Accredited Entity: International Fund for Agricultural Development (IFAD)

Transcription

1 KENYA S DAIRY

2 Project/Programme Title: Low-emission and climate resilient dairy development in Kenya 1 Country/Region: Kenya Accredited Entity: International Fund for Agricultural Development (IFAD) National Designated Authority: National Treasury 1 This low-emission and climate resilient dairy development project in Kenya has been developed as Kenya dairy NAMA (Nationally Appropriate Mitigation Action)

3 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 1 OF 18 A. Project / Programme Information A.1. Project / programme title A.2. Project or programme A.3. Country (ies) / region A.4. National designated authority(ies) A.5. Accredited entity A.6. Executing entity / beneficiary A.7. Access modality A.8. Project size category (total investment, million USD) A.9. Mitigation / adaptation focus A.10. Public or private A.11. Results areas (mark all that apply) Low-emission and climate resilient dairy development in Kenya Project Kenya National Treasury International Fund for Agricultural Development (IFAD) Executing Entity: State Department of Livestock, Ministry of Agriculture, Livestock and Fisheries (MoALF) Direct International Micro ( 10) Small (10<x 50) Medium (50<x 250) Large (>250) Mitigation Adaptation Cross-cutting public Which of the following targeted results areas does the proposed project/programme address? Reduced emissions from: Energy access and power generation (E.g. on-grid, micro-grid or off-grid solar, wind, geothermal, etc.) Low emission transport (E.g. high-speed rail, rapid bus system, etc.) Buildings, cities, industries and appliances (E.g. new and retrofitted energy-efficient buildings, energy-efficient equipment for companies and supply chain management, etc.) Forestry and land use (E.g. forest conservation and management, agroforestry, agricultural irrigation, water treatment and management, etc.) Note: >50% of emission reductions will come from improved livestock management, which is an agricultural activity, but GCF performance indicators for forestry and land use are measured in hectares, which is not suitable for livestock mitigation. Appropriate indicators are proposed in the results framework in Annex A. Increased resilience of: Most vulnerable people and communities (E.g. mitigation of operational risk associated with climate change diversification of supply sources and supply chain management, relocation of manufacturing facilities and warehouses, etc.) Health and well-being, and food and water security (E.g. climate-resilient crops, efficient irrigation systems, etc.) Infrastructure and built environment (E.g. sea walls, resilient road networks, etc.) Ecosystems and ecosystem services (E.g. ecosystem conservation and management, ecotourism, etc.) A.12. Project / programme life span A.13. Estimated implementation start and end date 10 years 2 Start: January 2018 End: December To coincide with two multi-year projects to be funded by the Accredited Entity.

4 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 2 OF 18 B. Project/Programme Details The Fund requires the following preliminary information in order to promptly assess the eligibility of project/programme investment. These requirements may vary depending on the nature of the project/programme. Kenya s dairy sector contributes about 14% of agricultural GDP and 3.5% of total GDP. About 2 million farming households or 35% of rural households produce milk, and women play a major role in dairy production throughout the country. 70% of milk is produced on smallholder farms, and milk sales contribute significantly to farmers incomes, including income for rural women. With population growth, urbanization and rising incomes, demand for dairy products is growing rapidly. But inefficient resource use throughout the sector increases production costs, constrains profitability and competitiveness, and has major environmental implications. Average dairy cow productivity is low (on average approximately 1,800 kg/cow/year, compared to e.g. 8,000-9,000 kg in Europe or 10,000 in the US and Israel). As a result, production costs per kilogram of milk are high and profit margins for many farmers are slim. Women in particular often do not have equitable opportunities to benefit from technology, extension and marketing opportunities. Furthermore, rain-fed production systems are highly sensitive to climate change impacts. Low productivity, due to poor cow and herd management, breeding, animal health practices, is associated with high GHG emission intensity (see Annex B). Livestock GHG emissions contribute about 90% of Kenya s agricultural emissions, of which about 20% are from the 4.3 million dairy cows. Poor on-farm manure management impacts on cow health and productivity, contributes to environmental pollution at local scale, as well as GHG emissions. Water and energy use in milk collection, cooling and processing facilities are high, with machinery often outdated, inefficient and reliant on highemission energy (e.g. fuel wood, diesel, oil, electricity). Therefore, the objective of this project is to transform Kenya s dairy sector to a low-emission and climate resilient development pathway, while improving the livelihoods of male and female dairy producers. B.1. Project / programme description (including objectives) The project consists of four components (see Annex A - project results framework) that address critical needs throughout the dairy supply chain and in the wider enabling environment: 1. Increasing on-farm dairy productivity through private sector investment in gender-inclusive extension services and fodder supply; 2. Reducing high-emission energy use in the dairy sector; 3. Strengthening institutional and stakeholders capacities for scaling-up low-emission and climate resilient dairy development; 4. Project coordination and management. Component 1: Increasing on-farm dairy productivity: As dairy cow productivity increases, GHG emission intensity (kg CO2e/kg milk) decreases (see Annex B). Therefore, there are strong synergies between GHG emission reduction, yield increases and farmers incomes. Yield increases can be achieved through improved fodder and (concentrate) feed, improved water management, improved breeds, disease prevention and treatment, and better calf and herd management (see Annex D). The project will support adoption of improved on-farm production practices through activities in the following sub-components: Processor-led provision of gender-inclusive extension services to their suppliers (Annex D): Dairy extension services to promote adoption of climate-resilient, low-emission dairy management practices will be provided through processor-led partnerships with suppliers (dairy farmers, cooperatives) and extension service providers. The project will support refinement of extension delivery models and build the capacity of extension agents to apply gender-inclusive approaches in extension service planning and provision, improve animal welfare and productivity, and address environmental impacts of manure. Co-investment in expansion of existing services and technical assistance for developing sustainable financing mechanisms and addressing gender and youth, animal welfare and manure management will provide direct support to processors to expand the coverage and effectiveness of extension services and incentivize them to continue investing in extension service provision (for details of co-financing and TA, see Annex D). Quantification of GHG benefits will be embedded in farm data management systems of these extension initiatives Provision of finance for on-farm and cooperative investments via bank lending and bank on-lending to SACCOs (Annex E): Commercial banks and microcredit institutions will be supported to provide affordable finance to dairy cooperatives and farmers to enable investments to increase on-farm productivity, market access and improved profit margins. Cooperatives and farmers will be supported with capacity building on financial management.

5 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 3 OF Technical assistance to commercial fodder producers and fodder producer associations (Annex F): The project will make technical advisory services available to commercial fodder producers (hay, silage, fodder shrubs etc.) to optimize fodder production per acre, fodder quality and fodder preservation for enhanced climate resilience. The Rift Valley Hay Growers Association will be assisted to upscale supply chain management and market linkages. TA will also ensure that financial institutions and fodder producers implement social and environmental safeguards Financial assistance for investments in commercial fodder production and marketing: The project will provide concessional loans to financial institutions on performance-based terms to make credit available to commercial growers for investments in low-emission technology (e.g. machinery) and storage facilities. Component 2: Reducing high-emission energy use in the dairy sector: Consumption of highemission energy (e.g. fuel wood, diesel, oil, electricity) in milk collection, cooling and processing facilities is high. Energy consumption can be reduced by investments in energy efficiency processes and clean energy technologies and by switching to non-renewable energy sources. Methane emissions from manure on-farm can be captured to generate biogas energy. The project will support adoption of these technologies through the following sub-components: TA to support cooperatives and processors with energy audits and investment proposal preparation (Annex G): The project will co-invest with dairy cooperatives and processors to undertake energy audits and develop clean energy investment-grade proposals Financial assistance for investments in energy efficiency and renewable energy: The project will provide concessional loans to leverage credit finance from commercial banks for investments in energy and water efficiency and clean energy technologies by cooperatives and processors TA to biogas companies for development of business operations (Annex H): Experienced TA providers will be chosen to provide business development services to biogas service companies to upscale their operations as well as improve their extension services to farmers Financial assistance for adoption of biogas by farmers: Blended grant and loan finance will be provided to farmers to overcome high initial costs of installing biogas digesters at household level Ensuring implementation of environmental and social safeguards by biogas service companies and financial institutions: Technical assistance will be provided to ensure that eligible biogas service providers and financial institutions adopt and implement social and environmental safeguards in compliance with environmental laws in Kenya Monitoring and evaluation: Adoption and continued use of biogas digesters, including postsales services by biogas service providers and implementation of social and environmental safeguards, will be monitored throughout the project implementation period. Component 3: Strengthening capacities of national institutions and stakeholders for upscaling (Annex I): The project will strengthen the capacities of national institutions for measurement, reporting and verification of project outputs, outcomes and impacts, including GHG effects. Good practices and lessons learned will be documented and widely disseminated to support replication of project experiences. Platforms to enable public-private policy dialogue and coordinate investments by stakeholders in the sector will be supported, which will also build the capacity of national regulatory institutions such as the Kenya Dairy Board for public-private partnerships Capacity building for project participants and national organizations in MRV: The project will strengthen national institutional capacities for MRV, including capacities for monitoring and evaluation of resilience and other socio-economic benefits, GHG quantification, linking project M&E with the national MRV+ system and national GHG inventory Monitoring and evaluation of project outputs, outcomes and impacts: The project will conduct M&E in line with the project results framework to ensure accountability for use of GCF funds as well as meeting stakeholders other needs for information on project progress, effects and lessons Share good practices and lessons for adoption and replication: The project will use knowledge management to capture and disseminate good practices and lessons learned (i) to participants in components 1 and 2 to strengthen adoption of best practices, (ii) to stakeholders in Kenya s dairy sector to support upscaling and wider replication of project experiences, and (iii)

6 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 4 OF 18 internationally, to support replication of the project s gender-inclusive, climate-resilient, lowemission dairy development approach Stakeholder coordination: Capitalizing on the project s engagement with private sector (dairy and financial) institutions and other development partners, the project will convene a stakeholder platform to promote policy dialogue to enhance the policy environment for publicprivate partnerships and to enable coordination of investments in a longer-term framework of support to low-emission, climate resilient dairy development in Kenya. Component 4: Project coordination and management (Annex J): This component will support: (i) establishment and operation of the Project Management Unit (PMU); (ii) establishment and operation of the Project Steering Committee (PSC); and (iii) coordinated implementation of project activities in partnership with delivery partners (e.g. dairy processors, financial institutions, and support and services provided by technical service providers, consultants, research institutions, etc). The component will include management of staff (including national and international consultants) and equipment, financial management, procurement activities, management of environmental and social safeguards aspects, preparation of annual work plans and organization of task implementation, including supervision missions. Targeting To ensure the long-term sustainability of this project, the central focus is to assist and incentivize the private sector to provide market access and technical and financial support to producers and other supply chain actors. To support market-driven development of the dairy sector, dairy extension services will be provided through processor-led partnerships with dairy farmers, cooperatives and county governments. Based on targets discussed with each processor, the project aims to provide extension services to 128,000 households (i.e. 59% of total current suppliers) within the first 5 years, increasing to 153,000 by Year 10 (i.e. 70% of total current suppliers, and approximately 15% of total dairy farmers nationwide). The farmers targeted will include both current suppliers to processors and farmers who currently supply the informal sector. The main processors milk supply catchment areas are shown in the map below. More specific targeting will be developed during the full proposal development phase.

7 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 5 OF 18 B.2. Background information on project/ programme sponsor B.3. Market overview The Ministry of Agriculture, Livestock and Fisheries (MoALF) of Kenya will be the project sponsor, responsible for utilization of GCF funds and co-financing from the AE. MoALF is responsible for agriculture, livestock and fisheries sector legislation, regulation and policy development. Other functions of the Ministry include the support of research, development and implementation of sector-wide programmes, regulation and quality control of inputs and produce, and management and control of pests and diseases. There are three state departments within MoALF, including the State Department of Livestock, which is responsible for veterinary services, livestock resources and market development and related policy research and regulations. MoALF has implemented numerous internationally funded programmes in the agriculture (including dairy sector), including the World Bank financed Enhancing Agriculture Productivity Project and Kenya Agriculture Productivity Programme, SIDA-funded Agriculture Sector Development Support Programme and the IFAD-financed Smallholder Dairy Commercialization Project. In this project, MoALF will chair the Project Steering Committee and partner with IFAD in operation of the Project Coordination Unit, having primary responsibility for execution of the project under agreement with the AE. MoALF has partnered with the AE in several projects in recent years, and demonstrated technical capacities and the fiduciary responsibilities required for its coordination, management and execution roles in this project. Kenya s dairy industry and market: The dairy industry is Kenya s single largest agricultural subsector. It contributes 14% to agricultural GDP and 3.5% of total GDP. Total milk production from dairy cows in 2014 was about 3 billion litres. About 70% of milk is produced by smallholders, and the remainder by medium or large-scale farmers. 22% of milk is produced in extensive, grazing systems, 44% in mixed grazing-stall fed systems and 24% under zero-grazing conditions. 3 Milk production has grown at an annual average rate of more than 3% in the last decade. Of the milk produced, about 42% is consumed by dairy household members, and 58% is marketed. Of the marketed milk, 70% is sold through the informal sector, in which brokers link producers and consumers of unprocessed milk. 30% of marketed milk passes through formal marketing channels, involving transport to chilling and bulking centres and processing facilities, where it is processed into a wide range of dairy products for retail in the country s urban centres. The main products are fresh pasteurized, UHT and fermented milk, and milk powder, with smaller markets for cheese, ice cream, cream, butter and ghee. Average annual growth in the formal sector between 2008 and 2015 was more than 6.3%. Demand for dairy products is projected to continue to grow rapidly. Kenya s population is expected to increase from the current 48 million to 65 million in 2030, of whom more than a third will be urban residents. 4 Per capita milk consumption in 2010 was about 100 litres per year, but is projected to reach 220 litres by Demand for chilled, high quality processed milk will increase, with growth in demand projected at 5% per year, and total milk demand reaching 12 billion litres by Growth in the formal sector is expected to be more rapid, partly due to shifting structure of consumer demand, and partly due to initiatives to regulate milk quality. Annex B describes the projected implications of this massive increase in demand for Kenya s dairy sector GHG emission pathways. The rapid projected demand for high quality processed milk, current low average dairy productivity and high climate vulnerability highlight the need for low-emission and climate resilient development of the dairy sector. Kenya Dairy Board has licensed 25 milk processing plants with a total processing capacity of 3.5 million litres per day. Capacity utilization remains low (40-50%) due to seasonality of production and competition from the informal sector. The market for processed milk is dominated by four companies (Brookside Dairy Ltd., New Kenya Cooperative Creameries Ltd., Githunguri Dairy Cooperative Society and Sameer Agriculture and Livestock Ltd.), which jointly account for 70% of the processed milk market, and 21% of Kenya s total milk market. Other processors account for the remaining 30% of this market segment. Government s role in the dairy sector: Since liberalization of the sector in the early 1990s, prices for milk and dairy products have not been regulated, but are determined by demand and supply. Central government subsidies for artificial insemination, veterinary clinical services and technical extension services and credit to farmers were phased out in the early 1990s. Current government policy, as outlined in the National Dairy Development Policy (2013), is to support farmer-, privateand cooperative-based provision of breeding, veterinary, and extension services, supported by 3 Estimates produced by UN FAO as part of the CCAC funded Enteric Methane Project. 4 UN Population Projections ( and World Urbanization Prospects ( 5 National Dairy Development Policy (2013)

8 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 6 OF 18 capacity building and sector coordination, and provision of an internationally-compliant phytosanitary control system. In line with the 2010 Constitution, support to agriculture is a devolved function carried out by county governments. The Kenya Veterinary Policy (2015) confirms the mandate of county governments to ensure vaccination coverage. Some county governments are subsidizing extension, breeding services and veterinary public goods (cattle dips), and cofinancing dairy cooperatives to establish milk chilling facilities. National government interventions include support for the re-introduction of school milk programmes at county level, and zero import duties have been applied to dairy equipment. The current legislative and policy environment is thus supportive of private-, cooperative- and farmer-led provision of support services to the dairy sector. Similarly, the Energy Management Regulation (2012) contains measures designed to incentivize private owners of industrial facilities to implement energy efficiency policies and investments. B.4. Regulation, taxation and insurance B.5. Implementation arrangements As a project implemented by an international accredited entity, with a national ministry as the executing entity, the regulatory framework for permissions to implement and operate the project in Kenya are given by the framework governing the relationship between the Accredited Entity and the Government of Kenya and approval procedures of the Government of Kenya and the Accredited Entity. IFAD is a United Nations agency, operating within the framework of United Nations assistance to Kenya. Section 7 of the Convention on the Privileges and Immunities of the United Nations provides, inter alia, that the United Nations, including its subsidiary organs, is exempt from all direct taxes, except charges for utilities services, and is exempt from customs duties and charges of a similar nature in respect of articles imported or exported for official use. National approvals: The Government of Kenya will nominate the State Department of Livestock in the Ministry of Agriculture, Livestock and Fisheries (MoALF) to execute and implement the project. Upon approval of the funding proposal by the GCF Board, government-regulated procedures for approval of the project will be followed. Operations policies and procedures, including administrative and financial requirements will be clearly spelled out in the proposal. The project will be executed by MoALF following administrative and financial rules and regulations of the Government of Kenya (including, inter alia, the Public Procurement and Asset Disposal Act (PPADA) of 2015, and its subsequent revisions), the Public Procurement and Disposal Regulations (PPDR) and ancillary regulations, and operations policy and procedures policy requirements of IFAD. Approvals by the AE: Approval of the project, including co-financing by the AE, will follow the rules of procedure, policies and criteria for financing of the AE. Implementation will adhere to the Operations Policies and Procedures of the AE. Relevant terms and conditions of the funding proposal will be translated into contractual terms and signed for agreement by the Government of Kenya and the AE. Project activities will comply with the laws and regulations of the Republic of Kenya, and with environmental and social safeguard standards of the AE. Implementation structures have been designed considering the need to coordinate between the dairy, energy, finance and climate change sectors, while enabling efficient and effective implementation. The Project Steering Committee (PSC), with the key function of project oversight and guidance, will consist of the Accredited Entity, the Ministry of Agriculture, Livestock and Fisheries (MoALF, with mandate for dairy sector development), the Ministry of Environment and Natural Resources (MENR, with mandate for coordination of climate change actions, and national MRV processes), the National Treasury (GCF National Designated Authority) and Kenya Dairy Board (a State Corporation with a mandate to regulate, promote and develop the Kenyan dairy industry). To ensure coordination with county governments, the Council of Governors (i.e. the basis of consultation and cooperation between the national and county governments) will also participate in the Project Steering Committee. The PSC, chaired by the Principal Secretary responsible for livestock within MoALF, will provide guidance to the Project Management Unit (PMU) in execution of all project tasks, review progress and resolve any implementation challenges, and ensure interagency coordination. The Technical Advisory Committee (TAC) will provide technical inputs for the guidance of the PSC whilst assisting and advising the PMU in project implementation. The AE will provide project implementation oversight and supervision, including financial management, to ensure that project management milestones are completed and that funds are managed to the required fiduciary standards. The State Department of Livestock of MoALF will be the main executing entity, hosting and staffing the PMU, and ensuring coordination with other dairy sector programmes and stakeholders. The same PMU will be used for management of GCF and AE funds. The PMU will be responsible for development of operational plans and tools for project implementation; preparation of annual work plans; mobilisation of delivery partners and oversight of deliverables; contracting of service providers; and project monitoring and evaluation. Kenya

9 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 7 OF 18 Dairy Board will play a key role in disseminating project practices and lessons throughout the sector and across counties to support wider replication. Contractual agreements with private sector delivery partners will be reached following procurement rules of the AE and Government of Kenya. A timetable indicating the project implementation schedule is shown in the table below.

10 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 7 OF 18 Low-emission Dairy Development: Implementation Schedule Project Year Component 1: Increased dairy productivity Processor-led provision of gender inclusive extension services to their suppliers Provision of finance for on-farm investments via bank lending and bank on-lending to SACCOs Technical assistance to commercial fodder producers and fodder producer associations Financial assistance for investments in commercial fodder production and marketing Component 2: Reducing high-emission energy use in the dairy sector TA to support cooperatives and processors for energy audits and investment proposal preparation Financial assistance for investments in energy efficiency and renewable energy TA to biogas companies for development of business operations Financial assistance for adoption of biogas by farmers TA for environmental and social guidelines to be followed by biogas service companies and financial institutions Monitoring and evaluation Component 3: Strengthening institutional and stakeholders capacities Capacity building for project participants and national organizations in MRV Monitoring and evaluation of project outputs, outcomes & impacts Share good practices and lessons for adoption and replication Stakeholder coordination and public-private policy dialogue Component 4: Project coordination and management Establishment and operation of the Project Management Unit Establishment and operation of the Project Steering Committee (PSC) Coordinated implementation of project activities Staff management, financial management, procurement, work planning and supervision missions.

11 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 8 OF 18 C. Financing / Cost Information Total project financing is $222.6 million. Of this, the project cost is $72.9 million, of which $56.1 million is requested from the GCF. The breakdowns of project cost estimates by project component and by major cost category are presented below. The project budget is structured to (i) maximize the use of GCF funds to leverage grant funds from the AE s financial resources so as to achieve a high concessionality leverage ratio on GCF funds and thus ensure reflows to the GCF; and (ii) achieve a high third-party leverage ratio, leveraging private sector investment in achievement of the low-emission, climate resilient, gender inclusive dairy development objective. The project concessionality leverage ratio (i.e., GCF non-grant element / GCF grant element) is The ratio of GCF costs ($56.1 million) to total project financing ($222.6 million) is 0.25 and the ratio of third party financing ($149.7 million) to GCF costs is The funds requested from the GCF are primarily for concessional loans and credit guarantee funds, with grant funds requested from GCF only for specific components that directly contribute to GHG emission reduction (i.e. TA for financial institutions, TA for energy audits co-financed with private sector, grants to blend with loans for household biogas adoption). Finance from the AE will include grants for TA for capacity building and advisory services, and will cover project staff and administrative costs (totalling $14.6 million). Government of Kenya will cover staff gratuities and taxes foregone (totalling $2.2 million). The financial objective of the project is to assist and incentivize private sector investment in low emission, climate resilient, gender inclusive dairy development. Concessional loans using GCF funds will be provided to commercial banks on performance-based terms whereby the financial institutions are required to leverage at least $3 for each $1 provided, and on-lending interest rates are capped. Different financial institutions may be involved in delivery of credit under different components of this project. Participating dairy processors will co-invest in extension and energy efficiency components; their supplier cooperatives and farmers will co-invest in provision of gender-inclusive technical extension services; and fodder farmers will co-invest in fodder production machinery and storage facilities. C.1. Description of financial elements of the project / programme Specific justification for the choice of financial instruments in each project component is given in the feasibility study (Annexes D-I). Justification for the level of concessionality on finance applied for from the GCF is presented in Annex C. Table C.1.1: Project financing breakdown by type of expenditure and source of finance (US$ million) Govern GCF AE ment of Kenya (GoK) Financial Institutions (FIs) Dairy private sector Loans Guarantees Grants & TA Staff costs Travel & per diem Other Admin costs Sub-total Private sector cofinance Total project cost Table C.1.2: Project costs breakdown by major components (US$ million) Grant Loan Guarantee GCF AE GoK GCF AE GCF AE Component 1 Output Output

12 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 9 OF 18 Component 2 Output Output Component Component Sub-total Financial Instrument Amount Currency Tenor Pricing Total project financing (a) = (b) + (c) million USD ($) C.2. Project financing information (b) Requested GCF amount (i) Senior Loans (ii) Subordinated Loans (iii) Equity (iv) Guarantees (v) Reimbursable grants * (vi) Grants * / / / 9.77 million USD ($) million USD ($) million USD ($) million USD ($) million USD ($) million USD ($) * Please provide detailed economic and financial justification in the case of grants. Total Requested (i+ii+iii+iv+v+vi) million USD ($) 40 years 0.75 % Financial Instrument Amount Currency Name of Institution Seniority (c) Cofinancing Senior Loans Grant Direct investment Options million USD ($) million USD ($) million USD ($) Options FIs AE, GoK Dairy private sector pari passu Options Options Options Lead financing institution: (d) Covenants (e) Conditions precedent to disbursement

13 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 10 OF 18 D. Expected Performance against Investment Criteria Please explain the potential of the Project/Programme to achieve the Fund s six investment criteria as listed below. The project s climate impacts relate to the GCF core indicator Tonnes of carbon dioxide equivalent (t CO2eq) reduced as a result of Fund-funded projects/ programmes (see Annex A results framework). D.1. Climate impact potential [Potential to achieve the GCF's objectives and results] By assisting and incentivizing private-sector investment in low-emission, climate resilient, gender inclusive dairy extension services, enabling investments in energy efficiency and clean energy technologies in milk collection, chilling and processing, and supporting adoption of household biogas technology, the project will transform Kenya s dairy sector to a low-emission pathway. Over the 10-year implementation period, the expected emission reductions total 8.80 million tco2e from the following sources: Increased dairy productivity (152,700 households): 4.14 M tco2eq Energy efficiency in processing (151 facilities): 2.96 M tco2eq Household biogas adoption (20,000 households): 0.98 M tco2eq The methodologies used in making these ex ante estimates are described in Annex B. Over the 10-year implementation period, the project components focusing on dairy extension services, fodder production, and household biogas technology, will directly benefit 173,952 households with a population of about 1,043,000 people, of which approximately 521,000 will be women. This represents about 17% of the total target population of dairy farmers in the country and with women representing about 50% of the direct project beneficiaries. Indirect beneficiaries will include the 12,000 jobs that will be created in the dairy processing sector due to increased milk supply. D.2. Paradigm shift potential [Potential to catalyze impact beyond a one-off project or programme investment] Potential for scaling-up and replication: The strength of the project s approach is that it will develop private sector capacities to provide technical and financial services to the dairy sector and achieve market growth. The proven business models and practices employed in the project can thus be applied to the growing formal dairy sector. About 2 billion liters of dairy cow milk are marketed in Kenya each year, of which 600 million liters are currently marketed through the formal sector. The formal sector is projected to grow at a faster rate than the dairy sector as a whole. The processor-led extension initiatives in the project target households owning about 14% of the national dairy herd (2015 data), and producing about 73% of milk marketed through the formal sector. The project s approach can be upscaled to the current remaining formal sector suppliers (ca. an additional 150,000 households) and replicated in other regions within Kenya (e.g. new processor catchment areas). Moreover, as the formal sector grows, and an increasing number of dairy farmers access formal marketing channels, the capacities for private sector-led technology extension and financial inclusion built by the project can be expanded to achieve increased coverage in the sector. At present, an estimated 1.3 million households already engage in milk production, but do not currently supply the formal sector. Beyond Kenya, there is significant interest in promoting dairy sector development in many developing countries, including other countries in East Africa and elsewhere (e.g. Bangladesh, India, Vietnam). Through the regional programmes and knowledge management functions of the AE, the project s experiences can be shared with interested countries for replication. Potential for knowledge and learning: Capacity building, sharing best practices and lessons learned for adoption and replication are the focus of project Component 3.3, which will be implemented in partnership with Kenya Dairy Board, which has wide ranging connections throughout the dairy sector, including with county governments. Activities under this component will ensure that knowledge of good practices is made available in appropriate formats for incorporation in ongoing capacity building activities during the project implementation period, and will disseminate good practices and lessons learned more widely in Kenya s dairy sector through a variety of media (e.g. pamphlets, manuals, videos) and activities (e.g. training, exchange workshops, media communication). Internationally, the project will be a pioneer example of how climate change mitigation and adaptation can support agricultural development objectives. The project s experiences will be relevant in the dairy sector in East Africa and other developing countries, and to climate smart agriculture initiatives in developing countries more generally. The AE s knowledge management functions will be brought into play to ensure that lessons learned are widely shared.

