GOVERNANCE AND LEGAL ISSUES

1. GOVERNANCE AND LEGAL ISSUES Delivering GROWTH BY PARTNERSHIPSharing UK Capabilities In PPP19-20 February 2014Kingston, Jamaica

2. Legal Framework • - PPP describes a variety of arrangements and relationships between the public and private sectors to provide and deliver public sector assets and services. E.g., joint ventures, strategic partnerships, bespoke agreements for public sector utilising private sector resources, capacities or expertise plus DBFO arrangements including PFIs, and others. • - While some countries have specific PPP legislation governing aspects of the above; others rely on the application of the general body of relevant law or a combination of the general law and particular legislation regarding specific sectors or aspects. In addition, various jurisdictions have policy documents, guidance notes and required or recommended contractual provisions, such as (in the UK) Standardisation of PFI Contracts and, more recently, Standardisation of PF2 Contracts • - In addition, “[s]ince the political, constitutional, legal, economic and social circumstances of every country differ, there can never be a single blueprint of how to make a PFI programme work. Each government has to devise [its] own programme to suit local conditions” … Commonwealth Secretariat, July 2010

3. Examples of laws • EU (regarding procurement) :- Public Sector Directive (2004/18/EC) • - Utilities Directive (2004/17/EC) • UNCITRAL : • - Legislative Guide on Privately Financed Projects (2001) • - Model Legislative Provisions (2004) CARIBBEAN- a number of countriesenacting framework legislations

4. Key Structural Issues • Key legal/regulatory and governance issues of a structural nature concern:- Compliance with procurement legislation throughout process stages, including on certain changes e.g., of key counterparties. • - Which is the responsible authority (for procurement, etc)? • - Is particular enabling/facilitating legislation needed for a particular project? • - Local content legislation/policy • - Vires (ultra, intra), especially re grant of public financial and other support, licences, etc • - Value for money, Public Sector Comparator • - FATCA (Foreign Account Tax Compliance Act, USA) • - Bribery, corrupt gifts, fraud

5. Key Structural Issues (cont’d) • - Waiver of sovereign immunity • - Employee rights (equality of rights of old and new employees) • - Data protection legislation • - Confidentiality, official secrets (e.g. defence sector projects), Freedom of Information • - Conflict of laws

6. Typical Structure of Relationships (PFIs) • First, look at typical structure of relationships: • (i) A special purpose vehicle formed by consortium of investors as the project company, “Proj Co”, to ring fence liabilities within Proj Co and away from the consortium members. • (ii) Consortium members typically invest in a top company, “Hold Co”, which is the entity that then directly holds Proj Co’s shares on behalf of consortium. Consortium will have a shareholders agreement/investment agreement at Hold Co level. • (iii) Contracting Authority enters project contract with Proj Co • (iv) Proj Co is the party to the funding agreement with debt providers • (v) Proj Co enters contracts with subcontractors who are responsible for actual asset provision and service delivery. The consortium members/ project sponsors are usually related parties of the subcontractors. Key subcontractors are the construction contractor and the operations and maintenance contractor.

7. Typical Structure of Relationships (PFIs), (cont’d) • (vi) Contracting Authority also enters a direct relationship with senior debt funders to agree the regulations for the relationship between the Authority and the funders in the case of termination or threatened termination of the project by the Authority where the Contractor (Proj Co) is in default under the project agreement. • (vii) Contracting Authority often enters into collateral warranties with the key subcontractors who are responsible for the delivery of the project to ensure that Authority has enforcement rights against these subcontractors.

8. Key Contractual Documentation (PFIs) • Next, look at key documentation (note public sector not party to all): • (i) Project Agreement, the primary agreement, between Contracting Authority and Contractor (Proj Co) that sets out the obligations of Proj Co to execute the project and its right to (and terms of) payment for it. Sometimes this is a Concession Agreement or Implementation Agreement or, often, in cases of outright privatisation, may even be a Sale and Purchase Agreement (under which private sector acquires the shares in a previously publicly owned project/asset) • (ii) Construction Contract, the subcontract between Proj Co and construction contractor for the design and construction of the asset. • (iii) Operations and Maintenance (O&M) Contract, the subcontract between Proj Co and the O&M Contractor for the long term operation and maintenance of the asset.

9. Key Contractual Documentation (PFIs), (cont’d) • (iv) Shareholders Agreement, among consortium members • (v) Finance Documents, including themain funding agreement (e.g., bank facility agreement or bond document if funding is by way of bond issue) entered between Proj Co and funder(s),Intercreditor Agreement(applicable where there are a number of lenders, to regulate the relationships and order of priority among such lenders),Common TermsAgreement(covering terms shared among the various lenders regarding the lending), Direct Agreement(which allows the lenders to step in to ‘rescue’ the project at the brink of potential termination for Contractor Default), anyhedging agreementsand security documents, under which the project assets and sponsors’ ownership of the shares in Proj Co (through Hold Co) are granted as collateral to the lenders under debenture creating fixed and floating charges and other security.

