Lessons from the Independent Private Power Experience in Pakistan Julia M. Fraser The Energy and Mining Sector Board THE WORLD BANK GROUP ENERGY AND MINING SECTOR BOARD DISCUSSION PAPER PAPER NO.14 MAY 2005 33770 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized
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Lessons from the Independent Private Power Experience in Pakistan
Julia M. Fraser
The Energy andMining Sector Board
THE WORLD BANKGROUP
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AUTHORS
Julia M. Fraser ([email protected]) is a Senior FinancialAnalyst in the South Asia Energy and Infrastructure Unit of theWorld Bank.
DISCLAIMERS
The findings, interpretations and conclusions expressed inthis paper are entirely those of the author and should not beattributed in any manner to the World Bank, to its affiliatedorganizations, or to members of its Board of ExecutiveDirectors or the countries they represent.
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The World Bank, Washington, DC
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Lessons from the Independent Private Power Experience in Pakistan
As part of the World Bank’s ongoing work to identifybarriers to increased investment in the power sector indeveloping countries this paper was produced as a casestudy on workouts for projects under stress.
Pakistan’s first private power project, the Hub PowerProject, and its subsequent 1994 private power policy –both supported by the World Bank – were lauded by theinternational investment community. Pakistan succeededin attracting over $5 billion in investment and contractingabout 4,500 megawatts of private generation in recordtime. However, macroeconomic instability in the countryand financial problems in the power utility revealed someof the shortcomings in the policy and its implementation.Unilateral attempts to terminate and re-negotiate IPPcontracts led to a tumultuous three year workout period.The Government, project sponsors and lenders alllooked to the World Bank Group during this critical timeas it was heavily involved in providing financing andguarantees to more than half of the IPPs underconstruction or operating in Pakistan at the time. TheBank Group was credited with facilitating an orderlyresolution of the IPP disputes and helping to avert awider Government default on IPP contracts which couldhave had macroeconomic implications for Pakistan.Several lessons that can be taken from the workoutexperience are highlighted in this discussion paper.
Jamal Saghir Director, Energy and Mining Sector BoardMay 2005
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The World Bank Group played a pro-active role in facilitating the resolution of the IPP disputes,necessitated by its large financial role in the IPPprogram, and assisted in preventing the crisis fromexploding further. The work-out strategy called for the Government to separate criminal allegations fromcommercial disputes with the former to be resolvedthrough the legal system and the latter throughamicable negotiation. Several important lessons can be drawn from the Pakistan experience. Setting a bulktariff ceiling allowed Pakistan to alleviate its powershortage through private generation in record time;however, too much power was contracted with littleregard for least cost expansion. The scale of privateinvestment in generation should be aligned with thecountry’s state of development with respect to sectorreforms and also social, economic, political andinstitutional governance. In addition, solicitation of IPPsshould be on a competitive basis and staggered over afew years so that changes in international investors’assessment of country and contract risks could lead todeclining bid prices. Staggering IPP solicitation andscaling down large IPP capacity would also allow theutility to re-assess demand/supply conditions and adjustthe contracted capacity and completion timing forsubsequent IPPs accordingly. Since assumed futurecountry conditions at appraisal can be substantiallydifferent from what actually emerges, it is important thata transparent bidding process is followed to be morepolitically sustainable. Finally, while the risk of re-negotiation can be minimized by competitive biddingand transparent contracts, this risk cannot be whollyavoided. All parties have to recognize that re-negotiation is reasonable provided it is done in amutually acceptable manner.
ABSTRACT
The discussion paper recounts the background to the IPP program, describes the “orderly framework”developed by the World Bank Group for the IPPworkout, and concludes with several lessons learned.The 1292 MW, $1.6 billion Hub Power Project washailed as a landmark in the field of infrastructurefinance at the time of financial close in 1995. It set animportant precedent for the viability of private financefor a major infrastructure project in a developingcountry. The complex suite of documentation developedtogether with experience gained by Pakistan officials andinstitutions during its six years of project developmentled to the adoption of a Private Power Policy in 1994.Under this policy, 19 independent private powerprojects (IPPs) reached financial close in record time foran additional 3400 MW. (Four projects, totaling 435MW were subsequently terminated.) Pakistan earnedhigh praise amongst international developers andfinanciers and was a model for private sectordevelopment in the power sector in the mid 1990s. Itwas described as “the best energy policy in the whole world” by the US Secretary of Energyfollowing a trip to Karachi in September 1994. Thatsame year, the Hub Power Project was named projectfinance “Deal of the Year” by Euromoney InstitutionalInvestor. However, by 1998 the Government had issuednotices of intent to terminate 11 IPPs, representing two-thirds of private power capacity contracted, on allegedcorruption and/or technical grounds. Perceptions by theproject sponsors of excessive coercion, harassment andheavy-handed legal and other actions initiated by theGovernment to renegotiate tariffs or cancel contractscontributed to Pakistan’s fall from grace in the eyes ofthe international private sector community. A turbulentthree year work-out period followed where mostcontracts were ultimately re-negotiated which coincidedwith the period when Pakistan was brought to the brinkof financial collapse.1
1 Following Pakistan’s nuclear tests and the subsequent imposition of economic sanctions in May 1998, Pakistan’s economic and balance ofpayment situation deteriorated rapidly and foreign investment slowed to almost nothing. Within just a few weeks, the stock market declinedby 40%, the free market rupee depreciated by more than 25% against the US dollar, and official reserves declined to less than 2 weeks ofimports. In early 1999, Pakistan signed an agreement with the Paris Club for rescheduling of $3.3 billion of public and publicly guaranteeddebt repayments.
