A COMPARISON 2ETWEENM THE FORHER ONE AND THE P09ER PRICE TOinna-rt a fILr 11 -SUITE I IISLEANDIVliG.customer should

account the WE ALSO HAVE TO KEEP IN WIND THAT OUR AGPEEPET WITH ALU-Utl I ' SUIISSE l r C.iSIDIEiRED AN PABD LUTEL CM:TJIT iI F;R THE EV~EL P

marginal cost MENT OF THE BURFELL PROJECT AD THE FlNAIC I G THEREOF 3Y0of supply to

that cut LOAIS FROM THE WORLD 3AK AND OTHER SOURCES. NEVERTHELESSthat customer--- a ~ ~ !tC ADr nr rnIlIOCr IMTVDE T17n 1?1 nmD~) tr rýj- 1 riClh) \(WI CC

and not sole- 1:E ARE- vF -VURVE P- ~E E i, ~~REA~1 . U Fly the cost THE 3URFELL PO'.!ER PROJECT AS MUCH AS POSSI3LE.of supply from

a specific'generi C. THE PRICE OF PO'IER TO ICFLA'IC ALLOYS LTD.

plant. -----------------------------------

WITH PEGARD TO THE COST OF ENERGY TO THE FERROSIL ICO! PLA!T

These comments OF ICELANDIC ALLOYS I. '1UST BE KEPT 1I 111D THAT ONLY A7OUTare reflec- 59 0/0 OF THE ENERGY SOLD TO ICELAI2IC ALLûYS IS F IR i!EPGY,ted in THE PR ICE COMIPOSITl1ON BEING SUCH THAT FROH THE 3UTSIT THEPCR para.5.3 foot- PRICE FOR FIRM ENERGY HAS BEEN 5.6 NORWEGIAN ORE PER IVH VIE

note 1 THE ONE FOR SECIDARY EERGY 1.4 32- !E IA , E P ' 9- H.

page 11. THESE PR ICES 4lILL E liICREASED TO 5.4 WORVESIAN 0RE AV!E 1.'

NORIEGIAN ORE RESPECTIVELY AS OF JULY 1, 1932. IT II LLPm ~''3 l~I *r'i ~ 'iA 6,,n r3,r-3-v V:: f L'

AELSO OI! T1E, SAME. )'ATEL A'i EV R F, l E R THR)F E .E ES-CA-r ~ i~ J,

LATED IN A CERTAI.Y PROPOiRTIN 'ITH V,NCREASES I THE NOR!EClAV

WHOLE SALE PRICE INDEX. IT iS EXPECTED THAT THE iEXT ESCA-LATInm i rr) 1IERA2 Y1 V i'P; RVE TH: Pii ,E 'T17 THET 'ITIU1,7 inL- , ý ~ ._ ~ ~ I .11 R1 ~ .m- ..W --~2~l f, ~ml~ - - - ýU . - I S

HAS TO BE CONSIDERED AGAIN AFTER THE FIN'AL ESCALATIWN IS

KN0VJN.

THE PR ICE OF FIRI ENERGY TO ICELAN,D IC ALLOYS 1UST 9E THE

ONE TO BE PRIIIARILY COf1PARED 'ITH THE PRODUUTIgN COST OF THE

RELEVANT POWER FROIM THE SIGALDA PROJECT. TAk INGr IjTO ACCOU,!T

THE FAVOURASLE CO1PENSATORY EFFECTS ON THAT PR ICE 3Y THE

SALES OF SECONDARY ENERGY TO THE FEPROSIL ICON PLANT. WYITH

THE ESCALATION ARRANEMENT 9E FEEL THIT V: THE LON RUN SAID

COMPARISON 1i-LL BE SATISFACTORY.

xii APPENDIX BPa2e 5 of 9

PPAR High- REFERRING TO THE ABOVE IT IS OUR CONSIDERED TP.i1ON THAT IT ISlights have 1OT IARRAITED TO STATE ýiN TH-E HIGHI lHTl rF THF 19AFT A2PRA ISAbeen revised.

REPORT THAT THE COSTS OF EiERGY TO THE POý!ER IlTE IVE INDUSTR IESIS SUBSIDIZED 3Y OTHER CUSTOiERS. 'E ARE iONE THE LESS AWARE OFTHE DESIRA3ILITY TO HAVE THE RESPECTIVE POÆR PRICES FAVûURASLYADJUSTED I-N THE LONG RU' I SO FAR AS POSSI"31LE T iAK II' AT ANJY TIE

iNTO ACCOUT OUR FiNACiAL POS ITION AiJD THE EHERGY COSTS INfl THE

kIORLD. THEREFORE, IT IS OUR INTEUTION TO SEEK THE NECESSARYREVISION OF POWIER PRICES TO THE POUIER INTENISIVE liDUJSTRIESWHEiEVER AN OPPORTUilTY ARISES AID THEli N0 FAR AS CONTRACTUAL

ESCALAION PROVISIONS DO NOT PROVE TO YlELD SUFFICIENIT ADJUST-MENTS.

PPAý High- WE HOPE THAT THE nANK SHARES OUR OPlilONi HERE I I OUTLINED WlITH

±Jiga riave REGARD TO THE ENERGY COSTS AND PRICES AS FAR AS POI!ER WUTEN1STIVE.beet re-_2-I INDUSTRIES ARE CYJCERNED AND IS PREPARED TO 31OIFY ACCORDINGLY

THE STATE:1ENTS THEREOi! I;1 THE FiINAL APPRAISAL REPORT.

,3E BELIEVE THAT DY ONE OR MiORE OF THE A30VE IEA11S ''E IILL llTHIf

TOO LOG SIJCCEED IN I PROVINGS LA.DSVIG KJ'J-S )INHA'GCI AL POSITIOY;

MEETiHUH LASTIilG AND SATiSFACTORY i -NER AND ENA LE US TO

R-ATE OF RETURN REQJIREIENJTS PROVIDED F3R IN OUR LOAH AGREEIENTS

WITH THE SAIIK.

This com- FURTHERMORE, WIE ARE PRESECJTLY EXPLR ING THE CAP ITAL 1ARKET FORment is THE PURPOSE OF EXSTENDliJG THE 1ATUR ITY OF SO1E OF LANUSV IRKJUU'Sreflected in T nZPT T 1EJ A-MIT i(Qf! TTFCR para. ZA -. ---

5.4, foot- ALREADY CO1PLETED.note 1.

4. ORGAMIZATION', OF THE POWER SECTOR.

--- ------ ----- ---- ---- --

Coniments in A STUDY OF THE ORGAN1JIZATI0N OF THE PO./ER SECTOR 'JAS ØE OF THEthe following REQU l I REi1ENTS ESTA3LI SHED UINDER THE 5 I GALDA LOAU. 5 I T:CE TiE

pararaph CNIRAli1NG OF THE LOAI, SEVERAL GOVERH lNTAL STULJIE'S -AV- Sare reflec-t&ted In PCR MADE IN THIS FIELD. THE r,OST 1MPCRTÅT ?ESULT OF THESE STUD ES

para. 2.5 IS AN AGEEMENT !H ICH HAS !0'! 3EEN ?EACHED i THE lERiER C iFfotn t e&ZULAXA P iER .K :1ITH LA ISI ')b UN 'C -,':iLL iE ; - 1 F ivL-PPAR High-1PPAs H ave ON JULY 1, 1933. IPORTA T PROHRESS HAS ALSO EEN; :!ADE I THE

also been PO':ER I TERONECTI1ON IH I CA HAS -j-i TAK IG PLACE DU'? l TRE

revksed.1 PAST FE U YARS, ALL AS LESCIDED EL, I RA T

APPENDIX B-iii- Page 6 of 9

A. THE ENERGY FORECAST CO'HITTEE.

FOLLO';W42 AN INFORJAL COOPERAT 10' 3ET!EEJ LANDSV IRKJUI,THE NATIONAL FNE^RY AUTHORITY, THE PEYJAVJK NUl IP L POWER

1:10RKS, THE STATE ELECTRICITY PO!:ERiO0KS, THE LAXA PO9ER

WORKS Al9 THE ASSOCIATI01 OF ICELANDIC POW)ER CjiPANES 14

ELECTRICITY 1ARKETING FORECASTS, A SPECIAL CMYlITTEE, tHE

EHERGY FORECAST CO1iTTEE, ,.AS ESTA3LISHET 1U. FEPRUARY 1975rPOED -C REPRE T A'T VT iEC Frirn' TH1E A PAR k C äT fr- C R' Trvu V 3- ur.L U ii CL CrM... 1, 1, 1 1,-U 1 I-j1 I I~ - ld V L U c l 1i il, r J.% i li-

PURPOSE OF WORKV N ON A ELECTRICITY FORECAST FOR THE 9HOLE

COUNTRY. I 1973 THE COMITTEE HAD NADE ELECTRICITY FORE-CASTS FOR THE ':HOLE COUNTRY TO THE YEAR 2000. AS 3ASIS FORTHE FORECASTS THE CON-1lTTEE HAS USED POPILATIOI FOPECASTSAlJ- FRILASTS OF AVAILABLE IAN POiER IN INDIVIDUAL OCCU,AT.-IONS :1ADE 3Y THE NATIONAL ECONOVIC 1iNSTITUTE. THE ELECTRI-CITY FORECASTS ARE FURTHER1ORE 3ASED ON THE ASSUIPTIONREGARDING SPACE HEATING THAT PRI1A3Y ELECTRICITY '!iLL ^EnLV:t

OIL FOR SPACE HEATIi15 IN RU?AL AREAS AND iN DENSELY PMPU-

LATED AREAS 'JHERE CHANCES FOR THE DEVELOP1ENT OF 3EOTHER'1AL

HEATING AREAS ARE S:iALL.

