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Building the infrastructure rulebook   2010-02-16 - VietNamNet/VIR

To date, most infrastructure projects in Vietnam have been implemented either by state-owned enterprises or have relied on official development aid (ODA).

However, in view of the extremely heavy demand for infrastructure in Vietnam and the relatively limited amount of ODA, particularly non-refundable ODA, that will be allotted to Vietnam over the coming years, it has been estimated that up to half of Vietnam’s substantial infrastructure requirements may need to be financed by the private sector.

The main issue relating to the development of infrastructure in emerging markets is that infrastructure projects do not generally offer investors a high enough rate of return. For example, the low road tariffs that local road users are willing or able to pay will often not support the costs of construction of a road project.

This is further complicated by the fact that cost recovery occurs over a long period of time before the project becomes profitable, requiring a long term commitment from the investor to the host country. Against this background, state support of infrastructure projects from a commercial perspective in terms of assuring minimum project revenues to the investor is key.

Investors and their lenders also require absolute certainty with respect to their inalienable rights in respect of the project. In addition, the minimisation of the costs of project implementation, including a streamlined and transparent process for obtaining concession rights, is a significant factor. The existence of a clear and reliable legal framework supporting these aims is a pre-requisite to attracting private investment, in particular offshore investment, to the infrastructure sector in Vietnam.

The development of the Vietnamese regulatory framework

The participation of the private sector, including foreign investors, in the Vietnamese infrastructure sector in the form of build-operate-transfer (BOT), build-transfer-operate (BTO) and build-transfer (BT) projects was recognised under the basic framework established in Decree 77-CP dated June 18, 1997 (which developed investment in the form of BOT for domestic investors), Decree 62/1998/ND-CP (Decree 62) dated August 15, 1998 and Decree 02/1999/ND-CP dated August 15, 1999 (which amended Decree 62 and provided guidance on direct investment in the form of BOT, BTO and BT for foreign investors).

Prior to 2007, notwithstanding the existence of these provisions, project contracts were typically negotiated bilaterally between the project’s investors and the relevant state authority, without a competitive bidding process. This was a time consuming and ultimately a costly process for investors. It also resulted in the contents of project contracts varying substantially from project to project and a very inefficient and unpredictable environment which was not conducive to private investment.

In addition, the complexity and opacity of the administrative procedures required was another significant deterrent. These could include, for any project, approvals (and related negotiations) with a number of state bodies whose authorities sometimes overlapped, including ministries, people’s committees, the local departments of planning and investment (DPI) and, in the case of large-scale projects, the prime minister.

The separate regulations applicable to foreign invested project enterprises, as opposed to purely domestic enterprises, in relation to their establishment, available forms of investment and taxation status prior to 2006 provided further discouragement to potential foreign investors in the sector.

Consequentially, prior to 2007, only two foreign-invested infrastructure projects were successfully completed, the Phu My 2.2 power project in 2005 and the Phu My 3 power project in 2004. It is frequently noted that both these projects involved guarantees from the government to stand behind take-or-pay electricity purchase contracts at a fixed price.

New legislation

In recognition of the shortcomings of the previous legal framework, Decree 78/2007/ND-CP on BOT, BTO and BT contracts (Decree 78) dated May 11, 2007 was implemented with the aim of providing a uniform framework applicable to both Vietnamese and foreign investors.

Decree 78 contained key investor incentives for implementing projects, such recognition of investor rights to their project, tax incentives, exemptions from land use fees and rent and offshore dispute resolution. Furthermore, certain provisions of the decree were clearly directed at providing comfort to third party lenders, as opposed to the equity investors. For example, it provided that project assets may be mortgaged in favour of lenders (with state consent), envisaged that the government may provide guarantees in certain cases for project loans, and enshrined the principle of “step-in rights” that permit lenders to take control of a project on default under the finance documents.

It also represented a significant development both in terms of setting out procedures for selecting investors and obtaining investment licences for infrastructure projects. Two and a half years later, it was acknowledged, after consultation with market participants, that the experience of investors of the practical implementation of Decree 78, together with recent changes to laws relating to tax matters, tendering and construction, necessitated revisions to Decree 78.

On November 27, 2009, Decree 108/2009/ND-CP (Decree 108) was issued. Decree 108 superseded Decree 78 with effect from January 15, 2010.

Principal changes implemented by Decree 108

Recent changes to the BOT regulations have in large part been to administrative provisions, and these will be elaborated further in the implementing circular which currently exists in draft form. This reflects the current focus on attracting investment in the infrastructure sector by promoting efficiency and transparency in the tender and project award process.

Decree 108 retains the 10 per cent equity requirement for projects with investment capital greater than or equal to VND1,500 billion (approximately $82 million) for the portion in excess of the threshold. It also stipulates a required equity ratio equal to 15 per cent in respect of the amount under VND1,500 billion. This results in an increased overall equity requirement for large-scale projects compared to the position under Decree 78, which imposed a flat 10 per cent equity requirement.

The 30 per cent equity requirement for projects under VND75 billion (approximately $4 million) has been eliminated. Decree 108 now stipulates a 15 per cent (instead of 20 per cent) equity requirement for all projects under VND1,500 billion. This change provides investors in smaller yet potentially significant projects with more flexibility for structuring the capital of their projects.

