Document of TheWorldBank FOROFFICIALUSEONLY ReportNo: 38776 PROJECTPAPER ONA PROPOSEDADDITIONAL FINANCINGLOAN INTHEAMOUNTOFUS$29.0MILLION TO THE UNITEDMEXICANSTATES FORA SAVINGS & RURALFINANCE(BANSEFI) PHASEI1 ADDITIONAL FINANCINGPROJECT February 22,2007 Latin America and Caribbean Region Colombia and Mexico CountryManagement Unit Sustainable Development Sector Management Unit This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. CURRENCY EQUIVALENTS (Exchange RateEffective: February 13,2007) CurrencyUnit = Peso Peso 1 = US$O.O91 US$1 = Pesos 11.00 FISCALYEAR January 1 - December31 ABBREVIATIONS AND ACRONYMS BANSEFI Banco del Ahorro Nacional y Servicios Financieros, Institucidn de Banca de Desarrollo, S.N.C. (National Bank for Savings and Financial Services) CNBV Comisi6n Nacional Bancariay de Valores (National Banking and SecuritiesCommission) SCI Savings and Credit Institutions SDM Social Development Model IPDP Indigenous PeoplesDevelopment Plan IT InformationTechnology Vice President: PamelaCox Acting Country Director: MakhtarDiop Sector Director: Laura Tuck Task Team Leader: HarideepSingh MEXICO Savings &RuralFinance(BANSEFI) Phase11Additional FinancingProject TABLE OF CONTENTS Page I IntroductoryStatement........................................................ ;....................................1 I1 BackgroundandRationalefor Additional Financing I11 .................................................................................................... ..............................................1 ProposedChanges IV Consistencywith CAS V Financialand EconomicAnalysis o f Cost Overrun ..............................................,.............................................677 ................................................. VI ExpectedOutcomes ..................,.................................................................. ..........10 VI1 Additional BenefitsandRisks VI11 FinancialTerms and Conditionsfor the Additional Loan .......................................................................................11 ............................. 0 1 MEXICO SAVINGS& RURALFINANCE (BANSEFI)PHASEIIADDITIONAL FINANCING PROJECT PROJECT PAPER LATINAMERICA AND CARIBBEAN Date: February 22,2007 TeamLeader: Harideep Singh Country: UnitedMexican States Sector Director: Laura Tuck Project Name: Savings andRuralFinance Acting Country Director: Makhtar Diop (BANSEFI)PhaseI1AdditionalFinancing Project ID: P103491 Environmental Category: C Borrower: Government o fMexico, UnitedMexican States ResponsibleAgency: BANSEFI, Mexico Does the restructuredproject or scaled-up require any exceptions from Bankpolicies? [ ]Yes [XINo The AdditionalLoanis to finance cost escalation Have these beenapprovedbyBank Management? Not Required [ ]Yes IIN0 I s approval for any policy exception sought from the Board? [ ]Yes [XINO RevisedProject Development Objective: Since the Additional Loanis to finance cost escalation, the original development objective remains unchanged: The project will assistthe Government of Mexico in strengthening the Savings and Credit Institutions sector with entities which are compliant with the Popular Savings and Credit Law, financially viable, operationally effective, managerially improved, technologically upgraded, andhavingan enhancedlevel of outreachand access to financial servicesby the underservedMexicanpopulation. RevisedProject Description: The project description remainsunchanged, andcontinues to have the following four main components: (a) strengtheningsector institutions; (b) developing atechnology platform; (c) monitoringand evaluation, studies, and disseminating information; and (d) project management. Does the restructuredor scaled-upproject trigger any new safeguardpolicies? Ifso, indicate which one. TheAdditional Loanisto finance cost escalation. Sincethere arenochanges to theproject components or activities, no new safeguardspolicies are triggeredbythe Additional Loan. OD 4.20: Indigenous Peopleswas triggeredby the originalproject and continuesto remain applicable. [XILoan [ ]Credit [ ]Grant [ ]Guarantee [ ] Other: For LoanslCreditslOthers: Total Bank financing (US$m.): 29.00 Proposedterms (IBRD): Fixed-SpreadLoan(FSL) GracePeriod(years): 5 Years to maturity: 15 Commitment Fee: 0.75% per annum onundisbursed loan Front-end fee (FEF)on BankLoan: 1.OO%; Paymentfor FEF:Capitalize from L nProceeds Initialchoice of Interest-ratebasis: Maintainas Variable Type of RepaymentSchedule: [XI Fixedat Commitment, with the following repayment method: Level [ ] Linkedto Disbursement ConversionOptions: [XI Currency [XI Interest