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ACKNOWLEDGEMENTS
This paper draws on previous analytical work andinternal memoranda prepared by Bank staff andconsultants in the Energy Network and the South AsiaEnergy Unit. Valuable comments were received fromseveral colleagues, including Penelope Brook, SouthAsia Energy Sector Manager, Tjaarda Storm vanLeeuwen, Lead Financial Analyst, Middle East and NorthAfrica Energy Unit, of the World Bank and from ApinyaSuebsaeng, Senior Manager, Credit Review andPortfolio Division, and Denis Carpio, Chief EvaluationOfficer, Operations Evaluation Group of theInternational Finance Corporation. In particular, theauthor acknowledges Mr. Carpio’s contribution to thedescription of lessons learned described in the abstract.
ACRONYMS AND ABBREVIATIONS
GOPIBRD
IFCIPPJEXIMKESCkWhLTCFMIGAMWPPAPPIBPSEDPRs.WAPDA
Government of PakistanInternational Bank for Reconstruction and DevelopmentInternational Finance CorporationIndependent Power ProjectJapan Export-Import BankKarachi Electricity Supply Corporationkilowatt hourLong Term Credit FundMultilateral Investment Guarantee Agency MegawattPower Purchase AgreementPrivate Power and Infrastructure BoardPrivate Sector Energy Development ProjectRupeesWater and Power Development Authority
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SECTOR BACKGROUND
Beginning in 1987, Pakistan requested assistance fromthe World Bank to increase private sector participationin the energy sector. An initial framework of incentivesto attract private investment in the energy sector wasput in place in 1988 which addressed the followingconstraints:
• The absence of a comprehensive policy frameworkconcerning incentives, fiscal treatment, repatriationof profits and capital, availability of foreignexchange, and pricing;
• The lack of long term financing for projects with longgestation periods and economic life; and
• The inadequacy of the institutional arrangements forthe review, negotiation and approval of privatesector projects.
In July 1992, the Government of Pakistan (GOP)adopted a Strategic Plan for power sector privatization.Under this plan, the Water and Power DevelopmentAuthority (WAPDA), the main electric utility in thecountry, would be unbundled into separate generation,transmission and dispatch, and distribution companiesand gradually privatized. The private sector would beinvited to construct and operate new thermalgeneration plants, and an independent regulator wouldbe established.
BANK SUPPORT FOR PAKISTAN’S PRIVATE POWER POLICY
In support of this policy, the World Bank approved theUS$150 million Private Sector Energy DevelopmentProject (PSEDP 1) in June 1988. Its objectives were to:(i) assist Pakistan in mobilizing, from the private sector,the resources required to meet the anticipated deficit inpower supply; (ii) establish incentives to encourageprivate sector participation; and (iii) establish aninstitutional framework required to facilitate privatesector transactions in energy on a sustainable basis.The Second Private Sector Energy Development Project(PSEDP II) was approved in November 1994 forUS$250 million. It replenished the Long Term CreditFund (originally known as the Private Sector EnergyDevelopment Fund) established under the first project
(PSEDP I), with the objective of continuing to (i) assistthe Government in mobilizing additional private sectorresources; and (ii) build on the institutional and policyframework established to facilitate private sectorparticipation in the energy sector.