Si 1Cc THE ESTA7LiSH'1NT 0 F TiE E:E' l Y F"rENic C ST C TTE 0T3FORECASTS HAVE 3EEN REVISED A!NUALLY VD KEPT UP TO .dTE AS

MUCH AS POSS13LE. THE Fl 'I'! S OF THE COIITTEE HA'1 PLAYE')AN VlPORTANT 90LE 1I EVALUATKY! OF THE FUTU!E P9'!ED DFVEL P-

MIENT REQUIREiENTS AND CONTR17UTED TO THE ASSESSilET OF '-AYS

A'D :1EANS IN THE STUDIES 'H ICH HAVE 5r FA2 -EEN.'ADE !1THREGARD TO A PEORGA7!i1ZATI0! OF THE PO'!E? SECTOR, ALTHOUGH THECONNITTEE HAS NOT 3EEN PARTICVIPATIN DIRECTLY 1i SJCH STUJ-

DES.

B. A GOVERNMENTAL CO1MITTEE APPOITED i 1977 FOR THE PURPOSEOF REV ISING ACTS 0N VAR IOHU ASECTS OF THE P09'-9 SECTOR, Ns

WELL AS FOR THE PUPPOSE OF REOESANi l CG THE PJ'!ER G-CTOR.

V1 JANUARY 1977 THE lIISTER OF 'DUSTR lES AP?017TED A

!C3 111TTEE FJ1 TE' AD3 V7 P P ui VPJSE. T1E 'V iI1TEE r l iTEr

ITS PROPOSALS 11 OCTODER 197-, COVER 9 ? I?AFT 51LL FOR AN

ORGAN1ZATION OF THE PO'!ER SETOR. ALL JEERS.OF THE C001-ITTEE AOREED ON THE DESIPAN ILITY OF ROV1A_ lZim THE AT 1 L

ENERGY AUTHOR ITY, THE TASK OF H ICH SHOUL' -E TO PRPARE

ENERGY FORECASTS ANl OARRY ONT ESDARCH J0 :O TI5 E:JER3YSOURCES Or THE COUNTRY AS A HOLE. ÅLS, lIE 2F THE TASXS

OF THE NATIONAL ENE5RY AUTHI) ITY SHOULD 'E TO STUDY THE IOSTE mC J"! ' iÄ1, 1 lå 3-1 -" T'-'1E! i'1) T -E cc 3rr y nv n fll

xiv - APPEMDI BPage 7 of 9

FURTHERMORE, THE CO1iITTEE PROPOSED U,AilI'IOUSLY THE STRENCTH-

ENING OF THE PRESENMT EMERCY FUMD, THE ROLE OF I!HICH IS TOSUPPORT FIMANCIALLY DEVELOP:ETS Ai" RSESARC1 11?K I;! TlE

POWER SECTOR. WITH REGARJ TO POVER DR3UCTIO::, THE lAJOR ITY

OF THE COMMITTEE- PROPOSED THAT THE PROUl.CTiO: OF ELECTRICITY

FOR WHOLE SALE PURPCSES SHOUL 'E EJTRUSTED TO O'E CO IA;1Y

FOR THE COUNTRY AS A 'HOLE, SUCI A CO:iPVIY TO ?E JOITL.YOhINE3 3Y T4E ZTATE AMTD T!4 llf11.I-P D S ITI'! CO1M

THE INITIAL STEP TOWARDS THE ESTABLISH1ENT OF A CO:1PA11Y LIKETHIS !4AS TO BE THE MERGER OF LAMDSVIRKJUN AND THE LAXA POWER

WORKS. THE IMINORITY OF THE CO:'1TTEE ;JAS Oä THE OTHER HAND

IN FAVOUR OF ALLOWI?G FOR 1ORE THANM ONE COMIPAY AT THE WHOLE

SALE PRODUCTION LEVEL, SUCH COIPANIES TO BE ESTA3LISHED Iii

LS 9OUEVAAREEPMJlICIPALITIES IN VARIOUS PARTS OF THE COUMTRYZ

WOULD AGREE UPON. LANDSV IRKJUH SHOULD, H0EVER, CONTINUE

ITS OPERATIOR. FURTHERMpt.rE, A CnniIjATin;j n3DY WAS SUGn-

ESTED BY THE MINORITY WITH lEMIERS APPOINTED 3Y THE VAPIOUS

COMPANIES FOR THE PURPOSE OF COORDVjATIO1 OF ACTIVITIES AH-D

TARIFFS.

THE PROPOSALS OF THE COMMIlTEE DID DOT 3TAIij THE IECESSARY

POLITICAL SUPPORT ArD THEREFORE 21D 10T :1ATERIALIZE.

C. A GOVERfflMTAL CmmITTEEP APPnIlTNT) 1' 197q FRP TL4 PPlVDA;

- OF ENTRUSTING OME COMPANY WITH THE PPODUCTION OF ELECTRICITY

ON A WHOLE SALE BASIS.

Tr Cuv I-E- 11AS APPOITEnu I OCTO.3ER 1.973 AU ISTRUCTED

TO SUEiIIT PROPOSALS FOR THE ESTADLISHEIT OF W!2 CO'iPA';Y TO

3E ENTRUSTED WITH THE ADOVE TASK. THE CO11ITTEE SU391TTEDITS PROPRSAI R 1 FE3RUÅRY 1979. ACDCODnG TO THE RESILUTI 1S

OF THE C01,1ITTEE IT lAS CW!3JERED, DESIPABLE TO EXPA1D LANDS-

VIRKJUN SO AS TO UDERTAV<E ALL THE :IAI1 TRA:|SPORTATON OF

ELECTRICAL PO'!ER 3ETUEEN THE VARMUS PARTS OF THE COU^TRY, ÄS

WELL AS TO DEVELOP ELECTRICAL PROJECTS I S3 FAR AS IECES3NRY

T tEET AT ALL TI:cc THE ELECTR IAL P'!-ER E'A1:ý 1:! THE

COUNTRY AS A WHOLE. THE OWNERS OF' THE NEW COMPANY SHOULDINITIALLY BE THE STATE, THE CITY OF REYKJAVIK AND THE TO':N

OF AKUREY?l- ASSUMllG ] AN 11MMEDIATE 1ERER OF LAXA POM!ER

WORKS WITH LAMNDSVIRKJUN. ACCORDIGJr TO CERTAll! PLES 1UNIl-

CIPALITIES SHOULD UJ GENERAL HAVE THE RIVHT TO 1COiE SHA E-

HOLDERS 1N LANDSV l RKJUN.

APPENIILX 5- xv - Page 8 of 9

THE REPOPT OF THE CO1MITTEE 9AS APPROVED 3Y THE GOVZR,1ENT

AND AKUREYRI,. WHILE iT FAILED TO GET SUFFICIE-T SUPPORT 3Y

THE CITY COU1SIL OF REYKJAVIK. C'OiSELJENTLY THE PROPOSALS

OF THE COMMITTEE DID NOT GO THROUGH.

D. A GOVERNMENTAL COMMITTEE APP01:!TET) 11 NMOVE13ER 1979 FOR THE.

PURPOSE OF PREPARING A MERGER OF LAXA PO.ER W1ORKS VITH

LANDSV l RKJJN.

-----------------------------------------------------

ACCORDIMG TO THE ACT ON LANDSVIRKJUN FR01 1965, THE LAXA

POWER WORKS HAS THE RIGHT TO MERGE UITH LANDSVIRKJUN. IN

NOVEi13ER 1979, THE LAXA POWER WORKS INITIATEI DISCUSSIONS

ON THE SUBJZCT MATTER AND IN CONTUNUATI'ON THEREOF AND UNDER

THE AUSPEL lES OF THE-: GOVEPiJAENIT A CUIlTTiEE W AS THEN APPOlijT-

ED BY THE OWNERS OF LANDSVIRKJUN AND LAXA POWER WIORKS TO

PREPARE SAID MERGER. THE COiM.1ITTEE PMEIIBERS AGREED O CERTAIN

PRnPnrAL S IN THIS RESPECT AND ON THE F3ASIS THEREOF A NEW

PARTNERSHIP AGREEENT FOR LANDSVIRKJUN WAS SIGNED ON FE3RUARY

27, 1981, PROVIDING FOR SAID MERGER TO BECOME EFFECTiVE AS

OF JULY 1, 1933. WE WILL SOO INFORM THE BANK MORE CLOSELY

HEREON AND PROV IDE AN ENGL ISH TRANSLATION OF SAID AGREEMENT

WHICH WIiLL LEAD TO A CLOSER ITEGRUATin: rP ENIATiHU ,unf

TRANSMISSION FACILITIES.

T4F AnnVv CLEARLY SHOWS THAT CONSIDERADLE EFFORTS HAVE 3EEN 11ADE

TO!ARDS AN IMPROVED ORGANIZATION OF THE POWER SECTOR, ALL IN

LINE WITH THE RESPECTiVE PROVISiONS OF THE SIGALDA LOAN. 'IE

WOULD THEREFORE APPRECIATE THIS TO 3 FAVOURA3LY ACCOUNTED FOR

IN THE DANK'S APPRAISAL REPORT FOR THE SIGALDA PROJECT.

5. TARIFF STRUCTURE.

This com- A GENERAL REVISION OF THE TARIFF STRUCTURE IS SE ING PREPARED SO

den isKJUIAS TO 3ECO1E APPICALE ý 1:1HE T -E -EGE 1-1E LAD

reflected AND LAXA PO.lERl WORKS 'ECOIES EDFECTIV, 1N L 3HT OF THE SLO.4n POR

ara 2.5 BUT GRADIJAL RE RGANIZATION OF THE PO3ER2 SECTOR, WE FEEL COF1-

fnntnote 1. nFIT THAT THE BANK WILL APPRECIATE THAT AY 3ASIC CHANGES IN THE

PPAR High- TAR IFF STRUCTURE CAN HARLY sE EXPECTED EXCEPT 1I 30 FAR AS THEliehts have f-n,~al1 s been EXTEN3LJ SUPLY AREA OF LANDSViRKJUN RE uITD, i1 L, UF C2uIJRSL,

reviged. THE TARIFF STRUCTURE WILL AS BEFORE ALAYS 3E SU3JECT TO 1I1.OR

ADJUSTMENTS SO AS AL!AYS TO REFLECT PROPERLY THE ;IARKETIN

COND I T i0y.