Rate [XI Caps/Collars: Capitalize from LoanProceeds InternationalBank for Reconstructionand I 95.61 I 8.89 I 104.50 I. IntroductoryStatement This project paper seeks the approval o fthe Executive Directorsto provide an additional loan inan amount o f US$29.0 millionto UnitedMexican States, Savings andRural proposed additional loan would help Finance(BANSEFI) PhaseI1Project Projectthe PO87152; Loan 7240-ME). The dinance ID:cost overrunrelatingto existing project activities. Partnership Arrangements: None. 11. BackgroundandRationalefor Additional Financinginthe amount of US$29.0 million Backmoundof Bank Assistance. Assistance to the rural savings and credit sector consists oftwo Bank-financed projects which arebeingimplemented inparallel. Boththese loans, representing government investment to strengthen the sector, are beingadministered and managedby BANSEFI. (b) Savings andRuralFinance (BANSEFI)PhaseI1Project (project cost: US$159.7 million; Bank financin US$75.1 million) -Phase 11: This project was conceived based on the challenges that the C Isector encountered resultin from the experience relating to the 5 implementation both o f the new law overning the SC sector, the prudential regulationthat K CNBV issued for this Law, andthe P ase Iproject. These canbroadlybe grouped as fl follows: 9 ahigherthanexpecteddemandfor thetechnical assistanceprogramunder the first pro ect to assist entities with certification; 9 aneed f'or second generation legal requirements to be put inplace: accounting, > deposit insurance, regulatory reporting, amon others; a need to address the longer term financial via %ility o f assisted entities inthe sector: identifying solutions to reduce transaction costs, enhance incomes, improve management and ortfolio quality, and sector integration, particularly throughtechnology upgra 0e; and 9 alogicalfollow-up to reinforceentity certificationwithinitiativesto achievethe objective o f dee ening sector enetration to reach out to the underserved population, part y through tec ology andpartlythrough a portfolio o f financial P Kn IThe consultant carries out the diagnostics and classifies the entity into one o f the four groups: A: Institution ready for certification; B:Institutions that will have to implement a stabilizationprogrambefore they will be eligible to apply for authorization; C: Institutionsthat require overhaul and financial support to strengthentheir capital. This includes institutions that will require a merger, spinoff, or major reorganization process; and D:Institutions that are incapable of meetingthe minimumrequirements for certification, andwill have to be liquidated or dissolved. 1 products which is responsive to the needs o f the underserved population, including field-testing some products for refinement and wider adoption. The PhaseI1project complements the first project with its continued focus on: (i) providing worst case scenario, for liquidation ,including creating a deposit protection fund; (ii) specialized technical assistanceto t$e institutionsto readythem for certification, or ina trainingsector staffinkey areas of accounting, risk management, credit analyses, governance, management,andtechnology platform-relatedaspects; (iii) developing capacity within the sector for regulationand auxiliary supervision; and (iv) carrying out sector wide studies, and supplementing the M&E system installedunder the first project to pilot technology plat inform sector develo menttested Form policy. Its central focus, thou ,closing under the first project. 8e is "refining and scaling-up" the date of theproject is July 31,2009. overrun, predominantly inthe technology the Governmento fMexico has requested to finance the cost escalation o f US$34.8 milliono f this phase. Details of the Phase I1Loan. The original Loan Agreement inthe amount o f US$75.50 millionwas signed on October 1,2004, andbecame effective on December 9,2004. Subsequently, due to a waiver o f 50% o fthe US$755,000 Front-end Fee, an amount o f US$377,500 was canceled. The revised loan amount i s US$75.12 million. The current closing date is July 31,2009. About US$63.3 million (84% o f the loanproceeds) have already been disbursed within less thanhalfo f the project life. Project Development Objectiveas (PDO). The PDO o f the Phase I1project as indicated in the original Lo-anA eement issector Savings and Credit Kstitutions follows: "To assist the Borrower instrengthening the with institutions which are compliant with the Popular Savin s and Creditupgraded, sound, andtec Bnologically Law, financially viable, operational1 effective, managerially