Structure of the contract

In the projects, which are implemented in Uzbekistan in the field of energy, the government undertakes certain obligations: it is necessary to buy all generated electricity from private partners-producers and also to make sure that electricity tariffs are acceptable for final consumers.

It should be reminded that practically all contracts for construction and further operation of power plants in the country have the same contractual structure:

— Electricity purchase agreement (off-take contract) with the National Electric Grid, specifying/linking the price for electricity to the currency

— Agreement on state support (GSA) with the Ministry of Investment and Foreign Economic Activity and the International Development Institute and

— Agreements signed at financial closing (example — a brief release from Cranmore Partners on the financial closure of the project in Navoi region with Masdar)

And it is obvious that both the government side and private partners need to be prepared to adjust the arrangements/articles in these documents.

When the model of stage-by-stage reform of the power sector was formed a few years ago, the main idea was that the growing needs of industries and the population in electricity would be covered without a sharp increase in tariffs.

But life is an unpredictable thing.

Two sides and two realities

As a rule, projects with private capital are successful when the interests of the private sector are closely, I would say «tightly» aligned with the development of the public sector, with its economic and political incentives. However, when any problems arise in a project, these two realities often collide, and it is then necessary to deal with such opposing viewpoints.

The first step in resolving any conflict is to understand the position of each side.

Governments must understand the commercial interests that drive the private sector, and the private sector must evaluate and understand the incentives and objectives of the public sector.

Adjustment Options.

The national energy networks that buy electricity (offtaker) and the government of Uzbekistan will soon be forced to analyze options for adjusting projects.

What options might there be?

1. Reduce the price of electricity purchased by the state, at the expense of the investor

Reducing the price per kWh stipulated in the Power Purchase Agreement looks like the most attractive and common solution from the government’s point of view, but it will lead to lower profits for the project investor (sponsor).

Reducing the purchase price of electricity also means less income for the investor, which could potentially lead to a default on debt repayment (remember that a fair share of debt financing was provided by international banks).

Failure to repay the debt to the creditors will eventually lead to the termination of the contract and the government’s compensation for the termination of the contractual relationship.

And we are not talking about the fact that a reduction in the purchase price of electricity under pressure from the government would have a negative impact on the market in principle and would at least send a negative signal to investors potentially considering projects in the country.

2. Extend the duration of the project

In this case, the term of the Power Purchase Agreement and related documents is extended by five to ten years so that a return on capital would be achieved by the end of the new contract term.

Among the disadvantages is the very existence of the project for a longer period than previously assumed. Yes, and the returns themselves are also generated over a longer period…

3. Restructure the debt.

This can be done in power construction projects, because the life of the equipment of power plants exceeds 30 years. But just for that reason, it may not work in projects with short equipment life cycles.

In this scenario, lenders would restructure the existing debt package by refinancing or making changes to contracts, such as reducing margins or extending contract terms.

What’s the downside? That investors are forced to negotiate a «stretch» return on their investment over time. And the government won’t be thrilled with an extra few years in a project with a private partner, either.

And the creditors will have to agree to revise the indicators downward, for example, the debt coverage ratio DSCR (shows the company’s ability to service its debt obligations at the expense of the profit received from its core activity). This is obvious, because there is less revenue.

However, restructuring requires the agreement of all creditors, which may be difficult to achieve: several international banks are involved in financing the Navoi project alone.

In the Energy Purchase Agreement m