Although the international development community hadcome to realize that the role of the public sectorneeded to be redefined and reduced, no other low-income country had made private investments a cornerstone of its energy policy. This strategy was a reflectionof hard economic realities: a non-sustainable fiscaldeficit; a serious balance of payment situation; and theinability of the public sector to mobilize the fundsrequired to make the investments needed to keep pacewith power demand (which was growing around sevenpercent per year). However, even if sound demandmanagement policies had reduced the growth ofelectricity demand below seven percent, theGovernment's strategy to rely increasingly on privateinvestment in power was relevant as budgetaryresources were needed to meet Pakistan's pressingsocial needs. PSEDP I and II were designed to supportthe implementation of a program of agreed measuresthat consisted of: (i) policies for the promotion ofprivate sector investment in energy; (ii) creation of avehicle to provide long-term financing for privateenergy projects; and (iii) establishment of newinstitutions for the evaluation, negotiation, andapproval of private energy investments.
PSEDP I and II represented a major shift in the Bank'spower sector lending policies in Pakistan. Theyembedded the lessons drawn from Bank lending togovernment utilities, as reflected in the Policy Paperentitled “Bank Lending for Electric Power” (1993). TheProjects, however, were demanding as they requiredinter alia: (i) the Government and its agencies to learnand adapt policies to enable private sector transactionsin power; (ii) the creation of three new entities, namelythe Private Power and Infrastructure Board (PPIB) – the“one stop shop” – in charge of negotiating thecontractual framework (referred to as the SecurityPackage) on behalf of the Government; WAPDA PrivatePower Organization (WPPO) in charge of negotiatingthe power purchase agreements (PPA); and the Private
resources, and to integrate these measures with the actionstaken by the Government to deregulate the economy andincrease reliance on the private sector. The result was anew policy for private power (“Policy Framework andPackage of Incentives for Private Sector Power GenerationProjects in Pakistan”), promulgated in March 1994 (heretoreferred to as the 1994 Private Power Policy), whichincorporated the original policies introduced in 1988together with subsequent modifications. The 1994 policywas hugely successful in attracting the private sector. GOPissued Letters of Support to 34 projects for more than9,000 MW under the expectation that less than 50% of theprojects would make it to financial closure. IncludingHubco, 20 IPPs with a total installed capacity of about4,500 MW reached financial close, of which four totaling435 MW were later terminated. The total investment wasabout US$5.3 billion, of which 25% was financed byforeign equity. An estimated US$3 billion was financed withforeign exchange debt with an average maturity of 10years. Roughly 85% of the foreign debt or 66% of totaldebt was from official sources.
Despite the problems in the IPP program (discussed below),Pakistan was successful in attracting foreign capital in aquick, efficient manner. While the first IPP, Hub Power, tookalmost eight years to reach financial close, the IPPs underthe 1994 policy closed on average in two years. Thereasons for its initial success included: (i) having a clearframework as documented in the 1994 Private PowerPolicy; (ii) establishing an indicative bulk tariff in the policywith indexation mechanisms for fuel and inflation; (iii)attractive fiscal incentives; (iv) standardized securitypackage; and (v) creation of a “one stop shop” forinvestors. (See Box 1 below for a description of the salientfeatures of the 1994 Policy.)
CRITIQUE OF THE IMPLEMENTATION OF THE1994 PRIVATE POWER POLICY
In hindsight, the selection criteria under the 1994 Policyenabled the implementation of many subprojects whichwere not consistent with the least-cost expansionprogram in terms of: (i) capacity and location (toosmall given the system size and requirements and not
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Energy Division (PED) of the National DevelopmentFinance Corporation (NDFC) in charge ofadministering the funds under the two Bank loans(referred to as the Long Term Credit Fund - LTCF); and(iii) the power utility, WAPDA, to abandon its virtualmonopoly on power generation, and adjust its activitiesincluding purchasing power from plants it did not own.
The $1.6 billion, 1292 MW Hub Power Project (Hubco)was the first private power project in Pakistan. It washailed as the project finance “Deal of the Year” byEuromoney Institutional Investor in 1994, and later in1999, selected as the “Deal of the Decade” by thesame magazine since it was “still one of the landmarkproject financings in the last 10 years.” The Hub PowerProject occasioned many “firsts” for Pakistan, the Bankand the international financial markets. For Pakistan, itwas the first private infrastructure project and the firstlimited recourse financing. For the Bank, it was the firstprivate infrastructure project, Bank-financedinfrastructure fund (the LTCF) to support privateprojects, partial risk guarantee under the ExpandedCo-financing (ECO) program, ECO guarantee withanother institution (JEXIM), and the use of the ECOprogram to support a private project. For the financialmarkets, it was the first major private infrastructureproject in a sub-investment grade developing countryto be financed by international commercial banks on alimited recourse basis, the first international equityoffering (global depository receipt) and underwriting fora developing country infrastructure project underconstruction, and the first stock market floatation of asingle power station under construction.2
1994 PRIVATE POWER POLICY
Although the complex suite of documentation3 negotiatedduring the Hub Project laid the foundation for the modelagreements under the 1994 Private Power Policy, theGovernment recognized the need to fine-tune the incentiveframework to take into account the feedback received fromprivate investors and the international financial community.Refinements in the framework were also needed to makePakistan internationally competitive in attracting financial
2 M. Gerrard, “Financing Pakistan’s Hub Power Project: A Review of Experience for Future Projects”, August 1997, sponsored by the ProjectFinance and Guarantees Department, World Bank.