andprovidingan enhance levelof outreach and B access to financial services by the underservedMexicanpopulations". The PhaseI1project has four key components to achieve the PDO: (a) Providing technical assistance to institutionsto ready them for certificationunder the Law, includingtheir overall financial, operational andmanagerial upgrade; (b) Developinga technolog platform to augment incomes, reduce transaction costs, deepen outreach and access to nancial services; (c) Disseminating information to market the financial B products offeredby the rejuvenated sector institutions; and (d) Project management. The project development ob'ective, design and scope continueto be relevant, andremain unaltered for the purposes o ithe Additional FinancingLoan. Performance (IP) ratings, However, since the Additional Loanis specifical Phase11Project Performance. Bothprojects have satisfactory PDO and Im lementation Py linked up with the PhaseI1project, performance o fthis project only has been summanzed inthe paper. The project i s about two ears into implementation. The activities carried out and the intermediate outcome in d!icators as recorded inthe end-October 2006 ISRshow that the project implementationhas thus far been consistent with the expectations set out inthe The consultant carries out the diagnostics and classifies the entity into one o fthe four groups: A: Institutionready for certification; B: Institutionsthat will have to implement a stabilization programbefore they will be eligible to apply for authorization; C: Institutionsthat require overhaul and financial support to strengthentheir capital. This includes institutions that will require a merger, spinoff, or major reorganization process; and D:Institutionsthat are incapable o f meeting the minimumrequirementsfor certification, and will have to be liquidatedor dissolved. 2 Pro ect A praisal Document, that the activities are clearly focused on achievingthe PDO, an that t e PDOcontinuesto remainrelevant andwithinproject reach. Already 12 B K federations have been certified; one Confederation (grouping 6 authorized federations) hasit's filewithCNBV for certification. At SCIlevel,l8 entities havebeencertified, 16 entitieshave their files with the regulatoryauthority for certification, and close to another 125 areready for certification. The technology platform is alread operational in 10 artici ating entities, and all 509 BANSEFIbranches. Additiona Yly,about 100entities Eave aKeady indicated their desire to participate inthe platform. A synopsiso ftheproject performance is providedbelow: The ISRratings over the most recent twelve months, includingthose for overall implementationpro ess (IP) andits constituents, project components, and PDOhave As o fJanuary 31,2007, about twoconsistently effectiveness, and within less feen "Satisfactory" or higher. than the half lifeo fthe pro'ect, U SP63.3 ears from million 84% o fthe net Loan proceeds o fUS$75.12 midionhave already been disbursed, well ahead o f the disbursement projectionsat appraisal. The projecthas hadno fiduci The project i s categorized "C" om the environmental viewpoint, requiring no assessment o f environmental impacts or preparation o f an environmental Y(financial or procurement) issues. managementplan. The project i s inhllcompliance with this requirement. &mplified OP 4.10 (Indigenous Peoples) is the only safeguard polic that i s tri gered. bDPs havebeenpr ared for the seven identifiedmarginal regions, and are an input into the SociaTDevelopment Model(SDM) which usesconsultations with identified groups to ascertain their perceptions on savings, credit, and mechanisms to im rove their participationinthe pro ect. The output o f this SDMisto beuse bythe technical assistance consutants to formulate 2 i appropriate strategy for those institutions that are ready for certification and need assistance specifically to deepen outreach andwiden access to financial services. The focus o f the project duringthe first halfo fits duration is on getting entities certified. Activities under this sub-component will be x undertaken possibly startingJanuary 2008. All legal covenants, includingthe two ke covenants impactingonproject im lementation, one which requires BA SEFIto monitor the performance o f tec team withservice Knical providers, and the second to maintain a project management appropriate skills-mix, are infull compliance. Rationaleand Reasons for the Borrower to Request the Additional Loan. All four components indicated above, which are crucial to the achievement o f PDO, are ex ected to experience a cost overrun, but