APPENDIX B- xvi - Page 9 of 9

FIIALLY PE WISH TO SIGGEST THE FOLLOJING COPRECTIOAS TO BE 'ADE IN

THE TEXT OF THE 090 ON THE ECON11C RATC Or RETUM OF TE CIGIDAPROJECT ANNEXED TO THE REPORT:

1 PACF 19, LINE FROA 7OTTO71.

PCR REPLACE ''172'' BY '"1972''.Annet-4

been ,2, PAGE 2).revise4

PCRAntex .4 A. IN THE SECOND LiAE FRU IU REPLACE ''ARE GIV'E TO THE ASOVEhas been - PONER SALES'' 3Y ''ARE GIVEN AS A 2ESULT OF THE A30VErevised.

POqER SALES'".

3. IN THE TWELFTH LINE FROV IOTTOJ REPLACE ''TO SECONDAPY"

- BY ''OF SECONDARY''.

E0HOPE THESE CIMIENTS OF OURS VILL SE HELPFUL I' YOUR FI ALIZATI M

OF THE REPORT UNDER DISCUSSIO MAND ASSURE YOU OF OUR CINTINUINI 5ESTSFOTS TO OliER PACO ti ALLY THE SHORTFAILL EXPEIECM IM ACHIE-

VING FULLY THE GOALS UKIDER THE SIGALDA LOAN.

3EST REWARDS

HALLDOR JONATAUrSSON

DEPUTY GEAERAL ANAGER

LAMDSVIRKJUA,

f+

248423 WORLDBANKI A# ~I1i(iI 1I2U54 LMND 13

HOY RECCIVED?vxvwvrmm*wvx:

ATTACHMENTICELAND: SIGALDA HYDROELECTRIC PROJECT

(LOAN 951-IC)

PROJECT COMPT.FTTON P.PnPT

I. INTRODUCTION

1.1 The Bank's activities in support of Iceland's power sector havebeen rnlfinaA, tn ito mnajo-r innn,infinn rtga (70T), innl'Aina thecaptacity of Reykjavik in the south-western part of the country and served bythe Nationa1 Power Comnany (NPC)- They hane hon widely spead in time*

starting in 1951 (Loan 46-IC), followed by another in 1966 (Loan 466-IC)and the p-a ent u.nder revie onin 1907 ' A nd have fol1roe the oa grwt nn ffn

the region and its generating capacity requirements. During this time, theBank has been conscious Of the Go.venrnmeants di fficult task, of fin,lingWa'

to support its slowly but relentlessly increasing population by finding

principal resources; yet Iceland's remote location makes it difficult to

aOLtaLO L uiIL~pi c wnLt LIUUlu wee LULD LC0UULLC aILLU 'Uw t UAW 0U.LL%-LCLL CLV

nomic benefits to all parties. One of the Bank's concerns has thus been tomut.1va'e tue "-vernment regularly to review tne conu Cs __-*u._ac _v-_1JL VL~ LAI1 %YJV i 1 IU I L 1L 1). L L. W LIM~ M%ULLILL_ V.L bUUI ak.L.LVLLY

as aluminium smelting, and the impact that this has on the power industryLU * wnItn 16 reprenuts suue a large cunumer (55% f a Nrt ' sales o1

energy). This concern was acknowledged by the Government and the NPC in

tneir letter or December 20, t9w1, aLacnea to the loan agreement as

Supplemental Letter No. 1. The Sigalda Hydropower Project must be seen and

juugeu il this context.

II. PROJECT APPRAISAL

2.1 This Project follows the Burfell power project supported by the

Bank through Loan 466-IC. The Burfell station was constructed mainly to

serve as the energy source for an aluminium smelter that the Government of

Iceland had encouraged in an attempt to diversify its economy which hither-to had been based predominantly on its fishing industry. Involvement withthe owners of the Burfell station drew the Bank into NPC's financial cir-

cumstances and to consider the power sector as a whole in the light of thismajor load that lies at the core of NPC's problems.

2.2 The appraisal of the project identified three main areas ofconcern and attempted to influence beneficial change. These were:

(a) the need for an efficient power sector organization was especially

important in view of the Government's strategy for diversifying

the economy by encouraging power intensive industries.

(b) NPC's cash flow problems were clearly foreseen even to the extent

of cash shortage to meet debt service obligations. The loanconditions attempted to provide criteria and conditions relating

to tariff increases, equity contributions by the owners,

limitations on borrowing and financial performance targets in

terms of a rate of return covenant; and

- 2 -

(c) the risks inherent in a fixed price supply contract for the

dominating load of the aluminium smelter was recognized, thoughthe fact that the smelter tariff was stipulated in terms of USDollars was seen to be a hedge against inflationary trends inIceland.

These turned out to be, and remain to a large extent, the main problemswhich are discussed later in this report. The justification of the projectin terms of its benefits to the economy have not changed as indicated bythe economic rate of return evaluation. To this extent it can be said thatthe appraisal of the project reached valid judgments though possibly theBhnk was over-optimistic in expecting corrective solutions within the timeof project execution.

2.3 The Bank, through its lending, has attempted to influence sectoralreorganization by supporting the study to evaluate how best to improve thestructure and performance of the power industry. Supplemental Letter No. 2to the loan agreement for this project acknowledges the appropriateness ofsuch a stuuy which was to bUe aCCOmpUteu vy a Study Ut the structure o

power tariffs taking account of the financing needs of the power utilities

?2Z4 Iceland is habitable largely due to the moderating influence ofthe surrounding sea which is itself influenced by the Gulf stream. Thus,the population, with few exceptions, is settled around its periohery and sothe growth of the power system has catered for these communities in isola-tion as they tend to be. The center of the land-mass is virtually impass-able for large periods of the year and the rigors of the winter in thisbarren land are such that survival requires training and self-reliance. Itis very understandable, therefore, that communities tend to view with somemeasure of wariness any scheme which would make them dependent for warmthand survival on long tenuous power lines supplied from some remote powerstation over which they have little or no control.

2.5 Suggestions for an integrated power authority serving the wholecountry have been resisted: even studies to evaluate the potential bene-fits have been resisted. In this respect the intentions of the Govern-ment's letter dated December 20, 1973 confirming its willingness to discussthe scope and programs of the then ongoing studies of the power sectororganization and tariff structures, never materialized in either substan-tive discussions or completed studies of which the Bank has been made

1/. ws fteiln aaware ,±.Asa matter of practical need, the south-west of the island wasinterconnected with the western and northern communities because, due toUonh voicanic/seismic activity and faulty geothermal well development, thedevelopment of the geothermal power station, Krafla, in the north, wasUelayed ideitiLLely.

to survival and independence, the special qualities of character of thepo-ul-tiOn w.hic'h otherwa-se is re-dj too innovaote w.here benefit ar en

was misjudged. Finally, the pressures of natural forces and eventually the

1/ OED Note: Although consultants were apparently not employed to carry out studies onorganization and tariff tr r arcoA 4- he Government's Letter, never-theless the Borrower states that several governmental studies have been made andcommittees have been established with regard to por ctor orgnnati4o-4 As aresult of one of these studies, the Borrower and Laxa Power Works are scheduledto merge in July 1983. The Borrower also states that a gena-rml esion of thetariff structure is being prepared, to become applicable in July 1983 when thenhovp mrppr becomps PffPrtivp (dptAilm iin Annpndix R1.

- 3 -

oressures of ever-increasing costs of oil fuel are succeeding where eco-

nomic reasoning alone was not enough. Thus, following the north-south

interconnection, the eastern areas were also connected in 1978. The

Vestfjords (the north-western peninsula) were connected to the system in

1QRO lpauinq nnlv ahout 1% still isolated from the rest.

9_7 The inctitiinanl nhiprriveq of the loan show promise of being

realized, though the extent to which the Bank's participation has influ-

enedtisten,is not clear. The fiaca norittuPQ (para. S-1),including autonomy for NPC, have been realized to the least extent.

TTT DDTECT TMPTMENTATTAN

3.1 The project was to construct with the help of consultants, a

hyUrUpUWer bLdLLULL 1dVLLug LWU JU-r1Lwa7 ei u u w.Yu _vy1 S, onfor an

additional 50-MW unit by 1979 and a double circuit 220-kV transmission line

LO 1l1k WILh Nr s system at the existing Burfell power station (ap

10393 and 10394). It was completed in all respects as defined in the loan

agreement with th11 e LUIIUWL116 CALt:LLVL15.

Government's insistence on constructing the link transmission line

between LNr s area and tne northern an u westun systems as well as

the need to supply power to a new ferro-silicon industry, the

third 50-jviW unit was ordered and eventually installed.

ii) With the agreement of the Bank and on the grounds of superLr

operational reliability experience with stayed gantry types oftransmission towers 1/, the planned double circuit zzu-Kv trans-

mission links with the system at Burfell using self-supporting

lattice towers were replaced by a single circuit ZZU-kV line of

stayed gantry type.

Neither of these changes contributed significantly to a basic change in

project cost, but the earlier installation ot the third unit contributeO to

NPC's cash problems.

3.2 The project was implemented with only five months' delay for UnitNo. 1 despite civil construction delays, labor strikes and erection diffi-rnlties. especially the need to assemble the alternators at site from themost basic components. Unit No. 2 completion was deliberately delayed to mid-December 1977 to save costs in the circumstances that the system load growth didnot require its earlier completion. This performance speaks well for theefforts both of the owners and their consultants. The fact that the first unitwas commissioned with a delay of only five months in 34, indicates that theoriginal implementation schedule was reasonable. These delays, as it turned out,were not important to the system and from a technical standpoint the project hasbeen a success as far as can be judged at this time. Anticipated benefits in

1/ This type of structure can withstand better the stresses imposedby ice and wind loading.

terms of reduced ice problems at the downstream plant at Burfell have been

felt and are expected to improve as further nlants are constructed:

Hrauneyjafoss is the next of these.

