ASSESSMENT- MODEL PROJECT DEVELOPMENT AGREEMENT

ASSESSMENT-MODEL PROJECT DEVELOPMENT AGREEMENT Presented to-Independent Power Producers’ Association of Nepal -IPPAN Pioneer Law Associates

Background and Objectives of Presentation IPPAN engaged Pioneer Law to conduct the legal review of the proposed draft of the Model Project Development Agreement (Model PDA) applicable to the hydropower project with installed capacity of less than 500 MW disseminated by Ministry of Energy. Pioneer Law conducted the legal review of the Model PDA and submitted the First Draft of the Report to IPPAN on January 18, 2013. The purposes of this presentation are: (1) outline the key findings of the legal review along with the recommendation for reforms, and (2) gather the comments/suggestions from the participants. The final report will be submitted after incorporating the comments/suggestions from the participants.

Contents of Presentation PDA-Guiding Principles What developers typically expect from the Government PDA-Nepalese Legal Basis Assessment of the Model PDA Way Ahead

PDA-Guiding Principles In any privately financed infrastructure projects, PDA is considered to be an important tool for the project sponsors and Government for- • risk allocation, • risk management and mitigation • Sharing of responsibilities and rewards An ideal PDA is one which-(1) allocates risks and responsibilities between the project sponsors and Government as per the capacity of the party to bear, control or manage such risks, and (2) ensures fair reward to the project sponsors, lenders, Government authorities and project affected population. What are the legitimate rewards? • Project sponsors: Fair return on equity investment • Project lenders: Fair return on loan investment • Government: Fair return in the form of taxes and royalties, returning of the project in the running condition after the expiry of the concession period, etc. • Project affected population: Free/subsidized electricity, local facilities, employment opportunity, etc.

PDA-Nepalese Legal Basis Act concerning Construction and Operation of Infrastructure Projects 2063 (the “Concession Act”) provides clear legal basis for PDA for the privately financed infrastructure projects Investment Board Act also provides clear legal basis for PDA for the privately financed infrastructure projects including hydropower above 500 MW. No clear legal basis for PDA for any hydropower project with installed capacity of less than 500 MW. Section 9 of the Electricity Act: Government of Nepal can enter into an agreement with the license holder for purchase of electricity, guarantee for the capital investment or any other financial or technical matters. Is Section 9 sufficient enough to include all the aspects of the PDA?

What Developers Typically Expect from the Government under the PDA? Grant of Government Approvals Government assistance, support and assurances Change in law protection Protection in the force majeure circumstances Recognition of certain lenders rights Remedies Termination payments and project handover obligations

Model PDA: ASSESSMENT Negotiability of the PDA Is Model PDA Negotiable? • Largely “NO” • Front note of the Model PDA: Variation is permissible only if such variation are consistent with the Model PDA • Consequence of the failed negotiation is on the developer-revocation of survey license Recommended Reforms: • Survey license not to be cancelled if the source of such survey license is not the PDA itself • Government to be willing to negotiate the commercial and non-commercial terms. The Model PDA may indicate which provisions are negotiatable and which not.

Model PDA- ASSESSMENT Condition-Precedents and Effectiveness What are the condition-precedents for effectiveness of the Model PDA? • CPs for the Company-(1) obtaining generation license and transmission license, (2) entering into the PPA, (3) submission of the evidence that financial close will be achieved, (4) achieving ‘project revenue objectives’, (5) subscription of 100% equity money by sponsors • Available Timeline: 6 months • Consequence of Failure: (1) Termination of the PDA, and (2) Forfeiture of the Bid Security Recommended Reforms • Only 2 CPs to be provided • On the part of the Government, granting necessary approval for financing and security documents and project licenses • On the part of the company, achievement of financial closure • Timeline for achieving the CPS to be determined on a project to project basis

Model PDA- ASSESSMENT Condition-Precedents and Effectiveness Effective Date and Total Concession Period • The PDA to be effective only upon issuance of the generation license? What will be remedy if the Government does not issue such generation license? • Concession Period: 30 years? About 5 years required to achieve COD Recommended Reforms • Obligation of the GON to grant generation license to be effective immediately • Term of the PDA to-(1) start from RCOD, (2) determined on a project to project basis, and (3) be extendable upon occurrence of the force majeure events or hydrological reasons.

Model PDA-AssessmentInstitutional Set-Ups Institutional Set-Ups • Various institutional set-ups to be created for project monitoring and supervision: • Independent Engineer • Technical Review Panel • Project Co-ordination Committee • Project Task Force • Local Project Co-ordination Committee • Likely problems: (1) conflicting mandate with the existing authorities, (2) increased cost burden on the project, and (3) delay. Recommended Reforms • No additional institutional set-ups to be created. Existing government authorities to be entrusted and empowered. • Alternatively, rights and cost sharing to be shares between the Government and company in relation to independent engineer and project co-ordination committee.