would be completed within the original project c Posing date o f July 31, 2009. Ofthe US$34.8 million cost escalation, the Information Technology Platform accounts for US$26.2 million (75% o ftotal). The causes o f cost escalation are providedbelow. Component 1:Technical Assistance to Institutions to assist them with certificationby the regulatory authority (CNBV) US$6.7 million (Bank share: US$5.6 million). The Ley de Ahorro y Credit0 Popular (LACP) provided a four year period(June 2001 through June 2005) to the sector institutionsto demonstrate financial viability and compliance with the legal re uirements, to subject themselves to regulation and su ervision by the nodal agencyTCNBV), to urchase deposit insurance, and to be affi iated with, or su ervised I? by, an authorized fe eration as some keypre-requisites for certificationby C BV. a Np The project focuses on this ke as ect o f certification and supports an assessmento f institutions to determine whet er t ese qualify for certification, requiretechnical i l R assistance (TA) to strengthen or restructure them for certification, or need to be 3 liquidated, basedon aset of agreed evaluationcriteria. The project uses expert TA providers to readythe institutions for certification or liquidation. Duetothe difficulties encounteredinthe certificationprocess(heterogeneity amongthe sector entities, varying levels of information availability, inadequate governanceand internal control systems, a rangeo f accountingsystems beingdeployed, needfor accountingmigration, valuation of assets, move towards an inflation-based accounting system, corn liance with various financial and rudential norms, and auditing, among others), ind y 2005, the overnment extende Bthe July 2005 deadline for certification by3.5 years, upto Decem er 2008, but only for thoseinstitutions which, byDecember % 2005, were found eligible to remaininthe TA basedon a revised evaluation methodology. Those institutions not found to for continued participation in the program for certification were requiredto their deposit operationsstarting January 1,2006. This notification resultedin: (a) the TA consultantshavingto devote closeto six months from their existing TA assignmentperiodto establishthe eligibility of the institutions to continue inthe program; and (b)to needto extendtheTA assignmentssincethe law requiresthe institutions thebe offered technical assistanceduring this extendedperiod (both for certification andliquidation). The governmenti s obligated to offer TA up to theDecember31, 2008 certification deadlinedate. These TA assignments also extend to federationsto which the institutions are affiliated. These federationshave an obligation to work closely with the TA providers to preparethe required documentationfor certification. The federation managementshave to undertake auxiliary supervision through their authorizedSupervision Committees for member institutions that are already certified andreport their performance and compliance with law to the re latory agency (CNBV). There is also aneedto provide technical back- stopping to t 8"eir Supervision Committeesto ensure highquality supervision. Component 2: InformationTechnology Platform US$26.2 million (Bank share: US$21.8 million). The Technology Platform is crucial component ofthe overall sector reform processinthat it provides BANSEFIand the institutions with a com rehensiverangeof computer-basedtools to: (a) comply with the new regulations at a re Patively low cost; (b) facilitate andsupport a wide range ofproduct offerings such as low cost remittance services, card-based services, and deliveryofgovernmentprograms such as OportunidadesandProcampo; and c) su port day-to-day o eration andmanagement decision-making leading to profitab e an sustainablegrowt of the sector institutions. i B K The technology platform i s a home-grown solution to addressthe regulatory, accounting, management, andr orting requirementsofthis sector, andto offer new financial products(such as de it cards, credit cards, Em, andATM services, among others). s: From the outset, the original cost estimateshavebeenviewed as beingsubject to change with evolving knowledge as to the availability of suitable, safe, secure, cost effective and practical technical solutions. For example, it was not possible to estimatewith any certainty the specific technical solution and coststhat would attach to the provision of the essentialdatacenter services, including even the location ofthe data center. A second relatesto the amount of calendar time andpractical support that andusethe new roducts and services. This