14 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 11 OF 18 Contribution to the creation of an enabling environment: Since the withdrawal of central government from direct support, particularly agricultural extension services, to agricultural production in the 1990s, the current policy environment encourages farmers, cooperatives and the private sector to provide dairy extension services, technical inputs and credit. The project will make significant contributions to developing commercially viable approaches to privatesector support to the dairy sector. Specifically: (a) through TA and financial support to processorled extension initiatives, the project will significantly increase the reach, effectiveness and sustainability of extension service provision led by the private sector. These services will include business development services to cooperatives, thus strengthening farmers organizations for long-term access to markets, inputs and services. (b) The project will also incentivize and build the capacity of financial institutions to strengthen their provision of financial services to the dairy sector. Most financial institutions have a relatively short history of engagement with the dairy sector. The project will strengthen linkages with dairy-based SACCOs and build capacities for understanding the financial needs of the sector and for developing appropriate financial products. (c) The project will provide a platform for public-private dialogue to enhance the enabling policy environment and build the capacity of national institutions to strengthen publicprivate partnerships. This is line with Kenyan laws for the participation of the private sector in the development of the country. D.3. Sustainable development potential [Potential to provide wider development cobenefits] Contribution to the regulatory framework and policies: The project supports implementation of Kenya s Nationally Determined Contribution (NDC), Kenya Vision 2030, Kenya Green Economy Strategy and Implementation Plan and laws and policies related to climate change (e.g. Climate Change Act 2016, Climate Finance Policy (draft 2016), National Climate Change Framework Policy (2014), National Adaptation Plan and National Climate Change Action Plan), energy efficiency (National Energy and Petroleum Policy 2015) and agricultural sector development (Climate-Smart Agriculture Framework Policy, National Dairy Development Policy). These policies and plans are updated or revised upon the end of their specified term or when changing conditions require new policy responses. Components 3.3 and 3.4 focus on capturing and sharing project experiences and lessons and supporting stakeholder coordination involving policy makers and the private sector, together with other stakeholders. These project mechanisms will ensure that project experiences inform elaboration of policy implementation mechanisms, updating and revision of the relevant policy frameworks. Economic co-benefits: The three approaches to GHG mitigation in this project have direct synergies with the generation of economic benefits for male and female dairy farmers, dairy cooperatives and processing enterprises: (i) The NPV of financial returns to increased yield due to adoption of improved dairy production practices by farmers have been estimated at $3.8 million over the 10 year project period. Enhancement of equitable access to assets and participation in decision making for women in the household dairy enterprise will be a key focus of the gender-inclusive extension approaches promoted by the project. These benefits are expected for 152,700 households, with an estimated population of about 800,000 people, including 400,000 women and youth. (ii) Dairy development creates employment opportunities throughout the supply chain. Per 350,000 liters of annual milk production, it is estimated that 77 direct jobs at the farm level and 13 jobs in the processing sector are generated. With an increase in milk production of 326 million litres per year by the end of the project period, full-time employment for 71,720 people at farm level and 12,108 in the processing sector will be created. Furthermore, due to the implementation of private-sector led extension services, adoption of 20,000 household biogas digesters and energy efficiency audits will generate further employment. (iii) High energy consumption contributes to high production costs and reduces the competitiveness of Kenya s dairy processing enterprises. Investment in energy efficiency and renewable energy interventions are expected to reduce energy costs by 40-50%. With investment of $43 million in these interventions, cost savings for cooperatives and processing enterprises will be at least $100 million per year over 20 years. (iv) Biogas adoption significantly reduces household expenditures on energy provisioning and chemical fertilizer use. For each biogas unit, direct financial savings are estimated at $204 per year, so 20,000 units will enable dairy farming households to realize $61.2 million of cost savings over the 15-year lifetime of these units. Social co-benefits: (i) Milk consumption: Milk is an important source of high quality animalbased proteins, amino-acids and micro-nutrients such as vitamin B12, riboflavin and calcium. Especially in early life, milk has an important effect on physical growth and development and can reduce stunting in children. Studies in Kenya have shown that for some households with dairy cows improved animal health may be associated with higher child growth rates, and that

15 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 12 OF 18 children s access to milk may increase with dairy intensification. 6 More generally, the increase in milk supply achieved by the end of the project period will be sufficient to meet the annual milk consumption demand of 1.48 million consumers (assuming per capita consumption of 220 liters). (ii) In Kenya, approximately 68% of households energy comes from wood; mainly firewood and charcoal are used for cooking and heating purposes. The collection and use of firewood and charcoal imposes significant labour and health burdens for women. Replacement of firewood and charcoal by biogas digesters will not only reduce time, labour and health effects of firewood collection, but will also reduce exposure of women and children to smoke. (iii) Promoting gender equitable outcomes: The project will build capacities for gender-inclusive approaches in on-farm dairy production, the commercial fodder sector and in biogas promotion. The aim of this support is to ensure equitable benefit of men, women and youth from activities supported by the project by enhancing the capacity of women and other marginalized groups to actively participate in and have equitable control in decision making processes in the dairy value chain. The project will promote efforts to increase women s control over household dairy enterprise income (a core indicator in the results framework in Annex A), and will promote women s participation in decision-making in dairy extension and marketing structures. Although women are often seen as the main beneficiaries of biogas adoption, gender-inclusive approaches to support women s roles in decisions over biogas adoption and in biogas enterprises will be promoted. Biogas adoption promoted by the project reduces women s labour and health burden in fuel wood collection and reduces exposure to indoor smoke. 7 Installation of 20,000 biogas units will save 8.8 million hours of women s time each year, enabling women to increase leisure time or engage in economic activities. D.4. Needs of recipient [Vulnerability to climate change and financing needs of the recipients] Environmental co-benefits: With small average farm size, poor manure management on-farm affects not only cow health, welfare and productivity, but inappropriate disposal of manure also presents a risk to milk hygiene, and to the local ecosystem, polluting soils and waterways. High methane emission intensity also represents an inefficient use of natural resources used to produce feed. The project will support farmers to change dairy management practices in ways that reduce methane emissions. It will also support capacity building for extension service providers in provision of advice on manure management to avoid pollution of soils and waterways, and biogas promotion will include technical advice on appropriate use of biogas slurry as a fertilizer and improvement of soil health, thus reducing use of chemical fertilizers. Biogas promotion will also reduce fuel wood and charcoal use, with installation of 20,000 units reducing an estimated 1.7 million m 3 of fuel wood use over the 10 year project period, thus contributing to Kenya s efforts to reduce deforestation and forest degradation. Vulnerability to climate change: Kenya is very vulnerable to climate change, ranking 154 out of 178 countries in the ND-GAIN index (2014), which is significantly worse than its rank in 2010 (rank 145). 8 It ranks 35th on vulnerability and 150th on readiness, indicating that it is highly vulnerable to climate change effects. Historically, mean annual temperatures have increased by 0.21 C per decade, and are projected to increase by between 0.8 and 1.5 C by the 2030s and 1.6 C to 2.7 C by the 2060s. 9 Precipitation patterns are variable across the country. Projections suggest no change, increases or decreases in rainfall in different parts of the country, but an increase in heavy rainfall events is likely, suggesting that the distribution of rainfall will change, and occurrence of droughts and floods will increase. Kenya s agriculture sector contributes about 25% of national GDP, and contributes significantly to food security, employment and export earnings. Agriculture is highly vulnerable to climate variability and climate change. Specifically regarding the dairy sector: 10 Heat stress for cattle causes a decrease in food intake and an increase in respiratory rate, which affects milk yields; Climate change may indirectly cause increased disease pressure on livestock; Climate impacts on crop yields will also have an impact on fodder and feed availability for dairy farmers. About 80% of dairy farmers are smallholder farmers, who are highly exposed to climate risks and who often have limited assets, financial access and social capital with which to withstand shocks and invest in adaptation to longer term climate change. These vulnerabilities will be doi: /jes Republic of Kenya (2015) Kenya Second National Communication to the UNFCCC. 10 Republic of Kenya (2015) Kenya Second National Communication to the UNFCCC.

16 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 13 OF 18 addressed by the project through provision of technical advisory services, strengthening of farmer organizations and increasing financial access through which to invest in farm infrastructure and ensure access to operating capital and households other finance needs. These measures will increase the resilience of dairy farmers to the effects of climate variability and longer-term climate change. Economic development of the country, fiscal and capital market gaps: Kenya is one of the fastest growing economies in East Africa: the country s GDP grew from US$ 18.7 billion in 2005 to US$ 63.4 billion in As a regional business hub, supported by investments in infrastructure and a new governance system, Kenya is expected to keep growing steadily. However, the poverty rate is still about 50% with a rather high inequality in wealth levels. Kenya ranks 145th in the Human Development Index, indicating low life expectancy, education, health and living standards. D.5. Country ownership [Beneficiary country ownership of project or programme and capacity to implement the proposed activities] Kenya has a GNI per capita below the OECD lower-middle income threshold, 11 and is also an eligible IDA borrowing country. 12 Public debt is high, at more than 40% of GDP, and current policy is focusing on reducing the fiscal gap. Donor finance to agriculture has increased to fill part of the finance gap. External debt management is a key element of Kenya s fiscal policy. External debt is largely in the form of multilateral concessional debts (52.3% of total external debt) and bilateral debt (24.5%), while commercial debt represents 21.8% of total external public debt. Analysis by the IMF and GoK indicates that current debt levels are sustainable. However, central government expenditure on agriculture has consistently been far below the Maputo Declaration target of 10% of government expenditure, although this does not account for county government expenditures. 13 Despite the vibrant national economy, commercial finance to the agriculture sector is also a very small proportion of total lending, accounting for only 2% of private credit growth between 2011 and 2015, 14 and lending to the dairy sector is less than 1% of total lending for many financial institutions. 15 The vast majority of smallholder dairy farmers lack access to financial services, especially women. Barriers include high transaction costs for banks, a lack of visibility of farmers cash flows, and a short history of engagement in the sector for most financial institutions. The project will incentivize and build financial institutions capacities to provide appropriate and affordable financial support to men, women and youth in the sector (e.g. through group lending products, and making use of digitized milk supply records to create financial visibility) and increase household financial returns (see Annex E). Coherence and alignment with the country s national climate strategy and priorities: The project is fully aligned with the Government of Kenya s international commitments as set out in Kenya s Intended Nationally Determined Contribution, and policies on climate change, agriculture and dairy development, and energy. This project will specifically contribute to Kenya s Intended Nationally Determined Contribution (2015) 16 in which Kenya has committed, subject to international support, to reduce GHG emissions by 30% by 2030 relative to the business as usual (BAU) scenario of 143 Mt CO2-eq. Mitigation activities in the agriculture sector in line with the Climate Smart Agriculture Framework Programme are highlighted in the INDC. (i) Climate change policy: Kenya s National Climate Change Response Strategy (2010) anchors climate change policies in Kenya Vision 2030, the country s development blue-print to 2030 which sets out a development path aimed at creating a prosperous country with a high quality of life. 17 The Response Strategy was operationalized by the development of the National Climate Change Action Plan in The Climate Change Action Plan, anchored in the Climate Change Act (2016) is recognized as the tool through which climate change adaptation and mitigation will be mainstreamed into national and county government planning, budgeting and implementation. It sets out priorities for low-carbon climate resilient development. Projections of GHG emission trends therein identified agriculture (including livestock) as a large and growing source of GHG emissions, accounting for about 30% of Kenya s total emissions in 2010, 90% of which were from livestock. The action plan highlighted that the agriculture sector offers Kenya Climate-Smart Agriculture Framework Programme Study conducted for this concept note, Unique Forestry and Land Use GmbH 16 Ministry of Environment and Natural Resources 2015, online available 17 Kenya Vision 2030

17 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 14 OF 18 significant potential for synergies between food security, poverty reduction, adaptation and mitigation objectives. Kenya s National Adaptation Plan (NAP) ( ) aims to consolidate the country s vision on adaptation supported by macro-level adaptation actions that relate with the economic sectors and county level vulnerabilities in order to enhance long term resilience and adaptive capacity. 18 The project is aligned with Kenya s NAP in which priority adaptation actions include the enhancement of resilience in agriculture, livestock and fisheries by promoting climate-smart agriculture and livestock development. The Kenya Climate Smart Agriculture Framework Programme ( ) serves to guide stakeholders in the agriculture sector to address the challenges of climate change. The Kenya Climate-Smart Agriculture Strategy (draft 2016) is the avenue through which the agriculture sector will implement the NCCAP, and by extension, the Climate Change Act. This project will support achievement of the highlighted result areas, including increasing agricultural productivity, value chain integration and institutional coordination. The project is in line with the current draft of the National Climate-Smart Agriculture Strategy. The project will also support national and county institutions to fulfill their mandates as set out in the Climate Change Act (2016) and Climate Finance Policy (draft 2016), including mandates for planning of climate response measures and MRV. (ii) Agriculture and dairy development: The Agricultural Sector Development Strategy ( ) sets the overall objective of achieving 7% annual growth rate by increasing productivity, commercialization and competitiveness of the sector. The National Dairy Development Policy (2013) sets the goal of improving the livelihoods of Kenyan dairy industry sector actors in line with Vision 2030, through inter alia increasing productivity and competitiveness. This project is fully in line with these goals and objectives, and will directly support strengthening of private sector capacities to deliver the support services to the dairy sector. Addressing environmental issues and supporting gender-inclusive approaches are also policy objectives highlighted therein. (iii) Energy: Kenya s National Energy and Petroleum Policy aims to ensure affordable, competitive, sustainable and reliable supply of energy to meet national and county development needs at least cost, while protecting and conserving the environment. Specific objectives relevant to this project include: (i) to promote energy efficiency and conservation, (ii) to ensure environmental considerations as well as issues such as climate change are factored into energy sector development, (iii) to promote capacity building in the sector, and (iv) to provide incentives for local and international investments in the sector. The project will directly support implementation of the Energy (Energy Management) Regulations (2012), which require energy management audits and interventions in facilities over a designated scale. Ownership by executing entities and partners: The Ministry of Agriculture, Livestock and Fisheries (MoALF) of Kenya will be the main executing agency in partnership with the AE. The State Department of Livestock (SDL) within MoALF will chair the Project Steering Committee and partner with IFAD in operation of the Project Management Unit, having primary responsibility for execution of the project under agreement with the AE. Specific roles in Sub-component 3.3 (knowledge management) will be taken on by Kenya Dairy Board (KDB), a statutory body mandated to regulate, develop and promote the dairy sector. MoALF (through the State Department of Livestock) and KDB have both been actively involved in leading development of this project concept note. SDL chaired regular meetings to coordinate concept note development with all partners involved, including the Climate Change Directorate of the Ministry of Environment and Natural Resources, and convened multi-stakeholder platform meetings at which the proposed project was discussed with diverse stakeholders. KDB actively facilitated involvement of the private sector and local governments, and officially established a coordination unit to provide substantive input and logistical support to the various meetings and studies conducted during the concept note development process. Since introduction of devolution under the Constitution of Kenya (2010), 47 county governments have responsibility for agriculture and livestock development in their counties since The Council of Governors, which represents the county governments, will be a member of the Project Steering Committee. The project s support to dairy productivity through private sector led extension (Component 1) will be coordinated with county government initiatives. Establishment of formal agreements between the processors and county governments will be a precondition for project support to private sector led extension activities. Consultations were held with local government representatives as part of the concept note development process. 18 Republic of Kenya, Ministry of Environment 201, online available

18 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 15 OF 18 The private sector are key delivery partners in the project. The project will enter into agreements with a number of private-sector dairy processing companies in implementation of Component 1. These companies have in recent years begun piloting different models of private-sector financed extension service provision to dairy farmers in their supply chains. Several dairy processors and their suppliers were actively involved in the technical design of the concept note. As a result, the design of these activities directly builds on their ongoing initiatives, and the project will assist the processors and their suppliers to develop and implement financially sustainable extension models, to provide long-term finance after the withdrawal of project technical assistance. In the concept note development stage, a number of processors closely collaborated in project design, but final selection and commitments will be made during implementation planning. Financial institutions are also key partners in investing in dairy productivity and energy efficiency. Most commercial banks in Kenya have previous experience of international cooperation, including management of concessional credit lines and credit guarantee mechanisms. Several financial institutions were involved in consultations on project design. Selection of banks for partnership in financial assistance will be made through competitive tender during project implementation. Stakeholder engagement process and feedback received: This project was initiated following consultations by the State Department of Livestock with dairy sector stakeholders in Project design has been guided by the State Department of Livestock and Kenya Dairy Board, with technical assistance from national and international partners. 19 In this process, numerous activities have been conducted to consult stakeholders (see Annex L), including: A multi-stakeholder platform meeting (September 2015), attended by 47 farmers, dairy, biogas and financial sector companies, researchers and national and county government officials, served to raise awareness and inform and obtain feedback on the initial concept of the scope and objectives of the project. Consultations (November 2015) were held with 45 farmers, farmer organization and county government representatives from 8 counties (Muranga, Nyeri, Nyandarua, Kirinyaga, Meru, Embu, Tharaka Nithi, Machakos) to raise awareness and obtain feedback on options for integrating the project with ongoing initiatives at county level. A second multi-stakeholder platform meeting (August 2016) was held, attended by 71 representatives of dairy and biogas sector companies, financial institutions, civil society organizations, researchers, development partners and government institutions, at which the draft project concept was shared and discussed. The main suggestions made by stakeholders were to enhance coordination between the project and other key initiatives in the dairy sector. This suggestion is reflected in the project design. Throughout the project design phase, numerous stakeholders were consulted on specific aspects of the project including government officials (Ministry of Agriculture, Livestock and Fisheries (MoALF), Ministry of Environment and Natural Resources (MENR)), dairy processors, dairy sector association representatives, commercial hay growers, financial institutions, biogas companies, development organizations and national and international research organisations. In accordance with procedures established by the NDA, this concept note has been reviewed by the national technical committee and is submitted to the GCF for feedback by the NDA. D.6. Effectiveness and efficiency [Economic and financial soundness and effectiveness of the proposed activities] Key efficiency and effectiveness indicators: (a) Total project financing $ million (b) Requested GCF amount $56.06 million (c) Lifetime emission reductions 8.80 million t CO 2e (d) Estimated cost per tco 2e (d = a/c) $25.29/tCO 2e (e) Estimated GCF cost per tco 2e (e=b/c) $6.37/tCO 2e Co-financing ratio: Total project financing is $ million, and the GCF contribution is $56.06 million, making a co-financing ratio of 1: 2.97 (i.e. third-party finance / GCF cost). The GCF cost is 25% of the total project financing. Concessionality: Justification for concessionality is presented in detail in Annex C, both in terms of project characteristics and in terms of Kenya s vulnerability to climate change and eligibility for concessional terms. 19 UN FAO, CCAFS, UNIQUE forestry and land use GmbH, ILRI.

