Home / Opinion / Online-views /  Renegotiation of PPP contracts becomes a reality

India’s finance minister Arun Jaitley announced three new initiatives on building infrastructure through the so-called public-private partnership (PPP) mode in the national budget he presented to Parliament on 29 February.

A Public Utility (Resolution of Disputes) Bill will be introduced in 2016-17 to streamline institutional arrangements for the resolution of disputes in infrastructure-related construction contracts, PPP and public utility contracts.

The guidelines for renegotiation of PPP concession agreements will be issued, keeping in view the long-term nature of such contracts and potential uncertainties of the real economy, without compromising transparency.

A new credit rating system for infrastructure projects which gives emphasis to various in-built credit enhancement structures will be developed, instead of relying upon a standard perception of risk which often results in mispriced loans.

All the three have a bearing on investments in the ports sector but it is the announcement on re-negotiation of agreements that has the maximum impact.

India has emerged as one of the leading PPP markets in the world due to several policy and institutional initiatives taken by the central government and a sustained effort in various sectors to accelerate the implementation of PPP projects and programmes.

India has also developed a strong framework for the approval of PPP projects at the central government-level with appropriate oversight exercised by bodies independent of the projects and aware of the fiscal implications of PPPs.

Various challenges have arisen along with the acceleration in the pace of the roll-out of PPPs. A blockage in the bidding process of some PPP programmes has developed with private sector developers and financiers stating that they will not participate in any project bidding, given the perception that participation has become too risky and because their exposure to projects in implementation that may be in some distress is too high.

The common themes that emerge across infrastructure sectors are that risk allocation is viewed as one-sided and several sovereign obligations are not being met.

From the private sector side, it is apparent that there has been opportunistic and unrealistic bidding in terms of revenue sharing that has placed concessions at risk of failure as economic conditions worsened over the past five years.

As far as the contractual elements of the PPPs is concerned, there is a general consensus that the model concession agreements (MCAs) are inflexible with no ability to change the terms of the concession. A concession agreement sets out the terms and conditions of a port contract.

For the next generation of PPP contracts, experts have suggested, among other things, amending the model concession agreement to include provision for renegotiation with adequate safeguard built in to deal with uncertainties inherent in long-term contracts and protect the developer from unexpected changes beyond his control, but also ensure that the option of renegotiation is not misused.

Post-award changes are almost always fraught with moral hazards and political risks.

Hence, it is necessary to establish a set of criteria or benchmarks to be applied to each proposed renegotiation that are quantifiable and ascertainable.

In other words, the case for a renegotiation can be made explicit and recorded so that the decisions made are rational and defensible.

The criteria or benchmarks, according to a draft written by the finance ministry, should include evidence that the project distress is material and likely to result in default under the concession agreement in future should it continue; is not caused by the private party; and is likely to cause adverse outcomes for the government and/or users of the concession assets.

It should also include evidence that a renegotiated concession agreement is likely to have direct cost implications for the government that are less than the financial outcomes of doing nothing.

The finance ministry draft has also spelt out reasons that would not apply for any application for amendment of a concession agreement. These include any event of distress that was foreseeable at the time of financial close; any event that would affect the concessionaire (private entity) as any other company in its ordinary course of business (for example, general changes in law); any impact arising from assumptions made or risks taken by the concessionaire in preparing its bid; any impact arising directly or indirectly from the performance, action or inaction of the concessionaire; and any failure of any associated party to the concessionaire to perform or provide finance to the concessionaire.

The final decision for a renegotiated concession agreement must thus be based on full disclosure of long-term costs, risks and potential benefits; comparison with the financial position for the government at the time of signing the concession agreement and comparison with the financial position of the government at the time prior to renegotiation.

This will help the public authority awarding the concession to make a decision based on awareness of likely outcomes over the foreseeable future of the concession, according to the finance ministry draft.

P. Manoj looks at trends in the shipping industry.

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