amodernand compre ensive rangeofbanking, K will not assure the delivery o fthe intended Initial experiencealso showedthat a muchmore substantialeffort, than originally planned, is required to assist managementand staff at the participating entities to institutionalize the newmechanisms. Inaddition, there were issuesrelating to the performanceofthe technology provider (IBM)which were resolved satisfactorily, 4 following BANSEFIandthe Bankescalatin theseto the corporate office o f IBM. Having surmounted most obstacles, the plat form today i s operational andis already supportin8 abasic financial intermediary institution's products and operations in 10 participating entities and all of the 524 BANSEFIbranches. A realistic determination o f the costshas now beenmade. Factors contributingto a cost overrun can be groupedexternal BANSEFIhasbeen alert to the roblems of cost uncertaintiesquality beenmonitoring this component very closely wit K assistancefrom an andhascontrol consultant. into three broad categories: (a) System complexi :the initial state o fthe systemlittle not beperceived and available to implement changes, dep oyment inthe diverse institutionswas conceived precise y by the technolo P Yproviders, coulddocumentation turned technology provider faced considerable dif out to be more complex than anticipated re uiringmore time, andthe 'I.icultyinrecruitingspecialists with (b) Afditionalindifferent ap ropriatefunctionalrequirements: numbers; skills-mix inthe requiredthese Loperation currencies, card platform mode), andnew product emanated from standardproducts nctionalities (inter-institutional money transfers, hand-heldsystem interface with the platform); and (c) Changes in configuration: moving from the original three-tier to two-tier architecture using front-end Citrix servers, the need for more mainframe capacit than original1 anticipated, and the need for additional equipment not ongina ly anticipated &ryptographic equipment for cards platform). r An additionaloutlay isnow requiredto makethe platformfully functional for small, medium, andlar e institutions, addressproblems relatingto newfinancial product offerings and arc itecture. Expenditures are quantified along four major areas o f a use/application: (a) Implementationo f additional requirements: the costs associatedto the implementation o fun lannedrequirements within ori nal contract scope of the technolog provi Bers, andthe costs associated wit the implementationo f i! new products Yservicesand/or features beyondthe original scope o fwork of technology providers; (b) Operatingcosts for 2006 and 2007: operating expenseso fthe production andthe cost o fpersonnel involved inthe management o fthe pro ect, t e environment for the institutionsthat use the system duringthe launch eriod;R deployment o fthe system ininstitutions, andthe management o ritheoperation andproductionenvironment; (c) Computing infrastructure: cost o f incremental ca acity requiredto maintain operation with roject's scale and volume, and a Bditionalinfkastructure derived from c Ranges inconfiguration; and (d) Additional administrative expenses: expenses related to the cost o fadditional external quality audits to support the management o fthe project. Component 3: InformationDissemination US$l.4 million (Bank share: US$l.2 million). ATMs, debit and cre With the technology latformbecomin functional, there will be a needto market the 8.itcard products t at the institutions will be offeringto the clients. a This will deepen the outreach o f the participating institutions to the poorer regions o f Mexico and also provide a revenue earning source for the technology platform to makeit self-sustaining inthe medium-to-longer term. The original loan provided for this activity butthe extension inthe deadline for certification requiredadditional funds to berealigned to dissemination o f legal informationto members to secure a "member-push" effect on entity managements to move expeditiously towards certification. 