The Portuguese equivalent of Public/Private Partnerships started in the early nineties with the construction of the second Tagus Bridge, one of the longest bridges in the world.
Between 1997 and 2002, several projects for the development of a major road construction programme achieved closure, worth 8.200 million euro.
In August 2002, the Portuguese government announced the construction of 10 new hospitals under public/private partnerships, with investments in excess of 2.000 million euro.
Background: Project Finance in Portugal
Portugal has since the early nineties been familiar with the concept of project financing under BOT (build, operate and transfer), DBFO (design, build, finance and operate) or the most recent PPP (public private partnerships). The following were the main projects that were closed during the nineties:
- Tapada do Outeiro and Pego power plants. The power plants in Tapada do Outeiro (990 MW) and Pego (600 MW) were two of the largest non-recourse projects in Portugal.
- The second Tagus Bridge. The construction of a second crossing over the Tagus river is to date the largest single infrastructure project ever undertaken in Portugal, costing approximately 960 million USD. In order to ensure financing, the concession of the old Tagus bridge was granted to Lusoponte, the consortium that built the second bridge named Vasco da Gama. To a certain extent, the second Tagus bridge served as the blue print to the DBFO road programme.
- The DBFO Road Programme. The development of a major road programme of approximately 1,500 Km and costing approximately 8.200 million euro was initiated in 1997 under a DBFO scheme. A substantial part of the projects would be financed by shadow tolls and entailed no cost to the user. The SCUT Road programme, as it was named, was divided into 14 different projects which were awarded by public tender to consortia involving the major Portuguese and Spanish construction companies and leading banks.
- The PPP for the health sector. The Amadora-Sintra hospital servicing approximately 600.000 persons in the Lisbon area was built in the early nineties with recourse to private financing. This, however, was not a public/private partnership in the strictest meaning of PPPs in the United Kingdom where they first appeared, as the government first commissioned and paid for the construction of the hospital, which was subsequently sublet to the operating company José Manuel de Mello Saúde. In any event, this was an example of private management of public hospitals and of the benefits of private management of hospitals, serving as model to the development of public/private partnerships in the health sector. In August 2002, the Portuguese government enacted a framework law governing the development of public/private partnerships for the construction of new hospitals, under which it plans to build 10 new hospitals. It also plans to amend the National Health Service Framework Law to allow the provision of health services to the National Health Service (Serviço Nacional de Saúde) by private hospitals and privately managed public hospitals.
Setting up the PPP Project
With the number of projects built under PPP schemes, a set of standardised procedures was developed which is generally viewed as striking the balance of the public interest and project company’s objectives, as well as being "bankable". Broadly described, the following are the steps required for the setting up of a PPP in Portugal:
- Enactment of the regulatory framework for the development of PPPs in the relevant sector. When the government intends to develop several different projects within the same sector, it will first establish the framework regulations for the development of PPPs in such sector and then specific regulations for each of the projects to be constructed and operated by the private initiative. This was the case of the National Road Programme built under the SCUT scheme and will also be the procedure used for the development of PPPs in the health sector. With respect to projects for the construction of a single facility or infrastructure, the government approves the regulations detailing the main terms and conditions for the development of the project. This procedure was used for the construction of the second Tagus bridge, and will also be used in the construction of the new high speed trains network or the new Lisbon International airport.
- Selection of the entity(ies) that will be building and operating the facility. The Portuguese Code of Administrative Procedure, approved by Decree-Law 422/91 of 15 November 1991 and amended from time to time (Código de Procedimento Administrativo), sets out four different ways of selecting the entity or entities that will build and operate the project: (i) public tender, (ii) limited tender by invitation, (iii) limited tender by pre-qualification, or (iv) direct agreement. Pursuant to Directive 92/50/CEE as amended by Directives 93/37/CEE and 97/52/CE, the construction of major infrastructure projects as well as the concession of public services as is the case of PPPs requires a competitive tender subject to the public procurement rules set out in Decree-Law 16B/99 of 2 March 1999 as amended by Decree-Law 159/2000 of 27 July 2000 (Lei das Empreitadas de Obras Públicas – the "Public Works Law"). In the SCUT programme, each concession is subject to a competitive tender, where bidders are asked to present bids, including variant bids. The bids are open publicly. This is followed by a negotiation between each of the bidders and the awarding entity (Instituto das Estradas de Portugal – "IEP"), which will ultimately select two consortia to present a best and final offer. These offers are then evaluated according to several criteria, including but not limited to (i) the expected net present value of the toll payments, (ii) the degree of risk transferred to the concessionaire, (iii) technical quality of the bid, etc..
