Proposal for a Council Decision concerning the coverage of costs incurred by the EIB for the management of the Investment Facility of the Cotonou Agreement
Date: 2002-11-07
Institutions: European Commission
Subjects: ACP countries, European Investment Bank, cooperation agreement, direct cost, financial aid, investment, management accounting

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Proposal for a Council Decision concerning the coverage of costs incurred by the EIB for the
management of the Investment Facility of the Cotonou Agreement

(2003/C 45 E/24)

COM(2002) 603 final

(Submitted by the Commission on 7 November 2002)

EXPLANATORY MEMORANDUM

The Cotonou Agreement of June 2000, gives a central role to the private sector in the fulfilment of the
main objectives of the EU-ACP partnership i.e. the reduction and ultimately the eradication of poverty, the
promotion of sustainable development and the progressive integration of the ACP countries into the world
economy. The Agreement recognises that by promoting investment and stimulating the development of
the private sector,
the ACP countries can significantly improve their prospects of more rapid and
sustainable growth, which will in turn contribute to the reduction of poverty. To this end, as stated in
article 21, the ACP-EU cooperation shall support inter alia, the development of entrepreneurial skills and
business culture, privatisation and enterprise reform,
the development of mediation and arbitration
systems, the improvement of the quality, availability and accessibility of financial and non financial
services to private enterprises, the catalysing and leveraging flows of private savings both domestic and
foreign into the financing of private enterprises, the provision of guarantee facilities and technical support.

One of the main instruments for private sector development is the Investment Facility, a EUR 2,2 billion
fund managed by the European Investment Bank, EIB. The Facility ‘shall provide long term financial
resources including risk capital to assist in promoting growth in the private sector and to help mobilise
domestic and foreign capital for this purpose’ (article 76(1)). Special emphasis will be put on the devel-
opment of the local financial sector, making it an efficient channel for the financing and development of
small businesses, and on domestic ACP capital markets, with the view to foster their capacity to mobilise
domestic savings. The Investment Facility will also fund viable public or private infrastructure projects, as a
financial
prerequisite to encouraging investment and sustainable growth.
instruments such as loans, equity participation, quasi-equity and guarantees.

It will deploy a series of

Specific features of the Investment Facility

The Investment Facility differs from risk capital funding under the Lomé Conventions on the following
counts:

1. the size of the capital endowment: EUR 2 200 million, or a 120 % increase over the second Financial

Protocol of the Lomé IV Convention,

2. the focus on private sector financing in regions with variable and often limited opportunities for

investment,

3. the Facility's revolving nature, implying that ultimately future resources will depend on reflows, and the
requirement for long term financial viability. This calls for yet more rigorous project appraisal and
financial monitoring, as well as for risk analysis and risk management, including the application of risk
mitigation measures;

Staffing requirements

The Bank considers that up to 49 Equivalent Full Time (EFT) additional staff will be ultimately required to
manage the Investment Facility at full capacity, i.e., by the end of the first financial protocol:

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— specific expertise not currently available and staff to relieve existing bottlenecks (16 EFT). To make
greater use of financial intermediation and to fulfil the Bank's new role in the support and development
of financial markets in the ACPs, it will be necessary to acquire new expertise, with direct relevance to
the ACP context. In particular, skills will be required to establish or strengthen the capacity in the
following areas: bank analysis; appraisal and monitoring of investment funds; appraisal and structuring
of guarantee operations. Expertise will also be needed to follow policy issues relevant to the operations
of the Facility and country creditworthiness issues; supervise the sector analyses which may be required
to identify possible future investment opportunities; study capital markets (instruments, prudential
regulation, bank supervision) as a prerequisite to financial sector operations; and review the assessment
of the overall economic and developmental impact of operations.

— a net staff increase of 33 EFT to manage the larger volume of operations, of which, up to 5 EFT staff
could be posted in the field. Such presence would offer the dual benefit of facilitating project identi-
fication and strengthening coordination with other donors, not least the Commission's Delegations. It
would also be in line with the mandate requirement for greater involvement by the Bank in the
development process of the ACP. However, these advantages would have to be gauged against the
experience of other institutions, the risk that the results may not be conclusive, as well as the additional
costs involved. An option to minimise such risks would be to launch it as a pilot project, starting with
one region on a temporary basis.

This staff increase of up to 49 EFT will result in a total Bank-wide staff of 115 EFT to carry out
operations in the ACP countries, out of which up to 75 EFT staff will be responsible for operations
under the Investment Facility. Some three quarters Of these 75 EFT will be professional staff and assistants
and the balance support staff;
in terms of allocation by department, approximately half thereof are
intended for the ACP lending department, 40 % for the Legal and Project Directorates and the balance
distributed across other disciplines.