3 About 200 separate original project agreements and documents were drafted and negotiated as part of the Hubco project. In addition, manydocuments had to be drafted and negotiated twice as the circumstances changed, i.e. changes in government, sponsor group, orconstruction group.
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suitably located to system requirements); (ii) fuelselection (excessive reliance on imported fuel oil, asopposed to domestic natural gas although at the timegas allocation for power was difficult to secure andoverall gas reserves were thought to be on the decline);and (iii) technology (too many diesel sets and steamturbines, as opposed to efficient combined cycle plants).One could argue that had the implementation of the1994 Policy been limited to about 2,000 MW – asadvised by the Bank Group – WAPDA may have beenbetter able to absorb the capacity charges under thelong term power purchase agreements, despite the factthat demand for power increased at a slower pace thananticipated resulting in excess capacity for several years.However, there was no clear mechanism for GOP toprioritize projects. The basis on which projects wereselected and accorded attention was not transparentand subject to political influence which led toperceptions of corruption by successive governments.Rather than proceed through competitive bidding forprivate power, Pakistan instead set a tariff ceiling forinvestors in an effort to accelerate the private powerprogram. This proved very successful in terms of projectsbeing able to reach financial close in a relatively shortperiod as mentioned earlier. The ceiling price set in the1994 Policy (US cents 6.1/kWh as an average for the firstten years and US cents 5.5/kWh over the life of the projecton a levelized basis) was competitive with levelized prices inother developing countries at the time, including Indonesia,Philippines and India.4
Some people alleged that by setting a tariff ceiling, thePolicy did not provide an incentive for project promotersto reduce costs. The assumed project cost under the1994 Policy was US$1,000 per kW, but starting about1997, capital equipment costs for combined cycleplants dropped to about US$450 to US$600 per kW.Pakistan’s gas-rich neighbor, Bangladesh, was able tocontract a 360 MW gas-fired, combined-cycle plant ataround this time for less than 3 US cents per kWhthrough a competitive tender. Although not a fair oraccurate comparison, this was used as an example byPakistan authorities that they had paid too much. Infact, subsequent analysis revealed that the price inBangladesh and Pakistan were broadly comparableafter adjusting for various factors, including differencein fuel cost and technology costs available during
1994-96 when Pakistan’s IPPs were contracted.Nonetheless, the public and political perception wasthat the cost of private power is too expensive – animportant factor when it came to re-negotiation.
Another contributing factor to the implementationproblems of the 1994 Policy was the slow pace of therestructuring and privatization of WAPDA and thecreation of a suitable regulatory system in comparisonto the speed with which the private power program wasimplemented. The mix of private generation andmonopoly public sector transmission/ distribution, andthe introduction of private power under the 1994 IPPPolicy rendered the sector vulnerable to financialshocks and external events such as changes in fuelprices. While the Bank promoted measures for sectormanagement and restructuring, as well as public sectorpolicy reforms, including introduction of pass-throughmechanisms for cost of fuel and power purchased, theywere not implemented at the intended pace. Thedelays in sector reforms adversely impacted theefficiency of both WAPDA and the IPP program, andleft the sector overly vulnerable to economic downturns.
BANK GROUP INVOLVEMENT IN IPPS
IBRD provided partial risk guarantees to two projects:Hub Power Co. for US$240 million (reduced toUS$137million) and Uch Power Ltd. for US$75 million;IFC provided A- and B-loans as well as equity to fiveprojects for about US$378 million; and MIGAextended guarantee coverage to three projects for atotal of US$31 million. In addition, Government ofPakistan provided subordinated loans to four projectsthrough the IBRD-financed Long Term Credit Fund forabout US$210 million. In total, the World Bank Groupwas involved in 11 of the 16 IPPs or 88% of the totalIPPs in terms of megawatts (see Annex 1).