- Negotiation of the project contract. Depending on whether the entity that will be building and operating the facility was selected by way of direct negotiation or public tender, this phase will be more or less complex, as the project contract and concession terms will be pre-defined or directly agreed between the parties. In the SCUT concessions, the government has set certain standard terms and conditions of the project agreement, so that only the commercial and technical terms of the agreement are negotiated.
- Negotiation of the financing agreement. The financing agreement is negotiated between the lenders and the project company as discussed below. One must however note that the government will impose the right to approve such agreements as well as certain minimum requirements of the financing agreement. The commercial terms of the loan agreement are usually negotiated by the members of the consortium prior to the presentation of the bid so as to ensure that the terms of the concession will be acceptable to the lenders.
- Negotiation of the construction contract. The construction contract will be entered upon between the project company and a contractor. Such contract is subject to the laws and regulations on public works, which set out rules with respect to the determination of the price, variations to the works, penalties etc.. In addition, the government will retain the right to approve the contractor as well as any changes to the construction contract terms.
The Project Vehicle
The project vehicle is a single purpose limited liability company. In the SCUT road programme, the members of the consortia bidding for the contract would first create a Complimentary Grouping of Undertakings to bid in the tender and upon award of the contract would then incorporate the project vehicle in accordance with the requirements set out in the tender documentation.
There are a number of business forms that can be used as project vehicles in a Portuguese public/private partnership. Typically the project company will adopt the form of an incorporated joint venture, which is an ideal vehicle for long term projects and to guarantee to the extent possible that the financing will be with limited recourse.
The project company should, therefore, adopt one of the following legal forms:
- public limited liability companies (Sociedade Anónima); or
- private limited liability companies (Sociedade por Quotas).
A. The project company’s articles of association
The shareholders of the project company will set out the main rules governing their relationship in three documents:
- the project company’s articles of association; and
- the subscription agreement; and
- the shareholders’ agreement.
The articles of association shall lay down the company’s internal rules, i.e. powers of the directors, distribution of profits, shareholders’ contributions, and amendments to the articles of association, and sets the framework for the company’s relationship with third parties, i.e. the capacity of the company to pursue business activities, authority of the directors to bind the company, transfer of shares, etc.. The articles of association shall bind the founding shareholders and any transferees of the shares.
B. The subscription agreement
The subscription agreement will establish the equity contributions of each of the shareholders as well as other provisions on the funding of the company. In order to adequately capitalise the project company, the shareholders will set out the capital contributions that need to be made by investors in the form of equity, determining the rights attached to each class of shares. The shareholders may also decide to fund future capital requirements with shareholder participating loans (prestações acessórias or prestações suplementares), a form of quasi-equity instruments, or by shareholder loans with a one-year maturity (suprimentos), which are a form of subordinated loans.
The subscription agreement will also detail the procedures in connection with the call for additional funding, including any guarantees to be provided by the shareholders to the project company.
The need for having a separate document is that the lenders and the project company may be parties to the subscription agreement, thus ensuring that they will be able to sue for breach of the shareholders’ funding obligations. As explained below this would not be possible in shareholders’ agreements, which only deal with matters related to the exercise of shareholder rights.
C. The shareholders agreement
Shareholders’ agreements are intended to set certain internal rules as to the management of the company’s business, dividend policy and the relationship among the shareholders themselves. Shareholders agreements cannot, however, limit or otherwise bind the company or its officers. The shareholders’ agreement shall only bind the parties thereto and the acquirers of shares if expressly accepted by such new shareholder.
Under Portuguese corporate law, shareholders agreements are considered to be "voting agreements" and therefore cannot bind the parties to undertake any actions with respect to the management of the company that goes beyond the exercise of their voting rights. This does not prevent the parties from including provisions on other matters. However, their effect shall be limited, as they will not directly bind the company or its officers.
The Project Agreement
The project agreement is the contract entered upon between the project company, or the winning consortium, and a government entity. The project agreement shall cover a variety of matters governing the relationship between the government or the contracting authority and the project company, including the concession of the public service, which is the main purpose of the construction of the facility, hospital, road or other public infrastructure.