3.3 The additional load of a ferro-silicon smelter is made possibleessen*1.aL 1 ~ T - - - - - -

promise of this load and the impact on NPC of the link with the north, led

completed in December 1978 about 10 months earlier than had been considered

necessardy aL the JJ time of Ith F'-i. basd n helod ------- ad a

that time. Because the owner had taken over all work of completing the

project after miuN-ovember 1976, the workforc and overheads could be cut

to the bare essentials necessary for the revised plan and thus reduce what

in other circumstances migUt have leu LU beriOus cost overruns. in al

respects, this project illustrates the benefits of applying high grade

supervision to a project coupLed with firm out realistic, even sympathetic

and helpful attitudes towards contractors beyond the terms of the written

contract, whilst retaining the right and exercising the decision to

terminate a contract if circumstances make this desirable.

3.4 The quality of the progress reports and other information sub-

mitted to the Bank was exemplary in content and timeliness. NPC' s project

supervision was of professionally high quality from the outset. Thus, with

an accumulated delay of two months on civil works which had arisen by

September 1974, NPC insisted, and the contractor agreed, to increase his

expatriate statt. Despite this, tor a variety or reasons, including a

refusal to accept assistance from NPC in the management of the locally

recruited Icelandic labor and artisans, the performance was so low that the

contractor experienced severe cash flow problems because of his low earning

rate from progress payments.

3.5 Difficulties of the civil contractor arising out of heavier than

anticipated leakage of water through the porous terrain into the power

house excavation, were not tackled vigorously and claims against NPC to

defray the excess costs were not substantiated in a workmanlike manner,

resulting in a long drawn-out dispute. The climate of winter in Iceland

seems to have been beyond the civil contractor's previous experience and,

rather than take advice from NPC, he preferred to close down the site

through the most severe period. Delays built up to the point at which the

successful sealing of the upstream face of the dam by a bitumastic membrane

was threatened.

3.6 The civil contractor's cash flow problems resulted in his failure

to pay his debts to local suppliers who took him to court. Vigorous

representations of NPC, both at site and in the civil contractor's Head

Office, resulted in the replacement of the contractor's site manager. NPC

was pressured by the civil contractor to allow him to defer contractual

obligations to repay the advance payment and to provide loans arranged by

NPC in exchange for promises of improved performance and the setting of new

target dates for critical stages. By mid-1976 the contractor's financial

- 5 -

stage which would have been critical to the successful completion of vital

aspecLs UL Lle WULN LhUs pLestuing a high riO oL set,us damage to

them. The civil contractor also used these circumstances in an attempt to

torce setl LIeent of duted~ ~L clis By mutua agremen of~ th contractor

and at the request of NPC, the Bank acted as a moderator in discussions

DOLh 'in Wahlngt11LUI1 adlu n Reykjavi d L U L u which NiP agreed to

extend even more financial assistance and the contractor undertook to com-

plete his work, particularly in respect 01 te crItical activities. 1y

October 1976, NPC decided that the performance of the contractor was such

that they wished to exercise tneir right under the contract to take over

the scheduling and direction of the contractor's activities and did so.

The critical civil works were completed by mid-November 197 at which point

NPC decided to complete the remaining works themselves and terminated the

civil contractor's contract.

3.7 Although the disputed claims of the contractor were eventually

referred by him to arbitration in terms of the contract, and matters pro-

gressed as far as the appointment of arbitrators, the claims were finally

settled by negotiation between the parties. Whilst the owner ended up

meeting a proportion of the claims, this was no more than was reasonable

for the work involved.

3.8 This very abridged summary of the experience with the civil con-

tractor points to the need for an owner to assure himself of the financial

resources of a contractor for major civil works before letting a contract

to him. Alternatively, a form of contract based on a target price with

payment terms reflecting actual cost progression, may have advantages.

Such a contract is indicated where inadequate definition of the work may

exist at time of tender due to uncertain geological/hydrological condi-

tions, where expectations of substantial variations in work content are

anticipated, where a multi-contract situation exists, when access is

restricted such as by weather conditions, where the effects of inflation

are high and relatively unpredictable, where work is below ground level and

where industrial relations could create problems 1/. All these factors

played an important part in the execution of this project.

3.9 The form of contract that was used for the civil works was in

accordance with widely accepted practice, was awarded after prequalifica-

tion procedures and might have worked better had the price not been so

dangerously low and had the contractor's site management been more willing

to adapt to local conditions and cooperate with the owner. There seems to

have been an excessive degree of control, or lack of delegation from the

contractor's home office which further complicated matters.

1/ For a comprehensive discussion of this subject, reference should be

made to Construction Industry Research and Information Association

(CIRIA) Report 56 (1975) and Report 85 (1980). 6 Storey's Gate,

London, SWlP 3AU.

- 6 -

A- A 4 , 4 -t-4 -- l me ^f l1 k o -h-oligh sink holes and other

porous areas of the reservoir were handled carefully by repeated partial,

anu pr0g[reb Vt=y 6,LCaI_CL LLXLLL5 -. 1- LIU -1.C 04LJ ,U 4t-----ersed~. W4,4 -OM-

plete drainage and application of impervious material over the areas

1ULeifiU d pUUU. MIedULeInHL UL UUW rmpLLC rL I _4_m-_

other indications revealed progressive success in making the reservoir

water tight. There is god redbon to believe that stable conditions will

be achieved and will improve gradually each year.

Performance of Consultants

3.11 The consultants employed by NPC for the development and engineer-

ing of the project, performed well.

3.12 The Bank required that NPC, with the help of its consultants,

should develop detailed maintenance programs for the dam, reservoir and

waterways included under the Project and those included under tne Durrell

Project. Whereas programs have been submitted to the Bank in respect of

the Sigalda Project and the Thorisvatn storage reservoir, a formal program

covering the Burfell works was outstanding until May 1981 despite repeated

requests for it 1/. However, NPC does pay close attention to the observation

and regular maintenance of all its hydro installations on which NPC and the

country as a whole, rely so heavily for their energy.

Ecological Impact

3.13 The project was not expected to have an adverse impact on the

environment and to date none has been experienced or identified.

1 / Tk 4c,nnrm r,o rro.o 1- ~ f-Ia P-1i , M-,, 1 SII (Ann-A4x, fl'

- 7 -

TTY. MI Lrlrr r*ACMC! AkIn DITCDTTVCVMVX7rT'C

4.1 Details of the appraisal estimate and actual Project costs are

given below:

Table 4.1.- CAITAL ESTIMATE AIN-1 ACTUAL

(Million US Current Dollars)

------ Local------ ----- Foreign----- TOTAL ------

Item Estimated Actual Estimated Actual Estimated Actual

Civil Works

Direct 13.13 31.47 17.50 22.02 30.63 53.9

Refund of Taxes ( 2.29) ( 1.13) - - ( 2.29) ( 1.13)Physical Contingency 1.22 - 1.94 - 3.16 -Price Contingency 4.98 - 0.80 - 5.78 -

Subtotal 17.04 31.47 20.24 22.02 37.28 53.49

E & M Works

Direct 2.24 7.55 13.75 15.69 15.99 23.24Physical Contingency 0.13 - 0,73 - 0.86 -

Price Contingency 0.99 - 0.56 - 1.55 -

Subtotal 3.36 7.55 15.04 15.69 18.40 23.24

Transmission Works

Direct 0.82 0.61 2.07 0.99 2.89 1.60

Physical Contingency 0.06 - 0.12 - 0.18 -Price Contingency 0.40 - 0.09 - 0.49 -

Subtotal 1.28 0.61 2.28 0.99 3.56 1.60

Engineering &

Administration

Direct 1.68 6.12 3.39 3.55 5.07 9.67

TOTAL 23.36 45.75 40.95 42.25 64.31 88.00

Increase (%) 96% 3% 37%

1/ Excludes Interest during construction (IDC). Estimated IDC and Actual IDCare 9.0 and 17.4 US$ million respectively.

- 8-

*% LUiPaLLbutt UJ LL1c .LUal LdoILLdL UO5L WLLil Lilt! tbiLldLe

(Table 4.1) reveals the main areas of change as:

Civil Works (US$ Million)

Direct costs showed a saving in local expenditure -4.92

Local physical contingencies were more by 7.97

Net 3.05

Foreign physical contingencies were more by 1.91

Subtotal 4.96

Local price contingencies were more by 10.22

Subtotal 15.18

E & M Works

Local physical contingencies were more by 5.35

Engineering and Administration

Local costs exceeded estimates by 4.44

Total 24.97

These differences compare with the difference of cost and estimate for the

whole project of US$23.7 million excluding interest during construction.

4.3 It is clear that the single most important factor was the escala-

tion of local market costs followed closely by the uncertainties of thegeology and in particular the cost of reservoir sealing. With hindsightthere is reason to believe that the tender for the civil works was

unrealistically low. Other factors such as the rapid increase of cost of

the bitumastic membrane of the dam, attributable to oil price increases are

also involved.

Disbursement

4.4 The loan was split 92% for civil works costs to be disbursed at

the rate of 50% of the progress payments and 8% was for Consultant's Ser-

vices to be disbursed at the rate of 25% of their foreign cost. It is not

surprising therefore that the pattern of disbursement 1/ lagged well behind

the appraisal estimate whilst the civil contractor's rate of earning was

initially so slow. To permit full disbursement by the closing date, the

proportion of disbursement against expenditure for both categories was

increased to 100% as of September 21, 1976.

1/ See Basic Data Sheet.