Management costs

the EU's development assistance programmes,

financing
The EIB has been a traditional partner of
investment both on its own resources and, under Member States' mandate, on risk capital. While the
Bank covers the cost of own resource operations through the margin that it charges on all such loans, it
has been fully remunerated by the Member States for the costs incurred in the management of risk capital
operations. The same principle will apply in the future to the management of the Investment Facility, as
stipulated in Article 8(2) of the Internal Agreement of the 9th EDF. Thus, the costs presented in this
document apply only to the 75 EFT staff dedicated to the management of the Investment Facility. The
costs related to the monitoring of Lomé operations are covered by the existing remuneration agreement
and that of own resource operations by the Bank's margin.

The costs related to IF operations reflect the progressive staff build-up discussed above and other expenses.
Costs have been corrected for future expected cost escalation and include five components:

— Personnel expenses represent the largest item. They have been based on the Bank's 2001 standard costs
for operations under mandate, calculated on the principle of full cost recovery, i.e. taking into account
both direct costs and a proportion of the Bank's total overhead costs which actually doubles direct
costs. The resulting total staff costs are thus estimated at EUR 178 million for the first five years,
assuming that recruitment will be staggered over four years, as presented in the table below.

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— The second cost item reflects the impact of the qualitative change in operations, such as more extensive
and/or additional missions, greater use of specialised external expertise, specific IT requirements and
programmes. These costs have been estimated at EUR 10 million.

— Start up costs, a substantial share of which have already been incurred over the last three years, are
estimated at some EUR 8 million. These costs also include the expenses related to meetings of the IF
Committee before the IF becomes operational.

— The cost of posting a maximum of 5 EFT staff to the regions estimated at some EUR 3 million in

total.

— In view of the uncertainties surrounding the projections, a further 10 % for contingencies.

On this basis, total costs add up to EUR 219 million for the five-year period, or an average annual cost
just below EUR 44 million, i.e., 2 % of the total endowment of the Facility. This figure is comparable to
the lower limit of private investment funds' fixed portion of management costs, which range between 2 %
to 3 % annually of the capital endowment.

The table below summarises the evolution of the business plan, of the staff and of the maximum total costs
expected.

Business plan
(MEUR)

Staff

total costs
(MEUR)

2002 (1)

2003

2004

2005

2006

2007

—

350

400

450

500

500

34

8 (2)

51

26

63

34

75

41

75

44

75

46

Total

2 200

75

199 + 10 %
contingencies = 219

(1) Including envisaged recruitment.
(2) ¼ of the annual cost, assuming that only 4th quarter activities will apply to future IF operations.

Principles for covering Bank costs

In emerging markets, private investment funds typically charge an annual management fee of 2 % to 3 %,
calculated on the total size of the investment fund during the commitment period and on the amount of
investments outstanding thereafter.

A distinction should be made between the long-term solution and the temporary arrangements for the first
years of the Investment Facility.

In the long term, logic requires that the Bank be remunerated directly from the Facility. The Cotonou
Agreement stipulates that net reflows from the Investment Facility operations will return to the IF. This
would imply that only repayments — expressed in terms of principal and interest, as well as returns on
equity — net of Bank fees will flow back. However, this option will be feasible only when sufficient
reflows have built up. Financial forecasts show that this should occur at best by the 6th or 7th year of
operations. The second financial protocol should thus include an explicit provision whereby the Bank's fees
would be funded out of the Facility, so that only reflows net of Bank fees would revolve. The principle of
putting this issue on the agenda for the next round of negotiations (in 2004-2005) needs to be established
by the Member States during this discussion on Bank remuneration.

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In the interim period, and particularly for the first financial protocol of Cotonou, another remuneration
formula needs to be identified.

Mechanism for covering Bank management fees

This issue has been discussed both by the Investment Facility Committee where Member states are
represented and by the ACP/FIN Working Party. Two possible options emerged:

— deducting fees from the Facility itself

— deducting fees from the reflows generated by risk capital operations under the previous Conventions.

The first option was not taken since there is nothing in either the Financial Protocol itself or in Annex II of
the Cotonou Agreement, to indicate that the EIB costs for managing the Investment Facility may be
deducted from the latter endowment.

Deducting fees from Lomé risk capital reflows

This option entails extending to the IF the cost coverage mechanism currently applied to the payment of
Bank fees for managing risk capital under the various Lomé Conventions. The Bank collects the ACP debt
service repayments on budget resources under all previous Lomé mandates, and credits the funds to the
Member States' accounts. Beforehand, however, it deducts its fees. Consequently, only the reflows net of
Bank fees are transferred to the Member States.

Bank fees for managing the Investment Facility could be met on the same basis and from the same Lomé
funds. They would be deducted from the debt service reflows alongside the fees for managing risk capital,
so that only the amounts net of management fees for Lomé and IF operations would return to the Member
States. One complication is that the three newest Member States have only contributed to Lomé IV bis and
their reflows will not be sufficient to meet their share until 2006. The Bank envisages to pre-finance the
contribution of these Member States, until their share of the reflows has built up sufficiently.

Projections indicate that these debt service reflows would be sufficient. But should they be insufficient, the
Member States must commit themselves to cover Bank fee from other sources.

