Event Report

Infrastructure is a politically charged issue in Lebanon. Almost a decade ago, former Finance Minister Mohammad Safadi estimated $20bn would need to be spent on new projects if economic growth was to be sustained in the short-term. Since that time, the cost of meeting the country’s unmet infrastructure needs has risen higher and, with one of the highest debt-to-GDP ratios in the world, Lebanon’s ability to pay for it has become even more constrained. Lebanon’s ability to deliver vital new infrastructure will almost certainly depend on its ability to make Public-Private Partnerships (PPP) a success.

Lebanon’s first attempt at PPP came in 2003 when the city of Tripoli awarded French utility company Suez-Environnement a contract to manage its municipal water services. With no legal framework in place to outline each party’s rights and responsibilities the partnership struggled from the outset and, by 2007, the ‘Tripoli experiment’ had ended in failure.

A decade of parliamentary discussion followed, and in September 2017 Lebanon finally introduced legislation to regulate PPP. At the same time, the High Council for Privatization and PPP (HCP) was appointed as the public agency responsible for coordinating new projects with the private sector. While the early signs have been positive – the HCP is already working on three new PPP projects: the expansion of Beirut Rafik Hariri International Airport; the Khalde-Nahr Ibrahim expressway; and the Lebanon Cloud Data Centre – a number of legal questions remain over precisely how Lebanon’s PPP projects will be managed. To explore these issues, The Legal 500 partnered with EKP in association with HFW (EKP) for a special discussion on what the new PPP Law means for a variety of stakeholders.

Over 30 senior figures representing a mixture of international development agencies and private and public interests gathered at Le Yacht Club on Beirut marina to participate in the discussion. Among those representing the private sector were Patrick Abi Nader, chairman at international construction company MAN Enterprises; Albert Khoury, chief executive at sustainable energy provider Arina Energy; Albert Kostanian, Middle East managing director at management consulting firm Arthur D. Little; Iyad Boustany, managing director and head of investment at FFA Private Bank, and Ahmed Benamer, Middle East director of roads at French engineering group Egis.

Government and international development agencies interests were represented by, among others, Pierre Khoury, general director and president of the board at the Lebanese Center for Energy Conservation (LCEC); Gretchen Biery, head of Lebanon office at the European Bank for Reconstruction and Development (EBRD); Peter Mousley, program leader in the equitable markets, finance and institutions global practices group at the World Bank; Saad Sabrah, country head, Lebanon and Syria at the International Finance Corporation (IFC), and Ziad Hayek, secretary general at HCP, whose delegation also included director Diala Chaar, project manager Maya Chamli and legal counsel Tarek Dandashli.

Senior representatives from the lender side included Chermine Ghazal and Reinata Alam, business line manager and member of the corporate banking department at Fransabank; Bassim Kanaan, group general counsel at Bankmed; Daniele Quaggiotto, senior counsel, banking operations at the EBRD; Lea Azar, head of legal at Byblos Bank, and Peggy Baz, senior counsel at Bank Audi.

Finally, a number of in-house counsel added their perspective, including Fayez Khouri, general counsel for the Middle East at PwC and Rony Badawi Rizk, legal counsel at Touch Lebanon.

Local international best practice

 

To date, thousands of PPP projects have been completed globally. The UK alone has completed over 700, while the wider Middle East region has seen PPP in countries as diverse as Egypt, Kuwait, UAE, Oman and Saudi Arabia. The extent to which the experiences of these projects can help guide Lebanese interests remains an open question. As EKP managing partner Ziad El-Khoury noted in his introductory remarks, ‘although PPP is an established body of practice in international law, the various risks involved in any project can only be understood in reference to local realities. The success of Lebanese PPP therefore requires not only experience of international projects but a deep knowledge of the political, legal and economic regimes that are likely to play out in Lebanon.’

Following El-Khoury’s welcome, Ziad Hayek, secretary general of HCP, gave a speech in which he outlined Lebanon’s journey to PPP and expressed the government’s ambitions to infrastructure through private investment. He began by congratulating the audience for attending so important a gathering and ‘establishing a dialogue between different interests, which is essential if PPP projects are to succeed in Lebanon’.

He continued by reminding the audience that while PPP has always been permitted under Lebanese law previous attempts had failed in the absence of a legal framework, ‘either because they were tendered in the wrong way or because unexpected events caused the relationship between government and private sector to break down. These failures were not the result of intentional acts or corruption, but rather because there was no established law to govern PPP.’

The new legislation, he continued, finally gives Lebanon a framework that follows international best practice. ‘At the heart of this [framework] is a desire to avoid the failures of the past by promoting transparency and involving all stakeholders throughout the process. This means consulting with pre-qualified companies, demanding competition between bidders and ensuring robust contracts are part of the initial tender document. These features, along with measures to encourage investors, are essential if we are to build a successful PPP environment.’

In its three ongoing projects, continued Hayek, HCP is ‘not only working hard to involve all stakeholders, but is going the extra mile to involve civil society throughout the process. As a result of this openness we can expect to encounter a number of legal questions arising from both public and private interests. There is still a great deal of work to be done. In particular, we must consider what modifications need to be made to our PPP regime to ensure both investors and the country as a whole benefit. We do not claim the legislation is perfect or that we have all the answers, but we hope that by sharing perspectives and discussing potential issue we can deliver the PPP projects Lebanon needs.’