IMPACT ON WAPDA’S FINANCES
WAPDA’s operating cost structure was transformed byincreasing purchases of power from IPPs. With plantload factor assumed at 60%, the share of power fromIPPs increased from about 20% in FY97 to 46% in
4 It is worth mentioning that these prices were not determined competitively, and some of the comparative countries, similar to Pakistan,ranked low on international indices of corruption.
contributed to the deterioration of its financialperformance included: (i) front-loaded IPP tariffs whichare indexed to the US Dollar, combined with a 45percent devaluation of the Rupee; (ii) a decline inelectricity demand due to low economic growth whichled to a temporary over-capacity in generation; (iii)poor collection rates from government customers whichaccount for 30 percent of WAPDA's sales; and (iv)
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FY00 (Figure 1). Between 1996 and 2001, the share ofhydropower generation (with its low operating cost)declined from 47% to 29%; electricity tariffs in nominalrupee terms increased by almost 60% but fell in realterms; operating revenue increased by 13% per annumwhile cash operating costs and debt service increasedby 20%; and the cost of private power reached 50% ofWAPDA’s operating costs. Other developments which
BOX 1. Salient Features of 1994 Policy and Package of Incentives for Private Sector Power Generation
• An indicative Bulk Tariff of US cents 6.5/kWha (to be paid in Rupees) for sale of electricity to WAPDA/KESC,based on annual plant factor of 60%.
• A premium of US cents 0.25/kWh based on energy sold during the first 10 years of project operations wasallowed to projects above 100 MW which were commissioned by end 1997.
• Sponsors had to meet the following application procedure for bulk power tariffs: – The average tariff for the first ten years does not exceed US cents 6.5/kWh– The annual base tariff does not exceed US cents 8.33/kWh in the first year and US cents 6.66/kWh in
any subsequent year; and– The levelized tariff for the life of the project does not exceed US cents 5.91/kWh (calculated based on a
10% discount rate).• The actual payment of tariff comprised two components, i.e. a “fixed” Capacity Price and a “variable” Energy
Price. As the capacity price is assured as per terms of the Concession Agreements, there was no guaranteefor purchase of a specified amount of power.– The capacity payment was paid on a monthly basis (Rupees/kW/month) whether the plant generated and
sold power or not, provided the plant was available to generate and sell electricity. It covered debtservice, fixed operation and maintenance cost, insurance expenses and return on equity. A portion of thecapacity fee was fixed throughout the contract life and another portion was subject to escalation for USand Pakistan inflation and exchange rate changes. For purpose of allocating the capacity fee into a perkWh basis (e.g. for determining the average tariff for any year), a plant load factor or utilization rate of60% was assumed, independent of the actual plant utilization rate.
– The energy price was a variable amount equal to a US$/kWh variable operation and maintenancecomponent and a pass-through fuel cost component (subject to a maximum guaranteed heat rate/kWhor alternatively, a minimum fuel conversion efficiency rate to electricity) times the actual number of kWhsold during each month. The variable O&M cost was also subject to escalation. There is no guaranteedminimum amount of electricity to be purchased by WAPDA/KESC per month.
• Fiscal Incentives consisting of: exemption from corporate income tax, customs duties, sales tax, and othersurcharges on imported equipment.
• Standardized Security Package which includes a model Implementation Agreement, Power PurchaseAgreement and Fuel Supply Agreement.
• Creation of a Private Power and Infrastructure Board (PPIB), to facilitate a “one stop” processing of IPPproposals.
• Financial incentives to facilitate the creation of a corporate securities market in the country, includingpermission for power generation companies to issue corporate bonds and shares at discounted prices, and establishment of an Independent Rating Agency.
a The bulk tariff was later reduced to US cents 6.1/kWh with the elimination of the foreign exchange risk insurance scheme.
Source: “Policy Framework and Package of Incentives for Private Sector Power Generation Project in Pakistan”, March 1994, Government of Pakistan
widening tariff cross subsidies that play againstindustrial and commercial consumers, who installedtheir own captive capacity.
As a result, WAPDA faced difficulties in meeting itsobligations to IPPs which required a discipline of on-timecash payments. This was a new, harsh reality for WAPDAas previous cash flow problems were dealt with throughthe public sector debt circle where payment arrearsto/from other public sector enterprises were a way of life.
THE FALL OF THE IPP PROGRAM
The Government was of the view that further increasesin consumer tariffs would be politically difficult if therewas no accommodation by IPPs to reduce their price to WAPDA for power purchased. This was especially so given its perceptions that IPP prices were out of line with the international market, that IPPs are veryprofitable, and that there may have been corruption in some of the transactions approved by the previouselected government. Thus, in 1997 against aworsening fiscal background and unwillingness toadjust retail tariffs, the government attempted to lowerIPP payments through various committees of inquiryand sponsor-by-sponsor negotiations. Not only was this unsuccessful, it created confusion and fears ofGovernment not honoring contracts. The Bank
received numerous messages that coercive tactics (e.g. arresting/interrogation of IPP company officersand sometimes family members) and threats of projectcancellation were being used in attempts to obtain tariff reductions. On the other hand, Pakistaniauthorities were pressing the Bank to live up to its zero tolerance policy on corruption, and in a specificinstance, alleged malfeasance against a former Bankstaff member associated with one of the IPPs.