-9-

V. FINANCIAL PERFORMANCE

Financial Outlook and Covenants

5.1 In order to ensure an adequate level of cash generation, Loan951-TC requiired MPC tn nhtmi" revenues from its operat4___ufiinttprovide an annual rate of return on average net fixed assets in service, asrevaltiPA- nf At loAct AT f__-. fisca year 107/. 0 955 fo 1975 u./ 1o

_I _ _- ------ ---- - -t -*.J orJ

1976, 7% for 1977 (the year in which the rate base was expected fully toT*eflect the addition of the Project woks but withOut fulutlztino

capacity) and 8% for 1978 and each year thereafter, a shortfall in any year8 ""^"6 *..' UOUC UF LIi LIC LULLUW.LL16 YUdE. Iis covenanL

differed from that under the Burfell loan of 1966 in the followingrespcs* (1) unk the earlier fIxed return of 8%, the COVenant providedvarying returns in 1975-1977 to reflect differing operating conditions;N-Z computUg the Irturn on tHe average value of aSSets nStead Of theiryear-end values; (iii) the specific provision for revaluation; and (iv) thepovsion for ayear s shortfall being made up in tne next year. Since theearlier loan itself had provided for a return of 8%, and NPC had actuallyearned a return of about 6% in 1973, the earnings requirements were clearlyrealistic considering the need for maximizing NPC's cash generation.rULLnCrmure Nr was able to earn close to the covenanted 6.4 in 1976 and1% more than the covenanted 7% in 1977. The shortfall in earnings cameabout unly when high inflation raised the asset base so high that com-mensurate tariff increases proved infeasible. Furthermore, NPC's right toborrow was Limited, other than temporarily or without the Bank's consent,unless its revenues before depreciation and interest exceed 1.5 times itsdebt service in any future year including debt service on the amount to beborrowed. However, to enable it to raise the funds required for theProject quickly, NPC was permitted to borrow for the exclusive purpose ofconstructing the project a maximum of US$49.2 million equivalent through1977 subject only to the Bank's approval as to terms and bridging financenot exceeding US$1.0 million equivalent in the aggregate outstanding at anyone time. The Government agreed to provide the borrower promptly with suchfunds as were needed to meet the project's expenditures. It also confirmedits intentions to make available to NPC additional finance in the form of asubordinated loan and to arrange for additional equity contributionsamounting to IKr. 350 million. Additionally, NPC agreed not to paydividends to the owners during the construction period without the Bank'sagreement and to revalue its assets as of December 31, 1973 and thereafterin accordance with methods acceptable to the Bank. The revaluation ofassets to end 1973 was a condition of effectiveness of the loan. NPC alsoconfirmed its intention to seek a revision of the tariff structure andrates applicable to its sales to the aluminium smelter.

Financial Results

5.2 Over the 1974-80 period with the exception of the year 1977, NPCnever reached the covenanted objectives and its rate of return, which had

- 10 -nrrea 'n,.~Q~L 4, 1974ht 8.3 in 1917A ,1 r- a MnrkPHlV fhPrPAftP.r

to about 5% in 1978 and 1979 and to a provisional 6.2% in 1980 (Annex 1).Tha rclnfon fn., MPr.' Q fnil,1 ro t-r% ron'b t-hp natppel, hnin. Nppnz

(a) larger-than-expected cost of the Sigalda proiect whose first two

units were commissioned during 1977; and mainly

(b) Government's unwillingness to raise tariffs for the ordinarymarket to keep pace with inflation (the asset base in 1978 wasabout eight times that in 1972).

The Sigalda project capital costs were estimated at US$64.3 million from

1973 to 1980, including US$23.4 million, or 36% of the total, in localcosts (at the 1973 exchange rate). To this, US$9.0 million were to beadded as interest during construction. While the actual foreign componentwas disbursed approximately as forecast (about US$42 million), the localexpenditures amounted to about twice the estimates (about US$46 million),thus resulting in total capital expenditures for the Sigalda project ofabout US$88 million (expressed in current dollars) or 37% over the fore-

casts. Interest during construction for the project rose by 90% to about

US$17 million, because of additional borrowing. In addition, NPC started

in 1978 its new Hrauneyjafoss project, not included in the appraisalfinancing plan and for which total accumulated capital expenditures

(including interest during construction) rose very quickly, from about US$9million at the end of 1978 to US$42 million at the end of 1979 and to

1S10 -mllon at the end of 1980.* Although this project my "'"-

cally sound, it is further aggravating NPC's financial difficulties.

yearly inflation rate of about 40%. Its consequences on the value of NPC'sfived asets, in current Vrona, have hon staring (Annev 2) Tn 190A

out of fixed assets of about IKr. 178 billion, IKr. 134 billion or 75% weredue to revaluation.

Sales, Tariff and Revenue

5.3 NPC's energy and power sales progressed from 1973 to 1980 within10% of the forecast. The corporation sells bulk power to the municipalundertakings of Reykjavik and Hafnarfjordur and supplies power wholesaleto the State Electric Power Works. These three entities constitute NPC'sordinary market, which represented during each year between 30% and 40% ofthe total energy sales. The rest of the market is divided into threecustomers, a Swiss aluminium smelter corporation, a State-owned fertilizerplant, and from 1979, a ferro-silicon plant jointly owned by the the Ice-landic Government (55%) and a Norwegian concern (45%). Only the tariffsapplicable to the ordinary market are subject to periodic review and ratechange subject to the agreement of Government. The rest of the market issupplied under long-term agreement- snd tariffs are stipulated in foreigncurrency. While these tariffs are low, the Government and NPC renegotiatedthe aluminium smelter contract in December 1975, as specified in a supple-mental letter to the loan agreement. Renegotiation led to retroactive increasein energy prices from US2.5 mills/kwn to US 3.0 mills/kWh between September1972 and December 1975. Thereafter, there were further increases in energyprices, acLuLuLug to an agreed escalation formula, to U3.' mills/kWh inJanuary 1976 and subsequently in stages to US4.5 mills/kWh in July 1977 andI knLeownL uIu.L mi±_IiWn. LLu L116 Way, NFU substantially tuitilled itscommitments to the Bank 1/.

1/ OED Note:The Borrower states that it is making preparations for discussions withthe aluminium company for further improvements in tariffs (Appendix B).

- 11 -

The price of the energy sold to the fertilizer plant has followed a similarpattern to the one for the aluminium plant. The contract signed with theferro-silicon corporation set the price of the kWh at the highest amount oftwo, yearly price scales, one measured in US mills and the other in Norwegianore. The tariffs fixed for these three contracts were insufficient in theshort term to meet the cash needs of NPC's increased construction program.Furthermore, the price of the energy sold to the three power intensive in-dustries being on average 50% lower than the price charged to the ordinarymarket, amounted to an indirect subsidy by the ordinary market and the Govern-ment 1/. Although NPC is authorized under the law establishing it, to controlthe price of its product; under the present system of price controls intro-duced to curtail inflation, Government approval is required to tariff andrate revisions. Despite NPC's efforts to comply with the loan covenants inmatters of rate of return, Government's response was often to authorize rateincreases that were too little and too late. The Government argued that sinceany increase in the price of energy would be reflected in the constructionindex which in turn would trigger automatic salary (and other) increases,the action would be inflationary 2/. As deflated by the construction indexand taking as a reference the year 1972 when NPC's rate of return was 6%only, the average price for energy and power for the ordinary market declinedgradually from 1972 to 1979 by 20% in real terms. However, the ordinarymarket still is the major source of subsidy for the power intensive industrypaying relatively much more Der kWh than would be necessary if the hrdnwere equally shared by all.

Financing Plan

5.4 At appraisal, NPC's financing plan over the project period (1973-77) supposed that 13% of its caDital exnenditures (Annex 31) wmld ha

1/ OED Note: In the Borrower's view, the tariffs for the aluminium smelter shouldbe compared with the low cost of energy production from the Burfell Power Pro-ject due to the fact that Burfell was developed as the main source of energyfor the smelter. With regard to the ferro-Ailicon nlpnt- where qhnit 907- ofthe total energy is firm and the other 50% is secondary, the Borrower hasemphasized the need for comparing only the tariff for firm energv with thecost of energy production from Sigalda. The Borrower has also suggested thatthe sales of secondary energy (althou2h its onrice is only about one-fourthof the price of firm energy) has a favourable effect on the price of firmenergv and that in the long run the comnariAnn hefwppn nria nna rnQtn willbe satisfactory (Appendix B).

2/ OED Note: The Government has confirmed its acceptance of the principlethat Ratisfactory rAtep of return for NPC ar imnortnnt in tiho lnna -ri

however, it has also emphasized the need to give proper weight to the broaderPrnnini narQnar'f-4tra fin wliin-h t-m-iff 4,-m,anama Must- +tke place 4n partIular"it would have been extremely difficult to except one particular enterprise"

fro thee -- bi4' lizatin effor -in Iceland ove te -peIdiquestion (Appendix A). Furthermore, the Borrower has pointed out that in1980 --It reeIe sevra tIff Increases which represented a cumulative

increase of about 91% over the year (averaging about 50% for that year as a

of 16% and 9% in January and May 1981 respectively, are expected by theBoLLWe Lo ipALVe LDs LnL1ca sta.LoL1U. 1 DUrLUWer alo sLates that

it is studying the possibility of replacing the price equalization tax onreta" electcy sales with a corresponaing increase in tariffs (Appendix B).

- 12 -

tion, though low by normal standards, was considered acceptable takingSLIK &IA..L 11~ U t = VL = U.LA.6CL.LWLL0 aU %-&I .LLI- ILIOL S.JiLadIda

represented a large addition to its system. The balance of the financingwas to ve frum a -Ournment equity --nIrvuULon u"unILug Utne

capital expenditures and by various loans totalling US$54.6 million. How-ever, the trend of integration in the Icelandic power system describedelsewhere in the report has put pressure on NPC to develop at a more rapidpace Lue hydro resources of ILs region. unuouoLedly, these pressures con-tributed to NPC's acute cash-flow problem. During each year, except 1973,its internal cash generation net of debt service was sufficient to meetonly 1.6 to 4.4% of its construction program and only 0.73 to 0.86 timesits gross debt service needs. Since the owners strictly limited theirequity contributions to the 1972 figures of IKr. 350 million regardless ofinflation, NPC had therefore to borrow, with the Bank's agreement, muchmore than expected (in total about US$129 million from 1973 to 1977 andabout US$250 million from 1973 to 1980). Had the Bank objected to theseborrowings, it would seriously have compromised the Project. From 1973 to1977, 36% of its outstanding long-teru debt was incurred, not to finance

capital expenditure, but to supplement internal cash generation to meetdebt service and the increasing need for working capital and, by the end of1980, this percentage had risen to 56%. Since no bank would have lent toan independent corporation in such a financial shape on the strength of itsactual and projected financial statements alone, the owners--the Governmentand Reykjavik Municipality had to guarantee loans to NPC. How long thissittuation can last remains to be seen. In 1975 and 1976 and while waitingfor the US bond issue which initially failed, NPC resorted to short-termfinancina (for a maximum of US$8.8 million) which was tightly supervised bythe Bank. In the late 1970s, having graduated as a 'part 1' country, Icelandwas no lonier eligible to borrow from the World Bank- and had tn tnv to othersources at much harder terms to finance assets with a very long life-l/. Othergraduating borrowers with economies having lnw dvArcitx as as IlAd mayface similar problems.