It must be born in mind that only the net costs incurred by the Bank for managing the Investment facility
will be met. In other words the fees paid by the Member States will correspond to the actual costs which
may turn out to be lower than the 2 % per annum figure. The IF annual business plan will include a
specific section on staffing including proposed increases in staff numbers and forecast costs. The IF Annual
Report will contain a section on the costs of managing the Facility and their breakdown. If actual costs are
lower than initial forecasts, provisions will be made for the utilisation of the balances, either from one year
to the next, or at the end of the first protocol: they could be credited to the IF for purposes to be
determined, or reimbursed to the Member States.

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Validity period

The legal base of this Council decision is the Internal Agreement of the 9th EDF. If adopted, it therefore
can enter into force only when the latter does. Moreover, Article 9 of the proposed decision provides that
the decision shall be applicable for the same period as the Internal Agreement.

Conclusion

For the reasons which are set out above, the Commission proposes to the Council to adopt the attached
decision.

THE COUNCIL OF THE EUROPEAN UNION,

HAS ADOPTED THIS DECISION:

Having regard to the Treaty establishing the European
Community,

Article 1

Having regard to the Partnership Agreement between the
members of
the African, Caribbean and Pacific Group of
States of the one part, and the European Community and its
Member States, of the other part, signed in Cotonou on 23
June 2000 (1),

the Governments of

Having regard to the Internal Agreement of 12 September
2000 between Representatives of
the
Member States, meeting within the Council, on the Financing
and Administration of Community Aid under the Financial
Protocol to the Partnership Agreement between the African,
Caribbean and Pacific States and the European Community
and its Member States signed in Cotonou (Benin) on 23 June
2000 and the allocation of financial assistance for the Overseas
Countries and Territories to which Party Four of the EC Treaty
applies (2) and in particular Article 8(2) thereof

The provision for the fees charged by the Bank to manage the
Investment Facility and the interest rate subsidies including the
resources reserved for the Overseas Countries and Territories
(hereinafter referred to as ‘the OCT’, shall be equivalent to a
maximum of EUR 220 million. The fees are intended to cover
in full the cost of managing the Investment Facility, including
the sums allocated to finance interest subsidies for operations
in the ACP States and the OCT, during the five years of the
First Financial Protocol of the Cotonou Agreement.

Article 2

To the extent that the remit of the Bank as defined in Annex II
of the Cotonou Agreement and in the operational guidelines of
the Investment Facility remains unchanged, the maximum fee
specified under Article 1 shall constitute a ceiling.

Having regard to the proposal from the Commission drawn up
in agreement with the Bank,

Article 3

Whereas:

(1) Whereas there is no provision in the Cotonou Agreement
for meeting the costs incurred by the European Investment
Bank (hereinafter
the
management of the Investment Facility.

referred to as

‘the Bank’)

for

Every year, on the first of September at the latest, the Bank
to the Investment Facility Committee its cost
shall present
estimates for the following year and the corresponding level
of fees required. These data shall be included in the Investment
Facility business plan approved by the Investment Facility
Committee. Cost presentation for the first year shall depend
on the date of entry into force of the Cotonou Agreement

(2) Whereas the Bank shall apply all income generated from
standard appraisal fees charged to clients of the Investment
facility towards the coverage of its normal costs, with the
fees received to cover extra-
exclusion of exceptional
ordinary expenses incurred,

(1) OJ L 317, 15.12.2000, p. 3.
(2) OJ L 317, 15.12.2000, p. 355.

Article 4

Every year the Bank shall present the actual costs incurred
during the previous year in the annual report of the Investment
Facility to be approved by the Investment Facility Committee,
as well as the amount of appraisal fees recovered from the
clients of the Investment Facility during that same year. The
draft annual report containing these figures shall be submitted
to the Investment Facility Committee on the 28th February at
the latest and the final report on the 30th June at the latest.

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Article 5

Should the costs incurred by the Bank during a given year be
lower or higher than presented in the corresponding business
plan, the Bank shall request the Investment Facility Committee
to decide on the necessary arrangements.

Article 6

to the Member States of debt

The provisions for the fees referred to in Article 1 shall be met
from the reflows
service
payments generated by risk capital operations and special
loans undertaken under
the successive Lomé Conventions.
The amount owed by each Member State will be determined
by the relative share of its contribution to the 9th EDF. In the
case of Member States, which are not yet recipient of sufficient
reflows,
their accounts and charge an
annual
interest rate equivalent to the prevailing EONIA rate
minus twelve and a half basis points.

the Bank will debit

Article 7

to finance the Bank fees as agreed in Article 1, should the
reflows of debt service payments be insufficient
this
purpose.

for

Article 8

The Member States authorise the Bank to deduct
the fees
directly from their accounts held within the Bank to which
the reflows specified under Article 6 are credited. Fees shall
be deducted on the first working day of each quarter and shall
be remunerated at an annual rate equivalent to the prevailing
EONIA rate minus twelve and a half basis points.

Article 9

This decision will enter into force on the day of its adoption. It
shall be applicable for
the Internal
Agreement.

the same period as

from the Commission,
The Council, acting on a proposal
drawn up in agreement with the Bank, shall decide on how

This Decision is addressed to the Member States.