Insolvency laws and Public Private Partnerships

Two power projects in Portugal known as Pego and Tapada provided lessons on the issues arising in relation to limited recourse finance in PPPs. While many concepts from those projects have been used in relation to PPPs, one of the most important was that insolvency law is key. In jurisdictions where previously there have been few, if any, limited recourse finance projects, the implications of the insolvency law in relation to the project can be extensive.

In some cases, the protection of the public sector's interest and of the lenders' interest can go hand in hand. If the insolvency process creates the risk that there will be a delay before the lenders are in a position to step-in, then the public sector can agree to operate and maintain during this period. As long as the public sector recovers its expenses, each party achieves a satisfactory solution.

However, in other cases, such as on the Dutch High Speed Link, the nature of insolvency procedures meant that the original PPP concept – of the private sector taking over newly completed civil engineering works and designing, building, financing and maintaining the new high speed line - had to be radically altered.

The solution was that the private sector did not have ownership rights in the assets they procured, but that these would be vested in the State. The private sector would have exclusive rights and obligations and would receive a performance fee for meeting these under the Implementation Agreement.

In the case of default, rather than the lenders stepping in, as in the more traditional route internationally (other than in the UK where an Administrative Receiver is normally appointed), the original Implementation Agreement would be terminated. The State would then enter into a new contract on similar terms to the original Implementation Agreement with a substitute nominated by the lenders (in accordance with the original procurement formulation).

As a consequence, an additional range of risks arise for the State, because of the liabilities that go with ownership, while the private sector will lose the benefits which are derived from ownership. The driver for the development of the structure will therefore be, 'is the deal bankable?'.

In that respect the question is no different from the process gone through in the UK in relation to PPPs and their predecessor projects. The solutions, however, may well be different.

Key to the development of a successful PPP project is the identification and allocation of risk – recognising that a pre-agreed sharing of risk may achieve the optimum outcome.

In a civil law jurisdiction, the law is codified but that in itself can lead to uncertainty. In a number of jurisdictions, the concept of economic equilibrium pertains. This allows courts to intervene in the case of an event such as force majeure materially altering the commercial position of one of the parties. While lenders may take comfort (or not) from the provisions appearing in the Project Agreement, in some jurisdictions they are faced with the issue that if force majeure caused hardship to the public sector, the courts might seek to rebalance the equilibrium even though there was no contractual right for that to occur.

A further difference is in relation to the concept of PPPs. A State owned corporate entity carrying debt may be disregarded for the purposes of those of the Maastricht criteria relating to public sector borrowing, because it is considered to be a separate juridical person. In the UK, the Office of National Statistics recently decided that a financial transaction could be used to create a loan for the Public sector, a decision which is still somewhat conservative compared with those emerging from Eurostat. Therefore, from a UK practitioner's point of view, a PPP could be a public-public partnership, rather than a public-private partnership. This gives rise to more flexibility in achieving solutions than may perhaps exist in the UK.

There are opportunities for other European countries to benefit from the UK experience, but a UK practitioner would be wrong to think that UK answers should apply. However, a partnership of local understanding with international experience should give both the public sector and the private sector benefits. Private sector sponsors and lenders should appreciate that often, somewhere within their own organisations, there will be experience. Calling on that experience from elsewhere in their organisation is as important as the public sector drawing on experience from outside their organisations.

This article was first published in Construction Europe, March 2003.

For further information please contact Robert Phillips at [email protected] or on +44 (0)20 7367 2500.