Among other matters, the following are some of the key points of negotiation:
- project description and scope;
- duration of the concession;
- nature of land interests;
- construction of the facility;
- operation and maintenance of the facility;
- the contracting authority;
- requirements of the project company;
- funding of the project company and guarantees;
- force majeure;
- financial provisions;
- breach and termination; and
- cancellation of the concession.
The Financing Agreement
The financing of projects may take a variety of forms. It is common for the project company to obtain financing from the following sources:
- shareholder loans;
- bank debt; or
- the bond market.
As explained in this article, the shareholders may wish to fund the company with participating loans in lieu of equity funding (prestações acessórias or prestações suplementares). Such participating loans will be considered as quasi-equity instruments and normally do not bear interest, although this is not mandatory under law. In other cases, all or some of the shareholders will lend money to the project company on a standard commercial basis (suprimentos), in which case they will demand payment of interest under terms that are broadly similar to those of the bank market. These shareholder loans are more used as a way of bridge financing.
Standard international loan agreements, which have developed over the years into many standardised forms, are currently used by most foreign and domestic lenders when dealing with a Portuguese borrower.
The documentation used in the issue of bonds is different from that of the loan agreement, as the mechanics of the transactions is also different. Likewise, as the bonds will be placed with investors, publicly or privately, the restrictive covenants are usually more stringent than those of syndicated loans. Interest will also be higher. The bond market is currently depressed though there is an appetite for low risk investment as it may be the case of certain infrastructure and utilities projects, which may contribute for companies to resort to the bond market.
At a later stage loan or bond financing may be repaid with the proceeds of the securitisation of the project’s future receivables.
A. The loan agreement
In all forms of credit arrangements there are several typical terms and conditions, which will also be used when dealing with a Portuguese project company.
Typically the loan agreement will include:
- conditions precedent, representations and warranties;
- covenants and undertakings, including the pari passu and negative pledge clauses; and
- events of default.
Besides using their own standard form agreements, most lenders will obtain a legal opinion from a reputable national firm stating, in general, that the borrower has the capacity to enter into that particular agreement and that its provisions will be enforceable in Portugal, so as to reassure themselves of the agreement’s enforceability.
B. Security issues
As the future of the project company may be uncertain, the project company will secure the loan by way of collateral as well as certain step-in rights. Under Portuguese law, collateral may be provided by way of mortgage over land, buildings and other registered moveable property, pledge of moveable assets or assignment of proceeds. Mortgages require the granting of a public deed, whereas the pledge would only need to be executed in writing in order to be valid and enforceable.
In most PPPs, which as a rule involve the concession of the right to use land and other assets in the "public domain", the land and the facility cannot be mortgaged by the project company, which may also not be allowed to pledge assets that are deemed to be part of the concession.
The forms of security which may used in a PPP may be:
- Pledge of the project company’s shares. The pledge of shares in the project company is a guarantee provided by the shareholders and not by the project company itself. It will require the consent of the government authority awarding the concession, which will usually have the right to veto any transfer of shares. Although the lending banks may have the right to enforce the sale if the agreement so provides, this does not entitle the banks to take over the shares in the project company.
- Pledge over company’s assets that are not part of the concession. In the event that part of the project company’s assets are not part of the concession, hence belonging to the "public domain", the company may pledge such assets as security to the lenders. The pledge may be enforced by the lending banks.
In order to ensure that the collateral provided by the project company will be sufficient to secure the principal and interest of the loan, the lender may force the borrower to provide additional security during the life of the loan if, for whatever reason, the value of the pledged assets has decreased.
Lenders may also require certain step-in rights, entitling them to take over the project’s key underlying commercial contracts if the project company defaults in its loan obligations. Such step-in rights are enforced by way of assignment or novation of the contracts to which the project company is a party. Under such novation or assignment, a new company, either formed by the lenders or a third party buyer, will inherit the rights and obligations of the project company before the government authority, arising of the concession agreement, as well as the rights and obligations under the underlying commercial contracts, i.e. the main construction contract, the operation and maintenance agreement and the long term supply contracts. Portuguese law allows for both the assignment of contracts or the novation of the rights and obligations thereunder provided the parties to any such contracts give their consent. It must be noted that the government authority may oppose to such direct agreements, as it may prefer to terminate or suspend the concession, taking over the facilities and providing the relevant public services directly. A compromise is usually found where the awarding authority takes over the loan obligations directly or allows the new company to step into the shoes of the project company provided that it is satisfied as to the technical and financial capabilities of such new concessionaire.
© Macedo Vitorino e Associados - October 2002
The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.