In July 1998, the Government through the PPIB issuedseven Notices of Intent to Terminate on grounds ofcorruption and two on technical grounds whichrepresented about two-thirds of private power capacitycontracted. Whatever the substance of theGovernment's allegations of corruption – suchallegations are difficult to prove generally and noevidence was produced in court – these actions werelargely perceived by the developers as means to delaythe completion of IPP projects5 under the 1994 Policyand to extort tariff concessions given WAPDA's cashflowproblems, political pressure not to increase retail tariffs,as well as the shortage of foreign exchange availablein the country. IPPs expressed frustration at being calledto appear before no fewer than a dozen IPPCommittees constituted by the Government in anattempt to negotiate lower tariffs. The differentincarnations of the IPP Committee comprised, atvarious times and combinations, representatives of theAccountability Bureau, PPIB, WAPDA, Ministry ofFinance and independent local businessmen, amongothers. None of these committees proved effective asno clear authority to negotiate was delegated. In theend, one-on-one negotiations with WAPDA combinedwith intervention at the highest government level,resulted in several IPPs agreeing to tariff reductions.
Separately, the Hub Power Company was accused ofcorruption in securing the amendments to the PowerPurchase Agreement which resulted in a courtmandated reduction in the capacity price to be paid byWAPDA. Hubco denied that corruption had taken placeand considered the charges as a means to coerce thecompany to lower its tariff. Hubco sought assistance inresolving its disputes with GOP and WAPDA throughinternational arbitration but was restrained from doingso through injunctions sought by WAPDA in the local
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FIGURE 1. WAPDA Energy Generation and Imports
GW
h
Years
Thermal Generation Wapda
Hydropower
Imports
0
10000
20000
30000
40000
50000
60000
70000
200120001999199819971996
5 WAPDA had an inherent incentive to delay the completion of projects since capacity payment obligations did not begin until a projectachieved commercial operations.
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courts. (A summary of Hubco’s legal disputes issummarized in Annex 2.)
Furthermore, changing governments sought to place theblame for the perceived high cost of private power onprevious governments, and as a result, the IPP programbecame highly politicized. The poor initial handling ofcorruption allegations contributed to the erosion of investorconfidence in Pakistan, and foreign investment flowed to atrickle exacerbating the wider economic crisis in the country.
ORDERLY FRAMEWORK FOR IPP WORKOUT
The Bank Group’s strategy was to avert a Governmentdefault by facilitating an orderly resolution of theimmediate disputes and preparing for a permanentsolution to the underlying causes of the IPP problemthrough providing support for the implementation ofthe power sector reform. One of the basic tenets of thestrategy was to persuade the Government to separatecriminal allegations (i.e. corruption, bribery, kick-backs)from the commercial issues (i.e. tariff level, liquateddamages owed, etc). Following the issuance of Noticesof Intent to Terminate, the Bank Group assisted theGovernment in adopting the so-called “OrderlyFramework for IPP Negotiations” in late 1998 toprevent further deterioration in the situation. Theimmediate step was to conclude voluntary standstillagreements valid for a period of 30 to 45 days so thata meaningful dialogue could commence on all relevantissues without the IPP companies and the lenders beingunder a threat of termination of the agreements andwithout government notices giving rise to furtherdefaults and legal proceedings.
The second step was to ensure a fair and justimplementation of the IPP contracts whereby theGovernment would:
• Honor existing contractual obligations.• Seek a conducive environment for IPP personnel and
their families.• Refer routine disputes including interconnection
issues to the technical committee consisting ofnegotiating agency (e.g., PPIB, WAPDA or KESC), IPPcompany, and independent engineers/advisors.
• Clarify income and other tax and foreign exchangeconversion issues related to IPP contracts.6
• Follow due process for settling tax and foreignexchange issues.
The third step was to set a negotiating strategy for different groups of IPPs within the context ofsustainability:
• Review actions undertaken in consultation with legaland technical advisors and determine suitable strategy.
• For IPPs without allegations of fraud or corruption orwithout Notices of Intent to Terminate (NITs) or otherlegal actions pending:– Resolve outstanding contractual issues– Negotiate voluntary tariff reduction
• For IPPs where the government considers that credible evidence of fraud etc. is not available:– Stop investigations– Inform IPPs of this– Withdraw NITs – Negotiate voluntary tariff reduction
• For IPPs where the government considers that there is credible evidence against them:– Quickly complete investigations– Conclude standstill agreement – Respond to the Companies’ and Lenders requests
for further information concerning the allegeddefaults to facilitate consultation by the Companiesas to the cure and mitigation of defaults and allowlenders to exercise their rights in accordance withthe Implementation Agreements
– Initiate legal action against individuals and/or sponsors
– If necessary conclude second standstill agreement – Negotiate voluntary tariff reduction
Bank staff regularly monitored progress in the implementationof the Orderly Framework which was one of the key aspectsof the Bank and IMF structural adjustment programs.