5 Component 4: Project ManagementUS$0.5 million (Bank share: US$0.4million). This amount i srequiredto finance some additionaltechnical staffwithin BANSEFIto monitor the technology componentmoreintensively. Project Components Original Project ProposedAdditional Total Revised (US$M) FinancingLoan(US$M) Project (US$M) - - Develo StrengtheningSector 13.00 6.70 19.70 Institutions 136.90 26.20 163.10 Techno ogy Platform Pinga I Information 6.20 1.40 7.60 , Dissemination ProjectManagement 1.90 0.50 2.40 Total Project 159.30 34.80 194.10 . Components Front-endFee 160.0534.80194.85 0.75 0.00 0.75 Prciject financingLoan Project (US$M) (US$M) (US$M) Borrower(United MexicanStates) 14.69 5.80 20.49 IBRD 75.50 29.00 104.50 ParticipatingEntities 69.86 0.00 69.86 TOTAL PROJECT 160.05 34.80 194.85 6 Accounting and Financial Management Arrangements.The World Bank financial management team has supervisedthe project implemented b BANSEFI. This su ervisionwork involvedensuring that the arrangements a1ow for an appropriate level r o transparencythat facilitates oversight andcontrol, while also supporting smooth P implementation. The Bank has beenreceivingsatisfactory audit reports for the project. The auditors' opinions have been"unqualified" andno major issues havebeen identified. Based on the su ervision work regional financial management team (LCSFM)! as concluded that the arrangements under the existingproject are commensurate under the proposed Additional Financingloan. Procurement Arrangements. An ex-post review o fprocurement activities relating to the project was completed inOctober 2006. The ex-post review conclusions indicatedthat BANSEFI's procurement team is well-prepared andhas enhanced their experience and understandin o fprocurement-related issues. The procurement s stem installed by BANSEFI a1 i:ows satisfactory monitoring, reporting, and record eepingo f transactions. f For the purposes o f activities relatingto the Additional Financingloan, it was concluded that: (a) the existingprocurement staffing arrangement andcapacity i s adequate; and (b) the existingprocurement system is acceptable. A global procurement planhas alreadybeenprepared for the original project, including for activities to be financed through the Additional Loan. Disbursement. The project will continue to usethe existingproject's Special Account and thedisbursement arrangements already ineffect under the project. Safewards Policies. The original pro ect is categorized "C" fiom the environmental viewpoint, re uiringno assessmento environmental im acts or preparationo f an i environmenta management lan. Since no changes to t e project activities are proposed, 1 R theinitial "C" environmenta category o fthe projectremains unaltered. . P OP 4.10 (Indigenous Peoples) i s the on1 safeguard policy that is triggered inthe ori nal project, andrelates to the pre aration o outreach and access strate fy entities wit8`IP membership. N o change to t s initiative is pro osed under the A itional Loan and the Ki fJfor ISDS for the original project remains unchange8. Sim lifiedIPDPs (alread prepared anddisclosed under the original PDevelopment Mode are to be T usedto formulate ap ropriate andthe Sociathat are ready for certification. The focus o fthe project uringthe a its duration i s on getting entities certified. Activities under this sub-component will be undertaken possibly startingJanuary 2008. IV. Consistencywith CAS or CPS The Additional Loan is to finance cost overrunrelatingto existingproject activities. N o changes are pro osed that would requirea reassessmento f consistency o fproject activities with t e current CASEPS. K V. Financialand Economic Analysis of Cost Overrun Financial analysis. This was carried out for the original loan, focusing s ecifically on the technolog platform investment, at three levels: (a) SCI entity and BAN EFIbranch 8 level; (b) ANSEFI ITBusiness Unitlevel; and (c) the project level. These constituted the more quantifiable andmonetary benefits o fthe project interventions. 7 The financial analysis was reviewed to ascertainifthe project remained financially viable with the cost overrun. Cost consideredfor the analysis consist o f ITplatform-related costs incurred on the pilot inthe BANSEFI PhaseIproject (US$25 million), the BANSEFIPhaseI1 roject US$65million), andthe anticipated cost escalationto be funded under the A ditiona Financing Loan(US$27 million). Most ofthe other B I assumptions havebeenretainedfrom the origmal analysis, but updatedto reflect the presentsituation. Some changesinthe assumptions for the present analysis include: (a) Considering the incremental cash flow from project interventions to start from FY2007; flows upto FY2013 are included inthe analysis. The ori nal analysis consideredcash flows from FY2004 through FY2010; an cr (b) Consideringincome fromBANSEFIITUnitto start fromoriginal throu$h (c) Reducin the marketpenetration from 0% to 45%for the sector entities FY2013, comparedwith FY2004 thou BFY2010 ofthe FY2007analysis; expecte to be certified. The mix o f entities is skewedmore conservatively d towards smaller single branch entities. The results of the revised financial analysesare presentedbelow. Implications on