19 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 16 OF 18 Financial and economic returns: Financial and economic returns to investments in each project sub-component are positive and exceed a financial IRR benchmark of 12.5% and a social discount rate of 7%, as reported in the feasibility studies in Annexes D-I. E. Brief Rationale for GCF Involvement and Exit Strategy Value-added of the GCF contribution: All costs, activities and impacts elaborated in this concept note are additional to the baseline activities and investments currently undertaken and projected to be undertaken by stakeholders. The baseline scenarios for each project sub-component are detailed in the feasibility studies in Annexes D-I. In terms of GHG emissions, the business-as-usual scenario for Kenya s dairy sector (Annex B) projects an increase by 46% to 41 million t CO2e per year in 2030, while a scenario consistent with the emission pathway set out in this project would reduce emissions by 59% compared to the BAU scenario. Thus, without GCF funding, these impacts will not be achieved. Dairy extension services planned by processors currently cover 35,100 households, which is 23% of those targeted by the project. In the absence of the project, coverage is expected to increase at a slow rate. Increases in on-farm milk productivity would therefore be much slower, and integration of gender, manure management and animal welfare components will not occur without support from the project. The dairy sector is little understood by many financial institutions, and dairy accounts for a very small proportion of these institutions loan books. Dairy cooperatives and farmers thus face severe credit constraints and investment in low-emission dairy development remains at a low level. In the absence of this project, farmers with limited assets, financial access and social capital with which to withstand climate shocks and invest in adaptation, will remain vulnerable to climate risks. Although the commercial fodder sub-sector has begun to develop in recent years, limited access to technical support and finance, and lack of marketing infrastructure would constrain commercial fodder supply and uptake by farmers, impacting both dairy productivity as well as resilience to droughts. Current donor funded projects are building capacities for conducting energy audits in the dairy sector, but existing financing mechanisms are insufficient to meet expected demand, and commercial banks require technical assistance to support engagement with this new type of investment. International NGOs have been supporting biogas promotion in Kenya for some years, but high barriers to initial investment and limited capacities of biogas service providers mean that adoption rates are likely to remain low in the absence of the project. Therefore, this project builds on existing proven experience, and GCF financing will enable significant upscaling of low-emission, climate resilient gender-inclusive dairy development approaches that would not occur without the additional finance provided by the GCF. Long-term sustainability and exit strategy: Long-term sustainability is fundamental to the approach underlying the project design. The central focus of the project is to assist and incentivize the private sector including dairy processors, cooperatives, service providers, commercial financial institutions and savings and credit cooperatives (SACCOs) to support low-emission, gender inclusive dairy development. Innovation and adoption of commercially viable business models for support to the sector will ensure that interventions can continue on a commercial basis following the withdrawal of project support. For dairy extension services, the focus of the project is to assist the main dairy processors to develop and implement effective gender-inclusive extension support to cooperatives and dairy farmers using innovative financing mechanisms (see Annex D) that will enable extension services to be financed from within the supply chain, without dependence on third-party financing. The project will also build the capacities of financial institutions to support credit finance to dairy cooperatives and farmers (see Annex E). Most commercial financial institutions have a short history of engagement with the dairy sector. The project will assist financial institutions to establish links with dairy cooperatives and SACCOs to expand financial access, and support cooperatives to implement processes to increase the visibility of dairy farmers financial track records, and will build financial institutions capacities to develop financial products that are appropriate to dairy sector needs. Investment in energy efficiency and renewable energy is also a very new area of investment for financial institutions (see Annex G). The project will provide support to banks in understanding the investment opportunities and risks associated with this type of investment. Concessional finance provided by the GCF will be used to incentivize financial institutions to engage with this new client need, while TA will build related capacities. As financial institutions gain a better understanding of actual as opposed to perceived risks, their willingness to support the sector is expected to increase. Thus, effective support to private sector engagement in low-emission, gender-inclusive dairy development is the main project strategy to ensure sustainability after the project. In the current policy context, the role of government is primarily to provide support to private sector actors, to ensure institutional coordination and to create an enabling environment. The project will build the capacities of national agencies in the dairy and climate change sectors to perform these functions, by building institutional capacities and strengthening collaboration with dairy sector stakeholders throughout the project period. Strong ownership by national agencies will ensure that these functions continue beyond the project lifetime. F. Risk Analysis Implementation risks and mitigating measures: The main operational risks identified and their mitigation measures are presented in the table below. Management risks will be averted by adhering to the AE s Operational Policies and Procedures. Risks Related Sub-components Mitigation measures

20 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 17 OF 18 Drought affects milk yields, animal health and fodder yields SC 1.1, 1.2 Inclusion of animal health providers, fodder storage and water harvesting in technology extension packages Milk price volatility SC 1.1, 1.2, 2.1 Capacity building of dairy cooperatives on market research, strengthening terms and conditions in long-term milk supply contracts Lack of uptake of financial products SC 1.1.1, Financial literacy training Link target groups with financial institutions and strengthen capacities for on-lending through SACCOs Capacity building to financial institutions for appropriate product development Weak coordination of and inefficient provision of technical extension services Management of complex, multi-sector project SC 1.1.1, 1.2.1, All components Coordination of public and private service provision Outsourcing to qualified technical service providers (TSPs) and capacity building for TSPs Develop, disseminate and train TSPs in good practice guidance Capacity building to project management units Ensure resources for monitoring, supervision and timely feedback Environmental and social risks and the proposed risk mitigating measures: An initial screening of environmental and social risks has been conducted following the IFC Performance Standards. Specific findings for each sub-component are detailed in the feasibility studies in Annexes D-I, and a summary of environmental and social risks and their mitigation measures is given in Annex K. The main significant risks identified include: Inefficient use of water and energy resources and potentially waste management at processor level; Manure management at dairy farm level; Inadequate protective clothing during the application of chemicals (herbicides, fertilizer) for hay production; Inefficient application of chemicals (herbicides, fertilizer) for hay production risking pollution of the environment; Inappropriate application of bio-slurry risking potential contamination of crops and groundwater with harmful pathogens. Mitigation measures for these and other identified risks have been designed into the activities of each sub-component (see Annexes D-I). Environmental and social risks will be managed in accordance with the AE s Social, Environmental and Climate Assessment procedures. G. Multi-Stakeholder Engagement Please specify the plan for multi-stakeholder engagement, and what has been done so far in this regard. As described in Section D.5 and Annex L, a multi-stakeholder platform has been initiated as part of the project development process. Project Component 3.4 proposes to continue broad stakeholder involvement through multistakeholder platform activities. It is envisaged that under the platform specialized working groups will develop focusing on stakeholder engagement, coordination and public-private policy dialogue with regard to specific areas of interest (e.g. dairy sector finance, energy interventions in the dairy sector, gender inclusive approaches etc). The platform and working groups will ensure feedback on the project process and effectiveness from a wide range of stakeholders, from farmers through civil society organizations, county governments to businesses, researchers and other stakeholders. In addition, the AE s Social, Environmental and Climate Assessment Procedures detail operational procedures for ensuring effective stakeholder engagement, including a procedure to respond to alleged complaints from project-affected individuals and communities. H. Status of Project/Programme 1) A feasibility study has been conducted (see Annexes A-K) 2) Please indicate whether a feasibility study and/or environmental and social impact assessment has been conducted for the proposed project/programme: Yes No Results of a screening of environmental and social risks is reported in Annex K. 3) Will the proposed project/programme be developed as an extension of a previous project (e.g. subsequent phase), or based on a previous project/programme (e.g. scale up or replication)? Yes No (If yes, please provide an evaluation report of the previous project in section J, if available.)

21 PROJECT / PROGRAMME CONCEPT NOTE GREEN CLIMATE FUND PAGE 18 OF 18 I. Remarks J. Supporting Documents for Concept Note Map indicating the location of the project/programme Financial Model Pre-feasibility Study Feasibility Study (if applicable) Environmental and Social Impact Assessment (if applicable) Evaluation Report (if applicable) List of annexes: Annex A Results framework Annex B GHG emission reductions Annex C Justification of concessionality Annex D Feasibility study for Component 1 (1.1.1 Processor-led provision of gender-inclusive extension services to their suppliers) Annex E Feasibility study for Component 1 (1.1.2 Financial assistance for on-farm investments by farmers and cooperatives) Annex F Feasibility study for Component 1 (1.2 Increased commercial production and marketing of fodder) Annex G Feasibility study for Component 2 (2.1 Energy efficiency and renewable energy in cooling and processing facilities) Annex H Feasibility study for Component 2 (2.2 Male and female farmers adopt biogas technologies on dairy farms) Annex I Feasibility study for Component 3 (Strengthened institutional and stakeholders capacities for scaling-up low-emission dairy development) Annex J Feasibility study for Component 4 (Project coordination and management) Annex K Social and environmental safeguard screening Annex L Stakeholder engagement process

22 ANNEXES Annexes... 1 a. Results framework... 2 b. GHG emission reductions c. Justification of concessionality d. Feasibility study for Component 1 (1.1.1 Processor-led provision of gender-inclusive extension services to their suppliers) e. Feasibility study for Component 1 (1.1.2 Financial assistance for on-farm investments by farmers and cooperatives) f. Feasibility study for Component 1 (1.2 Increased commercial production and marketing of fodder) g. Feasibility study for Component 2 (2.1 Energy efficiency and renewable energy in cooling and processing facilities) h. Feasibility study for Component 2 (2.2 Male and female farmers adopt biogas technologies on dairy farms) i. Feasibility study for Component 3 (Strengthened institutional and stakeholders capacities for scaling-up low-emission dairy development) j. Feasibility study for Component 4 (Project coordination and management) k. Social and environmental safeguard screening l. Stakeholder engagement process... 87

23 A. RESULTS FRAMEWORK Figure A.1 summarizes the project results framework. Details are given in the tables that follow. Paradigm Shift Objectives and Impacts at the Fund level Paradigm shift objectives (a) Shift to lowemission sustainable development pathways Expected Result Fund-level impacts Low productivity of dairy cows and inefficient use of energy resources contribute to the high GHG footprint of Kenya s dairy sector, as well as reduced financial returns to men and women farmers and companies in the sector. Addressing these constraints requires increased private sector investment in dairy supply chains and energy technologies. Therefore, the objective of this project is to transform Kenya s dairy sector to a low-emission and climate resilient development pathway, while improving the livelihoods of male and female dairy producers. Indicator Means of Verification (MoV) Baseline Target Mid-term (if applicable) Final Assumptions 2

24 tco 2e reduced from on-farm dairy production Ex ante estimate and project monitoring 0 1,050,000 4,135,278 Ex ante estimate produced using methodology described in Annex B. (b) Tonnes of carbon dioxide equivalent (t CO2eq) reduced as a result of Fundfunded projects/ programmes tco 2e reduced or avoided from gender sensitive biogas energy generation tco 2e reduced through energy efficiency and renewable energy technologies in dairy processing Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring 0 5-year period: 366,000 Lifetime: 1,708,000 Ex ante estimate produced using methodology described in Annex B. 0 1,982,891 2,959,539 Based on analysis in Annex G. Quantification will use ex ante estimates of mitigation potential in approved credit proposals. (c) Cost per t CO2eq decreased for all Fund-funded mitigation projects/ programmes (d) Volume of finance leveraged by Fund funding Cost per tco 2e reduced Volume of finance leveraged (US$ million) Ex-ante estimate and project monitoring Final figure represents GCF cost of lifetime emission reductions Includes incremental cash investments from government, private sector and the AE Adoption of lowemission, climate resilient practices by male and female dairy farmers Male and female dairy farmers register an increase in annual income from dairy products Number of households benefiting from extension of lowemission dairy production and biogas measures Gender disaggregated adoption of measures (individual beneficiaries) Increase in household dairy enterprise net income (Ksh) % of households where women, or men and women jointly control over dairy enterprise income Decrease in number and pro- Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring M: 49,266 F: 49,266 M: 179,750 F: 179,750 M: 215,000 F: 216,000 35, , ,000 Assumes 70% of suppliers of participating firms are provided with extension services. See Annex D for detailed assumptions. Figures presented are working age M and F assuming average family size of 5.1 per household Figures derived from financial analysis in Annex D. 40% 80% 80% Actual baseline figure to be determined by detailed baseline surveys during project implementation 75% 65% 55% 1 Actual baseline figure to be determined by detailed 1 Household food security baseline estimated using the Household Food Insecurity Access Scale (HFIAS), baseline figures estimated from M'Kaibi et al (2016) 3

25 Male and female dairy farmers register an increase in food sufficiency and diversity Gender-inclusive policies, institutions, frameworks that improve incentives for climate resilience and their effective implementation portion of households reporting severe food insufficiency Increase in proportion of households reporting improvement in dietary diversity score 2 Number of gender inclusive policies, extension services and customer services baseline consumption surveys during project implementation 0 50% 75% Actual baseline figure to be determined by detailed baseline consumption surveys during project implementation Assumes 100% of partnering dairy processors, biogas companies as well as Kenya Dairy Board and the State Department of Livestock adopt and implement gender-inclusive policies and mechanisms 2 Guidelines for Measuring Household and Individual Dietary Diversity (FAO 2015) 4

26 Outcomes, Outputs, Activities and Inputs at Project/Programme level Expected Result Midterm (if applicable) Project/programme outcomes 1. Increased dairy productivity through private sector investment in gender-inclusive extension services and fodder supply 2. Reduced high-emission energy use in the dairy sector Indicator Means of Verification (MoV) Target Baseline Outcomes that contribute to Programme-level impacts Increased average milk yield per cow per year (liters per cow per year) % of households where women, or men and women jointly control over dairy enterprise income Volume of private sector finance leveraged ($ million) Reduced energy (GWh) consumed from high emission sources against business as usual in milk collection, cooling and processing facilities over life time of projects Reduced deforestation due to wood energy use on dairy farms adopting biogas (m 3 fuel wood avoided) Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Project monitoring of investments by private sector partners Ex-ante estimate and project monitoring Ex ante estimate and calculation on basis of biogas utilization monitoring data Final Assumptions 1,560 3,200 3,200 Based on analysis in Annex D. Actual baseline figure to be determined by detailed baseline surveys during project implementation 40% 80% 80% Actual baseline figure to be determined by detailed baseline surveys during project implementation Baseline includes current annual investment by NKCC, MCDCU and Mukurweini in extension. Indicator includes investment by processors and banks in Component ,802 44,480 Indicator refers to adoption that is additional to existing technologies in the baseline and is based on ex ante estimates of abatement potential in approved pro ,600 1,697, 600 posals. Assumes wood density of 1.43 m 3 /t, 7.42 t/hh/yr displaced by biogas use. 3. Strengthened institutional and stakeholders capacities for scaling-up lowemission dairy development 4. Project coordination and management Number of beneficiaries using biogas (gender disaggregated) Operational linkages between project M&E system and national MRV systems Number of dairy sector stakeholders aware of lowemission, gender-inclusive best practices Percentage of management reports (M&E, safeguards, procurement, financial management) presented within 45 days of the end of the relevant period Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Project management systems and supervision missions M: 0 F: 0 M: 20,000 F: 20,000 M: 20,000 F: 20,000 Indicator refers to adoption that is additional to existing biogas units in the BAU scenario Number of linkages between project and national M&E/MRV systems M: 0 F: 0 M: 600,000 F: 600,000 M: 600,00 0 F: 600,00 0 n/a 100% 100% Indicator refers to awareness among stakeholders that is additional to the baseline. 5

27 Percentage of procurement activities executed in conformity with the procurement plan, the implementation manual, and IDA procedures Project management systems and supervision missions n/a 100% 100% Project/ programme outputs 1.1 Increased adoption by men and women dairy farmers of productivity-enhancing, low-emission on-farm milk production practices 1.2 Increased commercial production and marketing of fodder 2. 1 Dairy cooperatives and processors implement technologies to increase energy efficiency and use of renewable energy 2.2 Men and women adopt biogas technologies on dairy farms 3.1 Project monitoring and national MRV systems are established 3.2 Best practices are captured and shared among dairy sector stakeholders 3.3 Coordination among dairy sector stakeholders Outputs that contribute to outcomes Increase in cooperatives and dairy farmers (men and women) accessing formal financial services Increase in weight of hay marketed (Mt) Project monitoring and evaluation system that is linked to national MRV systems has been established Number of best practices disseminated Number of multi-stakeholder platform working group meetings held Increase in number of men and women using recommended practices Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring Number of energy efficiency and renewable energy interventions made by dairy cooperatives and processors supported by the project Number of biogas units in use Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring National MRV reports Ex-ante estimate and project monitoring Ex-ante estimate and project monitoring M: 49,266 F: 49,266 Coops/SMEs: 0 Farmers: 0 Coops/SME: 1194 Farmers: 100,000 M: 215,000 F: 216,000 Coops/SME: 2388 Farmers: 208,000 Figures presented are working age M and F assuming average family size of 5.1 per household. Indicator refers to number of loans that are additional to the baseline Mt 20.2 Mt 28.1 Mt Includes marketed supply by commercial smallholders and Rift Valley Hay Growers Assn Indicator refers to number of investments that are additional to the baseline. 0 20,000 20,000 Incremental to baseline Includes dissemination through diverse media, targeted to stakeholders needs Assumes 4 active working groups with at least 2 meetings per year 6

28 Activities Description Inputs Description Component 1: On-farm dairy productivity Processor-led provision of gender-inclusive (a) Processor-led financing models put in place extension services to their suppliers (b) Build capacity for gender-inclusive extension services (c) Build capacity for animal welfare in extension (d) Build capacity for manure management in extension (e) Capture and share best practices and lessons learned Provision of finance (e) Tendering process for bank selection for on-farm and cooperative investments via bank (f) Establish environmental & social lending and bank on-lending safeguard systems with partner to SACCOs banks (g) Capacity building to banks and SACCOs for improved product development and MIS (h) Monitor lending activities Partnership agreements with processors Consultants Staff & consultant inputs Loans & guarantees Dairy extension services are provided by processor-led partnerships with suppliers and extension service providers. The project will support: refinement of extension delivery models; build the capacity of extension agents to apply gender-inclusive approaches, improve animal welfare and address environmental impacts of manure. The project will support commercial banks and microcredit institutions to provide finance to dairy cooperatives and dairy farmers, including via onlending through SACCOs. Capacities of all FIs will be strengthened in the areas of product development, MIS, and other areas tbc Technical assistance to commercial fodder producers and fodder producer associations Financial assistance for investments in commercial fodder production and marketing (a) (b) (c) (d) (a) (b) (c) TA on agronomic measures to increase yields TA on business strategy development and market facilitation for Rift Valley Hay Growers Association Produce social & environmental safeguard guidance and tools for commercial growers and FIs to use Capacity building to banks to implement safeguard screening in lending to commercial growers Tendering process for bank selection Establish environmental & social safeguard systems with partner banks Monitor lending activities Staff & consultant inputs Staff & consultant inputs Loans The project will make technical advisory services available to commercial growers; procure consultant services to assist the Rift Valley Hay Growers Association to upscale supply chain management and market linkages; and ensure that commercial growers and banks supported implement appropriate safeguards against social and environmental risks. The project will provide concessional loans to FIs on performance-based terms to leverage FI credit for hay production machinery and storage investments by commercial growers. Component 2: Reduced high emission energy use in the dairy sector TA to support cooperatives and processors for energy audits and investment proposal preparation (a) (b) (c) (d) (e) Tendering process for qualified energy auditors Inform dairy cooperatives and processors of the terms of co-investment in energy audits Request for proposals for energy audits Procure consultant inputs for energy audits Implement energy audits Staff & consultant inputs The project will co-invest with dairy cooperatives (70:30) and processors (50:50) in energy audits and TA support to produce investment-grade proposals Financial assistance for investments in energy efficiency and renewable energy (a) (b) (c) Tendering process for bank selection Establish environmental & social safeguard systems with partner banks Monitor lending activities Staff & consultant inputs Loans The project will make available concessional loans to selected FIs to leverage FI credit for energy efficiency and renewable energy investments by cooperatives and processors 7

29 2.2.1 TA to biogas companies for development of business operations (a) tender for business development services from experienced provider(s) (b) implement business development support Grant finance for business development services tender Staff & consultant inputs Experienced provider(s) will be chosen to provide business development services to biogas service companies. Requests for services by biogas companies will be reviewed by the provider and the PCU, and service delivery coordinated by the provider Financial assistance for adoption of biogas by farmers (a) develop eligibility criteria for biogas service providers (b) Tendering process for bank selection (c) Establish blended grant/loan management systems and safeguard screening within selected FIs (d) provide 40% grant subsidy per application and loan finance for 80% of remaining costs Grant subsidies Concessional loans Staff & consultant inputs Grant subsidies reduce cost to farmers of adoption. Project to provide 25% of the loan value required, leveraging 75% from participating banks. Farmers will pay minimum 20% of total cost of biogas units to secure the loan Ensuring implementation of environmental and social safeguards by biogas service companies and financial institutions Tender for TA to produce social and environmental guidelines to be followed by all eligible biogas service providers Grant finance for experienced consultant to draft social and environmental guidelines Guidelines will be produced and eligible biogas service providers required to demonstrate compliance with the guidelines in their operations Monitoring and evaluation Monitor project activities, outputs and outcomes, including continued use of biogas units by supported users; implementation of safeguards and post-sales services by eligible biogas service providers; finance leveraged. Grant finance for monitoring activities Monitoring by project staff Component 3: Strengthening capacities of national institutions and stakeholders Capacity building for project participants and national organizations in MRV Monitoring and evaluation of project outputs, outcomes & impacts Share good practices and lessons for adoption and replication Stakeholder coordination (a) (b) (c) (a) (b) (c) Detailed design of project M&E system and linkages with national MRV+ and climate finance tracking systems Identification of capacity needs for operation of linked systems Delivery of capacity building support Establish project M&E system; Monitor, check data quality, report to PSC PSC assessment of progress, outputs, outcomes and issues arising to inform corrective measures and work plans (a) Elaborate knowledge management plan (b) Capture good practices, undertake evidence studies (c) Develop user-targeted knowledge products in different media (d) Disseminate good practices and lessons to targeted users (a) Convene multi-stakeholder platform (MSP) meetings (b) Establish MSP working groups (c) Facilitate MSP and working group activities Consultant inputs Training Staff inputs Staff inputs Travel costs Knowledge product media costs (printing, production etc) Dissemination activity costs Grant finance for MSP activities Staff facilitation costs The activities will be implemented in close collaboration with related Ministries and agencies. Project M&E system will meet reporting and accountability needs of GoK, AE and GCF. Good practices and lessons will be captured, developed into user-targeted materials (including training materials) and disseminated to participants in Components 1 and 2 and more broadly in the dairy sector. AE knowledge management will ensure international dissemination. MSP and working groups will bring together diverse stakeholders to coordinate activities related to key topics of mutual interest. Participation of farmers, dairy cooperatives, women and other marginalized groups to be ensured. 8

30 Component 4: Project coordination and management 4.1 Establish project management unit (PMU) (a) (b) (c) (d) Establish PMU operation procedures Recruit staff Ongoing implementation Supervision missions Staff inputs PMU operations in line with AE policies and procedures. 4.2 Establish project steering committee (PSC) 4.3 Coordinated implementation 4.4 Staff management, financial management, procurement, work planning and supervision missions. (a) agree ToR for PSC (b) convene regular PSC oversight meetings (a) preparation of annual work plans (b) implementation of tasks in annual work plans Management activities in line with GoK and AE policies and procedures Staff inputs Staff in puts Staff inputs PSC to involve AE, partner ministries and other key stakeholder representatives tbc 9

31 B. GHG EMISSION REDUCTIONS The four sub-components of the project are expected to have significant impacts on GHG emissions associated with milk production and processing. Ex ante estimates of emission reductions are shown in Table B.1. In particular, considering that this is a first-of-a-kind project with significant mitigation effects due to improved productivity of dairy cows, the purpose of this Annex is to explain how the project activities will reduce GHG emissions and explain the methodologies used to make ex ante emission reduction estimates. Table B.1: Ex ante estimate of emission reductions (tco 2e) from project components Project component Output 1.1: On-farm dairy productivity Output 1.2: Fodder production and marketing Output 2.1: Energy efficiency and renewable energy in milk collection, chilling and processing Estimated emission reductions over 10 years of project implementation Estimated lifetime emission reductions 4,135,000 4,135,000 a - b - b 2,959,539 c 2,959,539 c Output 2.2: Biogas utilization 976,000 1,708,000 d Total 8,070,539 8,802,539 a Estimated over 10 years; b Not estimated, as explained in Section 2 below; c Estimated over lifetime of technologies adopted and expected investment approvals within the project time frame; d Assuming average lifetime of 15 years. 1. Emission reductions from increasing on-farm dairy productivity 1.1 Overview of dairy GHG emissions: Dairy cows are a source of methane from enteric fermentation and methane and nitrous oxide from manure and manure management. Production of inputs to dairy production also emits GHGs, among which significant sources include the fertilizer used in feed production and CO 2 emitted in feed processing activities. 3 Detailed modelling by UN FAO for preparation of this project suggests that in the different production systems in Kenya, on average 67% of total CO 2e emissions are from enteric fermentation, 31% from manure management and deposit of manure on pasture and 2% from feed production and processing. 4 The modelling used an IPCC Tier 2 approach to estimate dairy cow emissions, and a detailed methodology developed by FAO for estimation of other life cycle emissions. 5 Analysis shows that 3 Opio, C. et al., Greenhouse Gas Emissions from Ruminant Supply Chains: A global life cycle assessment. FAO, Rome. 4 These results are taken from the CCAC funded Enteric Methane Component. For more information see: 5 Opio, C. et al., Greenhouse Gas Emissions from Ruminant Supply Chains: A global life cycle assessment. FAO, Rome. 10

32 kgco2e/kg milk for Kenya as a whole, for each kg of milk produced, about 5.2 kgco 2e are emitted. This figure is lower in semi-intensive and intensive production systems (ca. 3.1 and 2.6 kgco 2e/kg of milk). Total emissions from dairy production consist of two main elements: emissions related to maintenance of the animal and emissions related to the actual production of animal products, such as milk. Because of this fundamental relationship, as production increases the contribution of maintenance emissions decreases relative to the production-related emissions, and there is a negative relationship between GHG emission intensity of dairy production (kg CO 2e/kg milk) and milk yield per cow per year. This relationship is shown schematically in Figure B.1. For Kenya, this relationship was derived for three common dairy production systems (intensive, semi-intensive and extensive) using data from actual milk yield and estimated emission intensity per kg fat and protein corrected milk. Figure B.1: Relationship between milk yield per cow and GHG intensity in different dairy production systems in Kenya Kenya Intensive Semi-intensive Extensive 0 kg milk per cow per year Methane from enteric fermentation is strongly driven by the digestibility of feed, since more digestible feeds enable cows to convert more of the feed energy into milk, rather than release it in the form of methane. Other management practices that improve cow milk yield (e.g. prevention and treatment of disease, improved calf management, improved breeds) thus also affect GHG emissions. Therefore, as milk yield per cow increases, the GHG intensity of milk production decreases, and there is a strong synergy between yield increases and reduction in GHG emission intensity. Similar to transport emissions, where total distance travelled increases as countries develop, but CO 2 emitted per km travelled can be decreased by mitigation actions, 6 so in the dairy sector as incomes rise and the urban population increases, demand for consumption of milk in Kenya is increasing. By increasing dairy cow productivity through technical extension 6 GHG Protocol (n.d.) Calculating CO 2 emissions from mobile sources. mobile.pdf 11