RESULTS OF IPP WORKOUT
The financial difficulties of WAPDA were exacerbated bytoo many IPPs coming on stream simultaneously at a timewhen demand did not grow as anticipated. This resulted
6 The Central Bureau of Revenue did not accept the position of IPPs that they were given a certain lower tax rate under the IPP Policy. SeveralIPPs also reported problems with the timely conversion of Rupees into foreign exchange.
only a small portion of costs on which they couldnegotiate – essentially return on equity and theoperations and maintenance cost. Since only 20% ofinvestments were financed through equity, this left littleroom to maneuver in the negotiating room as projectsponsors could not offer reduction in interest rateswithout lender consent. (In fact, the results of allnegotiations were subject ultimately to lender consent.)Lender groups’ contribution to the workout oftenresulted in capitalization of interest and/or debtpayments during the early years, and in a few cases, amore extensive restructuring of the amortization profileto meet the revised anticipated cash flows.
It is interesting to note that lenders only agreed to thesemeasures in projects where the plant was delayed inachieving commercial operations – and therefore hadincurred significant cost increases (a large componentof which was interest during construction costs).Lenders to Hub Power, which had been in commercialoperations for a couple years, continued to receivetimely debt repayments throughout the dispute periodand did not agree to restructure the debt to providefurther tariff concessions. It should be noted that Hubcowas able to meet their debt payment obligationsthroughout the workout period despite the fact thatWAPDA was not paying the company the full tariff. Thecompany had built up a rather large amount of cash intheir accounts since they were prevented fromdistributing dividends due to a court imposed order.Hubco was therefore able to draw on this cash to meetits debt obligations.
The Hubco case was different from the rest of the IPPssince it did not fall under the 1994 Policy. Governmentofficials alleged that the PPA amendments, whichsubstantially increased the price of electricity producedduring the first years of plant operation, were corruptlyobtained or otherwise fraudulent. In parallel with legalproceedings related to the dispute playing out in thelocal courts (see Annex 2), Hubco, the Governmentand WAPDA held various meetings during 1998-2000in an attempt to resolve their outstanding issues. At therequest of both Hubco and GOP, the Bank facilitatedmany of these meetings in an attempt to resolve thedisputes in a neutral environment. Almost two and ahalf years after the first allegations of corruption weremade, Hubco, the Government and WAPDA agreed toa settlement whereby, inter alia, the tariff level wasreduced and all criminal and civil cases were disposed.
in excess generating capacity that, in the minds of mostPakistan officials, they neither needed nor could afford.
To bring some relief to the cash-strapped power utility,the Government vigorously pursued the renegotiationof tariffs with IPPs. WAPDA also delayed commissioningof several IPPs by not providing them withinterconnection facilities or the approval to run theirplants until lower tariffs were agreed, saving significantamounts of money in the process. (It should bementioned that not all delays were a result of WAPDAactions and, in some cases, WAPDA was inadvertentlyhelped by the IPPs themselves when they failedtechnical performance tests.)
Once the Orderly Framework was accepted by theGovernment, the basic principles for IPP renegotiationwere: (i) contracts are a starting point for negotiationand (ii) negotiations must be by mutual agreementwithout coercion. Stand-still agreements were signedfor all projects which were issued Notices of Intent toTerminate which prevented the companies and/orlenders from undertaking untoward legal steps toprotect their rights under the agreements. Importantly,WAPDA also assumed sole responsibility fornegotiations addressing the concerns by some IPPs thatthe parameters were forever shifting with each new IPPcommittee that was appointed. WAPDA was ultimatelysuccessful in securing tariff concessions from about adozen IPPs, all of which had yet to be commissioned asthese were the plants over which WAPDA had the mostleverage. Significantly, no IPP (other than Hubco) whichhad achieved commercial operations prior to this time,conceded to WAPDA’s desire to reduce tariffs.
Available data on roughly half of the IPPs whichrenegotiated their tariff reveals that the averagedecrease in the levelized tariff was about 10%, rangingfrom 7-8% to as much as 16%. In exchange for thesetariff concessions, the term of their power purchaseagreements was extended from around 20 years to 30years, agreement was reached with WAPDA on thecommercial operations date allowing IPPs to beginreceiving revenue, and all legal disputes were resolved.
