China Henan Green Agriculture Fund Project (P169758) Mid-Term Review Mission (Phase I) - Aide Memoire August 25 - 28, 2024 I. Key Project Data Key Project Data (as of August 2024) IBRD Loan No 9046 Project Amount, $ million 300.0 Board Date March 26, 2020 Amount Disbursed, $ million 58.5 Effectiveness Date October 14, 2021 Percentage Disbursed, % 19.6 Closing Date December 31, 2026 Project Age 52 months Ratings Previous Mission Current Development Objective S (Satisfactory) N/a1 Implementation Progress MS (Moderately Satisfactory) N/a II. Introduction 1. A World Bank mission 2 undertook the first phase of Mid-Term Review (MTR) for the Henan Green Agriculture Fund Project, which took place during August 25-28, 2024. The objectives of the MTR mission were to: (i) review the project implementation progress, and assess the project's operational performance, including the components, sub-components, and activities; (ii) review the fiduciary compliance (financial management, procurement, safeguards); (iii) review the project management performance and monitoring and evaluation activities; and (iv) discuss the actions that are needed for the project to achieve its development objectives and disbursement targets in the remaining period until the Closing Date on December 31, 2026. The mission raised a number of questions related to the revisions and restructuring of the project, including a possible partial cancellation of the project funds. However, no conclusive decision was reached during the mission and the MTR will be continued at a later stage, likely in October – November 2024. 2. The mission worked closely with the representatives of the Henan Agriculture Development Fund Investment Company Ltd (HADFIC) and the Green Agriculture Fund (GAF), Henan Provincial Department of Finance (PDOF) and other relevant experts to meet the mission objectives (List of People Met is attached as Annex 1). The World Bank team wishes to express their sincere appreciation to the counterparts met during the mission for the constructive and fruitful discussions. III. Summary of Project Implementation Progress and Outcomes to Date 3. Project Development Objective (PDO). The Project Development Objective (PDO) is to demonstrate the viability of financing green agriculture investments and foster the innovation and adoption of green agriculture standards and technologies in Henan. There are three PDO-level indicators to monitor the achievement: (a) Amount of externally leveraged investments in green finance (Amount (US$)); (b) Number of applications of replicable green agriculture technology solutions supported by the project (Number); and (c) Reduced GHG emissions from the application of green standards and technologies (MT) (Percentage). 1 This Aide Memoire, which is a Phase I of MTR AM and does not report on the final agreements and outcomes of the MTR, will not be providing the project progress ratings. 2 The Bank team was led by Ms. Sandra Broka (Task Team Leader /Sr. Agriculture Economist) and comprises Messrs./Mmes. Dong Yi (Sr. FM Specialist), Hu Song (Sr. Agriculture Specialist), Huang Xiaodan (Sr. Environmental Engineer), and Zang Yanling (Interpreter). 1 4. Although there is continued policy support at both national and local levels for green investments in agri- food sector, there are some operational obstacles in the project context to achieve the agreed PDO. At the national level, the National Development and Reform Committee (NDRC) together with the line ministries published the Catalogue for the Guidance of Green and Low-Carbon Transition Industries (2024 Edition) in February 2024. Henan Provincial People's Government issued several supportive policy measures to accelerate the development of the green food industry in the province in February 2023. However, the project-supported investments in green agriculture have been encountering very slow implementation, predominantly for two reasons: (i) a diminished appetite for investments from the private sector, which has been adversely affected by the economic downturn since theCOVID-19 pandemic; and (ii) the high cost of financing under the GAF, viz a viz domestic financing sources, which has constrained the development of new investment opportunities. Consequently, enterprises previously identified as potential recipients of financial services under the GAF are likely to seek out more competitively priced alternative financing options. 5. Overall Assessment of the Implementation Progress. The project's implementation to date has been slower than expected, for the reasons explained above. Under Component 1 (Green Agriculture Fund, US$285 million equivalent), the GAF withdrew around US$57 million (around 19 percent of the IBRD funding for the project) in May 2022. Since then, only around US$20 million equivalent (CNY140 million) have been allocated in two sub-projects (against the Results Framework target of 60) using convertible loan financing instrument (although GAF had identified 12 sub-projects, six of which had been no-objected by the World Bank). Further three of the no-objected sub-projects have been financed by other structural units of HADFIC which were able to offer lower interest rates to the client enterprises. This is a welcome development, which strengthens the case for the overall viability of green agriculture investments. It should also be noted that GAF has thus contributed to portfolio growth of HADFIC outside the World Bank-financed project, leveraged additional financing for green agriculture, as well as covered the costs of the GAF staff for preparing these additional investments for HADFIC. Regarding the project targets related to leveraging external funding for green agriculture finance, HADFIC/GAF have laid the groundwork for nine sub-fund frameworks, including the Zhongyuan Agricultural Grain Fund, Wenxian Sub Fund, Huaxian Sub Fund, Nanyang Sub Fund, Zhoukouzi Fund, Kaifeng Sub Fund, Xiangxiangyou Sub Fund, McKindi Sub Fund, and Xinzheng Sub Fund. However, none of these sub-funds have been actually established, with the costs of GAF co-financing being a key impediment. 