VI. INSTITUTIORAL PERFORMANCE

Bank's Performance

6.1 The Bank maintained excellent relations throughout with NPC andtne Government, anu snowed consiaerable flexibility in its dealings. Evenat appraisal, this flexibility was evident in the Bank's agreeing to permit'Lr' oU borrow for the exclusive purpose or constructing the Project up to amaximum of US$49.2 million equivalent through 1977 subject only to theDank approval as to terms. Tnis agreement obviated constant requests forthe Bank's approval and greatly facilitated Project financing arrangementsand thus Project execution. Over the 1973-79 period, it carefully

1/ OED Note: The Borrower states that it is presently exploring the capitalmarket for the purpose of extending the maturity of its external debt.

- 13 -

monitored NPC's earnings position and repeatedly urged tariff and rate

adjustments needed for NPC's well being and following the intent of the

rate of return covenant. It explored all avenues to strengthen NPGr s

financial condition and tried persistently to induce the owners to increase

their equity in NPC either through direct contributions or through conver-

sion of Government loans. In the interest of promoting a financially sound

and autonomous power utility, the Bank suggested to the Government that

some of the revenue obtained through taxes paid by the power intensive

special consumers, be transferred to NPC and be considered a part of NPC's

operating incomel..Thereby clear recognition would be given to the price

being paid by the population for the benefits of these industries whilst

retaining the principle underlying the Bank's financial covenants. During

the supervision period of the loan, the minimum debt service coverage

covenant provided an efficient tool of overseeing NPC's borrowing. While

it was clear early in the project life that the minimum coverage was not

going to be attained during the project construction period, the covenant

allowed indirect supervision of NPC's financial policy by forcing NPC to

ask for Bank authorization for each new borrowing. In 1978, the Bank,

after some initial reticence and review of an acceptable financing plan,

approved the whole borrowing required by the Hrauneyjafoss project.

Power Sector Performance

Despite the Bank's persistent efforts and due to circumstancesoutside the Bank's control, NPC could not establish itself as an indepen-

dent and sound financial entity. It did not succeed in securing an ade-

quate operating income through rate increases for the ordinary market, or

by negotiating profitable rates for supplies to special customers, or Dy a

proper injection of equity from the owners for its expanded construction

program at a time of high inflation. Thus, NPC was not given the means to

achieve a sound financial structure and its owners have only postponed the

time when its mounting financing problems must be solved at a much higher

cost.

6.3 Iceland as a whole has reached the level of Gross National Product

per capita at which no further Bank lending is now contemplated. Thus, for

the power sector this is the last project in which the Bank plans to be

involved.

VII. PROJECT JUSTIFICATION

7.1 The owner, in consultation with the Bank's staff during the corm-

pletion mission, has prepared a revised economic rate of return calculation

taking account of the factors as seen in September 1980 (Annex 4). This

shows a rate of return of 11% and was evaluated using the same methods as

used at the time of appraisal when the most likely figure was judged to be

10.7%.

SOED Note: The Government nas expressea its scepticism with regaru LUn ti-

proposal by the Bank, pointing out "that earmarking of taxes is not a very

sound fiscal practice, and although such action would undoubtedly benefit the

NPC when looked upon in isolation, the wider and less satisfactory implications

cannot be ignored" (Appendix A).

- 14 -

VIII. LESSONS TO BE LEARNED

8.1 Civil works, especially in unpredictable geological formations,

present a high risk to both contractor and owner. From the civil contractaspect, it is potentially most beneficial to both parties when these risks

are shared as equitably as possible. Where, additionally, the influences

of price inflation are large, there is even more reason to employ forms of

contract in which the final cost reflects closely the real value of theworks under prevailing conditions whilst retaining a fair degree of com-

petition between tenders for such contracts. This project illustrates a

number of hazards which would probably have been avoided by the use of a

Target Price and Cost-Reimbursable contract form.

8.2 In a climate of inflation coupled with a maior development nrogramof unusually large proportions, cash generation covenants may fail toensure that n horrowr apnPrntp Riifficipnt findq from intprnal soures to

keep its financial situation unimpaired.

8.3 When a corporation is not structurally independent of Government

strong resistance from the controlling authorities. If such circumstancescan be foreseen opertid fianileoennul!-A,,a,.1, be supemented by requirements for specific and timed financial action.

Europe, Middle East and North Africa Regional Office

January 1981

！一！〕婦嗡！

〕一方鏽〔〕〕〕｝一〕〕〕！〕〕〕飾州〕！！〕〕〕銻―細〕〕．〕〕■；‘造〕〕〕舟；〕！！〔〕〔〔〕：〕■■〕〕〔■■配．〕！〕頗〕〕！一，．〕〔．〔．州〕〕〕〕！〕：〕，■，〕〕〕，.：〕．,．丰．〕〕〕〕〕〕〔喲 “對 庭排二 蕪，·浩―馴抑洲馴瑁，嘆鵝

!,,；、！、，〕、：!！〕！;:!;!!/!:!!!！、！！〕；，乏、！〔：!；〕！!！〕！！、

JCELAOOD

BALANCE 60EET 1071-TO

1012 Oillions)

1972 ,,2931,.. 1741. 1951,___31782Ap~~~~ ~~~~ APPl A- Iu PaslApasl prLa App-as1-.race Poisoa Vrac

F1xed Assets in Service 0,341.9 9,133,6 9,815 2,2 14,723,4 9, B75 1,84.4 19,854.0 9,005 9,969,0 23,585,0 05.117 7,812,0 40,637,5 15,005 21,602,5 04,668,0 15,99 58,200,4 122,211,0 16,005 U6,09 7 72 432Lea Accumuated Depreciat2,o (68.03 (1,58,41 0,_839 0 (50, 4 2,L4,0) (466) (776.0) (3.571,00 ( 0520 (1239 .0 (4,84,4) 02,015) (2,805.4) (7,3 44) (4,6081 03210 491.0) (2L1 0 2 .94 2) 512030) (3,028) 396,

0et 81 Asseta. 0n 020v11. 6,63,6 6,105,1 8,525 ,49,8) 12,481, 4 8,49 4,072.4 16,22.1 8,153 8,130. 18, 002.0 13, 0 3 ,006,6 00,2 10,532 20,071,2 61,305,4 1342 18,1.2,4 100,09,5 12,14 f7,595.5 142,415,9 13,000 19,4115,9'okT 8n Progress 127,0 78 8 (_ ) 2 2,200 788,2 913,,4 4<39 3i5, _10401,6 120 7,321,6 15.393,0 120 15,273,0 16.964,3 330-63 14.86..9 767 14,1Ø1,9 57,761,6 120 57,41,6

2 Nt 0 0 A 7.7.. 0 363.9 0 496 0134,1) 15,477,6 10617 4,860.6 25,36.5 1l,102 13194, 5 36,186,2 5 _22. 2 48,996,2 13,652 35342 7.,269,7 13,453 64,816,7 0158178.4 13,4S1 1 ,4 25. 2 5 2- 1 10.

..03B, 02.6969 ____ 14 ,320. t±3 6011 ,1, 038 10,1. 1 00111:1 540 10 0

Cash 31,6 341,9 02 260,0 001,8 13 082 22,4 4 24,4 452,1 139 313,0 506,6 117 421.8 329.6 231 60,1 211,9 401 0221,1) 157.0 90 04050.00et0 Rece.ibles 100,8 255,7 121 34,0 160,6 040 46,6 333.2 L5S 020,1 300.0 606 615,5 840,0 200 635,9 662,0 209 63.0 1,0. 034 023,5 1,550,0 040 W,02,0Prep20ymentI L0 Coratractr 21,6 72,4 - 02,4 121,6 - 141,2 5100 - 202,8 18,0 - 6,1 14.6 - 14,1 10,0 - 00.

Fue1 011 2,9 00,3 10 20,2 28,1 10 18.1 22,2 10 12.6 22,2 10 12.0 76,0 18 66,8 65,0 10 068 981.5 00 971,5 260,0 10 871.50t6,2 3. 4 (.6.9) 21,02 5 08,0 06.0 _2 49.0 90.8 _0 01.9 44_5 2 3,5 43,6 10 26 02,3 15 .27.3 _265.,0 1436

Tota1cure0 Aets 069,1 601,4 26 34 _410 206 284.7 134.0 _19 840,0 100.4 35 744,4 1519,0 350 1,166, 1,1.13 47 6493 2,271,. 695 1526. 34.5 1,179 4969,5

Tota1Aet 7,99,7 9.066,03 9,0807 ,129,0 15,968,3 120 3 5,145.3 26.420,6 12,386 04 034,5 37,286, 6 4,280 23 '07,6 50.515,2 22.805 6,50 ,2 79 3," 13,93 654 .4660 11716,2 1176 103. 200,376,0 14,02 19,07..