the incremental financial performance o fthe SCIentities and BANSEFI branches. This analysis compares the expected impact on the financial performance o f entities "with the revisedproject" and "without" it. The incremental ne?cashflow to the SCIs and BANSEFIbranchesresultingfrom the technology platform is estimatedat US$667 million over a sevenyear penod, from 2007 through 2013, clearly demonstrating thebenefitofthe technology platform. Implications for the BANSEFI IT Business Unit. The net cash flows for the BANSEFI ITBusinessUnitarerathermodestdueto theinitial attractmore entities which will helpthe plat suggestedby the consultant. A competitive ricing f!orm o The analysis indicates that the BANSEFIBusiness?Jnitwill enerate a surplus o f about US$44 millionup to, andincluding, 2013, andbecomes self-financingfrom FY2009 onwards. Implications at the proiect level. A ve conservative financial analysis basedon the technolog intervention investment un er the PhaseIandPhase I1projects, andthe 7 Additiona TFinancingLoan, was carried out comparing the incremental net cashflow ("revised roject" less "without pro ect" scenario) from the SCI sector (including BANSEF branches) andthe BANSjEFI-ITBusiness Unit. The outcomesare as follows: P With Revised Without Project Project Cash flows from SCIs/BANSEFI branches US$667 M US$307 M CashFlows from BANSEFIBusiness Unit US$44 M NIL Investment on the Tech Platform under this project (Phase US$117 M NIL I,Phase11,andtheproposedAdditionalFinancingLoan) Incremental CashFlow US$286 M NPV at 12% discount rate US$63 M T D D 32OL The above financial analysis i s aconservativeprojection (usingfull cost ofthe IT platform incurredunder PhaseIandI1pro ects, andpro osedunder the additional loan operations) inthe improvement of sectora r`financial I!ormance, per anddoes not consider benefits from managementandportfolio quality improvement, income from other technology-related products, amongothers. B. Fiscal Impact. The principal fiscal effectson government resourcesare associated with the sector upgradethrough this andthe on-going project, andwill now consist of: (a) 8 the one-time investment o fabout US$185 million by the government (US$60 million under PhaseIproject, US$90 millionunder this roject, andUS$35 millionthrough the proposed additional financin ) to be coordinate through BANSEFI; and (b) costs a associated with liquidationo funviable entities. Investment to upmade the sector. All activities under the project are expected to b e self- financingover time, and will requireno Government subsidies after roject implementation. The costs o f the technology platform wil Pbe paid by the users after a start-up period , BANSEFIwill recover a fee-for-service through a ricingmechanism ybridterminaMransaction formula. Itwill be responsible For the continuous upgrade inthe platform to beresponsive to the client needs through the pro osedcost recovery mechanism. The financial benefits accruing from the techno Pogy platform provide a strong incentive to the entities to sustain it well beyond the project period. Costs associatedwith liauidation o funviable entities. Payments will have to be madeto depositors o f SCIs which are not viable andneedto be liquidated. The Bank will not finance the bailout, andthe government has made the necessaryarrangements to ensure that the required funds are made available. Government estimates are that total liabilities o f the institutions approach andrepresents a fiscal management C. EconomicAnalvsis. Inadditionto the financial benefits at the sector level from the technolo y investment, and the fiscal benefits at the government level, there are a range ospecial %enefits will emanate from the technical assistanceprogram. Dueto the expected economicthat fotherdifficulties whichtechnical assistanceinterventions convey for uantitativeanalysis, impacts are assessed on a qualitativebasis at two evels: (a) 9 institutions (including SCIs and their organizations); and (b) clients. At the institutionallevel, the key economic benefits consist o fthe emergence o fa solid, financially sustainable, o erationally efficient, consolidated, legally compliant, and an effectively regulated SC Psector,as follows: o fthe client kccounts platform At the client level, thekey economic benefitsconsist ofdeepening outreach, reducing transaction costs, and economic empowerment o fthe sector clients, as follows: (a) the number o f clients o f the SCI sector i s expected to increase from 4 million in2003 millionto 9 millionin2008. Conservatively, accessto financial services will have increased from about 