6. Under Component 2 (Technical Assistance and Innovation Challenge, US$15 million equivalent), US$910,000 equivalent (about 6 percent of the component budget) have been withdrawn for technical assistance purposes. HADFIC has been proactive in building capacities for green investment cycle management, including staff training, domestic and international study tours, and leveraging external expertise for tasks such as developing investment pipelines, screening green investments, performing technical due diligence, making investment decisions, and evaluating the monitoring, supervision, and impact assessment processes of the sub- projects invested in. The Green Technology Inventory (GTI) has been established as a pioneering guide for the initial assessment of green agricultural investments. Alongside this, a robust management system for the Green Agriculture Fund (GAF) has been put in place, encompassing criteria for subproject selection, an appraisal process, and mechanisms for monitoring of green benefits and impact assessments. A database featuring approximately 1,200 enterprises within the agri-food value chain of Henan province has been compiled (including the 12 pipeline enterprises mentioned above). The first edition of the Innovation Challenge Fund (ICF) took place in the summer of 2021. While it succeeded in establishing a screening methodology for green agricultural technologies and solutions and facilitated networking among research institutes, potential investors, and investees, it did not result in follow-up investments for the ICF-winning companies mostly due to the high risks associated with the new ideas and start-ups participating in the Challenge. It is expected that, should the ICF be continued as originally designed, the outcome of future rounds would be similar, with the winners having too high of a risk profile. 2 IV. Proposed Changes to the Project 7. The Mid-Term Review (MTR) mission engaged in comprehensive discussions with the Green Agriculture Fund (GAF) team and the Provincial Department Finance (PDOF) to dissect the operational challenges hindering project execution. The mission identified several critical issues: (i) the high interest rate on the IBRD loan diminishes GAF's competitiveness in the capital market, with GAF's debt investment interest rate soaring to 7 percent, compared to a much lower 3.0 - 3.5 percent range from domestic financial sources; (ii) GAF is not able to collect the standard 2 percent management fee on the project-supported investments, and the eligible items under the incremental operating cost definition do not adequately cover the GAF’s operating expenses; (iii) some of the original selection criteria for eligible beneficiaries are seen as somewhat restrictive in the current context of low demand, such as the maximum exposure limit per investment of US$20 million equivalent and the exclusion of eligible supply chain partners; (iv) the subproject investment approval process at the GAF is cumbersome, involving 12 procedural steps and four meetings to make an investment decision, which is considerably longer than usual practices. 8. In light of the above findings and given that the project will close on December 31, 2026 (no extension is planned), the teams discussed a series of changes to be implemented as part of the MTR to facilitation project implementation in the future. After the first part of the MTR, the agreed changes are as follows: • A partial cancellation of IBRD funds has been agreed in principle, with the final amount to be determined during the second part of the MTR which is expected to take place in October-November 2024. It should be taken into account that the amount remaining under the project should be sufficient for its adequate assessment and substantiated project rating at the closing; • Cancellation of the ICF activity under Component 2 and reallocation of the related US$6 million budget for other project activities such as technical assistance and investment; • The cap size for a single investee company, previously set at US$20 million, will be increased to US$40 million. This provision is effective immediately and revised Project Operations Manual (POM) should be sent to the Bank as soon as possible; • Investments in State-Owned Enterprises (SOEs) that result in substantial green impact and follow World Bank safeguard policies may be considered for review. Each case will be evaluated individually and require a no- objection from the World Bank. This provision is also effective immediately and the revised POM should be sent to the Bank as soon as possible; • The operational efficiency of the green investment sub-project screening process will be enhanced by adopting a post-review approach for investment proposals that present low or moderate environmental and social safeguards risks. A prior review will remain a prerequisite for any potential investment that is classified with a safeguards risk above moderate, or in cases where a State-Owned Enterprise (SOE) is a participant in the subproject investment; • Incremental Operating costs for the GAF. The GAF have not been able to charge their customary management fees from the Bank-financed project. Instead, the project’s Incremental Operating Cost (IOC) definition covers a number of eligible expenditures which, however is not fully sufficient (for instance, staff salaries are not included as eligible under the IOC). Additionally, given the reimbursement-based approach that PDOF maintains, it has been very complicated for the GAF to recover any of the costs associated with the implementation the project from the project IOC funds. Given these complexities, HADFIC may consider financing the required TA activities and project management fees with its own funds and reallocate the associated IBRD loan to the investment component. This would apply to the entirety of the operating costs, including those spent since the start of the project implementation. 