.8 644ý 6 60 221481

0oner' c26tr162616n 815,6 215,6 806 0,,) 2001 936 04,40 1.055.4 2,06 0,0,4) 1,145,6 0,166 0,.0 4,255,6 2,166 0,0.20 1,265.6 1,066 0.4) 1,525,6 1,166 059.1 2,1016 1,4166 665,6

6et89ned Earn1n0, 609. 212.1 117 95,0 318,6 300 060 60,1 76 (99.9) 1,262,0 1,021 032,00 1,802.7 0,505 290, 1,2C5,7 4,20 0.614.3) 2,0 0,259 02.066,00 (1,2.0) 1,010 (262,01

C.pit u fo R l o 008,5 1952,6 1,454 498,6 3,526,4 1 454 2,072.4 4.852,2 1451 3,398.2 6,229,4 1.454 4. .4 9..5956 1.454 8141,6 l4,1535 ,1 54 1 5 26,681,4 1.454 2 2 43614,7 1.454 1o0,7

Total Equty -nd surpiu 10309 2.980,3 2.37 593,3 4,776,3 2.769 2,007,3 6.574.9 3.277 3,297,9 8 6a3.7 3,941 4,742.7 12,563,9 4.125 8,38,9 16,524,B 4,440 12,084,8 26,299 4,878 23,421.0 44,427,3 5,387 _422-4,0

L6ng-Term Lo0ns 6,520,8 6,682,6 7,275 (392,4) 10,606,1 7,802 2,874.1 18,719.9 8,774 9,945,9 25,463,3 9,962 15,501,1 6,690,0 9,591 27,099,G 61,3B9,7 9,2,3 52,176,7 84,933,6 9,o91 75,909,6 031,61,4 8,661 142,949,4

0605 Due6within 0ne 7er (18,0) (94 9)2 (41)1 16, 2 (1564 6) (400) (157.6) 0061,40 04169 (449.41 3320.91 05900 (805,9) 0L020,63 (504) I220,) (23,1226,5) 15659 02,91.5) (496,2) (463) (2,33,2) (,o48,l 05150 3.4083,3

9.1 Lo9-T DT 6,340,. 6.220., 6,664 (376,3) 10.111,5 7,395 2.716,5 17.854,5 8,56 9.,496.5 24,130.4 9.435 14.695.4 3 9851 98 25,878,7 56163,2 8,648 49515.,2 82,437,4 8,561 73.876,4 140.56.1 8,096 135,466,1

24,0 63,6 6 50,8 42,2 0 05,0 16,9 9 10,9 036,9 0 327.6 22,9 2 2,2 31,9 6 30,9 T3,0 12 71,2 200,2 4 01,6.21 219 (421 37. 2 140.3 512,4 322 260,9 021,0 220 460,0 266 12 9 13 0, 2,510,4 250 2,25.4 3,700, 142 3,452,0

-n,e06T Other 340r2e Brg 180,0 0949 411 (16,0) 564,6 40 157,6 865.4 416 249.4 1,332.9 500 205,0 l1724,3 I. 1,220,3 ,226,5 565 ,615 0,406,0 410 0,2 6,041,3 565 1,063,3

Long-Ter Debt, D0 ihn n r 10,6 5 - - - - - - 513.0 .. 610,10 ,4606.4 - 1,676,4 - - - .- - 1,581.6 -1,5B2,6 3,0320.0 -3, 322,4

OcoT 16Cur 6Lib1l0tie. 53.1 24,8 86 22,9 103,6 15 8,6 l1.4 5 6,4 8.1 5 3,1 4,9 5 (0.11 10,66 47,6 5 42.6 116,9 5 022,9

Total Current libilities 605,0 198,3 156 42,6 1,60,5 609 421.5 1,991.1 051 1,240.1 4,111.7 B 3,273,7 2,697,9 093 904, 4 0,7,0 842 3.866. 6.719,8 70 5,9_26 15.686,6 610

Oer - - - - - . - - - - 340,2 - 360,8 287. - 207,8 - -

TotalL 799 9.6663 B 7 2 1 99 3 106 .23 5145,3 26,42,S 12 386 14. 34,5 37,286.6 14,214 20726 5,515,2 I1 79 39, 13,930 65,466.Q 117 ,95,2 14,176 1,00.I 2 0760 44,296 L89,077,1

86/1 69)31 75)5 - 68/3 7426 - 73/27 73/27 - 74/29 02/22 - 74/26 701/30 - 1/22 60/33 -74/26 65)35 -76/24 92/58 -

it26 Rat62¯ 0,0 5,66 20 0,56 0,65 0,0 0,05 0.52 203 2.22 0,20 1.4 (0,23) 0,56 2,4 0.16 0.24 0.6 0,31) 0,34 2,9 00.160 0.20 1.4 02,0)

january2 32, 2691

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ANNEX 4Page 1 of 10

- 18 -

SIGALDA PROJECT - MEMO

Economic Rate of Return - Calculated in September 1980

1. The economic rate of return is calculated in the same way as done in the

As shown in the attached table, the sales capacity from the Sigalda project

has not changed from the appraisal estimate and is now as before estimated

at 710 GWh/year firm energy and 200 GWh/year secondary energy. At present,

however, the reservoir at Sigalda is still in the sealing process and it

~~ t,~i , 1 ORA -), c=Alin"- w.il h1A'eup rpAer-hpa~ thp elp i n I pupl,

Until then the firm sales capacity of Sigalda energy is reduced to 670 GWh/year

for the year 1980 and increasing gradually to 710 GWh/year in 1984.

The allocation of the Sigalda energy to the various customers is different

from the one used in the appraisal report (Annex 13, table 1, page 6) as

shown in the attach-d table This is mainlv because of the new Ferrosiliccn plan:

which,although anticipated in the appraisal's high power demand forecast,

was not included in the said economic rate of return calculation since the

the first furnace of the Ferrosilicon plant was scheduled to start in the

end of the year 1977, but actually it did not start until April 1979. The

main reason for this delay was that a ULted Stcte s flLm n-

signing,cancelled its participation in the ownership of the Ferrosilicon plant

and a Norwegian firm stepped in. The present plant,

now in full production with two furnaces, is owned by the Icelandic state

(55%) and the Norwegian firm (45%). When the U.S. company cancelled their

participation in 1976, it was negotiated that Landsvirkjun would get

1.9 million U.S. dollars as compensation for lost power sales. This sum

was naici out in the end of year 1976 and appears in the present economic rate of

return calculation as a sing-ular sum in the same year as paid out.

The additional benefit for substituting oil with electricity in space heating

is now higher than estimated in the appraisal report in 1973 because of

the drastic rise in oil prices that have occurred since then.

ANNEX 4

Page 2 of 10- 19 -

The present economic rate of return calculations have taken the above into

account. The calculations are made at the price level of 1973 for easy

comparison with the appraisal report. The construction cost and O&M costs

are deflated by the Icelandic building index as well as the revenue from

the ordinary market. The revenue from customers that pay in valuta

(US dollars and Norwegian kronur) are deflated by the consumer goods index

in the U.S.

In the followina more detailed explanations of the calculation basis are

given.

Ordinary Market Sales

The power system before Sigalda i.e. Sog+Burfell+thermal plants was in the

appraisal report estimated to yield 2120 GWh/year as firm power production

capability at plant,or some 2000 GWh/year as firm sales capacity (production

minus transmission losses to the sale points). Now with the benefit of hind-

sight,i.e. experience with actual operation of the system, the energy sales

capacity of the Sog-Burfell system has been reduced to I VUU1VVI ohyeaLr. This

is mainly due to the fact that ice flushing in wintertime reouires more water

at Burfell than originally estimated, but there are also other contributing

fatrs 1en1 Sig~aidda c.ameon the 'lin ApL .. 1 tr i. ln. it ca he. said thCIU ~ iat

it was overdue. In 1977 Sigalda produced 160 GWh which gave Landsvirkjun

additional sales capacity of 152 GWh/year using 5% as transmission losses.

transmission losses have been taken as Sigalda's contribution to the power sales.

It is assumed toat power sales to the Aluminium and Fertilizer plants except for

the extensions as discussed in the appraisal report (Annex 13, page 2) are

firmly allocated to the Sog-Burfell system. As shown in the attached table,

the sales to the ordinary market have been used to balance the Sigalda

contribution.

It would also have been possible to give the Sog-Burfell system 1900 GWh/year

as firm capability and subtract that figure from the actual firm sales

figures. With the same allocation of the energy to the Aluminium and Fertilizer

plant as before, one would also have to balance the power input thus allocated

ctd.

ANNEX 4

- 20 -

to Sigalda with the sales to the ordinary market. The difference between the two

methods does not seem qionificant- The economic benefit from the ordinary

market is taken as the actual sales price plus taxes as per the below

listed table. The sales to space heating are included in the ordinary market.

Year Sales Tax Price Equalizing Tax Combined

13 33.0

1977 20 13 33.0

1978 20 13 33.0

1979 20.58 17.75 38.33

~ rin nnl Af 0 %r

1981 23.50 19.00 42.5

ailes to tALUM.LfnumU amtLWiL

The aluminium plant has bqen extended by 20 MNW and' the extension was ready for

production in April 1980. The power price was renegotiated In 17

so now instead of heino fixed as 2.5 US mills/kWh the power price is subject to

escalation of the world market price for aluminium. At the same time the

power contract with the aluminium company was amended tJo incluide -an extenston-of

ZU MW of which B Mw 1s 1rm pOVer anu IS V .16U6=.LLUJPL.LJ.C=. Or the

nowor in the alrtlations is deflated to 1973 level by using the consumer goods

index in the U.S.A,

,,jer k-ns* C... U. n.i rho fl,mnini"n rnmnanv and freight revenue are taken

as in the appraisal report reduced in the same proportion as the power sales

allocated to Sigalda for the extension of the aluminium plant.

Sa.les ton Fert-il, Plant

TILe 4--.emnt o-f t-he Feartilize r pla,nt- have , i ncreAae fronm rha 1 0l7 ) 1leven

ca. 25 GWh/year to 150 GWh in 1977 and this increase is here attributed to

Sigalda. The price is the same as for Isal. The 40 GWh increase as shown

ctd.....

ANNEX 4Page 4 or Lu

- 21 -

in the appraisal report is not foreseen at present. No auditional benefits

Are avwpn ha n rpan1t of,the shove nower sales to the Fartilizer olant in

accordance ith the IBRD appraisal report.

Sales to Ferrosilicon Plant

Power sales to the Ferrosilicon plant started in March 1979, when the first

funace of that -ant Was anprational- Rar1v in SentAmbpr this year the

second furnace was taken into operation so both furnaces are now producing

at full capacity.

The power sales to the Ferrosilicon plant will amount to 488 GWh per year

on the average i.e. 244 GWh firm and 244 GWh interruptible taken as an

average for 20 years.

