Private concession initiative – is it really working?

Pavel Andreev,

Counsel, Industrial Construction Practice.

It has been over five years since the Federal Law “On Concession Agreements” was amended to allow the use of the private initiative mechanism when concluding concession agreements: when an investor, rather than the public sector, initiates the implementation of a public-private partnership project (abbreviated as PPP) and officially launches the procedures that allow, subject to certain conditions, to conclude a concession agreement without holding a competition.

It would seem that five years is enough time for the innovations to work: the practice of their application has been formed, and probably the inevitable shortcomings that were made when developing the initial version of the changes have been taken into account. This has happened to some extent, but only to some extent: the private initiative mechanism has indeed become widely used by market participants. However, it has been more difficult with the second part of the statement: despite the obvious shortcomings of the wording of the law, the amendments that would eliminate them and make the mechanism more transparent and understandable for all market participants have still not been made.

As examples of law shortcomings, one can point out the following: in our opinion, when the provisions on private concession initiative were included in the Federal Law “On Concession Agreements” in 2014, the work on correlating new norms with already existing requirements of the law was not fully carried out. Because of this, to this day, the implementation of a PPP project initiated by an investor by submitting a corresponding proposal may be difficult, and sometimes impossible.

One of the key issues, especially critical in structuring concession projects, is the question of payments made by the concessionaire (public side) to the concessionaire (investor) in the implementation of the project. Such payments can be, for example, in the form of a capital grant paid during construction or reconstruction of the concession agreement object, as well as in the form of payments compensating for all or part of the concessionaire’s expenses for the subsequent operation and maintenance of the concession agreement object. However, the specificity of domestic public-private partnerships is such that a large number of projects cannot be implemented without co-financing from the state, since the revenues from the operation of the concession agreement object are insufficient to return all the investment in the project to the investor and ensure the necessary profitability in cases where the investor finances the project entirely, or such revenues are not provided for in the project at all. In this regard, in some cases, the investor’s proposal for project implementation may only be possible if the concession agreement requires payments from the public partner. But what happens when such an offer comes to the attention of a potential concessionaire representative who starts comparing it to legal requirements?

At first glance, there are no contradictions with the law: Article 37 of the Federal Law “On Concession Agreements” does not contain any restrictions on including a condition for payments from the conceding party in the proposal. This is logical, since the legislator did not need to restrict the mechanism of private initiative by prohibiting the requirement of a concession agreement for payments from the public side: the law excludes the case of backstage agreements between the parties on excessively favorable financial conditions for the private investor-initiator of the project, since the procedure for concluding a concession agreement within private concession initiative is still public and provides for the publication of information about the project in publicly available sources with the obligation of the public party to hold a competition in case other market participants express interest in the project. As a result of the competition, market conditions for implementing the project will still be formed through competition among its participants.

So there is no legislator’s will for such a restriction and the condition is adequate. Or? A meticulous representative of the public side reads other provisions of the Federal Law “On Concession Agreements” in addition to regulating private concession initiatives, and sees the following. Part 13 of Article 3 of the law states:

The size of the expenses incurred by the concessionaire…must be specified in…the bidding documentation… The decision to pay the concessionaire’s fee under the concession agreement may be made if the establishment of the concessionaire’s fee under the concession agreement is determined as a criterion of the bidding.”

There is also part 2.1 of Article 24 of the law, which states:

“In the event that the concession agreement provides for the concessionaire to assume part of the expenses for the creation and/or reconstruction of the concession object, the use (exploitation) of the concession object, or the concessionaire’s fee under the concession agreement, the size of the concessionaire’s share of such expenses and the concessionaire’s fee under the concession agreement must be established as criteria for the bidding.”

