Output Based Fund for improved infrastructure investment

1. Output Based Fund for improved infrastructure investment A strategy for targeted, transparent and sustainable investment in the water and wastewater in Honduras Cledan Mandri-Perrott Fiduciary Forum (March 25-28)

2. Sector Background & current challenges • GoH has massive shortfall in investment for water sector • Problem is: • Money is being spent in the sector but not effectively • Disparate approach to investment not linked to overall strategy • Output Based Aid vs Output Based Disbursement: • Aid = non-reimbursable • Link to output usually as a proxy to a service • finance or subsidize a portion of the investment or required user fees which cannot be covered by users on their own (hence the “aid” component of OBA) • OBA the payment based on outputs delivered is explicitly linked to a contract with a firm that invests or operates the infrastructure investment or service • Bank strategy for country includes: • Use ‘Plan Nacional’ to further dialogue • Piloting an output based strategy 2

3. Proposed solution: use of an OB Fund • Output Based (OB) Fund for infrastructure development (targeting rural and peri-urban communities - greenfield and brownfield projects) • Outputs: pre-agreed outputs for example connections to water or sewerage network (average is 6 people per hh connection or water kiosk) but linked also to service obligations and sustainability • Targeting: geographical, poor communities and households whose income is $46 per month or US$2 per day • OB Fund: • Targeted approach to project portfolio • Municipalities have to develop project(s) to help meet MDG • Government intention to scale up to all sector investments 3

4. Mainstreaming Output Based ApproachesWhere are we today? • Output Based (OB) Fund created • 12 preliminary projects identified • 2 to 3 fully eligible (first disbursement in two weeks) • 5 to 7 in next two months • OBA: Output Based approach to subsidies to the sector • OBD: Output Based approach to loan instruments or sector disbursements/transfers 4

5. Characteristics of the Output Based Fund - 1 • Fund has: • Specialized technical, financial and management staff under the Ministry for Development (FHIS) • Funds specially designated for water and wastewater • Funding provided through: • Global Partnership of Output Based Aid (GPOBA) = US$ 4.4 M for subsidy) • GoH = US$1 M (for bridge funds) • OB Fund has TA funds available for refinement of sub projects 5

6. Characteristics of the Output Based Fund - 2 • Projects evaluated on six monthly period. Sub projects evaluated and ranked as they are received for that corresponding period • Targeting: geographical, poor communities and households whose income is $46 per month or US$2 per day • Payments by OB Fund are: • Complementary i.e. leverage Municipal, public, donor, IFI funding • Will never exceed 60% of total capital cost • GPOBA per capita subsidy ceiling based on percentage of WHO ref US$140 water & US$160 WW: • US$90 (64%) per capita for water services, and • US$96 (60%) per capita for wastewater services 6

7. Functioning of the Fund 4. Disbursement application (including initial application) GPOBA FondoHondureño de Inversion Social Upfront funds for ‘bridge loans’ to Public Implementers 1. Disbursement OBA Facility FHIS Designated Account (housed in FHIS) 2 (a). Payments to third parties Loan re payment 2. (b) Funds to support project preparation 3. Subsidy payment Dedicated Staff Technical consultants & suppliers Private Implementer Public Implementer Upfront capital contribution Independent Verification Agent Verifies and issues opinion on outputs reached Key of flow of funds: Subsidy payment Other funds 7

8. How to choose what projects to finance -1 1: Pre-Identification: 2: Sub-Project Assessment/ Applications 3: Project Appraisal & Ranking Using per capita Subsidy Amount, ENPV Ranking 1: US$ subsidy per number of people benefiting Ranking 2: Unit Cost Efficiency Index Ranking 3: Investment Efficiency Index Index is based on a comparison of investment, operation and subsidy per capita against maximum ceiling of US$90 for water and US$96 for wastewater Index is based on relating financial NPV of cash flows to total investment 8

9. Operationalising the Fund - 1 • Output-Based Payments: • Municipalities will receive ten percent (10%) upon signing of Performance Agreement • A further sixty-five percent (65%) will be paid upon a verified working connection • A final twenty-five (25%) percent will be paid after six months of bills being sent and paid by each new connection 9

10. Operationalising the Fund - 2 • Performance Agreement regulates roles and responsibilities of sub project implementers and OBA Facility • Private operators provide own bridge funds (directly or through commercial credit) • Bridge loan provided by FHIS for sub project implementers with low/no credit • Municipality takes on pre-financing risk: • Obtains 10% from OB Fund upon signature of Performance Agreement • Can obtain additional funds required through a bridge loan from FHIS • Repays loan through OB Fund payment or if in default as a retention to FHIS sector transfers • Regulator, through an Independent Consultant, provides verification of outputs 10

11. Challenge: Pre-financing risk i.e. money needs to be spent prior to output being verified and paid Possible solution: Pre-financing options: A contribution by FHIS of US$1 M as bridge loan to assist with pre-finance to project implementers with low financial capacity Public operators – soft loan guaranteed against future sector transfers Private operators – self funding or commercial bank guaranteed through a pledge of Performance Agreement or step in rights for banks Public operators – commercial loan guaranteed by Municipality or State Challenges in developing an Output Based Fund 11

12. Challenge: 2. Implementers capacity to bring ‘good’ projects to OB Fund 3. Incentive to maximise connections with lowest subsidy Possible solution: 2. TA for Municipal Capacity Building and to be used at the discretion of the OB Fund 3. Ranking methodology must: ENPV (-) and FNPV (+) as initial filter i.e. not eligible Incorporates max ceiling (ceiling still deemed necessary given peri urban and rural schemes being developed) Challenges in developing an Output Based Fund 12

13. Concluding remarks • Setting up a fund takes time and challenges include: • Implementation capacity eg training of suitable staff • Shift in paradigm from input to output • Initial sub projects need to be identified and test ranking methodology • Design and structure needs to ensure sustainability • Significant effort needs to go into developing the implementing rules for the Fund • Need to assess readiness of financial management reporting of unit costs and outputs delivered • Under OBA / OBD few prior review decisions, thus need to ensure project’s underlying fiduciary systems are strong and auditable subsequently • OB Fund can become the catalyst for: • Uniform funding approach to the sector (ideal for donors which want to see results and have little implementation capacity) • Possible scale-up in the future • Not all projects will be eligible therefore need a special strategy to deal with these 13

14. Output Based Fund for improved infrastructure investment A strategy for targeted, transparent and sustainable investment in the water and wastewater in Honduras