3 • Definition of agricultural green agriculture standards in the project results framework is not limited to national standard but also local standards, industry standards, group standards, corporate standards adopting international good practice or standards. • Responses on accounting issues. The mission discussed the issues raised by HADFIC regarding the accounting treatment of some project activities and agreed the following: o In line with the MOF decree #13 issued in 2000, interest earned during project implementation should be recorded in project ledgers and it could be one of financing sources to repay the IBRD loan. o Since HADFIC is using the investment revenues to finance some project management costs, it is recommended that the investment revenues could be treated as part of counterpart funds and recorded in project ledgers. o Due to the fluctuations in the exchange rate, it is noted that, in particular, the potential foreign exchange losses may have a negative impact on the consolidated financial reporting of the group company. Since these are unrealized earnings and losses, the mission recommends that this could be disclosed in the notes to financial statements for a better understanding of the consolidated financial reporting. • Adjusting the indicators of Results Framework (RF). The PDO remains unchanged, but revisions are necessary to the target value or indicators of RF given partial cancellation of project fund as part of the MTR. • Subsequently, revising the Project Operations Manual accordingly to incorporate the agreed and implemented revisions. V. Environmental and Social Safeguards 9. HADFIC/GAF have developed a comprehensive environmental and social risk management framework for green agriculture investment sub-projects, with technical guidance from World Bank environmental and social experts. This framework encompasses the establishment of an Environmental and Social Management System (ESMS), an Environmental and Social Commitment Plan (ESCP), and an Environmental and Social Risk Management System, complete with a detailed Operational Manual. The Project Management Office (PMO) has assigned three staff members to oversee risk screening, classification, verification, performance evaluation, and to ensure effective communication and collaboration in project-specific environmental and social risk management. These individuals are tasked with the biannual preparation and submission of the Environmental and Social Management Performance Report to the World Bank, with a total of four reports submitted thus far. 10. HADFIC/GAF have actively engaged in environmental and social training initiatives, participating in both in-person and virtual sessions facilitated by the World Bank in Shanghai and Chengdu. To bolster expertise, specialists have been recruited to deliver targeted training to the GAF PMO personnel and subproject managers. To date, these efforts have culminated in the training of 100 individuals across five distinct sessions. Furthermore, HADFIC has strategically built a cadre of seven environmental and eight social experts, ensuring a readily available pool of professionals to support project implementation on an as-needed basis. 11. So far, the project team has successfully completed environmental and social risk screenings for 67 subprojects, which includes detailed risk classification for 12 of these subprojects and thorough environmental and social due diligence for 7. Of the scrutinized subprojects, 6 have been granted a no-objection status by the World Bank. Furthermore, two subprojects under GAF's investment umbrella—Fengyuan Hepu Co., Ltd and Baixiang Food Co., Ltd are subject to ongoing post-investment monitoring, with their Environmental and Social Management Plans (ESMP) being reported on a quarterly and annual basis. 12. The mission discussed with the HADFIC on the options of project MTR and their E&S implications. The following recommendations were given from E&S perspectives: 4 (i) The past/current E&S performance of the project and HADFIC should be reviewed along with the timely submission of semi-annual E&S monitoring reports to reflect the E&S performance of two ongoing investments as well as the progress of E&S screening conducted for the pipeline activities. (ii) For future investments, the E&S screening should continue to be conducted per the ESMS requirements and the screening results shared with the Bank team as early as possible. Particular attention should be given to: a. Exclusion of high-risk activities. b. Possibilities to include some substantial-risk investments (which were ruled out before) if the project timeline allows. The Bank's task team will remain available to provide guidance to HADFIC and their external E&S specialists on the preparation the E&S documents as needed. For any activity rated as low/moderate risks, the Bank will conduct post review during coming missions. c. Support replication of good E&S risk management practice beyond HADFIC as an integrated part of Green Finance standards. (iii) Should any substantial changes be agreed to the current project design (for example, any new FI/financing instrument), the ESMS would need to be updated accordingly and be subject to Bank's prior review and clearance as one of the conditions to complete the MTR procedure. VI. Fiduciary Aspects 13. Procurement Progress. To date, the GAF team has successfully completed 11 procurement processes, which included securing services from bidding agencies, environmental and social experts, accounting, and law firms, as well as translation agencies. Contract management practices for these procurements have been enhanced to meet World Bank requirements within the STEP system. This involved issuing General Procurement Notices (GPN), uploading Project Procurement Strategy Documents (PPSD), crafting detailed procurement plans, thoroughly documenting the procurement activities, and regularly updating the contract execution details. 