Assessment-Model PDAWater Use Rights Water Use Rights • Government guarantees that no license or permits will be issued for the use of the water in the catchment area affecting the flow of water substantially • Obligation on the company not to impairing drinking water use, irrigational, industrial and recreational uses. Recommended Reforms • Existing and planned irrigational, industrial and recreational uses to be listed in the Schedule • Guarantee that no permanent impoundment to be erected on the water river upstream or downstream within certain defined kilometer • Government to take responsibility to resolve disputes • Government to compensate the company for not being able to use the guaranteed flow of water

Assessment-Model PDATaxes and Fiscal Benefits Taxes and Fiscal Benefits • Lists the tax and fiscal benefits that are available under the existing laws. No additional benefits are provided • VAT and custom duty concession to be available for spare parts up to value of 10% of the equipments not manufactured in Nepal • No provision providing the VAT, custom duty and import duties benefits will also be available to the project contractors • No provision regarding the availability of the double taxation treaty benefits Recommended Reforms • Income tax concessions to be made available for each and every project meeting the specified date of commencement of construction and COD • VAT, custom duty and other concessions to be made available for the project contractors, O&M contractors, sub-contractors • VAT and custom duty concessions to be made available to purchase of spare parts without limitation • Guarantee that the DTA benefits will be made available to the project sponsors, lenders and contractors • Non-discrimination between the local and foreign lenders in relation to the creation and enforcement of securities

Assessment-Model PDAGovernment Approvals Government Approvals • Government has taken obligation to grant the approvals to the Company which are required in connection with the project • Process • Company to submit the schedule of approvals to the Government within 120 days from the date of agreement with the expected approval dates • Government to review such schedules within 120 days and give its decisions • If any disagreement as to the requirement of particular approval, then such dispute to be referred to dispute settlement process Recommended Reforms Approval to cover the approvals/permits that will be required to the lenders, contractors and their employees/representatives The government approval to be classified into-(1) critical approval, and (2) ordinary approval. Schedule of the PDA to list critical approval with specific timeline for grant of such approval Failure of the Government to grant such critical approval as the Government default.

Assessment-Model PDALenders’ Rights Lender’s Rights • The Model PDA covers only following aspects of the lender’s rights: • Assignment of the project in favor of the lender with the approval of Government • Termination right of the Government or Company subject to lender’s rights as may have been provided in the direct agreement entered between company and lenders Recommended Reforms The PDA should also cover the following aspects of the lender’s rights: Government to acknowledge the security or assignment created in favor of the lenders Government affirmative covenant that it will enter into direct agreement with lender, if required Lender’s step in rights Lender’s right to succeed the project, sale or transfer the project as a going concern

Assessment-Model PDACompany’s Obligations Company’s Obligations • To prepare plans, resettlement and rehabilitation • To develop certain infrastructure facilities • Electrification and free energy to households Recommended Reforms Not to be made mandatory, such requirements to be imposed on a project to project basis considering the size, nature, location and financing of the project Local Share Company to issue certain percentage of shares to the project affected and local population Call option period: within 2 years from COD Recommended Reforms Not to be made mandatory to all the projects Call option period: Before financial close or COD Local participation to be made through the investment vehicle

Assessment-Model PDACompany’s Obligations Bonus and Housing Facilities • Company to set aside 10% of the net profit as bonus Recommended Reforms To be made compliant with the Electricity Rules by providing 2% of the net profit as bonus

Assessment-Model PDAChange in Law Protection Coverage • Any change in law which has an effect of material increase in the project cost, material reduction in revenue, or material delay in schedule Exclusions • Change in Tax/Royalty • Any change in the laws relating to the areas of human rights, labor, environment, health and safety matters Protection Period • 20 years from the COD date

Assessment-Model PDAChange in Law Protection Reliefs/Remedies • Increased cost or loss of revenue to be recovered through-(a) proceeds from the export PPA, (b) insurance proceeds • Any following reliefs at the sole discretion of the Government: (a) reduction of energy royalty (b) reduction of capacity royalty (c) Reallocation of free energy to be provided to the Government, etc. • Cash compensation based on the formal claim of the Company to be determined by the Compensation Committee of the Independent Experts • Government right to terminate the PDA Recommended Reforms • Change in the areas of the laws related to environment, health and safety to be covered • Any change in the tax/royalty to be included • Protection to extend for the whole concession period • Obligation of the Government to provide cash compensation directly • No right of the Government to terminate the PDA on the ground of change in law

Assessment-Model PDAForce Majeure Event Coverage • Any event or circumstances beyond the reasonable control of the Affected Party • Covers both “political” force majeure and “natural” force majeure • Any event to continue for a continuous period of 60 days to be labeled as “force majeure” • The Affected party has obligation to notify and mitigate the force majeure event Exclusions • Any political force majeure events in relation to which the Government has exercised “due diligence” to prevent • Any failure by the company or its contractors to obtain or maintain any Government approval due to negligence or default by the company or such contractor • Unavailability, later delivery or changes in the cost of the equipments, spare parts or fuel, etc.