33 (Output 1.1) and better availability of more digestible feed (Output 1.2), the project will decrease the GHG emission intensity of milk production (kgco 2e/kg of milk), thus meeting national food security objectives with a lower climate impact. 1.2 Dairy sector GHG emission scenarios: The contribution of the project to emission reductions at national scale was explored through scenario analysis. The analysis uses Kenya s national greenhouse gas inventory and commitments (INDC), and Kenya s Dairy Master Plan (DMP), in which per capita milk demand is forecast to expand from the current levels of 110 kg per person to 220 kg per person in This target provides the starting point for estimating future emissions and emission reduction potential of the sector. Three scenarios were constructed: The current sustained growth scenario (i.e. business as usual, or BAU, scenario) assumes the absence of specific targeted actions to increase milk productivity. Increase in milk yield per cow from the current national average of 1800 kg per cow will continue to grow at historical rates at 3% per annum to 2030 with the dairy cattle herd accounting for 80% of the milk produced domestically. The slow expansion scenario uses the animal productivity targets defined in the DMP, which assumes that in order to meet the 220 kg per capita milk consumption in 2030, dairy cattle milk productivity will have to reach 4500 kg per cow, which implies strategic interventions to improve animal productivity. This scenario recognizes that while growth is realistic, there will be a number of constraints such as land, feed, markets, or policies that will limit the achievement of 4500 kg. As such, it is assumed that milk yield in this scenario reaches 4000 kg per cow by 2030, implying annual average growth rates in per cow milk yield of 5%. The faster efficiency gains scenario builds on the slow expansion scenario but assumes faster and greater increases in animal performance. It is assumed that 4500 kg per cow milk yield is achieved earlier in 2025 due to accelerated intervention in the sector, implying annual average growth rates in milk yield of 10%. This scenario corresponds to the project intervention (see Annex D). To derive the total milk demand to 2030, the projected human population 7 was multiplied by the per capita demand for dairy products. This total was then multiplied by a factor of 0.8 to account for the fact that 80% of the total domestic milk is produced by the cattle dairy sector. Based on this, total domestic milk demand from dairy cattle sector is expected to increase 3.4 fold, from 3.4 to 11.5 billion litres. Using the average annual milk yield and the total milk demand per year, the total national milking herd required to produce was estimated. Assuming BAU yields per cow, to produce 11.5 billion litres in 2030 will require a national population of 4.1 million lactating cows, which implies an increase in the total dairy cattle herd from the current 4.3 million to almost 7.5 million head in Emission intensities, absolute emissions and the reduction potential associated with the three scenarios are derived using the Gold Standard Methodology for the Quantification of GHG emission reductions from improved management of smallholder dairy production systems using a standardized baseline 8. 7 UN DESA (2015). World Population Prospects 2015 Revision. 8 The Gold Standard Smallholder dairy methodology (2016), 12

34 Figure B.2: Historical and projected trends in emissions for the Kenyan dairy sector Figure B.2 summarizes the main findings from this assessment. In the BAU scenario, emissions are expected to grow to grow to more than 22 million t CO 2e per year in Compared to the BAU scenario, absolute GHG emissions (and emission intensities) are projected to decline in both scenarios, reflecting the continued improvements to production efficiency achieved via improved animal productivity. Compared to the BAU scenario, the percentage reduction achievable in 2030 is in the range of -24% and -59%. 9 This reduction represents between 13% to 31% of the Kenyan INDC mitigation target of 43 million tonnes CO 2 eq. in The project s interventions to increase milk productivity are in line with the faster efficiency gains scenario, but targets dairy farmers supplying the main dairy processors in the formal sector. These targeted farmers currently manage about 14 percent of the national dairy herd. Therefore, the project will realize only part of the technical potential described above. Projecting milk yield trends associated with the specific interventions planned for 5 of the main processors (see Annex D), and using the relationship between yield and GHG intensity shown in Figure B.1, the project is projected to result in accumulated emission reductions of 4.14 million t CO 2e over the 10 year project period. This represents about 15.5% of the potential reductions in the faster efficiency gains scenario, contributing almost 10% to the INDC mitigation target. 1.3 Measurement of GHG emissions during project implementation: Quantification of GHG emissions due to enteric fermentation, manure management, feed production and other production processes for large numbers of small holders with diverse feeding and management practices can be complex. This complexity can be reduced by conducting regional baseline surveys to produce standardized measures of GHG performance (e.g. as illustrated in Figure B.1), which enables GHG emissions to be estimated by measuring milk yields. Data on milk yields is also required by farmers to measure their own performance, by extension workers to enable 9 These reductions represent the maximum technical mitigation potential achievable if interventions are applied to the entire dairy sector. 13

35 them to provide relevant technical advice, and by cooperatives or processors to plan milk procurement. Therefore, collection of data on milk yields by extension agents during the project will be a key basis for quantification of project GHG emission reductions. 2. Emission reductions from increased and optimized fodder supply Increasing the volume of hay produced and marketed to smallholder dairy farmers will increase direct GHG emissions from hay production due to increased use of farm machinery, fertilizer and vehicles for transport of hay. If appropriate safeguards are not in place, conversion of natural grassland or other natural habitats to hay production can also reduce soil and vegetation carbon stocks. Therefore, stringent safeguard procedures will be applied to any project financed with project resources to ensure that these risks are abated. According to the methodology for quantification of GHGs from smallholder dairy production, 10 quantification of the GHG intensity of milk production considers GHG emissions in feed production processes, including GHG emissions embodied in fertilizer and machinery used. The methodology requires that these emissions are quantified using an approach consistent with ISO guidance on product lifecycle analysis. 11 A study in Kenya is currently planned to quantify life cycle GHG emissions from commercial hay production. Although increased production of hay increases GHG emissions in the hay production process, because quality commercial hay has a higher digestibility than fodder available on many smallholder farms during the dry season, it contributes to a lower intensity of enteric fermentation emissions from dairy cattle. For this reason, GHG emissions and emission reductions from commercial fodder production have not been separately estimated in this proposal. The GHG effects of increased production of high quality hay are captured in the estimate of emission reductions from dairy production (described in Section 1 of this Annex). 3. Emission reductions from adoption of energy efficiency and renewable energy technologies in milk chilling and processing In Kenya, about 30% of milk produced is sold to the formal market for processing. Milk is processed to produce pasteurised and homogenised market milk, butter, cheese, yogurt, custard and dairy desserts, and long-life (UHT), condensed, evaporated or powdered milk products. Milk processing uses significant amounts of energy ( MJ/kg of milk intake). 12 In Kenya, the majority of dairy plants use electricity from the national grid, but also combust fossil fuels (e.g. oil) to generate steam and hot water for evaporative and heating processes. Some electricity is also used for running electric motors, refrigeration and lighting. Diesel generators are often used as back-up. Energy consumption can be reduced by improving the efficiency of energy use, either by changing energy management (e.g. switch-off programs and improvement of existing processes) or by 10 Gold Standard Methodology for the Quantification of GHG emission reductions from improved management of smallholder dairy production systems using a standardized baseline 11 ISO 14040:2006 Environmental management Life cycle assessment Principles and Framework; ISO14044:2006 Environmental management Life cycle assessment Requirements and guidelines. 12 See for a general overview. 14

36 installing more energy-efficient equipment and heat recovery systems. Reductions to energy consumption as low as 0.3 MJ/kg of milk intake can be achieved. Milk processing also uses large amounts of water for cleaning equipment (often in the range of L/kg milk intake). Water use requires energy for pumping and other processes. Improving the efficiency of water use, by improving cleaning processes or upgrading equipment, can also reduce energy consumption. In addition to energy efficiency interventions, consumption of high emission energy can be reduced by switching to renewable energy sources, e.g. co-generation of electricity and heat onsite or by recovering methane from anaerobic digestion of effluent. The GCF Mitigation Performance Framework 13 suggests that quantification methods should be informed by multilateral development banks /international financial institutions (MDBs/IFIs) GHG accounting harmonization work on energy efficiency and renewable energy. 14 The latter mandates the use of internationally recognized quantification frameworks for ex ante estimation at appraisal stage of GHG emissions due to all activities, facilities or infrastructure funded by the MDB/IFI. Emission reductions reported annually are the net GHG emission reductions for appraised projects that are approved or for which investments are signed. This project will also adopt this approach. Individual investment proposals will include an estimate of reductions in energy consumption and GHG emissions compared to a baseline estimate for the relevant facility or process. This ex ante estimate together with documentation of investments actually occurring will provide the basis for quantification of GHG emission reductions under project Component Emission reductions from adoption of biogas The decomposition of manure (dung and urine) in the absence of oxygen (i.e. anaerobic conditions during storage) produces methane. The main factors affecting methane emissions are the amount of manure produced and the portion of the manure that is managed under anaerobic conditions. The temperature and the retention time of the storage unit greatly affect the amount of methane produced. When manure is handled as a solid (e.g. in stacks or piles) or when it is deposited on pastures, it decomposes under more aerobic conditions and less methane is produced. 15 Methane produced by the anaerobic decomposition of manure or other biomass can be captured and combusted. This is the purpose of biogas digesters, which are designed to produce and capture methane from the decomposition of manure and other biomass. Therefore, the energy produced by combustion of biogas can be used to displace energy from other, non-renewable sources. In Kenya, fuel wood provides 68% of energy. 16 Rural households also use charcoal and energy from non-renewable fuels, such as kerosene and LPG PMF_.pdf/60941cef-7c87-475f-809e-4ebf1acbb3f4 14 International Financial Institution Framework for a Harmonised Approach to Greenhouse Gas Accounting, Nov IPCC, IPCC 2006 Guidelines for National Greenhouse Gas Inventories, Vol. 4, Ch Ministry of Environment, Water and Natural Resources (2013) Analysis of Demand and Supply of Wood Products in Kenya 17 KENDBIP (2011) Socio-economic and gender baseline survey for the Kenya National Domestic Biogas Programme 15

37 Therefore, when properly utilized and assuming no increase in household energy consumption, adoption of biogas can reduce the emission of methane from manure management, reduce CO 2 emissions from combustion of fuel wood and charcoal, and GHG emissions from combustion of other non-renewable fuels. Quantification of GHG effects can be accomplished following internationally approved methodologies, which have been specifically designed to account for displacement of different non-renewable energy sources by biogas energy. 18 In the Kenyan context, three CDM methodologies are widely applicable to quantification of reduction in emissions from different sources: AMS-I.E Switch from non-renewable biomass for thermal applications by the user can be applied to calculate emission reductions from displacement of fuel wood and charcoal; AMS-I.I Biogas/biomass thermal applications for households/small users can be applied to calculate emission reductions from the displacement of fossil fuels; AMS-III.R Methane recovery in agricultural activities at household/small farm level can be applied to calculate the emission reductions due to the avoidance of methane emissions from manure handling. For the purposes of ex ante estimate in this project concept note, a review of existing CDM project and programme of activities design documents for Kenya was made. These gave an average emission reduction per biogas unit per year of 6.1 tco 2e, accounting for potential methane leakage by 5%. This average was applied to the numbers of biogas units proposed to be installed in the project period (see Annex H). To estimate lifetime GHG emission reductions, it was assumed that the average lifetime of a biogas unit is 15 years, which is the mid-range presented in Table H.2 in Annex H

38 C. JUSTIFICATION OF CONCESSIONALITY 1. Key considerations GCF Board Decisions and related documentation 19 produced by the GCF provides guidance on the principles governing the use of GCF funds and levels of concessionality of GCF funds to the public sector. GCF funds can be deployed through grants, concessional loans, guarantees and equity investments. 20 Since the fund has limited resources, it is important that its resources are used efficiently and effectively in a manner that ensures financial sustainability in achieving the paradigm shift towards low-emission, climate resilient outcomes; that is economically and financially feasible for the country; that generates reflows from successful projects and programmes to replenish the fund; and that leverages third-party public and private investments in achieving the fund s objectives. In particular, from the GCF perspective: 1. Grant elements should be tailored to incremental cost or the risk premium required to make the investment viable, or to cover specific activities such as technical assistance Deployment of low level concessional loans are preferred to high level concessional loans, and concessional loans are preferred to grant funding. The budget for the project is summarized in Table C.1. The table shows that a total of $ million is requested from the GCF. Of this, $ 9.77 million is in the form of non-returnable grant, representing 17.4% of the GCF project cost; $ 10 million is in the form of credit guarantees; and $36.19 million in the form of concessional credit. Concessionality leverage, calculated as the non-grant element / grant element, is The grant proportion is therefore low. The justification for the grant elements is given in Section below. Table C.1: Summary of total project financing by type of instrument and source (US$ million) GCF AE GoK FIs dairy private sector Loans Guarantees Grants & TA Staff costs Travel & per diem other Admin costs Sub-total Total project cost Private sector co-finance In particular GCF/B.10/06 Levels of Concessional Terms for the Public Sector 20 B.08/12 21 Annex III to decision B.05/07 17

39 The total amount of third party finance leveraged over the project period is $ million, representing a third party leverage ratio of 2.97, i.e. for each $ 1 of GCF finance (grant, concessional loan and guarantee), an additional US$ 2.97 will be invested. Of this, $ million will be provided by in the form of grants and direct costs by the AE, $2.2 million by Government of Kenya, and $ million will come from the private sector (i.e. financial institutions, dairy processors and farmers). All of this co-finance is incremental to expenditures by these parties that would occur in the absence of the project. 2. Justification of concessional elements Concessional terms for the project can be justified in terms of the project and in terms of the income level of Kenya and the beneficiaries. 2.1 Project justification for concessionality The project will not generate revenue for the implementation entity. 22 The project s interventions are justified by their impacts on development and the global climate. On the one hand, the majority of dairy farmers in Kenya are subsistence or semi-commercialized smallholder farmers. The project s interventions will increase smallholders incomes from their dairy enterprise and reduce energy provisioning costs for households adopting biogas. At present, credit provided by the formal finance sector to smallholders is a very small proportion of FI s total loanbook. This is mainly due to high transaction costs for banks, a lack of visibility of farmers cash flows, and a short history of engagement in the sector for most FIs. The concessional finance to smallholders and cooperatives in the project aims to overcome these market imperfections. Dairy farmers, cooperatives and processors also have limited ability to invest in energy technologies that reduce GHG emissions. At the farm level, the high initial cost of investment in biogas is the most pervasive barrier to investment. At the processor level, few bankable energy efficiency interventions have been identified because conducting energy audits is only a recent practice in the sector, and many banks are also not familiar with the risks associated with this type of investment. Therefore, the TA for energy audits will overcome the first of these barriers, while concessional finance will increase FIs appetite for investment in energy efficiency. The previous lack of monetary value placed on GHG emission reductions from dairy productivity gains and energy technology adoption is another market imperfection that currently requires concessional finance to address, since markets for GHG emission reductions have a very limited role in Kenya. In each case, the provision of concessional finance is linked to an explicit exit strategy, whereby FI s gain experience and understanding of operations and risks in the sector, which will increase their ability to engage with farmers, cooperatives and processors in financing low-emission dairy development interventions in the longer-term. The on-lending of concessional finance to FIs and by FIs to the beneficiaries will use terms and conditions (interest rate, grace period, tenors) that are below-market conditions in order to overcome these market imperfections. The related TA 22 By promoting development of the dairy sector, some additional revenue to GoK from taxation is expected, but this is minimal compared to the development and climate benefits. 18

40 and the experience gained by FIs and other stakeholders in the project period will serve to reduce the barriers posed by these market imperfections, thus creating conditions for sustainable finance to the sector in the longer term Grant elements: In line with the principle that the GCF only funds incremental costs of project activities, all estimates of total and project costs in this concept note refer to incremental costs only. This applies also to the grant components. The grants proposed in the project are incremental to any expenditures that the relevant stakeholders are likely to have made in the absence of the project. In particular, grant activities that are budgeted to the GCF contribution relate specifically to grant finance for activities that make a direct contribution to the GCF fund impacts and for budget items that directly reach the intended beneficiaries (Table C.3). Table C.3: Justification for grant elements Grant element Grant element activities Fund Impact indicators TA for financial support to farmers and cooperatives (US$ 2.2 M) TA for energy efficiency / renewable energy investment in dairy processing (US$ 0.34 M) Partial grants for biogas installation (US$ 7.3 M) Training FI agriculture credit staff Capacity building in product development for dairy sector Enhancing MIS Energy audits co-financed with beneficiaries Capacity building to FIs in assessment of energy efficiency investment proposals Partial subsidy to initial cost of installing 20,000 biogas units * Tonnes of carbon dioxide equivalent (t CO2eq) reduced a M3.1 *Tonnes of carbon dioxide equivalent (t CO2eq) reduced or avoided buildings, cities, industries, and appliances M7.1(c) tco2eq emissions reduced or avoided as a result of investments in lower emission industry M1.1 *Tonnes of carbon dioxide equivalent (t CO2eq) reduced or avoided from gender-sensitive energy access and power generation a GCF expected result 9.0 (improved management of land and forests) is not directly applicable to the livestock component of this project, so the relevant core fund level impact indicator is shown Concessional loans: GCF/B.10/06 Levels of Concessional Terms for the Public Sector indicates that high concessionality terms would be offered to vulnerable countries. There is a strong 19

41 correlation between income level and vulnerability to climate change. Kenya has a GNI per capita below the OECD lower-middle income threshold, 23 and is also an eligible IDA borrowing country. 24 Kenya ranks 154 out of 178 countries in the ND-GAIN index (2014). 25 Therefore, Kenya meets the GCF criteria for a vulnerable country, and is eligible for highly concessional terms. 26 The terms and conditions for concessional loans applied for in the project are indicated in Table C.2. Table C.2. Terms and conditions for concessional loans applied for Currency Maturity Grace period Annual principal repayment Yrs Annual principal repayment Yrs interest Service fee per annum Commitment fee (per annum) USD % 4% 0.75% 0.25% 0.50% External debt management is a key element of Kenya s fiscal policy. Public debt is high, at more than 40% of GDP. External debt is largely in the form of multilateral concessional debts (52.3% of total external debt) and bilateral debt (24.5%), while commercial debt represents 21.8% of total external public debt. Analysis by the IMF and GoK indicates that current debt level are sustainable. Policy on public debt is stated in the Medum-Term Debt Management Strategy Government policy is to procure external financing only for development projects, and in order to maintain public debt at sustainable levels, the policy is explicit that external financing will be largely on concessional terms. This policy applies also to climate finance and development interventions with climate benefits. Recent concessional loans from related international partners typically have terms and conditions similar to those indicated as available for vulnerable countries in GCF board decisions, 28 and the concessional terms applied for as indicated in Table C.2 above are in line with the terms and conditions of the GCF board decision GCF/B.09/23 Annex II 20

42 D. FEASIBILITY STUDY FOR COMPONENT 1 (1.1.1 PROCESSOR-LED PROVISION OF GENDER-INCLUSIVE EXTENSION SERVICES TO THEIR SUPPLIERS) 1. Overview Globally, and in Kenya, the majority of GHG emissions from the dairy sector are produced in onfarm milk production. 29 In on-farm milk production, low milk yields per cow are directly related to a high GHG intensity (kg CO 2e/kg milk) (see Annex B). Low milk yields also mean low returns for smallholder farmers, who produce the vast majority of Kenya s milk. Women play key roles in dairy cow management on smallholder farms. Many studies in Kenya have shown that a range of improved practices, including feeding, breeding, animal health and calf management, can increase milk yields per cow 30 and that extension can increase adoption of these practices. 31 Several past and current donor-funded projects have also demonstrated that dairy farmers can benefit greatly from provision of extension services. 32 However, it is only in recent years that Kenya s major dairy processors have begun to show interest in investing in extension support to farmers in their own supply chains, and some have recently begun to pilot delivery extension activities. By assisting and incentivizing dairy processors to institutionalize mechanisms for finance and delivery of extension services in their supply chains, the project will transform the long-term pathway of GHG emissions in on-farm milk production. Therefore, project sub-component 1.1 aims to assist and incentivize dairy processing enterprises to invest in gender-inclusive extension support to their suppliers, resulting in increased adoption by men and women dairy farmers of productivity-enhancing, climate-resilient, low-emission on-farm milk production practices. Specific practices for promotion will depend on the local dairy farming context. Based on the existing experiences of dairy extension services provided by dairy processors in Kenya, these practices are likely to include: Feeding: on-farm production of fodder crops (particularly fodder with higher digestibility e.g. quality hay, silage), fodder storage, linking farmers to fodder and feed markets, training in proper balancing of feed rations; water management; Breeding: access to artificial insemination, advice on selection of purchased heifers and bulls, heat detection skills, selective culling; Animal health: use of veterinary services, regular tick control, vaccination and disease control, parasite control; Animal management: improved housing and housing design for animal welfare, improved management of manure for animal welfare; sanitary milking and milk storage. 29 Opio, C. et al., Greenhouse Gas Emissions from Ruminant Supply Chains: A global life cycle assessment. FAO, Rome. 30 Bateki, C (in preparation), On-farm management practices that increase milk yields among smallholder dairy farms in Kenya: a systematic review 31 Kiff, L. et al. (in preparation), Factors influencing the adoption of technologies, management practices and marketing channels in smallholder dairy production in Kenya: a systematic review 32 E.g., Smallholder Dairy Commercialization Project (IFAD), East Africa Dairy Development Project (Heifer International), Kenya Market-led Dairy Programme (SNV). 21

43 Specifically, the project will work with dairy processors to increase the coverage and effectiveness of extension services, and to integrate gender-sensitive approaches in their extension activities, along with capacity building for addressing animal waste and animal welfare. This project component is based on partnerships with 5 processors: a. New KCC: NKCC has 54,000 long-term suppliers. NKCC has been piloting a new extension system to support its long-term suppliers since The system is funded from an extension contribution of KSh 0.5 per liter of milk procured from participating farmers. The project will build on the current pilots to increase the number of farmers accessing extension and improve the quality of extension support provided. b. Brookside: Brookside is the largest milk processor, with an estimated 125,000 suppliers. To date, Brookside has been working with its stakeholders to provide a limited range of extension services. The project will work with Brookside to pilot contracting of extension services to private dairy extension companies and demonstrate the value to Brookside s business of investing in extension. c. Meru Central Dairy Cooperative Union: MCDCU is a farmer-owned processor. It currently has about 9500 regular suppliers, of whom about 5,000 have access to extension support from MCDCU and an international NGO-implemented project. The project will work with MCDCU to develop a financing mechanism to expand coverage and effectiveness of these extension services, enabling the services to be provided in the long-term. d. Mukurweini Wakulima Dairy Co is a farmer-owned dairy processor with 6,500 regular suppliers. It began to deliver extension services 2 years ago, and has developed a model that effectively supports about 300 farmers. The project will build on this emerging experience to increase the number of farmers accessing extension and improve the quality of extension support provided. e. Githunguri Dairy is a farmer-owned dairy processor with 22,000 members. It already provides extension services to its suppliers. Milk quality is a major challenge, resulting in a significant proportion of milk rejections. The project will work with Githunguri to improve current extension services and develop a quality-based payment system, resulting in reduced milk losses. These processors collaborated closely during concept note development, but no firm commitments were made until full proposal development. The specific support provided by the project will depend on the specific needs of each processor s extension service system and the needs of their clients. In general, the project will support the processors to increase the coverage and effectiveness of extension services by: Co-financing for a limited period the non-staff costs of up-scaling existing extension systems, or co-financing non-staff costs of piloting new extension mechanisms; TA for development of sustainable financing mechanisms for extension systems; Co-financing procurement of transportation to enable extension staff mobility; Co-financing procurement of equipment for digitization of farmer monitoring systems and TA for development of farmer monitoring systems TA to support processors to develop gender-inclusive extension methods and extension modules addressing manure management and animal welfare. 22