In addition, Decree 108 specifies that the state-owned capital used to carry out a project must not exceed 49 per cent of the “total investment capital” (comprising debt plus equity), of such project, whereas Decree 78 specified a limit of 49 per cent or less of the “required equity” of the investor. This potentially allows the state a greater participation in a project, where appropriate, for assuring its viability.

Announcement of projects requiring investment

With a view to streamlining the project tendering and award process, Decree 108 clearly stipulates that ministries and local people’s committees must make an annual announcement, on January 1, of each year, of the list of potential projects which require investment. This announcement must appear in three consecutive issues of the bidding press.

The details of the authorities in charge of each project must be disclosed to enable investors to make contact. Furthermore, unlike Decree 78, Decree 108 establishes a time limit of 30 days from the last issued announcement published for investors to register for certain projects.

Procedures for selecting an investor

Both Decree 78 and Decree 108 provide for compulsory bidding for projects which are registered for implementation by two or more investors. However, both decrees also contain exceptions to this rule, where an investor may be appointed by the relevant authority without a competitive bid.

Most significantly, under Decree 108, any project proposed by an investor must in general be publicly tendered out, whereas under Decree 78 the terms of that project could be negotiated exclusively and bilaterally with the proposing investor. Under Decree 78, the exceptions to competitive tendering included circumstances where there was an urgent need for infrastructure facilities that would not allow a bidding process and “other cases decided by the prime minister”.

The prime minister’s discretion is more limited in Decree 108, which provides that an exception will exist only where a project is required to be implemented in order to satisfy an urgent need to use infrastructure facilities as decided by the prime minister, following the recommendation of a ministry, branch or people’s committee and an evaluation report from the Ministry of Planning and Investment (MPI). Decree 108 also contains a number of other procedural changes relating to the selection of investors.

Issuance of investment certificates

Under Decree 108, the MPI is clearly authorised to issue investment certificates for projects of “national importance”, projects for which a ministry, branch or a body delegated with authority by such ministry or branch is the authorised state body to enter into the project contract and projects which are to be implemented on an area covering a number of provinces or cities under central authority.

All other projects must be licensed by the local people’s committees. This is generally viewed as more appropriate to the reality of implementing smaller projects, which, under Decree 78 required an investment certificate issued by the MPI. The timeline for obtaining an investment certificate is clearer in Decree 108 than it was in Decree 78. In any event, in practice, the issuance of an investment certificate for implementing an infrastructure project will almost certainly take more time than the period stipulated by the law.

Security for obligation to perform project contracts

Under both Decree 78 and Decree 108, investors are required to post a guarantee or security in respect of project performance. The amount of the security depends on the total invested capital of the relevant project.

Under Decree 108, a 2 per cent minimum deposit/guarantee is required for projects with investment capital equal to or less than VND1,500 billion. For a project with investment capital greater than VND1,500 billion, 1 per cent is required for the amount above VND1,500 billion and 2 per cent is required for the portion under VND1,500 billion.

Tax incentives

Whereas Decree 78 clearly stated that BOT and BTO projects were entitled to the corporate income tax (CIT) incentives applicable to ‘special encouraged sectors’ for the whole life of the relevant project. Other incentives included a tax exemption for the first four years of profitability of the project and a 50 per cent reduction in CIT for nine years of operation thereafter.

Decree 108 does provides generally that CIT incentives for BOT, BTO and BT projects are in accordance with the “applicable CIT regulations”. This provides, for most infrastructure projects, that the 10 per cent preferential rate is available for only 15 years of operation. In addition, the CIT regulations state that the tax exemption and reductions will be applied from the fourth year of operation regardless of the project’s profitability at that time.

These changes to the tax regime are not viewed as appropriate by some investors, particularly as projects generally envisage cost recovery and eventual profitability over long periods of time.

Looking ahead

The government is cooperating with the World Bank to develop “pilot projects” on a basis that is consistent with Decree 108 currently focussing on the road sector. The World Bank’s role includes assisting the government on the preparation of the feasibility studies and legal documents for competitive bidding, which are intended to serve as models for future projects. The aim is also to eventually look at other sectors. The Nghi Son 2 power project documents may also serve as a precedent in the future in the electricity sector once they are finalised.

In the longer term, the overhaul of the legislation governing public-private partnerships (PPPs) is envisaged, which will focus on developing the separate sectors of infrastructure. There much discussion and some confusion in the market about the meaning of “PPP”. This is a broad term encompassing any form of partnership between the public authorities and private sector for the construction and management of infrastructure.

Although BOT, BTO and BT projects are all forms of PPP, other forms of private participation in infrastructure would be covered (such as, for example, a build-own-operate (BOO) contract and shorter term operation and management agreements for existing infrastructure).

Regulation relating to these types of contracts is necessary, not only as a way of mobilising funds, but also as a way of accessing private sector international standard expertise and technology. Notwithstanding this longer term aim, the priority at this stage seems to be to develop models to facilitate the initiation of key infrastructure projects through the improvement of the BOT, BTO and BT regulations. There is clearly still a lot of work to be done in this respect, but it is an exercise which is making progress.

However, the attraction of private sector capital to the infrastructure sector will not depend only on the existence of a good regulatory framework. Most importantly, it will also depend on the practical implementation of the regulations by the relevant authorities in an informed and efficient manner.

Finally, attention should not be deflected from the fact that the commercial position of the private sector is ultimately what will drive an investment decision. This will require, in certain cases, state support of a structure ensuring a commercially viable revenue stream to the project.

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