One Company Town Rehabilitation: Development Through Private Sector-Led Growth

1. OneCompany Town RehabilitationDevelopment Through Private Sector-Led Growth One Company Town Rehabilitation:Development Through Private Sector-Led Growth Khaled F. Sherif ECSPF February 9, 2004

2. The One Company Town Model • A ‘One Company Town’ is a town or region whose economic and social well-being is dependent on a single industry and/or dominant enterprise. These mostly came to be as a result of the national development plans of the 1960s • Their emergence stems from governments making major investments in one region for the purposes of transforming it into the center (or ‘hub’) for a particular industry • One, or many, state-owned enterprise would be at the focus of the town’s development

3. The One Company Town Model • Typically, one company towns have been developed to: • Undertake an opportunity for growth within a resource-rich, previously-undeveloped region; or • Diverge migration directed at major urban centers by: • Building towns and regions • Generating industrial employment within these towns and regions; thereby bringing in income to the region • Encouraging population resettlement into these new industrial areas

4. Government recognizes that a region is resource-rich: Agriculture Coal Nitrates The One Company Town Model

5. The One Company Town Model An industrial initiative (e.g. mining, cement…etc.) is initiated This is generally Government-led, in the form of a State-Owned Enterprise

6. The One Company Town Model The region’s infrastructure is built-up to specifically support the development initiative

7. The One Company Town Model Numerous ‘spin-off’ businesses are conceived to support the focal industry

8. What Happens Next? • Although these enterprises are often economically prosperous, this is often short-lived because: • The town’s natural resources are scarce, and begin to run out; or • External competitive forces significantly impact the competitiveness of the industry’s output, making it necessary to cease operations, or provoking the government to intervene by offering subsidies to support the industry’s sustainability

9. What Happens Next? • The industry’s disintegration leads to: • Widespread unemployment; leaving behind a highly-specialized workforce whose skills are non-transferable • Decline (and often failure) of spin-off enterprises • Urban decay • Environmental decay • Widespread poverty

10. Addressing Regional Decline • Historically, government response has been reverting to privatizing the the state-owned enterprise • This approach has often been unsuccessful because those companies which have been privatized have in many cases proved to be unprofitable (and therefore unsustainable) • Many reasons have contributed to their inability to successfully privatize these companies, including: • Operational inefficiencies • Diseconomies of scale • Poor state of the town • Scarcity of resources • Lack of overall product competitiveness (especially in instances where the product was previously subsidized)

11. Addressing Regional Decline • In the instances where there have been no buyers, the company is often liquidated, leading to an increase in poverty within the region Privatization Liquidation GovernmentRepurchase Further Regional Decline Subsidizing of SOE

12. One Company Town Rehabilitation:Development Through Private Sector-Led Growth Bank Strategy for Rehabilitation Khaled F. Sherif ECSPF February 9, 2004

13. Bank Strategy for Rehabilitation • The Bank strategy focuses on fostering private-sector led growth, through a series of key interventions, to rejuvenate the region and reestablish a sustainable economic and social framework • The strategy targets both: • Regions which still maintain an uncompetitive, heavily subsidized state-owned enterprise which supports the inhabitants by generating artificial employment • Regions in which the focal enterprise has been liquidated, and whose inhabitants are unemployed, and living in severe poverty • These towns and regions are abundant in number, and are present throughout the ECA region

14. Bank Strategy for Rehabilitation • The Bank would undertake a four-pronged approach that focuses on: • EnvironmentalRestoration • Private sector-led growth • Education • Infrastructure

15. Private Sector-Led Growth • Private sector development initiatives will focus on implementing a ‘Push/Pull’ mechanism by: • Emphasizing local SME development (Push) • Building a business environment which encourages domestic and foreign direct investment (Pull) FDI Business Environment Strengthening SME Development

16. Microlending Microleasing EU Phare/IFIs Private Investors IFIs EU Phare Private Investors IFIs Private Investors IFIs Unemployment Benefits Own Funds Private Sector-Led Growth Strategy Hands-on training Prototype business ideas Advisory services for business planning Business Incubators Advisory services/More specialized training Office space and services Specialized training Advisory services Business Linkages Growth Development Startup Pre-start Startup Equity Fund + Growth Equity Fund Bond Bank Business Enabling Environment

17. PSD: Initial Measures • Facilitation of non-core activity spin-offs, where possible (particularly in the case of industrial companies) • Private provision of certain municipal services, e.g. housing maintenance, trash and snow removal, etc. • Requirement for local subcontracting and/or local hiring commitment of infrastructure contractors

18. PSD: Creating a Business Enabling Environment  • Radical simplification of business entry and operations (e.g., easy registration, licensing, land and premises allocation) • Tax incentives for local start-ups and investors re-locating their business • Establishment and capacity building of Local Development Agency (one-stop-shop for business purposes) • Encouragement and support for establishment of local business association

19. PSD: Building Local Capacity for Entrepreneurship And Facilitating Job Opportunities • Practical hands-on training on basics of entrepreneurship, structured in modules that reflect business planning process • Exposure to prototype business ideas • Establishment of a business incubator aimed at nourishing start ups and providing training and advisory services for a broader business community • Facilitation of business linkages / clusters development

