PPP contracts, like any other contract, have several terms and conditions which govern the parties to the contract. Dispute Resolution Clause determines what a dispute is, when disputes arise, when the dispute resolution clause can be enforced, where and how the disputes will be heard, etc.
India´s infrastructure sector witnessed significant investments by private sector till 2013, with a noticeable slowdown in the last couple of years. As reported by the CSO, the gross fixed capital formation in the economy slowed down by 3.7 per cent in the last year. The slowdown is attributable to the above, combined with the economic slowdown, restricted access to capital, slow government decision-making, challenges in land acquisition, delays in obtaining environmental clearances, factors affecting the bind parameters, high interest rates, forex risk, and regulatory uncertainty. Several sectors (power, highways, airports, coal, etc) are mired in vexed disputes. Due to the above factors, the 12th plan investment target of USD one trillion, with 48 per cent for the private sector, had to be downsized by 40 per cent. Even that target looks daunting now.
The objectives of Public Private Partnership (PPP) are to ensure that reliable services are delivered in the most economical, effective, and efficient manner, to create opportunities for the economic growth, with an appropriate allocation of risks and returns.
PPP contracts have several terms and conditions which govern the parties to the contract. Dispute Resolution Clause determines what a dispute is, when disputes arise, when the dispute resolution clause can be enforced, where and how the disputes will be heard, etc.
Profit is a return on investment indexed on the risk taken. Profit has come to be seen as acceptable so long as it is based on sound economic principles and is not undue or abusive. Profit is yet to be accepted as the cost of capital and ¨legitimate entitlement¨ dehors social objectives. Abiding distrust of profit motive of private investors, which is assumed to be usurious and against public interest, rings through loud and clear, particularly, when considering public utility or public goods. It would appear that though the stated economic policy has moved on to embrace and warrant enhanced long-term PPPs with significant need for private investment in utilities- on the implementation side risk-allocation in contracts, the ¨partnership¨ being conspicuous by its absence from state entities, timely interventions to protect such investment and its attendant rights do not seem to have kept pace with needs of the time.
The last two decades and the PPP quagmire are a direct consequence of this divergence. It appears that ingrained suspicion of private capital due to abusive conduct of some capitalists manifested in the failure to make privatisation and public-private-partnerships productive even where it was well-meaning, efficient, and fair. We are now in an era of stranded capital and constrained investments, with mounting non-performing assets (NPAs) and stressed assets.
Why do the disputes arise? PPP in infrastructure is a long-term agreement amenable to the uncertainties which need adjustment mechanism and risk-sharing. Various kinds of disputes between the parties are related to the construction phase (delay due to right of way, etc, resulting in time and cost overruns); disputes relating to sub-contracts; disputes during contract management phase which relate to the validity, enforceability, interpretation or non-performance of a contractual obligation, or seeking injunctive relief, compensation, or specific performance of the contract; and disputes where the award of the project itself can be challenged on grounds of arbitrariness, illegality, or against public policy.
In most cases, it is seen that dispute arises when a party is not able to continue performing its obligations and seeks increase in price or tariff. For governments, dispute arises due to external events (taxes, subsidies, etc.), developers obtaining a higher rate of return from their operations, or due to enactment of new legislation, relaxing the financial or technical or environmental standards. On the other hand, for developers, disputes may arise when due to unforeseen events, economic viability is untenable; when obligations are imposed, reducing the level of returns; or when government policies or laws have a detrimental effect on the minimum rate of return, etc.
An important factor in such disputes is the balance between the doctrine of æpacta sunt servanda´, the ´doctrine of initial and subsequent impossibility´, and the impracticability to resolve unforeseen events or economic crisis. Generally, courts do not interfere with contracts to accommodate changed circumstances, no matter how inequitable the contract has become.
This aspect needs urgent attention since there could be cases where the ´foundation of the contract´ has disappeared, and it is not possible for the party to perform the contract.
Appreciating this problem, US has codified the doctrine of Commercial Impracticability in the Uniform Commercial Code, wherein performance of the contract can be excused when the only way the contract can be performed is at an excessive or unreasonable cost. The development of this doctrine has been slow due to its perceived incompatibility with the doctrine of pacta sunt servanda.
The UNIDROIT Principles of International Commercial Contracts provide guidance on conducting renegotiations and the conditions under which they can occur. The principles allow for renegotiation in the event of a ´hardship´. As such, the disadvantaged party can invoke a renegotiation of the terms of contract in order to modify it to reflect altered parameters. If a successful renegotiation does not occur, the UNIDROIT principles call for the use of a third party to end the contract, or adapt it to restore its balance. Both the government and the developer can alter the contract to reflect changed circumstances out of its control. Courts should appreciate the principle of fairness to adapt the PPP agreement. The UNIDROIT principles provide guidance on this to tribunals.
Various methods of dispute resolution which are generally provided for in the PPP contracts are as follows:
Recognising the problems in dispute resolution, the Modi government has appointed Kelkar Committee (under former Finance Secretary Vijay Kelkar) to review the model to examine the risk-sharing between the government and private companies in PPP projects. It is evident that private participants entered the PPP with too little equity and had a high level of debt exposure. A re-look at the model is required where enforcement or implementation issues of the PPP contract are taken care of. Huge profit assumptions, problems of land acquisition and environmental clearances, and poor monitoring of projects seem to have unsettled the PPP model.
The PPP contracts should not be rigid but be flexible to accommodate diverse formats of PPP as per the needs of the sector as also the peculiarities or specifics of a project. The framework must provide for striking a sustainable balance between universal service or lifeline supply, and commercial practicability and viability of the sector. A clear legislative and regulatory foundation enabling public entities or utilities to enter into such contracts and arrangements is desirable to secure a transparent and objective process for selection of infrastructure projects, taking into consideration a developer´s concerns about ´value for money´ and welfare consideration. In doing so, the process leading to PPP contracts must be consistent with the governing legal and regulatory framework. A clear definition of the role, responsibility, and rights of various parties in the governing instruments, including scope of public service, service standards, pricing, and scope of governmental intervention or assistance must be provided. When engaging with private sector, it must be borne in mind that a private entrepreneur is interested in undertaking the project to run a successful business enterprise and earn profits. As such, the project must meet the threshold test of financial viability based on realistic assumptions. This is particularly vital for ensuring bankability of the project, i.e., ability of the developer to arrange for cost effective finance on the strength of the project´s revenue stream and project agreements. Improper or unfair risk allocation invariably enhances risk profile of the project and deters credible players who wish to deliver quality infrastructure facilities. An unviable public infrastructure project is not the problem of the private entrepreneur alone and can in fact emerge as a serious reputational risk and problem for the governmental authorities.
It is imperative that we have well thought-out and balanced contracts with clear role-responsibility-risk allocation; robust contract management linked to objective criteria and better communication are a few things that are needed to achieve a consistent and successful approach to PPPs. The need of the hour is that expeditious and efficient dispute resolution is provided for in the contracts.
Advantages of Renegotiation clauses
This article has been authored by Amit Kapur and Poonam Verma. The authors are partners of JSA, Advocates & Solicitors. The views expressed herein are personal.