In our opinion, the existence of a formally imperative condition to include provisions on payments from the concessionaire in the bidding documentation and to establish them as bidding criteria is solely due to defects in legal technique when amending the provisions of the law. Yes, provisions on private concession initiatives were included, but a full assessment of the necessary adjustments to other provisions of the law was forgotten. In particular, the above provisions of the law should have indicated that they are not applicable to cases of concluding a concession agreement without a bidding process. But what will be the position of the representative of the public side on this matter? He may prefer a formal reading of the requirement and conclude that it is impossible to include a condition for payments from the concessionaire in a concession agreement concluded without a bidding process. Loose interpretations of the provisions of the law can lead to claims by regulatory authorities, primarily the Federal Antimonopoly Service. Unfortunately, a formal approach usually defaults when the public side is involved in the project. At the same time, the practice of concluding concession agreements that include a condition for payments from the concessionaire as part of private concession initiative procedures exists, but it depends on the willingness of the public side to assume the risks of regulatory authorities’ claims.

In our opinion, the existence of a formally imperative condition to include provisions on payments from the concessionaire in the bidding documentation and to establish them as bidding criteria is solely due to defects in legal technique when amending the provisions of the law. Yes, provisions on private concession initiatives were included, but a full assessment of the necessary adjustments to other provisions of the law was forgotten. In particular, the above provisions of the law should have indicated that they are not applicable to cases of concluding a concession agreement without a bidding process. But what will be the position of the representative of the public side on this matter? He may prefer a formal reading of the requirement and conclude that it is impossible to include a condition for payments from the concessionaire in a concession agreement concluded without a bidding process. Loose interpretations of the provisions of the law can lead to claims by regulatory authorities, primarily the Federal Antimonopoly Service. Unfortunately, a formal approach usually defaults when the public side is involved in the project. At the same time, the practice of concluding concession agreements that include a condition for payments from the concessionaire as part of private concession initiative procedures exists, but it depends on the willingness of the public side to assume the risks of regulatory authorities’ claims.

The second example that can be given to justify that the work on analyzing and correcting the general norms of the law was not properly carried out is as follows. A mandatory requirement for the implementation of a concession project is the concessionaire’s obligation to provide the concessionaire with land plots necessary for the creation and/or reconstruction of the concession agreement object and/or for carrying out the activities provided for by the concession agreement. At the same time, the process of obtaining and forming land plots is often difficult and time-consuming, and when the initiator of the project is a private party, this process is often not even started at all.

According to Part 1 of Article 11 of the Federal Law “On Concession Agreements”:

” … The lease (sublease) agreement for a land plot must be concluded with the concessionaire no later than sixty working days from the date of signing the concession agreement, unless other terms are established by the competition documentation … “.

Again, upon receiving a proposal to conclude a concession agreement, the formal reading of the law’s requirements is included: a term for the provision of land plots exceeding sixty working days from the date of signing the concession agreement can only be established in the competition documentation. In the case of a private concession initiative, such documentation does not exist. Therefore, a proposal to conclude a concession agreement can be submitted by a private party only on the condition of a maximum deadline for providing land plots equal to sixty working days, and compliance with such a deadline is not always within the power of the public side, which may not want to take on corresponding obligations and sign up for deadlines that are already unattainable. As a result, the public side may refuse to implement the project under a private concession initiative. Yes, it is possible to invent various legal constructions: to include a violation of the deadline for submitting land plots in the list of special circumstances in the event of a violation of a period longer than sixty days, to provide counter-obligations of the concessionaire in the concession agreement that act as a trigger for the provision of land plots by the concessionor, but this is not a hundred percent solution: formal approaches still have a high probability of winning. The option of resolving land issues before launching a private concession initiative is also not always feasible and involves postponing the investor’s proposal submission deadlines, sometimes indefinitely.

All of these seemingly insignificant details related to legal technical defects slow down the implementation of many concession projects, although they are obviously on the surface. At the same time, it is noteworthy that although projects to eliminate shortcomings have long been developed by the Ministry of Economic Development of the Russian Federation (for example, one project of the relevant Federal Law was uploaded to regulation.gov.ru as early as March 21, 2019, and the other, updated one was sent for discussion and revision with the participation of the expert community on June 3, 2020), consideration of the changes by the Federal Assembly has not yet begun. Hence the question: does the state really need an effectively working mechanism of private concession initiative?

It is hoped that the answer will be positive, especially in light of the need to implement ambitious infrastructure projects planned for the period until the end of 2024, for which a private concession initiative mechanism with the defects in the law eliminated could be very useful.