44 Co-financing and TA investments in these components will directly incentivize processors to invest their own resources in expanding and increasing the effectiveness of their extension activities. 2. Beneficiaries It is estimated that of the total 217,000 suppliers of these 5 processors, 16% currently have access to effective extension services. 33 Based on targets discussed with each processor, the project aims to provide effective, gender-inclusive extension services to 128,000 households (i.e. 59% of total current suppliers) within the first 5 years of implementation, increasing to 153,000 by Year 10 (i.e. 70% of total current suppliers, and approximately 15% of total suppliers in Kenya) (Table D.1). Based on average rural household population for Kenya, the target beneficiaries are thus about 916,000 people, including about 458,000 women. From Project Year 5 onwards, each processor will be financing and/or providing its own extension services. Table D.1: Extension sub-component beneficiaries (x1000) Total suppliers (2015) With extension (2015) PY1 PY2 PY3 PY4 PY5 PY6 PY7 PY8 PY9 PY10 NKCC MCDCU Mukur Githu Brooks Total Financial and economic analysis In discussion with each processor, a with-project and without-project scenario was developed. The without-project scenario describes the extension coverage and change in yields for their suppliers in the absence of the project investment. The with-project scenario describes the coverage and change in yields with the project investment (see data in Appendix 1). The with-project scenario also estimates the cost per liter of milk that processors could apportion to cover extension costs. In the estimation of farmers returns in the with-project scenario, this cost is added to farmers on-farm production costs. The net present value (NPV) 34 and internal rate of return (IRR) were calculated for the increase in farmer net revenues between the two scenarios. Table D.2 shows the main results of financial analysis. 33 This does not include the 22,000 members of Githunguri, who have access to extension but not a quality-based payment system, which is the focus of the proposed activities with Githunguri. 34 A discount rate of 12.5% was used. 23

45 Table D.2: Main results of financial analysis NPV Ksh NPV USD FIRR NKCC 25,819, ,983 28% MCDCU 12,197, ,231 17% Mukurweini 62,097, ,482 61% Githunguri 199,435,163 2,031,322 Not calculated Brookside 72,249, ,887 30% Total 371,798,292 3,786,905 44% For each processor-led initiative, the NPV of farmers incremental net revenues is positive. Financial IRR was calculated for farmers in 4 of the 5 processor-led initiatives, 35 and these range between 17% and 61%, and 44% for the whole portfolio. These results are highly sensitive to assumptions about the milk price and the cost of production, in particular the cost of production as yields increase. Experience from the IFAD Smallholder Dairy Commercialization Project confirms that as yields increase, production cost per litre decreases. 36 Returns to the processors were not estimated. Processors gross margins are typically between 15% and 20%. Therefore, any increase in milk procured by the processors is profitable for the processors and this provides the fundamental incentive for processors to invest in extension services to their suppliers. Economic analysis used the following conversion factors: unskilled labour 0.6; skilled labour 0.8; liquid milk 1; communication costs 1; all other traded goods A social discount rate of 7% is taken as the reference benchmark. GHG emission reductions were valued at US$ 5/tCO2. 37 Other potential benefits, such as improved nutrition resulting from increased availability of milk for consumption on-farm, were not valued. Results show that the economic returns to investment are highly positive (Table D.3). Table D.3: Main results of economic analysis NPV Ksh NPV USD EIRR NKCC 1,545,859,621 15,745, % MCDCU 133,821,882 1,363,026 50% Mukurweini 469,973,076 4,786, % Githunguri 139,642,346 1,422,309 not calculated Brookside 3,823,774,331 38,946, % Total 6,113,071,256 62,163, % 35 For Githunguri, incremental cash flows were positive in all years so the IRR could not be calculated. 36 IFAD SDCP staff, personal communication 37 $5 per tco 2e is representative of the value of investments in GHG emission reductions by a number of multilateral funds. However, it is very conservative compared to the estimated social cost of carbon. The US government estimates the social cost of one tonne of carbon emitted in 2015 at between $11 and $109 (Interagency Working Group on Social Cost of Carbon, United States Government Technical Support Document: Technical update of the social cost of carbon for regulatory impact analysis under Executive Order Document available at accessed 18 May 2015). 24

46 4. Project investments Current expenditures on extension and projections of extension plans were used to define the baseline (without project, WOP) expenditures on extension. Based on the needs and plans of each processor-led initiative, the full cost of delivering extension services was estimated for the with-project scenario, on the basis of which the incremental costs above WOP costs were calculated. The costs considered in the WOP and WP scenarios for each processor include: Salaries, per diems and communication costs of extension staff Transport and other costs in extension activities Procurement of goods for extension worker transportation and digitization of farmer documentation (monitoring) systems Procurement of technical assistance services for gender-inclusive extension methods, manure management and animal welfare. In addition to the activities in each processor-led initiative, project administration and TA procured directly by the PCU were estimated for capacity building in extension financing, genderinclusive approaches, animal welfare and manure management, and to capture and share best practices and lessons learned. Table D.4 shows the total incremental costs of implementing the project activities in this subcomponent. The total incremental cost of implementing the proposed extension activities is $ million. Of this, $ 9.92 will be provided through grants and grant-funded procurement of goods and services. This grant will be provided by the AE, so the full costs of this sub-component is co-financed to leverage the GCF contributions in other project components. Building the capacity of processors to finance and coordinate the delivery of gender-inclusive extension services in the long-term is the main justification for use of grant finance in the project sub-component. While the financial analysis indicates that such investments are profitable (Table D.2), individual farmers typically under-invest in extension services, and an aggregator (e.g. processor) is needed to carry the transaction costs of organizing extension service delivery. For processors, the investments required are large, and innovative mechanisms are required to make large investments without having short-term adverse impacts on corporate balance sheets. Grant finance can help processors and their supply chain partners carry the risks of such innovations, while demonstrating the business case for supporting extension mechanisms. Farmers and processors will contribute 58% of the total incremental project costs of this subcomponent. Table D.5 summarizes the different models through which farmers and processors will contribute their co-finance. The purpose of working with processors and their suppliers to finance extension services is to ensure a sustainable source of funding for extension after the end of the project. The cost per liter of milk of funding extension activities shown in Table D.5 represents the cost at which extension services developed through the project would be financially sustainable after the project ends. Through the mechanisms described in Table D.5, processors and their suppliers will invest a total of $ 13.6 million in extension during the 10 year project implementation period, and an estimated $3.3 million per year thereafter. 25

47 Table D.4: Total incremental costs of project extension component Project costs (US$ million) a Co-financing by farmers or processors (US$ million) b Total incremental costs (US$ million) b Total incremental cost per household (US$) b Percentage of total incremental costs from farmers or processors NKCC MCDCU Mukurweini Githunguri Brookside Project TA c TOTAL a Project investments concentrated in PY1-PY5. b Costs and investments over the 10-year project period. c Not including component staff and admin costs, which are accounted for in Component 4. Table D.5: Summary of project and co-funding sources NKCC MCDCU Mukurweini Githunguri Brookside Project investments Incremental costs of extension services and MRV in first 5 years Incremental costs of extension services and MRV in first 5 years Incremental costs of extension services and MRV in first 5 years Development & piloting of quality-based payment system (QBPS) in first 3 years Piloting of private extension services in first 3 years. Co-funding components & sustainable financing strategy Basic operation costs Financed from extension contribution KSh 0.5/liter Basic operation costs Financed from extension contribution KSh 0.34/liter Basic operation costs Financed from extension conribution KSh 0.6/liter After PY3, financed from QBPS contribution of KSh 0.34/liter After PY3, financed by the processor. Projected annual investment after project end (US$) 1,222, , , ,266 1,201,791 TOTAL - - 3,314, GHG emission reductions The methodology used to estimate GHG emission reductions from increasing dairy productivity is described in Annex B. Estimation of emission reductions used data on the cow population and annual yield estimates for each processor-led initiative (see data in Appendix 1 to this Annex), and the relationship between annual yield and the GHG intensity of milk production (kgco 2e/kg milk) reported in Annex B to estimate the GHG intensity of milk production for the WP and WOP 26

48 scenarios in each processor-led initiative. Following the Methodology for Quantification of GHG Emission Reductions from Improved Management in Smallholder Dairy Production Systems using a Standardized Baseline, emission reductions are calculated as: ER = (WOP GHGI * WP yield) (WP GHGI * WP yield). The results are shown in Table D.6. During the 10 year project implementation period, cumulative emission reductions total 1.05 million tco 2e in the first 5 years, and 4.14 million tco 2e over the 10 year project period. After the end of the project, annual emission reductions would be at least 0.7 million tco 2e per year. 38 Table D.6: Estimated annual emission reductions from extension component (thousand tco2e) PY1 PY2 PY3 PY4 PY5 PY6 PY7 PY8 PY9 PY10 NKCC MCDCU Mukur Githu Brooks Total Reducing numbers of cattle (e.g. to increase feed availability for remaining cows) may further decrease GHG emissions. In strategic planning exercises conducted in a number of counties, 39 stakeholders clearly expressed their aim to increase total milk output while reducing the cow population. However, in most areas, the majority of producers have a small number of cows, which in addition to producing milk also have other livelihood functions. 40 Therefore, we conservatively omit any assumption that the numbers of cattle per household may decrease, although managing herd structure may be a component of specific extension messages. Following the Methodology for Quantification of GHG Emission Reductions from Improved Management in Smallholder Dairy Production Systems using a Standardized Baseline, GHG emissions from dairy cow management will be estimated using data from regional baseline surveys conducted by the project, which will be used to establish the relationship between milk yield and GHG intensity in the main dairy producing areas of Kenya. During project implementation, each processor will be supported to develop a digitized farm documentation system. These systems will not only provide information on farm management needs and extension activities conducted, but will also provide the data needed for estimation of GHG emissions and milk output in the project implementation period. This data will be reported to the PCU for calculation of GHG emission reductions. The project will co-finance the design and establishment of these 38 This is a conservative estimate based on the PY 10 figure in Table D.6. If Brookside replicates the approach to its remaining 65,000 suppliers, annual emission reductions would be about 1 million tco 2e per year after the project ends. 39 KDB Strategic Planning exercise, Weiler, V. et al. (2014). Handling multi-functionality of livestock in a life cycle assessment: the case of smallholder dairying in Kenya. Current Opinion in Environmental Sustainability, 8,

49 documentation systems, and TA activities will provide capacity building to processors and their extension partners in the operation of these systems. 6. Social and Environmental Safeguard Screening During the project concept phase, a full screening of the social and environmental management systems (SEMS) of each processor was not conducted. The main social and environmental risks were identified through expert judgement on the basis of the common characteristics of production systems in the main milk catchment areas, common issues observed in dairy intensification processes in Kenya, and specific guidance in the IFC social and environmental safeguard standards and good practice guidance. The GCF gender policy was also consulted. The main potential risks are highlighted in Table D.7 along with mitigation measures incorporated in the project design. Table D7: Social and environmental risk screening and mitigation measures Safeguard domain Risk assessment Mitigation measures IFC PS 1: Assessment and Management of Environmental and Social Risks and Impacts IFC PS 2: Labor and Working Conditions IFC PS 3: Resource Efficiency and Pollution Prevention IFC PS 4: Community Health, Safety, and Security IFC PS 5: Land Acquisition and Involuntary Resettlement IFC PS 6: Biodiversity Conservation and Sustainable Management of Living Natural Resources IFC PS 7: Indigenous Peoples Processors are likely to be compliant with the main national laws and regulations, but may not have explicit ESMS covering all risks. Where ESMS do exist they are not likely to extend into the supply chain. Processors are likely to be compliant with the main national laws and regulations. Main risks in processing facilities are inefficient use of water and energy resources and potentially effluent discharge management. Manure management is the main risk at farm level. Few risks are likely to occur. Not likely to be relevant. Few risks are likely to occur. Potential involvement of indigenous peoples (pastoralists or hunter-gatherer peoples in Kenya) in component activities. In full proposal development phase, assess ESMS of all participating processors. Provide TA on establishment and operation of ESMS. In full proposal development phase, assess compliance of all participating processors. Project Component 2 will support farmers and processors to address these issues. TA has been designed to assist extension workers to incorporate manure management in their extension services In full proposal development phase, assess compliance of all participating processors. Risks should be assessed in full proposal development phase when specific locations have been finalized. 28

50 IFC PS 8: Cultural Heritage Animal welfare GCF Gender Policy Not likely to be relevant. Animal welfare issues common on smallholder farms in Kenya include housing design, animal health, and cleanliness related to manure management. Numerous gender issues are common in milk production, procurement and payment. TA has been designed to assist processors and extension workers to incorporate animal welfare into extension activities. TA has been designed to assist processors and extension workers to identify and address gender issues as an integral component of project activities. Full proposal development must include gender analysis and further elaboration of the gender TA activities. 29

51 Appendix 1: Supplementary data used in financial and GHG analysis Note: WOP= without-project scenario; WOP = with-project scenario Table S.1: Dairy cow population of targeted households in WOP and WP scenarios PY1 PY2 PY3 PY4 PY5 PY6 PY7 PY8 PY9 PY10 NKCC 127, , , , , , , , , ,548 MCDCU 21,100 21,100 21,100 21,100 21,100 21,100 21,100 21,100 21,100 21,100 Mukuweini 13,000 13,000 13,000 13,000 13,000 13,000 13,000 13,000 13,000 13,000 Githunguri 44,000 44,000 44,000 44,000 44,000 44,000 44,000 44,000 44,000 44,000 Brookside 120, , , , , , , , , ,000 Total 325, , , , , , , , , ,648 Total cattle population* 592, , , , , , , , , ,087 *Assuming dairy cows are 55% of the total herd. Table S.2: WOP average milk yield per cow per year PY1 PY2 PY3 PY4 PY5 PY6 PY7 PY8 PY9 PY10 1. NKCC MCDCU Mukurweini Githunguri Brookside Table S.3 WP average milk yield per cow per year PY1 PY2 PY3 PY4 PY5 PY6 PY7 PY8 PY9 PY10 1. NKCC MCDCU Mukurweini Githunguri Brookside Weighted average

52 E. FEASIBILITY STUDY FOR COMPONENT 1 (1.1.2 FINANCIAL ASSISTANCE FOR ON-FARM INVESTMENTS BY FARMERS AND COOPERATIVES) 1. Overview Increasing productivity of dairy production will require capital investments by farmers (for improved breeds, improved housing, fodder cultivation, farm equipment and biogas) and by farmer groups or cooperatives (for chilling and pasteurising equipment, milk transport vehicles, information systems, and other equipment related to services provided to their members). Currently, affordable financial access for farmers is limited, with most farmers relying on informal loans. Savings and credit cooperatives (SACCOs) are the formal financial institution most closely engaged with both farmers and cooperatives. However, SACCOs are restricted in their access to international finance. Commercial banks are experienced in management of international funds, but typically focus on SMEs in the agriculture sector, and few dairy farmers directly access loans from banks. Increasing financial inclusion in the dairy sector can be achieved by increasing the visibility of dairy farmers commodity and financial flows through automation of information systems in cooperatives, through innovation in credit products, by capacity building to financial institutions, and by structuring relationships between commercial banks, SACCOs and cooperatives. The activities in this component propose a mix of concessional credit, credit guarantees and technical assistance grants. Total GCF funds of US$ 32.2 million (US$ 20 million of concessional credit, US$ 10 million of credit guarantee, and TA grant of US$ 2.2 million) would leverage bank finance of US$ 70.3 million, making a total (GCF + FI resources) of US$ 90 million in credit available to farmers and cooperatives. In addition, the costs of administering the financial assistance activities are estimated at $345,000 over 10 years. 2. Project context The milk industry in Kenya is largely dominated by smallholder farmers who produce about 80 per cent of milk. The other 20 per cent is produced by medium farmers, large farmers and pastoralists. About 42% of milk is consumed on-farm. Smallholders also sell their milk to the consumers, co-operatives, and processors. They are mostly paid in cash by informal traders and consumers on a daily or weekly basis. The co-operatives and processors pay farmers on a monthly basis. Low productivity is widespread, and overcoming this requires finance for investment in improved breeds, improved cow housing, fodder production and biogas, as well as operating capital. Dairy cooperatives and farmer groups play a vital role in the daily sector. They supply around 58% of the total milk marketed through formal channels. 41 Farmers benefit from group or cooperative membership due to a reliable market outlet, economies of scale in milk marketing, provision of inputs and input credit, linkages to financial institutions for credit and saving, and other 41 Estimate based on data provided by KDB. 31

53 services provided by cooperatives (e.g. A.I services). Most milk collected by co-operatives is channelled to processors. Farmer groups and cooperatives require finance to perform their milk marketing functions (e.g. milk coolers, transport vehicles, IT systems, operating capital) and to provide other services (e.g. fodder cultivation and harvesting machinery contracting, AI infrastructure etc). Processors are keen to work with cooperatives, because this reduces transaction costs of milk procurement and supply fluctuations. 2.1 Demand for and access to finance by dairy farmers and cooperatives Dairy farmers, and particularly women, make limited use of credit from formal financial institutions. Surveys in rural Kenya show that almost 80% of dairy farming households have never had a loan product from a formal institution (banks, online banks, SACCOs, micro-finance or government fund). 42 Savings and loans from family, friends, neighbours and credit from local shops or suppliers are more common than other sources, followed by loans from informal savings groups. However, average loan volumes from these informal sources are much smaller than those potentially available from formal institutions. Among formal sources of credit, SACCOs are the most commonly used source. Commonly reported barriers to accessing credit include: lack of collateral, which is partly related to the land tenure system in Kenya, and self-perceived inability to repay, which is partly related to low dairy productivity and partly to the mismatch between loan conditions and household or dairy enterprise cash flows. Lack of a financial track record is among the main reasons for refusal of loan applications. However, many dairy farmers do not attempt to apply for formal credit, fearing loss of assets, or preferring to rely on savings to finance their enterprise. Innovation in financial products to address these barriers to financial access can increase farmers investment in their dairy operations. For example, group lending products reduce or remove collateral requirements. Co-operatives and farmer groups are also able to ease access to financial services by providing credit guarantees to dairy farmers, and through their record keeping systems provide visibility to farmers financial track record. Group lending products have been found to be effective in increasing women s access to credit. Making women visible in milk supply records (where male household heads tend to be named) may also increase their access to finance. Estimates of credit demand among dairy farmers should therefore consider these limiting factors. For a representative farm, capital investment needs can be estimated at about US $5,600 per household including a heifer of improved breed, improved housing, fodder cultivation unit, farm equipment and a biogas unit, with investments spread out over 2-3 years. In addition, they would need working capital of about US$ 1,500. Assuming a target group of 217,000 farmers, 43 total investment needs over 2-3 years would be about US$ 1.2 billion, implying a credit need of about US$ 960 million. However, not all farmers are perceived as creditworthy, are willing to borrow, and would prioritize borrowing for investment in their dairy enterprise. Using low, median and high reports from the literature on dairy farmer creditworthiness, willingness to borrow 42 FinAcess survey i.e. total number of suppliers of the main dairy processors as reported in Annex D. 32

54 and borrowing for dairy investment, low, median and high estimates of possible effective demand are shown in Table E.1. Technical extension and advisory services that increase financial returns to dairy farming would increase households creditworthiness and improving eligibility and borrowing conditions would increase willingness to borrow. Table E.1: Estimation of effective demand for on-farm capital investments in the dairy enterprise Low estimate Median estimate High estimate Total number of households 217, , ,000 Credit worthy households 95, , ,390 of which willing to borrow 7,638 40,818 75,603 of which prioritizing investment in dairy enterprise 1,146 7,959 27,973 US$ loan per household 4,480 4,480 4,480 Total effective credit demand (US$) 5,133,005 35,658, ,319,201 Co-operatives also need financial services from financial institutions to run their day to day activities such as milk collection, payment for milk deliveries, other operation costs, and they need credit for investments in infrastructure and equipment. Investment needs of cooperatives vary considerably, depending on their business model (e.g. whether they bulk and market milk only or also do value addition) and on the range of services they supply to their members (e.g. whether they also provide fodder mechanization and storage services). Cooperatives that are able to provide financial visibility for their members also require an automated documentation system. Estimated costs for an automation system are about US$ 150,000, while a 5000 L cooler costs about $180,000 and a pasteurization unit may cost about US$ 40,000. Other business lines (e.g. fodder machinery, milk transport vehicle) may also require investments of up to $200,000. There are a total of 412 registered dairy cooperatives in Kenya, of which 297 (i.e., 72%) are reported to have no installed milk coolers. Assuming that these cooperatives also have no automation systems, basic investment needs (i.e. milk cooler plus automation system) are at least $13 million. Other potential investment needs could be at least as large again. These rough estimates suggest median and high estimates of total credit effective demand for credit from farmers and cooperatives for dairy-related investments would be in the range of US$ million. 33

55 Figure E.1 Flow of resources for credit finance to the dairy sector INTERNATIONAL FINANCIAL INSTITUTIONS/DEVELOPMENT ORGANIZATIONS FLOW OF FUNDS COMMERCIAL BANKS MICROFI- NANCE CREDIT ONLY MEDIUM AND LARGE SCALE FARMERS COOPERATI- VES SACCOs SMALLHOLDER FARMERS 2.2 Supply of credit finance to dairy farmers and cooperatives The main formal sector financial institutions include (in order of total assets): commercial banks, micro-finance institutions, SACCOs, and government funds. 44 However, formal finance sector lending to agriculture is a very limited proportion (<5%) of total FI lending. 45 This holds also for the dairy sector. Interviews with 5 FIs and 5 SACCOs also showed that for most banks, the dairy sector accounts for 0.2% % of the total loan book as compared to 10%-100% for SACCOs. This is because the SACCOs interviewed were mainly set up by farmer based organizations, such as co-operatives, and are more attuned to financing agriculture because their members are mainly farmers or individuals involved in agricultural production. On the other hand, the average size of dairy loans is higher for banks than for SACCOs. This is due to SACCOs mainly serving smallholder farmers who typically borrow in small amounts, while banks mainly target medium to large scale farmers as well as co-operatives. These findings reinforce the need to support SACCOs to better serve small holder farmers, as they are more connected to this segment of farmers than banks. Banks, on the other hand, are a key source of on-lending funds for SACCOs, with a few banks featuring prominently as providers of capital to SACCOs. Banks are more attracted to co-operatives as borrowers than to individual farmers, because of the higher cost of 44 E.g. Agriculture Finance Corporation is a government-owned fund that provides credit at below-market rates. Other funds also exist targeting youth and other disadvantaged groups. 45 J Tyson (2016) ODI Working Paper 440, 34

56 servicing smallholder farmers and banks relatively limited staff and branch outreach. Figure E.1 summarizes the current situation in terms of flow of resources for credit finance to the dairy sector. More than 10 commercial banks and microfinance institutions in Kenya provide financial products targeting the agriculture sector. In a study conducted for this project, of 5 banks and microfinance institutions, 3 had one or more products targeting dairy farmers. All 5 SACCOs interviewed had products targeting dairy farmers. These products are mostly for investment in financing heifers, inputs such as feeds, farm equipment and infrastructure, but also for working capital and invoice financing. Typical credit amounts offered to farmers by the financial institutions range from KSh 10,000 KSh 5M per loan, with tenors of between 6 60 months depending on the nature of financing, with working capital loans having shorter tenors. Banks however offer higher limits and longer tenors compared to SACCOs, because banks are able to access long-tenor lines of credit for on-lending, unlike SACCOs who borrow from the banks. However, SACCOs provide not only more affordable loans to farmers, but also have more flexibility in terms of eligibility criteria and lending terms. SACCO loan interest rates range between 10% - 16% while those of non-sacco financial institutions have interest rates of up to 24%, despite non-sacco FIs having access to lines of credit for agriculture (including dairy) financing and more branches with which to mobilize deposits that are a cheaper source of funds. SACCOs are also less demanding when it comes to the level of contribution by clients per project, requiring 0% - 30% client contribution depending on the nature of project financed, whereas banks and other FIs require contribution rates of 15% and upwards. The reason for the higher interest rate of commercial and microfinance bank products is that these institutions face challenges in mobilising long term funds for on-lending, since most depositors are short term in nature and banks cannot fully rely on deposits to fund loans to the agriculture sector where demand for medium to long terms loans is higher. These institutions therefore seek long-term finance from the money market or international funders, but the cost of the funds forces the banks to on-lend at high rates. Concessional loans are therefore relevant to enable banks and SACCOs to support farmers who would otherwise be priced out of the market for credit. 2.3 Supply of other financial services to dairy farmers and cooperatives In addition to financial institutions, co-operatives also provide in-kind lending solutions, such as provision of animal feeds, AI and other inputs on the milk delivery check-off system. However, many co-operatives are limited in their ability to provide these services, because this ties up working capital in advances to members, while working capital for milk procurement is their core business. Processors also facilitate provision of these financial services. Processors are not only a key marketing channel for farmers and cooperatives. They also support farmers by: Linking farmers with financial institutions (e.g. SACCOs and other FIs) to enable them to access credit for investing in their farms. Guaranteeing farmers loans with financial institutions. Supporting co-operatives to purchase critical goods for their members in bulk such as milk cans. Purchasing inputs in bulk for farmers such as animal feeds to save on costs. 35