It is impossible, Hayek concluded, to anticipate all the issues Lebanese PPP projects will face, but the lessons learned from other jurisdictions, combined with expert analysis of the local situation, can serve as a guide.

With this in mind, two of the region’s most experienced PPP advisers – Hadi Melki and Edward Johnson – gave a presentation comparing various features of Lebanon’s PPP law with international best practice. Drawing on their wide experience of executing successful projects internationally, Melki and Johnson outlined the main phases of a PPP contract, from the project structures and security packages offered to investors to the protections typically granted in the event of termination or default. Anyone wishing to hear further details of this presentation should contact Ziad El-Khoury or Hadi Melki of EKP on the details provided below.

The presentation also gave the audience a chance to ask questions about how PPP was likely to work in a Lebanese context. A selection of these questions, along with the answers offered by Melki and Johnson, offers a view of the likely direction of PPP in Lebanon.

Understanding PPP in Lebanon: Questions from the floor

 

Q. What is the nature of the sovereign guarantee in a PPP contract?

Edward Johnson: Sovereign commitment is the fundamental principle that allows non-recourse finance to work in PPP contracts. Any government refusing to make payments due under the terms of the project or failing to offer compensation for termination of a project would be in breach of its sovereign commitment. Such a government would face serious consequences from international lenders. As a result, investors and sponsors have near complete certainty that the contracting party, whether a ministry or other government body, will honour its commitment under the contract.

Hadi Melki: Under Lebanese law, when a ministry signs a PPP contract it creates a sovereign financial commitment which lies with the public treasury. The contracting ministry can only sign such an agreement if the Ministry of Finance has blocked the budget to cover payments due over the course of the agreement. Failure to make these payments would constitute an event of default on behalf of a public authority and would be eligible for compensation. However, this only applies to PPP contracts entered into by the various ministries [of Lebanon]. Public institutions have a separate legal standing which creates no such sovereign commitment. Contracts signed with public institutions other than ministries may need to include additional security, for example by agreeing letters of credit.

Q. Do investors face risks arising from changes in legislation over the course of a contract?

Edward Johnson: The PPP legislation does not prevent the government amending laws in such a way that sponsors of PPP projects specifically are placed at a disadvantage, for example by introducing a windfall tax on their profits. However, if any such change of law were introduced, the PPP Agreement would provide for compensation to be payable to the project company as a consequence.

Q. Will insurers cover sponsors’ losses resulting from potential government actions?

Edward Johnson: The relationship between insurance risks, uninsurable risks and relief for events of force majeure is typically driven by the extent to which insurance is available to cover a particular risk. If the risk can be insured then such risks are typically be covered by the project sponsor’s insurances. However, issues related to liability for insurance excess and deductibles would still need to be negotiated.

Q. How does a project financed PPP contract differ from a standard corporate financing contract?

Hadi Melki: In a typical corporate financing any default leads to the pledge of shares being foreclosed to reimburse outstanding debt. However, since a PPP contract is in itself the asset held by investors it remains in place even if the company contracted to deliver the project fails. Therefore, the purpose of the pledge of shares in PPP is to allow the lender to take control of shares and transfer them to a replacement project sponsor in the instance of default.

Edward Johnson: In contrast to corporate financing, a PPP project is typically structured in such a way that a default will be identified and remedied wherever possible as opposed to a lender simply accepting a default and enforcing its security. Because delivery of a public service is fundamental to the success of PPP project and because the consequences of termination are so serious; all lenders are motivated to step-in and remedy a default wherever possible. Hence, while PPP projects frequently become distressed their rate of default is very low when compared to typical corporate finance projects. One of the reasons for that is the role played by step-in rights in a PPP project and from a lender’s perspective the ability to step-in and remedy is fundamental.

Q. What is the motivation for a bank to lend money to a PPP project in a world where sovereign bonds offer the same certainties with better returns?

Hadi Melki: From the lender’s perspective, PPP projects are comparatively less risky than almost any other class of investment. The level of due diligence that goes into a PPP project is far higher than other investments, and in a default scenario all senior debt holders will generally be compensated. However, the question is a valid one and the answer must depend on policy. The only way Lebanon can meet its infrastructure development needs is through PPP. Ultimately, if the government of Lebanon wants to see these projects completed it may have to take policy decisions which make bonds less attractive to investors and lenders. In the absence of such policy decisions, investors can still look to the huge potential gains offered by long-term infrastructure financing or can consider them from the perspectives of diversifying their investments and mitigating their risks, particularly as projects mature and give rise to pooling and secondary markets. There is also the possibility of refinancing once the construction phase of a project has completed, which will create gains to be potentially shared between the investor and the state. This mutual benefit is what PPP seeks to achieve.

For further information on EKP’s offering, or to learn more about the firm’s PPP expertise, please contact:

Ziad El-Khoury, Managing Partner, EKP, M: +961 3 030 390, M: +966 56 993 3337, E: [email protected]

Hadi Melki, Partner, EKP, M: +961 3 258 800, M: + 966 54 426 3545, E: [email protected]