14. Procurement Management. HADFIC has developed a procurement process specifically for GAF that is following the World Bank's Procurement Regulations for IPF Borrowers and has been validated by a World Bank procurement specialist. A key recommendation is to include a comparative analysis of World Bank and domestic procurement procedures in regular training sessions for procurement practices. This will empower project implementation units with the knowledge to discern the differences and similarities between the two procurement methods, thus improving their effectiveness in procurement activities. Additionally, enhancing training on the practical use of the STEP system, with an emphasis on the contract execution phase, is recommended. This will ensure that project implementation units are proficient in using the STEP system to manage procurement contracts efficiently. 15. Financial management. The financial management protocols for the project are rooted in the "Loan Agreement" and are further shaped by key documents such as the "Financial Management Measures for International Financial Organizations and Foreign Government Loan Grants Projects" (Caiguohe [2017] No. 28) and the "Accounting Methods for World Bank Loan Projects" (Caijizi [2000] No. 13). In line with the statutes of the Green Agriculture Fund, which is financed by the IBRD, a suite of financial management documents has been developed. These include the "Financial Management System of Henan Green Agriculture Fund Co., Ltd.", the "Financial Expenditure Management Measures of Henan Green Agriculture Fund Co., Ltd.", and the "Financial Management Guidelines for World Bank Loan Henan High-Quality Green Agriculture Development Promotion Project (Trial)", all of which are tailored to the project's specific context. 16. Financial Management and Disbursement. According to the IFRs submitted by PPMO, the completed project investment accounted for 9.12 percent of total project budget as of June 30, 2024. Per the Bank’s disbursement system, the disbursed loan amount is EUR 54.67 million including the frond-end fee of EUR 668,000. 5 The disbursed loan amount has been increased by only US$1 million over the past 12 months. The mission was informed that EUR 51.41 million (equivalent to CNY362 million) had been disbursed to the operating account managed by HADFIC and EUR 2.59 million are maintained in the Designated Account (DA) managed by the provincial finance department. Although the Bank has issued no objections to 6 proposed investment sub- projects, HADFIC only invested two sub-projects with a total amount of CNY140 million and the balance in the operating account is around CNY222 million. 17. Submission of interim financial reporting and audit report. The interim financial reporting for the first half year of 2024 was submitted to the Bank timely and not issues was noted. The audit report for FY2023 was submitted to the Bank timely and several issues were disclosed by the external auditors including project activities were not implemented as plan and improper management of project management fees. A written response was submitted to the Bank before the mission, and it is noted that actions have been or will be taken to address the issues disclosed. 18. Update of project financial management manual. Given the above-mentioned issues agreed, HADFIC is recommended to update project financial management manual and have the manual endorsed by PDOF and provincial audit office. In addition, the updated manual should be submitted to the Bank for review. 19. Scope of counterpart funds. The mission noted that some TA activities which are associated with project objectives were not counted in project records. Therefore, the mission recommended that HADFIC should reconsider the scope of project counterpart funds and record all activities which are closely relevant to project objectives in the project although some activities might be implemented by other entities of the group company. VII. Next Steps 20. The MTR will be continued after the provincial counterparts and GAF have completed the necessary consultations on the project restructuring with the relevant agencies, including the Ministry of Finance. The second phase of the MTR is estimated to take place in October-November 2024. 21. The following next steps were discussed and agreed during the mission. No Action Responsibility Due 1. Propose a partial cancellation amount agreed with the HADFIC/GAF October 31, 2024 relevant agencies 2. Revise the technical assistance and capacity building HADFIC/GAF October 31, 2024 program in green technologies as part of the restructuring proposal 3. Propose an updated project results framework HADFIC/GAF October 31, 2024 including indictors/target values as well as definitions 4. Expand the Green Technology Inventory (GTI) and HADFIC/GAF Ongoing; November 30, updating technology-specific environmental 2024 mitigation coefficients. 5. Update project financial management manual and HADFIC/GAF November 30, 2024 submit the updated manual to the Bank for review 6. Revise the POM to incorporate the new financing HADFIC/GAF November 30, 2024 provisions, as per para 8. 6 Annex 1 List of People Met No. Name Title Henan Provincial Department of Finance 1. Sun Yuanyuan International Economic Cooperation Deputy Director Division Henan Agriculture Investment Group 2 Wang Yue Fund Management Department Director 3 Jiang Jiwei Fund Management Department Deputy Director Henan Agricultural Development Fund Investment Co., Ltd/PMO 4 Meng Derui General Manager Assistant 5 Li Gaoya Risk Management Director 6 Wang Zhenfang Project Management Office (PMO) Manager 7 Li Yanfen Financial Department Chief Financial Officer Henan Green Agriculture Fund 8 Guo Qi Environmental and Social Safeguards Manager and Risk Management 9 Other relevant staff 7