57 Managing relationships with suppliers to ensure that farmers are getting value for money. 2.4 Key gaps in provision of financing to dairy farmers and cooperatives A study conducted for this project revealed a number of capacity gaps in all the financial institutions interviewed that reduces or limits their lending to dairy farmers and cooperatives. Capacity needs of farmers and cooperatives were also identified by the financial institutions Capacity needs of financial institutions Of 5 non-sacco financial institutions, rural branches as a percentage of total branches ranges between 27% and 95%, and they all have agriculture loan officers working with farmers. However, the level of engagement with farmers is limited, as indicated by the ratio of agriculture loans to the total loan portfolio (i.e. 2%-14%), compared to SACCOs for which the ratio is 27% - 90%. This is also partly because SACCOs have worked with farmers for 10+ years, whereas engagement with agriculture for some other FIs is more recent. SACCOs also have more staff per branch focused on agriculture lending as compared to commercial and microfinance banks. SAC- COs are thus better placed to serve more farmers. Two out of 5 banks and 3 out of 5 SACCOs interviewed indicate that they do not invest in training their agriculture loan officers in agriculture credit skills. Both SACCOs and other FIs indicated a need for training of staff in agriculture credit management and product development. Another common and major capacity need for the both banks and SACCOs interviewed is improvement in the management information systems (MIS). The majority of financial institutions interviewed have an MIS for the agriculture portfolio in general, and most mark dairy loans within their agriculture portfolio. However, they also indicated that the process of capturing and storing data may not be fully reliable, and indicated a need to support financial institutions to develop better solutions for data capture, storage, retrieval, analysis and reporting. The financial institutions will benefit from being able to clearly disaggregate their agriculture portfolio because this visibility will also enhance their risk management and enable them proactively manage problem loans or anticipate the impact of events in the dairy sector that have a direct impact on the loan book. For instance, in case their drought in a certain region where a bank has dairy clients, the bank would be able to easily identify which clients might be affected and to what extent this will affect the loan portfolio, thus enabling them to be more proactive in portfolio risk management as well as enabling them to better understand their clients across sectors. Another key area for intervention for financial institutions is in product development to enable design and deployment of financial products that are farmer-centred and that address the credit needs of the beneficiaries. A study conducted for this project of the IRR to investments by farmers, groups and cooperatives 46 indicated that most investments have an IRR above market interest rates, but that the duration until breakeven for most investments is longer than the tenor of most credit products (Table E.2). Therefore, financial institutions need support to better under- 46 The study was an ex post assessment, using a sample of grants provided by the IFAD SDCP project. 36

58 stand the dairy sector and develop appropriate financial products. Both SACCOs and banks expressed interest in capacity development and support to in product development as well as exploring the potential of technology to enhance delivery of solutions to farmers. Table E.2: Analysis of feasible credit terms for selected group/cooperative and farmer investments Investment project Farmer group investments Dairy meal processing Hay production Initial investment (USD) IRR 10 years IRR 20 years Years to breakeven (years) Feasible interest rate Feasible grace period (years) 3,800 20% 24% 2 10% 2 8 3,500 in year 1 plus 1800 in years 5 and 10 16% 23% 6 8% 2 6 Milk chilling 174,000 1% 10% 6 10% 4 10 Milk pasteurizing On-farm investments Zero-grazing unit Zero-grazing unit + biogas Zero-grazing unit + biogas + fodder production 80,000 (additional to the 174,000 for chilling) 16% 23% 7 10% ,457 25% 29% 5 12% 2 8 2,125 31% 34% 5 12% 2 6 2,875 28% 31% 5 12% 2 6 Feasible repayment period (years) NOTE: Data presented are based on in-depth surveys with 41 households and 5 dairy cooperative associations in Nakuru, so results are not representative for all Kenya, and do not indicate variability in returns across households Capacity needs of farmers from financial institutions perspective Financial institutions reported a number of gaps at the farmer level that limit their ability to lend to farmers. The most common reason given for declining loan applications was the lack of a demonstrated track record by borrowers in dairy financing. This is partly linked to the fact that farmers often do not keep proper records of their dairy enterprises. Although data on milk sales and input credit should be held by the co-operatives, this data is not visible to financial institu- 37

59 tions. The issue of poor records was mostly reported by non-sacco financial institutions, implying that SACCOs may be better able to access the financial profiles of farmers due to their affiliation to co-operatives. Supporting cooperatives to digitize their records, and availing these records to partner financial institutions (subject to data protection laws) could enable farmers to demonstrate a financial profile over time and thus access formal credit. The AgriLife Platform is an example of how this is working in Kenya s dairy sector. 47 Low productivity by farmers as well as lack of off-take arrangements were also listed by financial institutions as limitations to funding dairy farmers. Low productivity implies low capacity of farmers to meet loan obligations when they fall due, as they may not generate sufficient cash flows from the dairy enterprise. The majority of institutions indicated that there was need for technical assistance to farmers to enable them increase productivity and hence their capacity to repay credit facilities. These activities have been designed in the project (see Annex D). Off-take agreements are an assurance of the capacity of the farmer to repay the loans and to avoid diversion of funds. Poor credit history was also mentioned, but was not identified as a prominent gap. These findings are generally corroborated by data from the 2016 Financial Access Survey in Kenya. 48 Only 2.5% of dairy households covered in that survey reported having been denied an application for a formal loan. Inability to repay and lack of records were the main reasons given by dairy farmers. (Lack of guarantor or collateral were also common reasons given by rural households in general.) Financing needs of financial institutions Of the 5 non-sacco FIs interviewed, all had received international support for credit lines for agriculture on-lending, 3 had received credit guarantees, and all had benefited from some form of technical assistance. These funds are usually provided for the entire agriculture portfolio, but in particular instances they have been extended to designated sectors or value chains in order to meet particular intervention outcomes. Most SACCOs mentioned inadequate funding to finance on-lending to members as a major constraint, while this was mentioned only by one non-sacco FI. Only 1 SACCO had directly received international support, despite their much closer engagement with farmers. The main reasons for low SACCO engagement with international finance is their limited ability to attract such funds, restrictions due to funders requirements, and their limited ability to absorb debt with external borrowing, 49 since external borrowing by SACCOs is capped at 25% of total assets by law. 50 This highlights the need to develop appropriate mechanisms to enable SACCOs to access funding for on-lending to dairy farmers, capacity building at both institutional and client levels, and risk These include all external borrowings from banks, microfinance and other financial institutions. Special loan facilities covering funds received through special arrangements between the Kenya government and other foreign governments or donor agencies for onward lending or distribution to members are treated as external borrowing

60 sharing instruments to incentivize expanded engagement with farmers, while also limiting SAC- COs exposure risk. 3. Structuring finance for lending to farmers and cooperatives 3.1 Financing relationships Banks, microcredit institutions and SACCOs have distinct, but complementary potential roles in the dairy sector. Currently, SACCOs have the strongest linkages with farmers in the formal dairy value chain and thus are best placed for increasing financial inclusion of dairy farmers. However, SACCOs are limited in their ability to take on large volumes of international finance and to manage complex financial relationships, while all of the commercial banks and microfinance institutions interviewed have a track record of partnership with international finance sources. Therefore, support to cooperatives and medium- or large-scale farmers should be delivered through commercial banks. The advantage of channelling funds targeting farmers through banks and via on-lending to SACCOs are that the administration of funds is decentralized to the banks, thus minimizing project transaction costs, and the funding to banks can be used to leverage additional capital from the banks for on-lending to SACCOs, thus increasing the project impact. However, experience suggests that with this method of financing, monitoring of the credit line should be strong in order to ensure that banks do not divert the funding to other sectors. Non-SACCO FIs tend to focus more on medium to large scale farmers and SMEs (including cooperatives). Therefore, credit lines to commercial banks or microfinance banks should be used to serve the needs of medium to large-scale farmers, dairy co-operatives and other SMEs in the value chain. In terms of finance mechanisms, concessional loans, risk sharing mechanisms and technical assistance grants all have a role to play: Concessional loans are critical because they can achieve the twin goals of enabling financial institutions to access capital for on-lending to the dairy sector while also enabling them deliver credit at affordable rates. These credit lines will focus on reaching larger numbers of subsistence and semi-commercial farmers who otherwise do not have access to finance for on-farm investments. Risk sharing mechanisms are relevant in the dairy sector, where climate variability, deficiencies in onfarm management and lack of collateral for some farmers increase the risks to FIs of engaging in the dairy sector. Risk sharing mechanisms can build the confidence of and increase lending by FIs to the sector. Both SACCOs and non-sacco financial institutions express demand for capacity building in a number of areas. TA is thus relevant to ensure the effective deployment of concessional loans and risk sharing funds. SACCOs have a greater need for technical assistance grants geared towards supporting their development in areas such as finance and credit risk, institutional governance, product development, and information technology. 39

61 Table E.3: Representative features of financial cooperation mechanisms Project types BANKS Minimum Ticket Size Per Bank Currency (USD) Minimum Expected Leverage per Bank 51 Credit Lines 10Million 30Million Credit Guarantee 5Million 5Million Interest Rates/Charges 6 Months Libor + 3-4% on USD Both Origination and Utilization Fee: <0.5% Lending Timeframes 7+ years 7+years Technical Assistance Grants 0.2Million 0.05Million 3+years MICROFINANCE BANKS Minimum Ticket Size Per Microfinance Bank Minimum Expected Leverage per Microfinance Bank Interest Rates/Charges Lending Timeframes Credit Lines 5Million 10Million 6 Months Libor + 3-6% on USD 5years Credit Guarantee 2.5Million 2.5Million Both Origination and Utilization Fee: <0.5% 5years Technical Assistance Grants 0.1Million 0.025Million 3years SACCOs Minimum Ticket Size Per SACCO Minimum Expected Leverage per SACCO Interest Rates Lending Timeframes Credit Lines 5Million N/A 6 Months Libor + 3-4% on USD 10 years Credit Guarantee (50% Coverage) 2.5Million N/A 7+ years Technical Assistance Grants 0.2Million 0.025Million 5 years 3.2 Project funding Representative rates and tenures of recent international assistance to banks, microfinance banks and SACCOs are shown in Table E To estimate the total finance volume and leverage effect in the project, the following assumptions were made: 1 FI will be selected to provide credit finance to dairy cooperatives, SMEs, and medium-and large-scale farmers. 1 FI will be selected to on-lend to SACCOs to provide credit finance to subsistence and semi-commercialized dairy farmers. The FI will on-lend to 10 SACCOs. For concessional credit lines, commercial banks are willing to provide $3 of their own funds for every $1 of GCF concessional credit. 51 Leverage of 2 times the funds to the Banks under the project 52 Only 1 SACCO had internationally supported mechanisms, so the estimation in the table equates SACCOs to microfinance banks for ease of calculation but assumes a greater need for technical assistance. 40

62 For risk sharing mechanisms, risk is shared 50:50 between the bank and risk sharing mechanism, and for each $1 in the risk sharing mechanism, the bank will allocate an additional dollar to the credit lending line. Table E.4: Project finance, leveraged finance and target beneficiaries 1. Bank lending to coops, SMEs, larger farmers GCF funds requested (USD) Minimum expected leverage (USD) Beneficiaries in 5 years Beneficiaries in 10 years Concessional credit line 10 million 30 million Credit guarantee 5 million 5 million Technical assistance grants 2. Bank lending to 10 SACCOs 0.2 million 0.05 million 1 FI Concessional credit line 10 million 30 million 104, ,928 Credit guarantee 5 million 5 million Technical assistance grants 53 2 million 0.25 million 10 SACCOs Based on these assumptions and the figures in Table E.3, the total GCF funds applied for are US$ 32.2 million, including US$ 20 million of concessional credit, US$ 10 million of credit guarantee, and TA grant of US$ 2.2 million (see Table E.4). These GCF funds will leverage a total of US$ 70.3 million, making a total (GCF + FI resources) of US$ 90 million in credit available to farmers and cooperatives. In addition, assuming a client investment of 20% for cooperatives/smes and 10% for farmers, a further US$ 13.5 million would be leveraged. Assuming an average of 2320 loans per US$ 1 million of credit provided by SACCOs, 54 and 26 loans per US$ 1 million provided by commercial banks, 55 if the funds are lent once, beneficiaries would include 104,464 farmers and 1194 farmer groups, cooperatives and SMEs. Over 10 years, assuming the funds are lent twice, 209,000 farmers and 2388 farmer groups, cooperatives or SMEs would benefit. Additional costs of delivering the TA activities are estimated at $129,000, not including staff and administration costs, which are accounted for under Component Assumes US$ 0.2 million per SACCO, with each SACCO contributing US$ million. 54 Average reported by 5 SACCOs interviewed. 55 Average reported by 5 FIs and micro-finance banks interviewed. 41

63 4. Project risks There are a number of risks arising from features of the dairy sector itself that affect financing to the dairy sector. Mitigating several of these risks can be achieved by effectively linking financial support to the provision of technical assistance and extension services to farmers and cooperatives that is planned in other sub-components of the project, and by linking provision of financial services to processors and other value chain actors (Table E.6). Table E.6: Risks and risk mitigation in dairy financing Risk Risk mitigation Weather risks (e.g. droughts) and animal death due to disease Fluctuations in milk yield leading to unstable and low cash flows. Inconsistent milk pricing by off-takers exposing farmers to unpredictable and unstable cash flows Default by farmers or diversion of funds such as change of pay points to avoid paying loans. Crop and livestock insurance to protect the farmer from incurring losses. Fodder production, purchase and storage, technical extension services to support stable and high yields (see Annex D) Better structured off-take contracts that ensure price stability to enable financial planning by farmers Greater collaboration between co-operatives, SACCOs/non-SACCO FI and off-takers Poor governance at co-operative level Capacity building to enhance governance and management capacity in co-operatives (see Annex D). Limited visibility of farmers financial profiles, which precludes objective decision making by financial institutions Support automation of farmer records by milk off-takers (co-operatives or processors) to enable financial institutions to get a better view of commodity and cash flows 42

64 F. FEASIBILITY STUDY FOR COMPONENT 1 (1.2 IN- CREASED COMMERCIAL PRODUCTION AND MARKET- ING OF FODDER) 1. Overview Feed and fodder production, supply and feeding are among the most important constraints on the development of the Kenyan dairy industry. Insufficient and low quality feeding are the primary causes of low milk yields per cow. Low fodder availability in the dry season leads to a major dip in milk production every year. Many farmers resort to feeding purchased feed concentrates, which raises production costs, 56 but with insufficient preserved fodder (e.g. hay, maize or grass silage), feed concentrate is often inefficiently used. The digestive system of a dairy cow enables the animal to digest fibrous feedstuffs. 57 Feeding a dairy cow therefore starts with fodder. Increasing fodder supply, supported by advice provided to farmers on feed ration balancing, 58 can enable farmers to increase on-farm productivity, reduce the dip in milk production during the dry season, increase their income and reduce GHG emission intensity. Various fodders (e.g. Napier grass) are widely grown on smallholder farms in Kenya. However, average farm size is small and the quality of fodder grown is variable. According to surveys conducted by New KCC, their 54,000 long-term suppliers currently have a hay deficit of approximately million bales per year, equivalent to production on about 67,500 acres. 59 Upscaling this deficit to 300,000 farmers implies a hay deficit of million bales per year or 476,999 acres. 60 In recent years, numerous farmers have begun to show interest in commercial hay production. 61 In some cases, dairy cooperative members have jointly invested in hay production. More than 20 private farmers have also invested in large-scale commercial hay production, and some have also developed businesses providing mechanized services on a contract basis to other farmers. Although great market potential exists, barriers including a lack of machinery and spare parts, storage facilities, a lack of quality seeds and agronomic extension services hinder the fodder sector in its development, both in terms of growth (i.e. acres under hay production and yields per acre) and in terms of hay quality. In 2015, more than 250 of these farmers came together to form the Rift Valley Hay Growers Association to address their common needs. Rift Valley Hay Growers are hindered in development of their businesses by a lack of machinery and storage facilities and a lack of high quality seeds and knowledge of agronomic measures to increase hay yields and quality. Furthermore, direct linkages between hay growers and dairy producers do not exist, causing a hay deficit in many dairy producing regions and a hay surplus in the hay 56 Tegemeo (2016) Report on a study assessing cost or production structures in dairy systems in Kenya 57 Performeter (2013) 58 This is included in the activities in Sub-component (see Annex D). 59 Excluding hay production by the Rift Valley Hay Growers Association (New KCC, personal communication March 2016) 60 For extrapolation, an average production of 200 bales per acre and year was used 61 See e.g. The Friesian (2015), BLGG Research (2013) and Performeter (2013) 43

65 growing regions. One particular focus is the development of storage marketing logistics services to facilitate access of suppliers to the market. The objective of this sub-component is to greatly increase the supply of high quality fodder (hay) to dairy farmers through: Technical assistance to commercial fodder producers and fodder producer associations; and Increasing farmers access to credit finance for investments in commercial fodder production, storage and marketing. 2. Beneficiaries The main partner for these activities is the Rift Valley Hay Growers Association. The Association, registered in March 2015, and currently has a membership of 252 small and medium scale commercial hay farmers, with a total of 5,000 acres under hay production, which is expected to increase to 6,000 acres by the end of The Association s production base is located in Nakuru County but it has initiated recruitment of hay out-growers in Nakuru, Baringo, Narok, Kajiado, Kitale and Laikipia counties. 62 Direct beneficiaries include all commercial hay producers including those as part of the Rift Valley Hay Growers Association. Indirect beneficiaries include all dairy farmers who are provided with high quality ( improved ) hay as a result of support to commercial hay production by the project. 3. Results framework for the sub-component The proposed output of fodder related activities is Output 1.2: Increased commercial production and marketing of fodder. This contributes to Outcome 1: Increased dairy productivity through private sector investment in gender-inclusive extension services. The output will be delivered through the following activities: Activity 1.2.1: TA for extension to hay farmers in agronomy and financial management of their business operations Activity 1.2.2: TA for support of the Rift Valley Hay Growers Association in further business model development Activity 1.2.3: Increasing farmers access to credit finance for investments in machinery and storage facilities Activity 1.2.4: Ensuring implementation of environmental and social safeguards by commercial hay growers and financial institutions Activity 1.2.1: TA for extension to hay farmers in agronomy and financial management of their business operations: Smallholder dairy farmers producing improved hay, as well as commercial hay growers specialized in hay production, are hindered in optimal production by a number of 62 Rift Valley Hay Growers Association, business plan (personal communication July 2016) 44

66 barriers including limited support in extension. 63 Extension to farmers in best agronomic practices (e.g. for soil analysis, land preparation, planting, fertilizer and herbicide use as well as the right harvesting time) can substantially improve both yields per acre as well as the quality (digestibility) of hay. Furthermore, business development services in financial management can improve the efficiency and economic performance of their operations. Through this activity, farmers will be clustered in geographic groups to receive extension services four times a year during the first 5 years of the project implementation period. Extension services will be tendered to Kenyan organizations with experience in fodder production and extension provision to farmers. Activity 1.2.2: TA for support of the Rift Valley Hay Growers Association in further business model development: The mission of the Rift Valley Hay Growers Association is to promote the production of quality hay by smallholder farmers for adequate, affordable and accessible hay provision to smallholder dairy farmers in Kenya. To achieve this mission, in 2016 the Association developed a hay value chain business plan. Proposed activities include the establishment of a model hay farm, investments in storage facilities and training of smallholder farmers. The Association has diverse business development needs, including access to affordable finance, strategic advice and training in financial and contract management. Business development services will be tendered to Kenyan organizations with experience of supporting tailored processes for business development by linking the Association with the relevant advisory expertise and sources of financial support. Activity 1.2.3: Increasing farmers access to credit finance for investments in low-emission machinery and storage facilities: High up-front investment costs for low-emission machinery and storage facilities hinder further development of the commercial hay sub-sector. With a lack of machinery and storage facilities on farm and at transportation hubs, commercial producers are forced to directly sell their hay after harvest at low(er) prices. A small proportion of hay is stored in poor quality storage facilities, which poses a risk of hay quality loss. To overcome this barrier, concessional loans as well as a repayment schedule fitting the production cycle (i.e. two harvesting seasons per year) will be provided. As is common practice in Kenya s agribusiness finance, of the total machinery investments required, farmers will finance 30% using their own private finance, and 70% will be financed with credit. Of this credit finance, the GCF project will provide 25%, which will leverage the remaining 75% from financial institutions own resources. The GCF finance will be tied to performance indicators (e.g. interest rate, loan conditions) to ensure that the leveraged finance meets the target beneficiaries financial needs. Activity 1.2.4: Ensuring implementation of environmental and social safeguards by commercial hay growers and financial institutions: As described in Section 7 below, the main social and environmental risks associated with commercial hay production include labour and working conditions (favouring male employees, failing to use protective clothing when working with chemicals) and potential surface and ground water pollution from inappropriate application of fertilizer and herbicides. These risks can be managed by appropriate management of employees, provision of protective clothing, efficient (minimum) use of chemicals and proper waste disposal 63 Performeter (2013) 45

67 measures. The project will thus produce guidance and training for hay growers and their employees on safe working conditions and proper agronomic procedures. For expansion of hay area, the main risks relate to potential conversion of habitat and leasing of lands owned by indigenous peoples. To abate these risks, participating financial institutions will be provided with a risk screening tool to ensure that the projects they finance avoid these risks. 4. Financial and economic analysis There are two common business models in commercial hay production: production of hay using contract services for machinery and production of hay using the farmer s own machines plus contracting out mechanized services to other farmers. Input costs, the use of inputs and contracted services, yields and machinery investments were determined through a survey of 10 commercial hay producers in Nakuru and Narok counties (Tables F.1 and F.2). Table F.1: Main assumptions used in FIRR and EIRR analysis for farms using contracted services Costs (per acre) FIRR assumptions Land lease KSh 7,000 Land improvement investments KSh 9,000 in year 0 CF of 1.25 applied Certified seeds KSh 4,500 CF of 1.25 applied Fertilizer and herbicide inputs Contracted services Revenues KSh 8,600 KSh 21,300 incl. land prep and planting, until year 5 KSh 12,400, then replanting Yields per acre 220 Average price per bale of hay KSh 150 CF of 1.25 applied EIRR assumptions Skilled Labour, CF of 0.8 applied CF of 1.25 applied Table F.2: Main assumptions used for FIRR and EIRR analysis for hay producers also providing contracting services FIRR assumptions Costs (for 1,500 acres incl. contracting services) EIRR assumptions Machinery investments KSh 20,312,000 CF of 1.25 applied Office investments KSh 307,000 CF of 1.25 applied Land improvement investments Machinery maintenance costs KSh 9,200 in year 0 KSh 1,690,000 CF of 1.25 applied CF of 1.25 applied Fuel costs KSh 3,650,000 CF of 1.25 applied 46

68 Contracted services Revenues Contracting services planting harvesting and baling Contracting services harvesting and baling incl. transport to storage Seed harvesting KSh 21,300 incl. land prep and planting, until year 5 KSh 12,400, then replanting KSh 15,440/acre KSh 12,000/acre 60 kg/acre, KSh 1,500/5 kg Skilled Labour, CF of 0.8 applied CF of 0.8 applied CF of 0.6 applied Assuming all activities on-farm from land preparation until harvesting and baling are outsourced to contractors, the FIRR over 10 years for farmers using contract services is 18%. For farmers providing contracting services, the FIRR is 44%. Significantly, this indicates that commercial hay production using contracted services is insufficiently profitable to justify access to commercial loans at prevailing rates (i.e. 24%), and thus justifies the application for concessional finance. From an economic point of view, the EIRR over 10 years for farmers using contracted services is 128%, while for farmers than provide contract services the EIRR over 10 years decreases to 27%. Both are well in excess of a benchmark social discount rate of 7%. 5. Project Investments Incremental costs were derived as the difference between investments required in the withproject scenario and estimated investments in low-emission machinery, storage and land leasing by smallholder and commercial hay growers in the without-project scenario. Table F.3 presents the total incremental costs. The total incremental cost is US$ million. Of this, 90% represents investments by farmers in machinery and storage facilities. Table F.3: Total incremental project costs (US$ million) PY1 PY2 PY3 PY4 PY5 Total incremental costs (USD million) Farmer investments for machinery Farmer investments for storage TA SUM On this basis, the project costs have been estimated as follows (Table F.4): a. TA costs are US$ 335,000 over the first 5 years of the project (not including staff and admin costs which are accounted for in Component 4). 47