Legal Assessment-The Model PDA (14)Force Majeure Event Reliefs/Remedies • Increased cost or loss of revenue to be recovered through-(a) proceeds from the export PPA, (b) insurance proceeds • Any following reliefs at the sole discretion of the Government: • (a) reduction of energy royalty • (b) reduction of capacity royalty • (c) Reallocation of free energy to be provided to the Government, etc. • Cash compensation based on the formal claim of the Company to be determined by the Compensation Committee of the Independent Experts • Extension of time • Government right to terminate the PDA on the occurrence of any fore majeure events extending for more than 24 months • Restoration due to political force majeure events

Legal Assessment-The Model PDA (14)Force Majeure Event Recommended Reforms • 60 days threshold to be removed • Failure of the Government to grant approval, renewal of such approval or cancellation of the Government approvals • Change in law including constitutional change (especially federal structure) to be included within the political force majeure and change in historic pattern of water flow to be included within the other force majeure events • Remedy against the political force majeure to be available irrespective of the exercise of due diligence of the Government • Recourse against political force majeure to be made straight forward by providing that the Company is entitled to cash compensation • Termination of the PDA on the ground of force majeure events to be with the compensation for the company or buy-out of the project

Legal Assessment-The Model PDA (15)Default and Termination Coverage • Defines the “Company Event of Defaults” and “GON Events of Default” • Grants right to both parties to terminate the PDA on the ground of another party’s default • Notice mechanisms defined Issues • Notice mechanisms not sufficient • No detail provisions on transfer/buy-out of the project: Transferring the Project for free of cost to the Government following the termination of the PDA on the ground of default of the Company, prolonged political force majeure or other force majeure events • No sufficient coverage of the lender’s rights Recommended Reforms • Different levels/stages of termination to be provided: notice to cure, notice of intention to terminate and finally termination notice • Different compensation components to be defined for the transfer/buy-out of the project on the ground of default of the Company or force majeure events • Specific performance to be included as a form of remedy • Schedule 4 to provide the detail provisions on buy-out and compensation compoenents

Assessment-Model PDAChange in Control Restriction on Transfer of the Shares by the Sponsors • Lock in period of 5 years after COD starting from the Agreement Date • Transfer of shares permissible only after expiry of lock-in-period and only with the prior approval of the Government • Government has first right of refusal to purchase the shares at the price net of its 50% increment • 50% of the increment value to be paid to the Government Recommend Reforms • No obligation to shares the gains made on transfer of the shares with the Government • No first right of refusal of the Government • Flexible provision permitting the transfer of shares within the sponsors and without approval of the Government • No approval requirement for the transfer of small portion of shares, say 5%.

Assessment-Model PDA GOVERNMENT GUARANTEE FOR NEA’S PAYMENT OBLIGATIONS UNDER THE PPA??????

Additional Obligations: Beyond the Bounds of Laws

WAY AHEAD IPPAN to discuss with its members and stakeholders on the bankability of the Model PDA IPPAN submit report to the Government outlining its comments and suggested area of reforms in the Model PDA IPPAN to join hands with other relevant stakeholders and organizations to develop a concerted view of the private sector developers IPPAN to lobby and pursue its reform agenda

PIONEER LAW -HYDROPOWER EXPERIENCE Project Finance, Legal Due Diligence and Acquisition • Advised consortium of international lenders (IFC, ADB, etc) on local laws for project funding in Bhotekoshi and Khimti Hydropower Project • Conducted due diligence of West Seti Project (installed capacity of 750 MW) on behalf of ADB and advised ADB on regulatory, corporate and foreign investment laws • Conducted due diligence of Tamakoshi Project on behalf of Tata Power and advised on acquisition documents • Advised Korean Sponsors and IFC in their participation in Upper Trishuli-1 Project (Installed capacity of 216 MW) • Conducted Legal Due Diligence of Likhu Project, Balephi Project, Mugu Karnali and Humla Karnali Projects • Conducted Legal Due Diligence and advised to CWE on acquisition of Upper Madi Project • Advised IFC on its lending to Butwal Power Ltd • Advising Lower Arun Project Legal/Policy Reforms • Drafted political commitment letter on the development of hydropower in Nepal on behalf of FNCCI • Worked as a consultant to IPPAN in reviewing the Model PDA

THANK YOU

ASSESSMENT- MODEL PROJECT DEVELOPMENT AGREEMENT