In the IBRD appraisal report 200 GWh/year of the system capability to produce

interruptible energy (secondary energy) are allocated to Sigalda. In order

of return one can not take the full amount of secondary energy sales to the

Ferrosilicon plant into account. It has been selected here to allocate

150 dWh of secondary power sales per year from Sigalda to the Ferrosilicon

plant and 50 GWha p4r year to Isal. Thus, fully loading the Sigaida contribution

Of secondary energy production of 200 GWh.

The price of the power to the Ferrosilicon plant is U,035 Norwegian kr/kWh

until July 1982, when it increases to 0,04 N.kr./kWh plus escalation.

Assuming that the escalation formula compensates for world inflation, the

above prices are used throughout converted to US dollars at the current rate

of exchange, and brought back to 1973 level by using the US index tor

Other benefits from the Ferrosilicon plant are estimated in the same way as for the

aLumin ium.p.lant L.U LnC~ .LoDU apria rpurt. iee tmg an C..

same per kWh and the wage benefits the same per employee. These benefits

are, however, only taken on 45% of the total corresponding the foreign

participation in the Ferrosilicon joint venture.

ctd.....

ANNEX 4Page 5. of 10

- 22 -

Benefits from Additional Space Heating

Electrical space heating has not increased as much as foreseen 1973 as shown

in the attached table. This is mainly due to increased space heating with

warm water from geothermal sources. Similar philosophy as in the IBRD

report or 97i3 regaruing tne aditional eiueLi L.LUm ex us bjQ I=CX±U'I

is applied in the present calculation.

Benefits to the houseowner of an existing house is the cost of oil heating

less the cost of electrical heatina and less the cost of changing the heating

system from oil to electricity.

Benefit to the houseowner of a new house is the difference in cost of oil

and electricity as before and also savings from cheaper heating installation

of an electrical heating system versus an oil heating system.

Sales to space heating are included in the ordinary market at equal price

as there is no special metering for this power. Additional benefits per

kWh take into account the above added benefits and costs to the house

owners- and the actual oil prices. n Attempt is mAdep tn Pqtimatp Maoher

oil prices in the future above the present price.

Benefits from reduced Icing at Burfell

These benefits are entered unaltered from the IBRD appraisal report as the

bDas ic assumpt-40M4 in thi respec a stil v 1A;id.

Landsvirkjun

ECONO41C RATE OF RE"PURN OF SIGALDA

Ca lculated Sept . 1980

------- COSTS ------- BENEFITS FROM SALES TO: ----- ------------------- THER BENEFITS ------------ ,ddedYear Ord. Md. --- ISAL -------- ----- FeSi--------- Burfell Space Total

Capital O&M Total Market Isal Fert. FeSl Sp.H. Tax Freight Wage Tax Freight Wage Icin Peat. Benefits

1973 293 293

1974 806 806

1975 2144 2144

1976 2172 2172 106 106

1977 481 4 485 128 7 40 10 9 1941978 180 8 18B 380 8 64 10 18 480

1979 227 10 237 257 8 64 108 5 4 3 10 75 534

1980 52 13 65 377 141 8 122 164 3 2 2 11 7 3 10 114 :37

1981 12 12 269 35 8 133 206 8 . 6 2 12 9 6 10 140 844

1982 12 12 276 35 13 142 212 8 6 2 12 9 6 10 133 859

1983 12 12 289 35 83 153 212 8 6 2 12 9 6 10 133 083

1984 12 12 296 35 9 153 219 8 6 2 12 9 6 10 138 902

1985 12 12 296 35 1 153 219 8 6 2 12 9 6 10 138 902

1986 12 12 296 35 13 153 219 8 6 2 12 9 6 10 138 902

20227 12 12 296 35 3 153 219 8 6 0 12 9 0 10 138 894

2022

0RATE OF RETUIN 1 1,0%

0andsvirkyun

29-29-1980

SALES FROM SIGALDA IN GWH

------GRDIARY MART ----- -- Fertilizer -- ----------- SAL----------- FERROSILICONU --- - -m-

idd. Space Heat. Other Ordin. Total Plant F,rm Seco,dary Firn Sec. E'rt Secondary

Year A B A B A B A B A B A B A A A B A 1

1976 B 8

1927 30 35 971) 49 127 84 25 40 s0 0 1521) 204 H0

1978 60 70 358 91 418 161 25 40 Bo 80 443 281 80

9379 90 105 214 140 304 245 25 40 60 60 163 492 365 [0

1980 120 140 276 191 396 331 25 40 45 80 BO 184 183 650 451 18 80

1981 2) 150 175 196 24El 346 423 25 40 65 I0 50 80 244 150 60 453 200 8c

1982 155 210 201 301 356 51 25 40 6, 80 50 80 244 150 690 631 200 80

1983 155 230 211 359 366 589 25 40 65 80 50 60 244 150 700 709 2N0 {0

1984 160 230 216 359 376 589 25 40 -65 80 50 B0 244 Isc 712 709 200 30

1985- 160 230 216 359 376 589 25 40 65 80 50 00 244 150 73 709 200 0

2022

A As Actual and Revised.

B As in World Bank Appralsal Report from 1973.

1} See explanations in attached Memo.

2) -rauneyjafoss project Ist uknit on line Hov. Ist, 1960.

00

(D riþ¢

ANNEX 4

Page 8 of 10

- 25 -

SPACE REATING

Memo on the calculations of benefits from electric

space heatina.

The growth in electric space heating has not been so rapid in past years as

foreseen in 1972 mainly because of much more geothermal space heating which

follows from both th suero ecnm, f the getera energy at short

transporting distances and new geothermal resources that have been found.

Nevertheless, growth in space heating energy constitutes about 50% of the

total ordinary market in tho rpcpnt vpar, Alan. T.Andquirkiin is now qunolvina

a greater portion of this energy than before as a result of the East-North-South

interconnection. So even though most of the geothermal areas are within the

Landsvirkun arq 1ncrameinare heating of 30 GWh/vear are attributed to

Sigalda.

The benefits from added space heating are mainly savings in oil for domestic

heating and savings in installation costs of electric heating equipment in new

houses~ versu oUl he.U 1atings euipn~. Ths -. 4JO ---,v~ --- .. 44-~.,c

estimated to Kr. 1,400,000 which deflated to 1973 Kr. corresponds to 123,000 Kr.

per house. The costs of converting old houses from oil heating to electrical

per house.

As a measure of benefits from savings of oil, we use the price of oil saved for

each kWh sold at wholesale point. In the table below, oil prices from 1976 are

listed, it is estimated that we get 6.5 kWh from each liter oi anu ane lusses

from wholesalepoint to user is of the order of 19%.

We then save the oil price divided by 6.5 and divided by 1.19 at the user's home

for each kWh sold wholesale. This price is then deflated to 1973 kronur using

building cost index.

ctd.

ANNEX 4

Pn- - 9 of 10- 26 -

FUEL SAVINGS

Fuel Build. kr/kWh

Year Price price Savings Ordin.Sales 6 Diff.

kr/l index Price

1976 26.13 105 1.39 1.27 0.12

1977 31.30 138 1.26 1.32 -0.06

1978 46.05 217 1.18 1.06 0.12

1979 106.40 309 1.92 1.20 0.71

1900 196.45 490 2.23 1.37 0.86

* incl.tax.

measure of the extra benefits of added space heating. In reality this is a

conservative estimate as extra savings are incurred in transport cost to remote

areas where transport costs are much higher than average.

In the appraisal report a promotionary price of 83% of the fuel cost is used

as a measure of the benefits. Using this same percentage would change the

rate of return less than 0.5%.

In current studies a Nouse is estimated to use about 41.000 kWh/year for heating.

The 160 GWh of space heating energy attributed to Sigalda is then enough for

about 3300 houses. In a report from Orkustofnun on heated space in 1978 to

2000, it is seen that in the past two years oil heated space has been decreasing

corresponding to about half the volume that electrically heated space has been

increasing. Disregarding retirement of old houses one can, therefore, estimate

that 1650) hi a have hean hiilt with electrical hPatina savino 203 M.kr.

while 1650 houses have been converted at the cost of 150 M.kr. The net savings

are, therefore, 53 M.kr. which have been evenly distributed over the 5 years

from 1977, 11 M.kr./year which are added to the extra benefits from fuel savings

i.n a specia-cl.m of the table

ICELAND

SIGALDA PROJECT

Benefits from Ordinary Sales

Ordinary

Except Space Heating --------------------------- Space Heating-----------------------

Total

Fuel Fuel Instal. ExtraPrice Sales Price Sales Savings Savings Savings Benefits

Year GWh Kr/kWh M.Kr. GWh Kr/kWh M.Kr. Kr/kWI M.Kr. M.Kr. M.Kr.

1977 97 1,322 128 30 1,322 40 -0.06 -2 11 91978 358 1,062 380 60 1,062 64 0.12 7 11 181979 214 1,201 257 90 1,201 108 0.71 64 11 751980 276 1,366 377 120 1,366 164 0.66 103 11 1141981 196 1,370 269 150 1,370 206 0.86 129 11 1401982 201 1,370 276 155 1,370 212 0.86 13:3 1331983 211 1,370 289 155 1,370 212 0.86 13:3 133

1984-2022 216 1,370 296 160 1,370 219 0.86 138 138

January 30, 1981

CD4

0

CDt

1CELAND

POWER STATIONS OF PUBLIC UTILITIES

121

s7

S 3 -

REYXAv"K

BåRFEL N

12 0 o 0 30 5SKILOMETER5'

2_0_10 2*

N0 o- T

Electrified oreos -R E Lý ý

Powerfoc*itie

S Hydro power stations-- - -

15 13

0 0 3

* Thermol pow,er stations e''~cpLA Substations As ca

--- 22o xv uoe ICEL ANDu

---- ,32/66/33/22KV Lines

3 Numnbers denote location of ntilities

Regionl division bound e4 DEN

- - - Inernotional boundones

_______________________________~~~~IREJ ND____________________ _ _j ~ i j