20. One Company Town Rehabilitation:Development Through Private Sector-Led Growth Private Sector Development: Three-Phased Approach for Facilitation of Access to Financing Khaled F. Sherif ECSPF February 9, 2004

21. Phase I: Pre-start and Startup • Facilitation of microlending development – incentives for reputable MFIs or microfinance banks to open a branch in the town • Facilitation of microleasing for financing of equipment purchase (acquired asset will be used as a collateral) • Offering the opportunity for the receipt of lump-sum unemployment benefits which can be used as a start up capital

22. Phase II: Development • Financing needs: • Equity • Occasional debt • Financing vehicle: • Early Stage Private Equity Fund • Fund Characteristics: • Closed-end • Target IRR 25% • Exit 3-5 years • Professional venture capital fund manager • Local project sponsor share ownership scheme

23. Phase II: Fund Capital Structure • Liabilities • Equity: • Private sponsor and institutional investors (domestic, foreign) • IFIs • EU Phare Grant (local project sponsors ownership scheme) • Leverage: • Mezzanine debt: IFIs • Senior debt: IFIs • Assets • Controlling equity shares in local start-ups (up to 100%) • Occasional debt (max 15% of fund portfolio)

24. Phase II: Local Sponsors Ownership Scheme = Equity Investments from EU Phare Grant in Start-ups Shares for Local Project Sponsors

25. Phase III: Growth • Financing needs: • Debt • Some equity • Financing vehicles: • Second Stage Private Equity Fund • Bond Bank backed by Partial Credit Guarantee Facility with IFI

26. Phase III: Second Stage Private Equity Fund • Investment Strategy: • Buy-out from Early Stage Fund • Mixed portfolio: • Investments in listed securities • Long-term equity positions in local corporations (10 years +) • Exit through sales to strategic investors or IPOs • Fund Characteristics: • Open-end • Target IRR 15% • Professional second-stage fund manager

27. Phase III: Fund Capital Structure • Liabilities • Equity: • Private sponsor and institutional investors (domestic, foreign) • IFIs • Leverage • Mezzanine debt IFIs, institutional investors • Senior debt IFIs, institutional investors • Assets • Listed securities (70%) • Controlling equity shares in local corporations (30%)

28. Phase III: Bond Bank • Buys bonds issued by local corporations • Pools local corporation bonds and sells asset-backed securities to institutional investors through Special Purpose Vehicle (SPV) • SPV bonds backed by Partial Credit Guarantee Facility with IFI

29. Government Counter- Guarantee Reimbursement World Bank Guarantee Fund Base Fee Guarantee Top-up fee Partial Credit Guarantee Facility Guarantee Payment Fee Enterprises BondBank SPV InstitutionalInvestors Phase III: Partial Credit Guarantee Facility

30. Strategic Benefits • Bridge between experienced venture capital fund manager and local project sponsors • Interest of local project sponsors in uplift • Bridge between institutional investors (pension funds, insurance, mutual funds) and local start-ups • Lowering the cost of borrowing for growing companies in the region

31. Education: Investments in Human Capital • The educational component involves two key areas: • Education; and • Retraining • The strategy will emphasize implementing well-conceived, government-led reforms and policies to support the establishment of a sound educational system for the younger generation

32. Education for the Future • An emphasis would be made on general education, and possibly life-long learning • In addition to this, strengthening of institutions outside the normal education system would target: • Technology centers; and • Knowledge sharing among business associations • Education through retraining of the highly specialized workforce (or the providing them with specialized training in an additional field which has potential for growth)

33. Infrastructure • Improvements in infrastructure will contribute meaningfully to long-term economic growth by: • easing physical access to the region • ensuring quality utilities and establishment • opening the economy to outside regions to facilitate trade • improving livability through improved public services, transportation and housing

34. Infrastructure • The approach should be oriented towards establishing a development strategy that supports an improved infrastructure, and not merely to the restoration of the infrastructure to its previous state • An analysis would be made of the most pressing needs within each community and the development strategy would be completed accordingly

35. Environmental Restoration • In the majority of instances, the natural environment within the targeted regions is severely damaged as a result of over-exploitation of natural resources and excessive pollution arising from industrialization • Reclamation and rehabilitation needs would be prioritized and corrective investments made

36. Environmental Restoration • The Bank could assist local authorities and lead development agencies through technical needs assessments and prioritizations as well as through co-financing of environmental clean-up efforts

37. Policy Reform Improvement of Public Services Opening the Region to Neighboring Economies Addressing Urban Decay Key Elements of the Bank Strategy Private Sector-Led Growth Education and Retraining One-Company TownRehabilitation EnvironmentalRestoration InfrastructureRehabilitation

38. One Company Town Rehabilitation:Development Through Private Sector-Led Growth The One Company Town Model- Pilot Project:The Jiu Valley Region, Romania Khaled F. Sherif ECSPF February 9, 2004

39. The Case for Jiu Valley • The Jiu Valley Region (JVR) has long-operated under a mono-industrial structure, with the coal-mining industry driving the region’s economic development • In spite of its significant decline, the industry continues to account for: • Over half of the total wages; and • One third of the total value-added creation in the region • In total, over three quarters of the region’s population is financially dependent on the sector