10. Key Contractual Documentation (PFIs), (cont’d) • Note project assets really comprise the series of contractual rights that the project has- to execute the project and be paid for it and rights against subcontractors etc. • Critically, the balance sheets of the respective consortium investors are not involved here, due to the limited recourse nature of the financing whereby the funders only have rights against the project, not its sponsors’ assets. Accordingly, sponsors are not typically required – or prepared- to give guarantees in respect of the performance or liabilities of Proj Co.

11. Standardised Contracts • The UK has standard wording and guidance to be used by Contracting Authorities when drafting PFI contracts. These have been developed over time (since 1999) and are well understood by stakeholders, including the private sector. • Until late 2012, the applicable guidance was the ‘Standardisation of PFI Contracts” (SoPC) which went through 4 versions. • In December 2012, a new contracting model, PF2, was launched to replace PFI and guidance for this is contained in the ‘Standardisation of PF2 Contracts”.

12. Key Points, Risks & Mitigants – PFI, PF2 • (i) Passing on the risk of delays to the private sector is a main philosophy of the PFI regime. Under the standardised Project Agreement public sector to be protected against late service commencement by a combination of tools, including liquidated damages and the benefit of performance bonds from construction subcontractor. • (ii) There are however, certain supervening events which are recognised and addressed. “Compensation events” allow Proj Co financial compensation for time losses to the extent caused by Authority and “relief events” allow Proj Co time to address certain risks which it assumes under the project and thereby allows it to get relief from termination during the continuation of those events. There is a force majeure regime which allows relief from liability and a sharing of the consequences on the occurrence of certain external events and ultimately the option of terminating the contract. • (iii) The payment mechanism, which usually establishes a unitary charge for availability and performance, involves a system of payment deductions for poor performance. The payment mechanism is monitored at different levels throughout the contract term.

13. Key Points, Risks & Mitigants – PFI, PF2 • (iv) The contract provides for inflation indexing to cover the Contractor against unforeseen operating costs increases. • (v) There are also provisions for benchmarking and market testing of relevant services under the PFI during the contract term which could lead to a change in the unitary charge or in sub-contractor if this represents better value for money. This is relevant to the “soft services” provisions (such as catering or cleaning services). Under PF2 however, soft services have been removed from the standard contract so that the PF2 will focus on the provision of the asset and its long term maintenance. • (vi) In terms of long term maintenance, PF2 requires the regular conduct of efficiency reviews and lifecycle reviews with a view to the Authority benefiting from any potential gain share in respect of any excess in life cycle reserves. • (vii) As the contracts are of a lengthy duration (often 20 -30 years), a robust mechanism is included to provide for required changes in the service and compensation to the Contractor for the agreed resulting changes to be made.

14. Key Points, Risks & Mitigants – PFI, PF2 • (viii) The contract provides a risk allocation mechanism between the Authority and Contractor for changes in law which have a financial impact on the project or the Contractor. The change in law regime of the PFI has been amended somewhat under PF2 with the public sector taking additional responsibility for certain general changes in law as it is felt that this enhances the value for money profile of the contract to the public sector. • (ix) Unlike under PFI, under PF2 the Authority will now look to take a minority equity stake in the project alongside its private sector equity investors. The Authority and other equity participants will need to enter a shareholders agreement to govern their mutual shareholding relationship. • (x) The private sector are wary of this above proposal, particularly when coupled with the new requirement under PF2 requiring private sector equity investors to report on their actual and forecast equity return information this to be made available for publications. Under both PFI and PF2 the public sector shares the gains arising from a refinancing of the debt • (xi) In order to facilitate institutional investors investing directly into projects (refer to the “Financing Options” paper earlier) bidders on PF2 projects will be required to develop a long-term financing solution which doesn’t rely solely on bank debt.

15. Key Points, Risks & Mitigants – PFI, PF2 • (xi) A sophisticated compensation on termination regime exists based on whether the termination arises from Contractor Default, Authority Default or Authority voluntary termination. The PFI termination compensation scheme takes a market value approach. • (xii) The Contractor is also required to take out a package of insurances, which will backstop liabilities on occurrence of an insurance event. Insurance is a key aspect of PFI/PF2 schemes, with risk allocation provisions for unavailability of insurance or uninsurabilityand provisions for use of proceeds.

16. Dispute Resolution • If it goes wrong …: • - consultation • - expert • - arbitration • - the courts • - joinder of subcontractors

17. Conclusion- Risk Allocation is Key • The premise of PFI/PF2 is that risks should be allocated to the party which can manage the risks more efficiently. That hasn’t changed and in addition PF2 is seeking to address some of concerns of the public regarding long term value for money and the perception that the private sector has been doing too well out of this form of government PPPs.

18. Contact • Vanessa N. Rizziolivrizzioli@mahoeconsulting.comTelephone (London) : +44 (0) 20 8874 7390Mobile (London): + 44 (0) 780 178 1969Mobile (Jamaica): + 1 (876) 343 3885