10%o fthe 35 millioneconomically 9 active PO ulation to about 30% byproject-end. Also, since a large increase in the meml! ership/accounts is expected to berecipients o fgovernment transfer payments, and a large proportiono fthis group is oor, expansion ofthe SCI sector will most likely draw large numbersfrom tKe low-income segment o f the population into the bankingsector; (b) reduction inthetransaction costs relatingto government transfer payments, remittances, andpayments for utilities and other services. Recipients without a bank account have to pay sizeable commissions to cash the transfershemittances. Maintainingaccounts as a result o fthe transfer programswill also helpinbuildingcredit history,makingit easier for clients to access loans; and (c) access to financial services as ameans o f integrating oor households into the nationaleconomy is clearly a poverty-alleviation too? This is particularly pertinent for the population inruralmarginal areas. Transforming informal, non-earningfinancial assets, andmonetizingeven a fraction of the savings held inphysical form would have clear benefits interms o f safety and return, andfinancial empowerment, makingthese groupsless vulnerableto economic shocks. VI. Expected Outcomes The Additional Loan i s required to finance cost overrun relating to existingpro ect activities. N o changes are proposed that would affect the roject's outcome in dicators and expected outcomes. A briefsummary o f the expecte 2outcomesi s recapitulated below: >> groject);Protection Ate east 45% marketpenetration for the Technolog Platform achieved (about Yosit Fundestablished for at least one Federation/ Confederation; > 155 o f the 335 entities inthe resulting consolidate sector adopt the platform); cy At least 90% o ftheparticipating entities show satisfactory outcomes in accountin and governance aspects internal controls), as evaluated inthe process of! auxiliary supervision imp \emented bythe CNBV andthe supervision > committees at federation level; and Clients o f the sector increased from 4 million to about 9 million. VII. Additional Benefits and Risks A key issueunder the Phase Iand I1operations is the liquidationo funviable entities, and early certification o f eligible entities. The liquidation process (as per law) involves identification o f such entities, an external consultancy to establish thejustification for liquidation, and initiatingthe process o f closure andpayments to depositors and creditors. Identification o f the entities has more or lessbeen completed. The consultancy to establish the cost-effectiveness o f entity closure versus o erationis underway inselect entities. An escrow account with contribution from the ederal and state overnments has P already been created to make payments. Following recent elections, C N V, the Mexican % regulatory agency for financial sector re lation and supervision, has set out a plano f action against those entities earmarked For closure o f operation from January 1,2006, but still continuingto operate outside the law. This rocess i s beingpursued by BANSEFI with CNBV, and is also being closely monitore by the Bank. B 10 Regardingcertification, BANSEFIhasbeenindiscussionwith CNBV to put inplace operational incentivesfor expeditious certification (for example, operation with debit transactionsthrough B cards, support through overnment&erograms, and higher commission for income RNSEFI). paceo f this processhas improved considerably since November 2006, and BANSEFIi s working with CNBV to take measures to avoid bunchingo f certification proposalsgiven the December31,2008 deadline. Risks associatedwith the above two actionswere identified at appraisalofthe PhaseI1 project and are reflectedinthe Critical Risks sectionofthe Project Appraisal Document. The Additional Loan is to finance cost overrun relatin to existingproject activities, and no changes are proposedthat would introduce any "a cfditional"fiduciary or reputational riskthat couldjeopardizethe achievementofthe project's development objective. VIII. FinancialTermsandConditionsForTheAdditionalLoan The financial terms for the Additional FinancingLoanwould be the same as for the original project loan. These would beas follows: Loan(FSL), with a 15 year maturity and a five year grace on undisbursedloan; 1.OO% of the US$29.0 millionAdditional from LoanProceeds, subject to applicable idI InterestRateBasis: Variable; e waiver; RepaymentSchedule:Fixedat Commitment, with the Level Repayment method; and (f) Conversion Options: Currency, InterestRate and Caps/Collars, all to be capitalized from LoanProceeds. 11