40. The Case for Jiu Valley: Decline of the CNH • The National Hard Coal Company (CNH), operating out of Jiu Valley, maintains a near monopoly of the Romanian domestic hard coal market, with a market share of 95% • The CNH’s poor productivity in recent years has led to decline in profitability and competitiveness of the firm and industry at large • The region’s decline has been compounded by the fact that the reliance on the CNH has left: • the business environment, infrastructure and culture underdeveloped • management and financial resources scarce

41. Government Intervention • The region’s substantial decline led authorities to implement unsustainable policy interventions, injecting resources into the area, which effectively maintained an unprofitable industry • In turn, this has created an environment of: • Higher-than-average levels of pay for those participating in the industry • Dependent behavior of the community and supporting businesses as a result of ineffective policies • Lack of competitive pressure, stemming from a reliance on Government subsidies • Elimination of local community involvement as a result of the paternalistic approach which has bee undertaken • These factors, combined with falsely-elevated wage rates and the region’s geographic constraints, new industries and educational and business associations to support them have failed to emerge.

42. The Case for Jiu Valley: Current Situation • In addition to the severe state of economic affairs and widespread poverty within the region has been accompanied by a substantial decline and deterioration in: • The Local Private Sector • The Financing Market • The Natural Environment • Infrastructure • The Business Environment • Labor Market Resources • The Housing Sector • This has been of great concern to local and international policy makers and is compounded by the mining region’s high political visibility

43. Strategy for Bank Intervention in the Region Bank Objectives Identifying and implementing key reform issues for the development of a long-term sustainable framework for efficient policy formulation Establishing and implementing a comprehensive framework for long-term sustainable growth in the region Bank Role Aiding in the design of a detailed development strategy and accompanying action plans in line with the Government’s broader national strategic aims Co-financing elements of program and attracting additional resources to support the project objectives Providing technical assistance and the employment of best practices to facilitate capacity building and plan execution in the region Closely monitoring implementation to ensure successful achievement of development aims and to lay the foundation for implementing similar project in other ‘One Company Town’ Regions throughout ECA

44. World Bank Development Strategy • The Bank will undertake a four-pronged approach, grounded in core objectives to remove barriers to growth and establish, or re-establish, institutions and resources necessary for growth • The strategy will incorporate the following components, which will take place simultaneously through a staged approach: Strengthening the Business Environment and Human Capital Restoration of the Natural Environment Competitive Growth in New Industries Reform of Public Sector Management Investing in Infrastructure

45. World Bank Development Strategy • Strengthening of the business environment to: • Endure the restructuring of the existing hard coal industry; • Identify and encourage growth among new industries; • Remove current barriers to entry for new firms; and • Mobilize human capital toward new industries • Reform of public sector management to: • Ensure strong leadership for a complex, coordinated, multi-sector strategy; • Guide public relations to drive intra-regional support for development agenda and to improve image of Jiu Valley; • Improve spatial development and land use through effective urban planning and management; and, • Offer poverty alleviation and social assistance during time of significant transition

46. World Bank Development Strategy • Restoration of the natural environment for: • Promotion of potential growth in tourism; • Limitation of liability to encourage investment by private enterprise; and • Improving the quality of life of people • Investing in infrastructure to: • Foster the growth of new industries; • Open the JVR to outside regions and economies; • Improve livability; and • Demonstrate immediate improvements to bolster support for he development program

47. Key Elements of Bank Strategy • Involvement of multiple sector units in ECA: • Private and Financial Sector • Infrastructure • Environment • Mining • Human development • Education • Pursuing related TA assignments, cutting across various sectors, as opposed to a single complex programmatic operation • Promoting private-public sector partnerships

48. Project Implementation Priorities Communicating locally, regionally, and internationally, challenges and plans for Jiu Valley regional development and presenting Jiu Valley as a priority for EU regional funds Building and improving the necessary infrastructure Accelerating reform of the hard coal industry Implementing participatory approaches to define and shape the development plan and future of the valley Identifying champion industries to enhance the prospects of, and accelerate, strategic reforms (e.g. tourism, IT) Leveraging more advanced areas in the country (e.g., Cluj or Timisoara), and communities of origination of Jiu Valley residents

49. Project Implementation Priorities Training local government, business, academia and the citizenry for purposes of community building, skill transfer, and lowering dependency levels Providing incentives to youth to enhance their educational skills, and providing linkages and opportunities for application of such skills within Jiu Valley region Providing social services, (e.g., health, pension, and heating subsidies), but with direct line of support to local institutions, as opposed to redistribution by CNH Employing active labor schemes toward the refurbishment of housing and the local infrastructure Reclaiming environmentally damaged areas released by the mine for purposes of advancing tourism and other champion industries Resolving land ownership issues following original expropriation

50. Critical Success Factors • Design and ownership of the development strategy, as well leadership responsibility, must reside with regional authorities and designated lead development agencies • Coordination and cooperation of Government, business houses, educational institutions, civil society and donor agencies