69 b. Concessional loans: 30% of machinery and storage facility investments will be financed directly by farmers. The remaining investments will be made using credit finance. In line with common practice in the sector, we assume that $1 of concessional finance will leverage $3 of credit from financial institutions own resources. Thus, US$ 2.53 million of GCF finance are applied for to provide a total of US$ 10.1 million in credit available for investment in machinery and storage facilities. For each US$ 1 of GCF finance provided, US$ 3 will be leveraged from financial institutions, US$1 from farmers, and US$0.13 from the AE, giving a private finance leverage ratio of 1: Table F.4: Total project costs Project costs Co-financing GCF AE GoK FIs farmers Loans 2,527,403 7,582,208 2,527,403 Guarantees Grants 315,000 Staff costs Travel & per diem 20,000 Admin costs Total 2,527, , ,582,208 2,527, GHG emission reductions Emission reductions from commercial hay production are realized through: 1. Improved quality hay provision to dairy farmers, enabling increased milk yields per cow and decreased intensity of GHG emissions; and 2. Carbon sequestration. GHG emission reductions as a result of increased production per cow are calculated using the Methodology for Quantification of GHG Emission Reductions from Improved Management in Smallholder Dairy Production Systems using a Standardized Baseline. Within this methodology, emissions caused by feed production and fertilizer use, feed processing and distribution and land use change are included. Emissions caused by increased fertilizer and machinery use and emissions in transport of hay, and carbon sequestration due to hay production, are therefore included in the quantification of emission reductions from dairy production and are not separately estimated for the activities outlined here (see Annex B for further explanation). 48

70 7. Social and environmental risks & safeguards 7.1 Potential Risks Social and environmental risks were analyzed using expert judgment and reference to the IFC Guidance Note for the Assessment and Management of Environmental and Social Risks and Impacts. 64 Social and environmental risks of commercial hay production mainly comprise of risks concerning (i) labour and working conditions, (ii) resource efficiency, pollution prevention (including GHG emission prevention), but expansion of the acreage under hay production may also relate to (iii) biodiversity conservation and indigenous peoples (Table F.5). Table F.5: Main social and environmental risks in commercial hay production Risk category Labour and working conditions Resource efficiency and pollution prevention Biodiversity Conservation and Sustainable Management of Living Natural Resources Indigenous Peoples Potential risks and impacts As commercial hay production implies much physical as well as technical labour (operating machinery), men are likely preferred for employment. Employment decisions will often favour men. In the commercial hay sector, women often do seed harvesting. In most commercial hay farms, very likely no measures to protect women from harassment exist. A safe working environment is not always secured on hay farms; especially protective clothing when using herbicides is rarely provided by the grower and assumed to be the own responsibility of the workers (incl. third parties). The increase in hay production by increasing acreage as well as intensifying hay production per acre could increase the overall use of fertilizer and herbicides as well as the use of machinery and therewith increase GHG emissions. The use of chemicals (herbicides, fertilizer) is common in the hay sector. Hay growers tend to use these chemicals to ensure a stable crop with limited reference to the efficiency of use. Good practices for chemical waste disposal are rarely implemented. The increase in hay production - by increasing acreage could pose a risk for the conversion or degradation of natural habitats. Where new acreage is sought in areas with indigenous populations, land rights and access to lands with customary rights may be an issue. 7.2 Risk Mitigation Measures The absence of measures for safe working conditions as well as resource efficiency can be explained by a lack of technical knowledge of hay farmers as well as their workers and third parties. Therefore the project technical assistance activities to training hay growers and their workers,

71 including the development of a training guideline with practical and easy-to-understand social and environmental protection measures. To ensure that farms receiving financial support from the project employ the required safeguards and to ensure that any finance for land leases avoids risks associated with habitat conversion and indigenous peoples rights, the project will develop a risk screening tool and bank staff on the use of this screening tool. Any farm or farming activity financially supported should be screened using this tool. 50

72 G. FEASIBILITY STUDY FOR COMPONENT 2 (2.1 ENERGY EFFICIENCY AND RENEWABLE ENERGY IN COOLING AND PROCESSING FACILITIES) 1. Overview The high cost of production is one of the constraints on the competitiveness of Kenya s dairy industry. Energy is one cost component, with water and energy costs amounting to about KSh 2 per liter, compared to a milk procurement price of KSh processed. Consistent quality requires continuous, temperature-controlled handling of temperature sensitive milk products from farm to factory to table. Kenya s dairy processors handle about 600 million litres of milk per year. The milk is sent by producers to milk collection stations from where it is taken to one of the almost 600 cooling centres, where it is chilled to 4-7ºC. After cooling, the milk is loaded into specialized trucks for transfer to the processing facility. There are 32 small, medium and large dairy processing facilities in Kenya. The cooling centres mostly use electrical energy for running bulk milk coolers and heating cleaning detergents. Most of this electrical energy is from the national grid and/or from a standby diesel generator. In the processing plant, milk is pasteurized by applying heat, and separated and homogenized. Where UHT products are produced, the milk is further heated before packaging. All these processes require energy. Ammonia compressors, air compressors and homogenizers are often the biggest single users of energy within a plant. In processing plants, most energy used is from the national grid, but standby diesel generators are ubiquitous. In addition furnace oil is used for firing steam boilers that generate steam for milk processing and heating services. Diesel and motor oil are also used, and some small processing plants use wood-fired boilers. In addition to the different types of dairy products produced and thus the specific treatments applied to milk, the amount of energy used per litre of milk processed depends on a number of factors, including the choice of technology, efficiency of the machinery, and the presence or absence of leakages and other breakdowns. Energy efficiency and conservation activities are governed and regulated by the Energy Act (2006) and Energy (Energy Management) Regulations The Energy Regulatory Commission is responsible for designating factories or buildings and electrical appliances by type, quantities of energy use, or methods of energy utilization for purposes of energy efficiency and conservation, and for inspecting designated facilities to see whether they are adhering code and standards of energy efficiency and conservation. Specifically, in large manufacturing facilities, such as dairy processing plants, that consume more than 180,000 kwh of electricity per year, the regulations oblige the owner to conserve energy, audit and analyze energy consumption in accordance with the standards, criteria, and procedures as prescribed by regulations. Designated facilities are required to conduct energy audits after every three years and implement the findings. In this context, an assessment of energy efficiency and renewable energy options for reducing consumption of high emission energy sources and GHG emissions in milk cooling centres and dairy processing plants was conducted to identify financially viable investment options. The results point to significant GHG emission reduction potential of financially viable retrofit interventions in processing plants. The main options at cooling centres had very long payback periods and will not be financially viable until solar technology costs fall. However, because the Energy 51

73 Regulations are relatively new, and firms are just beginning to implement them, companies interviewed perceive significant risks with such investments. Few banks have experience of financing these investments. Therefore, TA for processors and banks is proposed, and a concessional credit line in order to incentivize both banks and processors to invest in the significant energy conservation opportunities available. These investments will also have benefits for reducing costs and milk loss and waste, and thus enhance the competitiveness of the dairy enterprises. 2. Results of field assessments With a squeeze on profit margins due to international milk prices and high domestic production costs, and since the promulgation of regulations on energy management (2012) in particular, Kenya s dairy processing enterprises have paid increasing attention to energy efficiency in their operations. The large processing companies in particular, and with support of international development partners, have trained staff in energy audits and begun to conduct energy audits and invest in energy efficiency and renewable energy interventions. The data from past work is mostly not publicly available. For the preparation of this component of the concept note, a scoping of energy efficiency options in selected milk processing plants of New KCC, Githunguri Dairy Cooperative Society and a small processor, and five cooling centres, was commissioned. The scoping produced detailed estimates of the costs and benefits of retrofits to the facilities visited. 2.1 Retrofits of processing plants The situation in each of the large, medium and small processing plants assessed varied considerably. Retrofit options identified included: Repairs to leakages in air compressors Upgrading air compressor and boilers equipment to more efficient technologies Repairing steam leaks Insulation of steam and refrigeration piping and boilers Retrofit of chilling and processing equipment to more efficient technologies Retrofit of lamps and lighting systems with LED upgrade of the connected power supply; Installing water and power control systems and fittings; Table G.1 presents a summary of the main findings of the assessments in the three processing plants. 52

74 Table G.1: Main findings of processing facility retrofit feasibility and cost benefit analysis assessments Milk (L/yr) processed/yr Baseline energy consumption MWe / 1000 L milk Baseline energy cost $/L milk processed Retrofit investment demand ($) Total capacity abatement (MWe) Total electricity savings per year (GWh) Total diesel savings per year (L) Total water savings (m 3 /year) Reduction of milk losses (L/year) Overall cost saving / year ($) Large processing plant Medium processing plant Small processing plant 43,897,342 9,125,000 3,544, ,840,000 2,285,000 1,533, , , ,890,500 57, , , ,626, ,630 25,984,700 Payback period (years) tco2e abatement / yr Investment cost /lifetime tco2e The main findings show that: The benefits of investment in retrofits include: a. Significant reductions in energy consumption, mainly due to reduced electricity consumption and reduced use of diesel for steam generation. Energy consumption abatement potential in these three facilities is 25% - 40% of total energy demand. b. Reduced use of water; c. Reduce use of chemicals in facility management; d. Reduced milk losses and waste. Investments in retrofits are financially attractive, with a high financial return due to cost savings and reductions in milk losses, and a short payback period (0.5 3 years in these three facilities); There is a large variation in the cost per unit of benefit. For example, cost per tco2e abated in these three plants varies between $9.28 and $118 per tco2e. This is largely determined by the energy mix used in each facility s operations and the potential for abatement of energy use of different types. 53

75 2.2 Retrofits in cooling centres In the 5 cooling centres assessed, retrofit options identified included replacing electric milk chilling plants with solar milk chilling plants, replacing electric boilers with biomass steam boilers, replacing electric lighting with solar lighting, and installing variable speed drives on motors. The financial viability of these measures varies depending on the baseline situation of the cooling centre. Solar lighting systems: Annual lighting energy costs in the 3 of the cooling centres assessed were less than $100 per year, but in two centres were $1120 and $70,000. Assuming an installation cost of about $72,500, investment in solar lighting systems would be viable (i.e. higher than a benchmark IRR of 12.5%) only if baseline lighting energy costs are higher than $10,000. The payback period would be 8 years. Only 1 of the 5 centres met this criterion. Replacing electric chilling plants with solar chilling plants: Baseline annual energy costs of cooling tanks ranged between about $10,000 and $20,000. At an installation cost of $200,000 for a solar power system and 3000 L cooling tank, the benchmark IRR of 12.5% would only be achieved if annual energy cost savings are more than $27,650. The payback period would be 8 years. None of the cooling centres assessed met this criterion. Replacing electric boilers with biomass steam boilers. Annual boiler energy costs were between $5,000 and $7,500. At an installation cost of $26,540, the investment would only realize a benchmark IRR of 12.5% if the biomass boiler annual operation costs were between 26% and 50% lower than the baseline energy costs. The payback period would be 1-2 years. Biomass feedstock prices vary considerably, and it was not possible to assess how many of the 5 centres assessed met the criteria for investment. Overall, these interventions are viable in some, but not all of the cooling centres assessed. However, long payback periods would require suitable financial products to support. 3. Extrapolation to the sector 3.1 Processing facilities Given the limited information available from the 25 licensed dairy processing enterprises in Kenya, a method was devised to roughly estimate total demand for retrofit investments in processing plants and the potential energy and GHG emission savings. Data on installed processing capacity and capacity utilization was obtained. For larger facilities, estimated energy abatement potential was scaled in relation to the estimated market share of the larger facility assessed, and medium and small facilities were scaled in relation to their market share in comparison to the medium and small processor assessed in this study. The results are shown in Table G.3. Analysis assumes a total of 32 retrofit investments. The average investment is $984,880, but with large variation in the sector. Of the 32 investments, 16 are potentially <$0.5 million in scale, totalling $4.1 million. Sixteen are potentially between $0.5-$2 million, totalling $14.6 million, and 4 are potentially >$2 million, totalling $12.8 million. With total investment demand of $31.5 million, assuming 80% is credit financed, a credit line of $25.2 million would be needed. 54

76 Table G.2: Estimate of total potential GHG abatement and retrofit investment demand by dairy processing facilities Estimated total potential Number of facilities 32 Total retrofit investment demand $31,516,220 Total electricity savings (GWh/yr) Total diesel consumption savings (liters) 2,728,569 Total water savings (m 3 /year) 14,518,828 Total CIP chemical savings (kg/year) Reduction in milk losses (L/year) 981,641 GHG abatement (tco2e over 20 years) 2,816, Cooling facilities Available data suggest that there are 596 cooling centres and satellite coolers in Kenya. The average cooling centre assessed consumes about 0.2 GWh of electricity per year. Assuming an abatement potential of 50% of electricity consumption in each cooling centre, and an average investment of $100,000 per centre, total investment demand would be $59.6 million, implying a credit demand of about $47.68 million. The GHG abatement potential over 20 years would be about 715,200 tco 2e. On average, therefore, GHG abatement through interventions at cooling centre level are more costly than at processing level. However, eligibility criteria could be set for a fund supporting these investments, such that energy consumption savings must exceed a certain percentage of baseline consumption and/or the projected cost per unit of energy consumption abated could be capped. This would imply that effective demand for investment and credit finance would not be as large as the potential demand of $59.6 million estimated above. 4. Project finance The project costs include costs of TA for energy audits and preparation of investment-grade proposals, and credit finance for co-investment with processors in retrofit interventions: a. TA for energy audits and investment proposal preparation: Given the distribution of milk processing plants and coolers in the country, and standard input requirements for facility energy audits, it is estimated that energy audits at processing plants would cost $100,000, and for cooling centers would cost $135,000, totalling $ 235,000. These costs include consultant fees and travel costs. Processors would be required to co-finance the conduct of the audits and proposal development. For large companies owning 34% of processing facilities and 28% of the coolers, 50:50 cost sharing would be requested. For smaller companies, 60:40 cost sharing would be requested. This would equate to cofinance of $105,750. b. Estimated total credit demand for retrofit investments is $25.2 million for processing plants. For cooling centres, we assume that 20% of investment options would be sufficiently financially viable and estimate demand for $9.5 million credit for cooling centres. Concessional credit from the GCF will be provided on performance-based conditions to commercial banks selected through competitive tender, with the requirement that the 55

77 banks provide $2 for each $1 of GCF concessional credit. Thus, the proposal requests $11.5 million in concessional credit from the GCF, in order to make available a $34.7 million credit line for investment in energy efficiency and renewable energy in the sector (Table G.3). c. With such a credit facility, processors would make direct investments of $8,684,000 and FI s would contribute $23,273,120 as co-finance. Table G.3 Estimated credit demand for energy efficiency investments (US$) total investment credit demand b GCF credit c processing plants 31,500,000 25,200,000 8,316,000 cooling centres 11,920,000 a 9,536,000 3,146,880 Total 43,420,000 34,736,000 11,462,880 a: assuming 20% of total technically potential retrofits financially viable and have sufficiently high cost effectiveness; b: assuming 20% is financed as direct investment by the borrower; c: assuming 1:2 leverage of FI s own resources. In addition to the above, management and TA delivery costs have been estimated at $99,500, not including staff and administrative costs which are accounted for in Component 4. Table G.4: Total project costs (US$) Project costs Co-financing GCF AE GoK FIs Processors Loans 11,462,880 23,273,120 8,684,000 Guarantees Grants / TA 235, ,750 Staff costs Travel & per diem 99,500 Admin costs Total 11,797,380 23,273,120 8,789, GHG emission reductions Total estimated lifetime (20 year) GHG emission reductions from interventions at processing plants are 2,816,499 tco 2e and at cooling centres 143,040 tco 2e, 65 totalling 2,959,539 tco 2e. Following IFI/MDB harmonized framework for GHG reporting, ex ante estimates of lifetime emission reductions will be included in each investment proposal, and project quantification of emission reductions will record the total ex ante estimates in project proposals approved each year. 65 i.e. 20% of the total abatement potential estimated in Section

78 6. Social and environmental risks Assessment at 8 facilities identified a number of risks relating to efficient use of resources. Apart from those relating to energy use, which are the focus of this component, inefficient use of water resources is also an area that should be addressed by interventions in this component. Other risks identified included improper disposal of solid waste, where plastic bags and bottles are used in the packaging process in processing plants, which was observed at one processing plant, as well as improper disposal of liquid waste. Disposal of gases and industrial waste from old equipment replaced during retrofits may be an issue, but was not assessed here. Other potential risks relate to employment practices and conditions in the processing facilities, but the extent of potential risks and current systems for managing these risks was not assessed as part of the concept note development activities. 57

79 H. FEASIBILITY STUDY FOR COMPONENT 2 (2.2 MALE AND FEMALE FARMERS ADOPT BIOGAS TECHNOLOGIES ON DAIRY FARMS) 1. Overview A dairy cow produces kg of manure per day. Practical and environmental issues associated with emission of large amounts of manure are a major set of issues that need to be addressed in dairy development. Inappropriate management of manure affects cow welfare, health and productivity. Emission of slurry to the environment surrounding dairy farms can pollute fields and water ways. Manure management is also a source of methane and nitrous oxide emissions. Manure management will be one topic addressed in Component 1 (on-farm dairy productivity). Manure is also a renewable energy source, and its use as a biogas substrate can reduce household expenditures on energy and chemical fertilizers, and reduce women s time input in fuel wood collection, while use of biogas slurry as fertilizer can increase crop yields. In Kenya, approximately 68% of households energy comes from wood; mainly firewood and charcoal are used for cooking and heating purposes. National demand for fuel wood exceeds supply by 27% and demand for charcoal exceeds supply by 55%. Future demand is expected to increase faster than supply. 66 Energy deficiencies and costs of energy provisioning are significant factors associated with household poverty. The development case for biogas investment is thus clear: reductions in women s labour time and exposure to wood smoke; reductions in energy and chemical fertilizer expenditures for rural households; reductions in deforestation; and improved management of livestock waste. The technical potential for biogas in Kenya as indicated by households with sufficient water and livestock waste (manure) has been estimated at 320,000 households. 67 Estimates of current actual installed biogas units are only a small proportion of this potential (Table H.1). Table H.1: Number of biogas units installed in Kenya 68 Year Units installed ,000-16,000 Demand-side barriers to successful adoption of biogas technology include: High upfront investments for biogas units; Many potential users of the technology are not aware of the technology; Poor management and maintenance (because of household labour constraints); Lack of quality control and standards, so clients and financial institutions are unsure of product quality. 66 Ministry of Environment, Water and Natural Resources (2013) Analysis of demand and supply of wood products in Kenya 67 Heegde, F., and Sonder, K. (2007) Domestic biogas in Africa: a first assessment of the potential and need. 68 Wilkes and van Dijk (2016) Gender issues in Biogas Promotion and Use in Kenya 58

80 Kenya has a number of biogas service companies, but in the absence of biogas subsidy programmes, most companies are supplying only units per year. Supply-side constraints include: Biogas service companies lack strategies and internal operational processes for service provision at scale; Biogas companies lack finance for upscaling service provision; Lack of skilled technicians to construct and provide maintenance services/ post installation support. Output 2.2 is that men and women adopt biogas technologies on dairy farms, contributing to Outcome 2: Reduced energy consumption from high emission sources throughout the dairy value chain. To increase adoption of biogas technology, project activities will address barriers to adoption by (i) providing financial support to dairy farming households for investments in biogas technology, and (ii) technical assistance for business development and market linkages to increase the capacities of biogas service providers to upscale the supply of biogas services. 2. Beneficiaries Direct beneficiaries of the biogas component include biogas service providers and farmers. Acknowledging relatively slow progress in the biogas sector in Kenya and the need for further support for biogas service providers to develop their businesses, the overall aim of this biogas component is to reach 20,000 dairy farming households within five years. 3. Results framework for the sub-component The proposed output of biogas related activities is Output 2.2: men and women adopt biogas technologies on dairy farms. This contributes to Outcome 2: Reduced energy consumption from high emission sources throughout the dairy value chain. The output will be delivered through four main activities: Activity 2.2.1: TA to biogas companies for development of business operations Activity 2.2.2: Financial assistance for adoption of biogas by farmers Activity 2.2.3: Ensuring implementation of environmental and social safeguards by biogas service companies and financial institutions Activity 2.2.4: Monitoring and evaluation Activity TA to biogas companies for development of business operations: Kenya has more than 10 biogas service companies. In the absence of subsidies for biogas installation, 69 they are generally able to install units per year per company. Each company has differing business development needs. Some are seeking equity investment, others are considering new marketing strategies or revision of their advisory services to farmers, and some are seeking inventory financing to support increased sales. All are at a small scale, and lack internal management 69 Under the KENDBIP programme, subsidies per unit installed were paid to the installation companies, but these subsidies have now ceased with the end of finance to the programme. 59

81 processes for going to large scale. Business development services will be tendered to Kenyan organizations with experience of supporting tailored processes for business development by linking the biogas companies with the relevant advisory expertise and sources of financial support. The tender will be for an organization to solicit and support proposals from biogas service companies for business development support. Technical assistance will be intensive during the first year for development of biogas companies business processes and strategies. During PY 2 and 3, technical assistance will gradually be reduced in intensity, supporting further business process and strategy implementation. Activity Financial assistance for adoption of biogas by farmers: High up-front investment costs are universally reported as the main barrier to adoption by dairy farmers. To overcome this barrier, a blended finance mechanism will be established to support dairy farmers to invest. Dairy farmers will be provided with (a) a 40% grant subsidy to reduce the household requirement for initial investment in biogas, and (b) concessional loans at an interest rate of 10% for 80% of the remaining installation cost. Thus, the initial investment cost for farmers will be 10% of the total cost of the biogas unit. The grants subsidies and loans will be administered by banks selected through a tendering procedure. The target is to finance installation of 20,000 biogas units during the 5 year period of the project implementation. The project will ensure that appropriate management procedures are put in place for subsidy and loan management by the contracted financial institutions. Activity Building capacities of biogas service providers and financial institutions to implement environmental and social safeguards and gender-inclusive approaches: As described in the safeguards screening section below, the primary environmental risk associated with biogas use is the potential contamination of crops and groundwater with harmful pathogens from applying bio-slurry. A secondary risk is the insufficient use of biogas or leakage of biogas due to improper management. These risks can be managed by appropriate management and maintenance of biogas digesters and biogas slurry by users. Eligible biogas service providers will be required to demonstrate that their technicians have the knowledge and skills and their internal procedures are set up to ensure that all users are trained in appropriate management, not only at installation, but also during follow-up service provision. The project will produce a set of environmental guidelines, which must be incorporated in the guidance provided by biogas service companies. A safeguard screening tool will also be developed to ensure that banks administering subsidies and loans finance purchase of products by eligible companies and to screen for risks at household level. Women are often identified as the primary beneficiaries of biogas adoption. However, women can be disadvantaged in biogas adoption in many ways, and discussions with biogas service companies have identified several potential business cases for explicit attention to gender issues in biogas adoption and utilization processes. 70 The project will provide capacity building to biogas service companies in integrating gender-inclusive approaches into their marketing, service delivery and into their own operations. Activity 2.2.4: Monitoring and evaluation: Monitoring and evaluation activities will support measurement and reporting of adoption rates and subsequent estimation of GHG benefits in 70 Wilkes and van Dijk (2016) Gender issues in Biogas Promotion and Use in Kenya 60

82 accordance with the appropriate CDM methodologies for biogas generation. It will also serve to monitor post-installation utilization by users, delivery of post-sales services by biogas companies and implementation of gender-inclusive approaches, thus contributing to the long-term equity and effectiveness of biogas adoption. 4. Financial and economic analysis 4.1 Financial and economic appraisal Investment costs for biogas units vary depending on the size and model used (Table H.2). An evaluation of pilot extension of the flexi-biogas system in the context of an IFAD-funded dairy project in Kenya suggests average savings in energy costs and time spent on fuel provisioning of KSh 1445 per household per month. Other studies also report savings of KSh 1180 per household per month in direct energy expenditures % of biogas users use the slurry as fertilizer and the majority report that it is better than manure. 72 Accounting for financial savings from energy and chemical fertilizer cash expenditures, as well as increased costs in maintenance and water for the biogas unit (Table H.3), at an installation cost of KSh 90,000, with no subsidy and a 24%, 3-year loan, the pre-finance FIRR over 10 years is slightly positive. Therefore, subsidies to investment costs and interest are justified. At a subsidy rate of 40% of the total installation cost, and an interest rate of 10% on a 3-year loan, the FIRR is 24.5% over 10 years. 73 Accounting also for labour inputs and savings of women s labour time, using conversion factors of 0.6 for unskilled labour and 1.25 for traded inputs and valuing GHG emission reductions at US$ 5/tCO 2e, the EIRR is 10.4%. Table H.2: Comparative features of different common biogas systems in use in Kenya Fixed dome Floating drum Flexi biogas system Cost (USD) Lifetime (greenhouse replacement every 5 years) Construction time (days) Start-up manure required Main materials Masonry, wood Masonry with steel gas holder Source: Plastics and PVC tarpaulin bag 71 Dohoo, C. et al. (2013). Impact of biogas digesters on wood utilisation and self-reported back pain for women living on rural Kenyan smallholder dairy farms. Global Public Health: 8(2): KENDBIP (2011) Socio-economic and gender baseline survey for the Kenya National Domestic Biogas Programme. 73 This assumes that 20% of the loan value is made as an initial payment by the client. 61

83 Table H.3: Assumptions used in estimation of FIRR and EIRR for biogas installation FIRR assumptions Costs EIRR assumptions Initial investment KSh 90,000 CF of 1.25 applied Water costs p.a L at KSh 0.5/L Water not traded, so CF of 1 applied Maintenance costs p.a. KSh 5000 CF of 1.25 applied Labour input in biogas management Revenues Family labour not valued as a cash flow Energy cost savings p.a. KSh 17,340 CF of 1.25 applied Chemical fertilizer cost savings p.a. Reduced labour input in fuel wood collection GHG emission reductions (tco2e) KSh 2,712 Family labour not valued as a cash flow Not valued as cash flow Labour cost KSh 20/day, CF of 0.6 applied CF of 1.25 applied Labour cost KSh 20/day, CF of 0.6 applied 6.1 tco2e per biogas unit per year, valued at USD 5/tCO2e, not traded so CF of 1 applied. 4.2 Project Investments Table H.4 presents the total investments required to achieve the project outcome. All the project costs mentioned here are incremental to the baseline activities of farmers, biogas companies and other donor-funded biogas programmes. The total cost of implementation is US$ Of this, 60% represents investments by farmers in biogas installation. Table H.4: Total incremental project costs (US$ million) PY1 PY2 PY3 PY4 PY5 PY6-10 Total incremental costs (US$ million) Subsidies TA Farmer investments Total In terms of direct costs to the project, the main cost elements are (a) grant subsidies, (b) TA, (c) concessional loans (see Table H.5). a. Grant subsidies: The target is to support supply and utilization of 20,000 biogas units over the 5 year project time frame. For budgeting, it is assumed that the average biogas digester has a capacity of 6 m 3 (for an average of 3 cows/household) and costs on average 90,000 KSh (i.e. US$ 916). The total cost to the project is US$ 7.3 million. b. TA costs, including TA and direct project implementation costs, have been estimated at US$ 995,000, including intensive support in the first 5 years, with TA for M&E in PY6-10. (Staff and admin costs related to TA are separately accounted for in Component 4). 62

84 c. Concessional loans: After subsidy, farmers will pay 20% of the remaining cost in order to be eligible for a concessional loan. Of the concessional loan, the project will provide 25% of the total volume of loans required (i.e. US$ 2.2 million), and financial institutions will provide the remaining 75% (i.e. US$ 6.6 million). The US$ 2.2 million concessional finance will be returned to the fund. The private finance leverage ratio over 5 years is 1: Table H.5: Total project costs (US$ million) Project costs Co-financing GCF AE GoK FIs farmers Loans Guarantees Grants & TA Staff costs Travel & per diem 0.02 Admin costs Total GHG emission reductions Emission reductions due to the adoption of biogas technology result from: The substitution of fuel wood or charcoal; Substitution of non-renewable fossil fuels (e.g. kerosene); Change in methane emissions from manure management; and Reductions in use of chemical fertilizer. CDM methodologies are widely used for the estimation of the first three of these emission reduction sources: AMS-I.E. Switch from non-renewable biomass for thermal applications by the user will be applied to calculate emission reductions from displacement of fuel wood and charcoal; AMS-I.I Biogas/biomass thermal applications for households/small users will be applied to calculate emission reductions from the displacement of fossil fuels; AMS-III.R. Methane recovery in agricultural activities at household/small farm level will be applied to calculate the emission reductions due to the avoidance of methane emissions from manure handling. Basic measurements of GHG emissions from biogas slurry application are not available to estimate emission reductions from displacement of chemical fertilizer, and will be conservatively ignored. Based on a number of CDM biogas projects in Kenya 74, average emission reductions per biogas unit were conservatively estimated at 6.1 tco 2e per unit and year. Thus, cumulative emission : African Clean Energy Switch Biogas (ACES-Biogas), 6549 : Nairobi River Basin Biogas Project and SimGas Biogas Programme of Activities, Kenya (CPA KE1) 63

85 reductions during the 10 year project implementation period total 976,000 tco 2e. Assuming 15 years lifetime for each biogas unit, total lifetime emission reductions will be 1.7 million tco 2e. 6. Social and environmental risks & safeguards Numerous social and environmental benefits of biogas have been reported: (i) reduced wood consumption 75 and thus reduced deforestation and forest degradation ; (ii) climate change mitigation; (iii) reduced energy costs; (iv) reduced exposure to indoor smoke; (v) reduced time, labour and health effects of fuel wood collection on women; (vi) agricultural benefits of biogas slurry use including improved soil health and crop productivity; 13 and (vii) change in men s involvement in cooking. The primary social and environmental risk of biogas use is the potential contamination of crops and groundwater with harmful pathogens from applying bio-slurry. Sanitation of the slurry depends on the appropriate use of the biogas digester. The right temperature and retention of the slurry are therefore important aspects for the digester user to be aware of. Insufficient use of slurry, hence leakage of slurry into neighboring fields, could negatively impact soil health and pollute the water environment. A secondary environmental risk of biogas use is insufficient use ( consumption ) of the biogas and/or leakage of biogas due to system failure or improper system management. These risks can be mitigated by provision of training and information materials to biogas users by biogas service providers and continued monitoring and training as part of post-sales services. The project activities are designed to ensure that such information and training is provided and to ensure that applicants for support from the project are screened to ensure that their basic situation can enable mitigation of these risks. 75 Subedi et al. (2014) 64

86 I. FEASIBILITY STUDY FOR COMPONENT 3 (STRENGTHENED INSTITUTIONAL AND STAKEHOLDERS CAPACITIES FOR SCALING-UP LOW-EMISSION DAIRY DEVELOPMENT) 1. Overview A critical factor for achieving and demonstrating long-term impact beyond the time-frame of the project will be strengthening of capacities among institutions and stakeholders in both the dairy sector and the climate change sector. The capacities required include individual technical capacities, institutional procedures and the sharing of information and coordination among stakeholders in these sectors. The linkage between MRV in the projectand national MRV, managed by the Climate Change Secretariat, will also be critical to project effectiveness in the national context. The project will establish and implement an M&E system to monitor and report project inputs, activities, outputs and outcomes, and will also support implementation of the national MRV+ system, which is recommended in the National Climate Change Action Plan (2010). In doing so, it will contribute to strengthening of the national inventory, and MRV of climate and socio-economic benefits of mitigation actions supported by the project. It will also increase capacities in the dairy sector to capture and disseminate best practices in low-emission, gender-inclusive dairy sector development, contributing to replication of best practices from the project. In summary, this component will strengthen individual, institutional and stakeholders capacities to generate, manage and benefit from key information flows, as set out in Table I.1 and Figure I.1. The project will build on, strengthen and expand existing capacities and mechanisms for performing these functions. Figure I.1: Key functions of information flows relating to the project 65

87 Table I.1: Key information flows, functions of information management and key stakeholders in knowledge management Information flows Functions Key national stakeholders Inputs, activities, outputs and outcomes of the project Activity data, emission factors and estimated GHG emissions Best practices in low-emission, gender-inclusive dairy development Stakeholder plans Tracking project performance Tracking climate finance Improvement of national GHG inventory relating to the dairy sector Quantification of emission reductions from project interventions Increasing awareness and capacities among dairy sector stakeholders Stakeholder coordination and collaboration AE, MoALF (IE) Treasury MENR Climate Change Directorate AE, MoALF (IE), GCF, MENR CCS Dairy sector stakeholders Dairy sector stakeholders 2. Project context While Kenya is currently under no international obligation to lower its emissions, the Government of Kenya (GoK) has expressed a commitment to reducing GHG emissions by 30% by 2030 compared to a baseline projection, subject to international support. 76 GoK has issued a National Climate Change Response Strategy (NCCRS) and the National Climate Change Action Plan (NCCAP). A Climate Change Act (2016) and Climate Change Policy have also been approved by Parliament, which clarify institutional responsibilities for climate change. At the same time, the Constitution of Kenya (2010) has devolved many functions, e.g. planning, agriculture and environmental management to the county governments. In terms of institutional roles, the Ministry of Environment and Natural Resources (MENR) is responsible for climate change, and the Climate Change Act (2016) mandates a Directorate of Climate Change to be responsible for coordinating fulfilment of Kenya s international obligations, including MRV and reporting to the National Climate Change Council on progress in implementation of the NCCAP. 77 The draft Climate Change Finance Policy clarifies responsibilities and tasks related to climate finance. The National Treasury has the role of coordinating activities and tasks relating to climate finance, and also hosts the GCF NDA. In the dairy sector, the State Department of Livestock (SDL) of the Ministry of Agriculture, Livestock and Fisheries (MoALF) is responsible for dairy sector policy. A Dairy Development Masterplan and Dairy Development Policy (2013) have been issued. The Dairy Industry Act also specifies the roles of the Kenya Dairy Board as a statutory body with regulatory, development and promotion mandates in the sector. The Climate Change Act (2016) also mandates each state department to mainstream climate change into sectoral strategies. To support this, MoALF and SDL have established Climate Change Units, which have been active in preparation of the Kenya Climate Smart Agriculture Framework and Kenya Climate Smart Agriculture Plan, as well as this project proposal. 76 Kenya s INDC (2015) 77 The existing Climate Change Secretariat is in the process of transition to the status of Directorate 66

88 2.1 Climate change sector The Climate Change Act (2016) mandates the Directorate of Climate Change to be responsible for coordinating fulfilment of Kenya s international obligations, including MRV and reporting to the National Climate Change Council on progress in implementation of the NCCAP. The Directorate 78 has in recent years been enhancing its capacities to undertake biennial reporting under the UNFCCC and to develop the MRV+ system recommended in the NCCAP. The MENR Climate Change Secretariat has been further developing the databases and procedures for the national inventory, with support from the UNDP-EU Low Emission Capacity Building (LECB) and USAID Low Emission and Climate Resilient Development in Kenya projects. In 2015, Kenya submitted its Second National Communication to the UNFCCC. Kenya is now preparing its Third National Communication, and adjusting institutional arrangements and inventory procedures so that biennial reporting obligations can be met. The UNDP-EU LECB project has also been working with Treasury to implement climate change coding in the government budget and financing system. The draft Climate Finance Bill (draft May 2016) proposes future requirements for climate finance tracking. It is proposed that climate finance tracking should use existing MRV processes, data collection and information management systems (such as the Integrated Financial Management Information System [IFMIS], National Integrated Monitoring and Evaluation System [NIMES] and Electronic Project Management Information System [E-ProMIS]) and that the climate finance tracking system should be integrated with performance, outcomes and benefits sharing and reporting. Regarding GHG quantification, internationally approved methodologies exist for quantification of GHG emissions from dairy production, biogas utilization and energy efficiency improve-ments in milk processing facilities. In the case of biogas and energy efficiency, capacities to quantify GHG emission reductions are currently mainly with the private sector. For quantification of GHG emissions from dairy production, this is a first of a kind project, but relevant capacity can be found in partner agencies, such as UN FAO, ILRI and private consulting firms, which have been developing a smallholder dairy GHG quantification methodology in Kenya since The methodology was officially approved by the Gold Standard in There will be a need to establish capacities of the PCU and national agencies for data analysis and manage-ment information systems for MRV of GHG benefits. The NCCAP mandates the adoption of a National Performance and Benefit Measurement (MRV+) system. The MRV+ system is intended to enable MRV of GHG emissions and emission reductions, adaptation benefits as well as socio-economic development benefits of climate actions, and to capture knowledge and lessons generated and best practices to inform deci-sionmaking. This includes the development benefits of climate and development projects. The MRV+ system sets out an overarching MRV framework for all project implementation in Kenya, including overall set-up with responsibilities and coordination to ensure data provision and management. It also defines human resource needs to implement MRV. The MRV+ system is a proposed process containing three main stages as follows: 78 Currently the Climate Change Secretariat 67

89 Measurement, Monitoring (and Evaluation): data and information needs to be gathered and fed into the system, the data and information needs quality checking and then the evaluation of the data can be carried out; Verification: the analysis will produce results that will need to be cross checked and verified in some way to ensure they are a realistic estimate of the outcomes being monitored; Reporting: once the results have been verified they can then be reported in whatever format is required. The framework to measure, monitor and report on the impacts of the project is expected to work within the MRV+ system that is established by the Government of Kenya. In all these areas, individual human capacities, institutional capacities and procedures and coordination among stakeholders will be required in order for the national MRV systems to function effectively. 2.2 Dairy sector There is a large number of public, private, civil society and research initiatives to support various aspects of dairy sector development in Kenya. Private initiatives by farmers, cooperatives and companies constitute the majority of such initiatives. These are supported by informal and formal financial institutions. Component 1 of the project aims to build on these initiatives. Public funded initiatives include projects implemented by a number of agencies, and currently include: the Smallholder Dairy Commercialization Project (IFAD), Kenya Agricultural Value Chain Enterprises project (USAID), Kenya Market-led Dairy Programme (Netherlands), Kenya Market-assistance programme (DfID/Gatsby/Netherlands), and the Agricultural Sector Development Support Programme (SIDA). There are also a number of smaller projects, and some dairy-related projects in donor pipelines, and a number of recently completed projects. Several Kenyan universities and research institutes are also researching related issues, including with support of international research partners such as the CGIAR and Wageningen University. This institutional landscape implies the need for improved coordination. The ASDSP has been supporting dairy value chain stakeholder forums at county level in counties included in the programme that are widely appreciated. No such coordination platforms exist at national level. The experience of preparing the concept note highlights that, while significant knowledge and practical experience related to low-emission, gender-inclusive dairy development exists, much of this has not been documented, or is documented in grey literature that is difficult to access and not available in forms suitable for direct use by many stakeholders. Significant accumulated experience is therefore not accessible to dairy sector stakeholders to inform training activities and the adoption of best practices going forward. In addition, the project will implement innovative approaches, lessons from which should be shared widely in the sector. Priority topics where information and capacity building is needed include gender-inclusive approaches throughout the sector; management of energy and environmental impacts; private sector investment in supply chain productivity; milk quality management; and financial access for smallholder dairy farmers. In the dairy sector, the State Department of Livestock (SDL) of the Ministry of Agriculture, Livestock and Fisheries (MoALF) is responsible for dairy sector policy. The Dairy Industry Act (2012) further specifies the role of the Kenya Dairy Board as a statutory body. Its primary roles are regulation of quality in the sector, industry promotion and sector development. KDB has regional 68

90 representatives, convenes stakeholder forums and is active in promotion of milk quality, and the competitiveness and efficiency of the sector. It also has an information center whose function is to provide information to stakeholders in the sector. 2.3 Energy initiatives Energy efficiency and conservation activities are governed and regulated by the Energy Act (2006) and Energy (Energy Management) Regulations The Energy Regulatory Commission is responsible for designating factories or buildings and electrical appliances by type, quantities of energy use, or methods of energy utilization for purposes of energy efficiency and conservation, and for inspecting designated facilities to see whether they are adhering code and standards of energy efficiency and conservation. Specifically, in large manufacturing facilities, such as dairy processing plants, the regulations oblige the owner to conserve energy, audit and analyze energy consumption in accordance with the standards, criteria, and procedures as prescribed by regulations. Designated facilities are required to conduct energy audits after every three years and implement the findings. Projects implemented by development partners (e.g. GIZ-implemented activities under the Powering Africa initiative) are training dairy processor staff and independent auditors in energy auditing. There is therefore growing capacity in the sector to undertake audits. Significantly, however, there are barriers on the financing supply-side, as many banks are unfamiliar with energy efficiency and renewable energy projects and their risks and cash flow characteristics. The AFDfunded SUNREF initiative has been working with a small number of banks, providing concessional credit to incentivize their engagement with this type of project. To date, only 1 dairy project has been financed. However, the SUNREF initiative provides a model of how TA for energy audits and finance can be managed. Biogas has been promoted for some years in Kenya, initially focused on fixed dome units, but more recently diversifying into a range of more flexible technologies, such as plastic tubing, PVC canvas bags and other technologies. The main initiative in recent years has been the Kenya National Domestic Biogas Programme, financed by two international NGOs, SNV and Hivos. A number of firms, mainly involved in provision of fixed-dome technologies have engaged with this programme. The programme has also promoted the development of a national standard, based on the technical requirements of the fixed dome technology. More recently, other technologies are increasingly widely used. Suppliers of these technologies are not closely linked with the former KENDBIP programme. They are mostly focusing on linking with dairy processors and cooperatives, and the related SACCOs in order to develop innovative marketing and finance models to achieve sustainable growth of their businesses. At present, such linkages are at an early stage. 3. Results Framework for the Component The proposed outcome of activities in this component is Strengthened institutional and stakeholders capacities for scaling-up low-emission dairy development. The component is designed with three main outputs: Output 3.1 Project monitoring and national MRV systems are established Output 3.2: Best practices are captured and shared among dairy sector stakeholders Output 3.3: Coordination among dairy sector stakeholders 69

91 Activities leading to these outputs will draw on and contribute to related activities under the other two project components. Components 1 and 2 will provide monitoring data, which will be essential inputs to MRV activities under Component 3, and will provide lessons and best practices for dissemination under Component 3. The materials on lessons and best practices produced under Component 3 will, in turn, be fed into the activities in Components 1 and 2 as part of capacity building activities under those components (Figure I.2). Figure I.2: Interrelation between Component 3 and Components 1 and 2 Output 3.1 Project monitoring and national MRV systems are established: The national MRV+ system provides an outline framework to link monitoring of inputs, activities, outputs and outcomes and their GHG effects to the national MRV system. The project will establish a resultsbased M&E system, with key indicators as shown in the project results framework (Annex A). A draft outline description of the linkage between project monitoring and MRV systems is shown in the appendix to this Annex. The M&E system will be coordinated by the project coordination unit (PCU). Information provided from operation of this system will serve both the reporting requirements of the Accredited Entity, and information needs of the national MRV+ system. The terms of reference of the PCU will explicitly outline M&E and MRV roles and responsibilities, including tracking to ensure that the planned reporting takes place, quality assurance and quality control for data management and reporting, and managing the interface with Kenya s MRV+ system. Key capacities will be built for GHG quantification and for linking the project M&E system to the national MRV+ system and climate finance tracking system. For GHG quantification, approved methodologies will be used to account for GHG emission reductions due to project activities. 70

92 The PCU will be responsible for coordinating the collection of baseline data as well as ongoing collection of project activity data, and for estimating the resulting GHG effects. During full proposal development, detailed procedures for GHG quantification and for linking with national MRV+ and climate finance tracking systems will be elaborated, and the corresponding capacity building needs defined (including capacities for data collection by project participants, QA/QC procedures, archiving etc). This assessment will also consider the potential contribution of the project to the national GHG inventory, since the project will estimate Tier 2 emission factors for dairy cow enteric fermentation and manure management using data from extensive baseline surveys in the main dairy producing areas of Kenya. Output 3.2: Best practices are captured and shared among dairy sector stakeholders: One of the key functions of the M&E system will be to capture lessons learned and best practices. Knowledge will be captured not only from the project information system, but also through commissioned studies on topics where robust evidence is needed to support decision-making leading to effective action in the sector. Activities leading to this output will also disseminate knowledge of the identified best practices, including by provision of case study and training material for use in capacity building activities identified in Components 1 and 2. This will be done through a variety of formats and media, through established dairy stakeholder forums at local level, and through use of mass media (e.g. radio shows, online resources). The project will thus build stakeholder capacities for wider replication of best practices. Key topics where provision of information on best practices and related capacity building may be needed include genderinclusive approaches throughout the sector; management of energy and environmental impacts; private sector investment in supply chain productivity; milk quality management; and financial access for smallholder dairy farmers. Output 3.3: Coordination among dairy sector stakeholders: There are no national forums involving the diverse stakeholders in the dairy sector for discussion of public-private partnerships in dairy development or for sharing of information and coordination of plans and investment. Building on the multi-stakeholder platform established in preparation of this project proposal, the project will continue broad stakeholder involvement through multi-stakeholder platform activities. It is envisaged that under the platform specialized working groups will develop focusing on stakeholder engagement, policy dialogue and coordination with regard to specific areas of stakeholder interest (e.g. dairy sector finance, energy interventions in the dairy sector, gender inclusive approaches etc). The platform and working groups will ensure feedback on the project process and effectiveness from a wide range of stakeholders, from farmers through civil society organizations to businesses, researchers and other stakeholders, and contribute to further enhancement of the policy environment for public-private partnerships in dairy development. In particular, the platform will provide opportunities for dialogue on the policy environment for public-private partnerships in support of low-emission, climate resilient dairy development. For example, the Dairy Development Policy (2013) explicitly supports private-private partnership in delivery of dairy extension services. However, agriculture is a devolved function within government, so there is a need to share more broadly experiences of public-private partnership at county level and to clarify how central government can further support the development of these public-private partnerships. 71

93 4. Project Investments Table I.2 shows the direct investment costs to the project. All of these costs are incremental above the baseline. The total cost of activities under this component has been estimated at USD 981,500 over the 10 year project period. These costs do not include staff and administration costs which are accounted for in Component 4. These costs will be covered by a grant from the AE. Table I.2: Total project costs (US$ million) Project costs Co-financing GCF AE GoK FIs farmers Loans Guarantees Grants 861,500 Staff costs Travel & per diem 120,000 Admin costs Total 981,500 72

94 Appendix: Draft outline description of the project M&E system and linkages to the MRV+ system A. General concept At a general level, the project M&E system will be a results-based monitoring framework designed to capture both GHG and non-ghg effects associated with the project results framework (Figure 1). As with all results-based monitoring systems, the M&E system will be a key management tool for the project, serving the primary purpose of providing data and feedback to improve the effectiveness, efficiency, sustainability, relevance and impact of project activities, including meeting reporting requirements of the GCF and the national MRV+ system. Figure 1: Relationship between GHG and non-ghg effects in a results framework In common with standard results-based M&E frameworks, the key functions of the results-based M&E system will include: 1. Output monitoring; focusing on physical and financial inputs, activities and outputs; 2. Outcome monitoring; assessing the use of outputs and measuring benefits; 3. Progress Monitoring: Progress monitoring will focus on the financial and progress performance of the project in relation to project plans and budgets. Project M&E activities will be coordinated by the PCU. Details of M&E roles and responsibilities, reporting frequency etc will be specified in the full proposal. B. Links with the national MRV+ system The MRV+ system is designed to enable MRV of GHG emissions and emission reductions, as well as socio-economic development benefits of climate actions. As indicated in the project results framework (Annex A), a number of non-ghg effects of the project will be monitored by the project results-based M&E system. Following procedures for verification in line with the requirements of the national MRV+ system, the data on project benefits (outputs, outcomes, impacts) will be reported to the national MRV+ system for onward reporting. Activity data required for reporting of project GHG emissions and emission reductions will be collected by the project M&E system. This will be reported by the AE to the GCF, and by the PCU to the agency responsible for the national MRV+ system. 73