There was little scope for IPPs to dramatically lowertheir tariffs since the investment in plant and equipmenthad already been made and projects were close tocompletion. In addition, by this stage in projectimplementation, sponsor groups had direct control over
11
12
SITUATION TODAY
Relationships with IPPs have normalized, contracts arebeing honored, and WAPDA is paying IPPs in accordancewith the terms of the PPAs. Nevertheless, all things are notnecessarily quiet on the IPP front. While there are nolonger high profile disputes, the implications of the costof IPP power on the financial viability of the power sector,and the question of what customers should be asked tofund through tariffs,7 remain hot topics in discussionsregarding ongoing power sector reforms in Pakistan. Thisbeing said, however, it is generally accepted that the IPPswere critical in meeting a severe capacity constraint, andthat IPPs and private sector financing have a role to playin meeting the investment gap in the power sector. Sincethe resolution of the IPP crisis, Pakistan has made theright decisions regarding reform. However, a dauntingchallenge remains in implementation.
LESSONS LEARNED
The following are some of the lessons learned from thePakistan experience.
Sector Reform and IPPs.
An impressive amount of resources for the power sectorin Pakistan was mobilized over time and helpedeliminate power shortages. The IPP program,unprecedented both in concept and scope, elicited anenthusiastic buy-in both within and outside the Bank.The Bank promoted measures for sector managementand restructuring, as well as public sector policyreforms, which were generally right and timely. TheGovernment, however, failed to have themimplemented at the intended pace. While failures insector reforms did not precipitate the financial crisis ofWAPDA, they compounded it, crippled the efficiency ofboth WAPDA and the IPP program, and left the sectoroverly vulnerable to economic downturns.
There is a strong consensus that private investment isnot a substitute for reform, and that significant privateinvestment in generation should not take place in frontof reforms which at a minimum address distributionefficiency and tariff policies. Private sector participation
needs to be conceived and implemented as part of asensible broader reform framework. For a relativelylarge power system such as in Pakistan, it would bepreferable for an integrated utility sector to beunbundled, so that the power market can be operatedin a transparent manner, competition for the marketcan be introduced and, over time, generating plantscan be operated on a competitive basis. In addition,automatic indexation formulae should be in place toprotect the purchasing utility from changes in fuel costs,currency devaluation, and the cost of purchased power.
By supporting the establishment of Private Power andInfrastructure Board (the one-stop shop for investors)and the WAPDA Private Power Organization (WPPO) to implement the 1994 IPP policy, and by givingemphasis under that policy on the use of governmentguarantees, it may have had the unintended effect ofenabling vested interest in the sector (WAPDA and thesector ministry) to “capture and stall” theimplementation of the structural changes envisaged bythe Government in the 1992 Strategic Plan for theprivatization of the Pakistan Power Sector, i.e. theunbundling of the WAPDA Power Wing and theintroduction of competition in the market. Aftersubstantial delays, the unbundling of the power sectoris almost complete (i.e. restructuring of WAPDA's powerwing into about 14 corporate entities, with theremaining WAPDA responsible for hydropowergeneration and the National Transmission and DispatchCompany initially operating as a single buyer). Theassignment of all IPP contracts to WAPDA’s successorcompanies once restructuring was complete wasforeseen in all PPAs/implementation agreements.Although the load dispatch center needed upgradingand market operating rules could be refined, thedispatch rules were well established (based on lowestvariable costs) and generally respected, despite somereports of WAPDA’s own plants being favored.However, the main issue was WAPDA’s inability to paythe IPP capacity charges due to its weak financialposition. The main effect of the delays in WAPDA’srestructuring/privatization has been, however, thatexpected efficiency improvements, including restoringthe financial health of WAPDA’s successor companiesfailed to materialize even today and investments inupgrading the transmission and distribution system
7 It is noted that capacity charges, which were front-loaded, have declined over time since most IPPs have been in operation for several years.Consequently, the cost per kWh generated have generally declined as well.
13
have not always been made. This remains animpediment to attract fresh private capital in the power sector in general and for new generatingcapacity in particular.
Benchmark Pricing vs. Competitive Bidding.
Rather than proceed through competitive bidding forprivate power, Pakistan instead set a bulk tariff ceilingfor investors in an effort to accelerate the private power program and reduce transaction costs in order to quickly address the blackout situation facing thecountry. This was a very successful tactic in attractingforeign investors, but too many projects were approvedand the selection process was not transparent. It islikely that some projects for which Letters of Supportwere issued, and indeed some of those which ultimatelyreached financial close, benefited from political support since no clear criteria existed to determinewhich projects to prioritize when the Government was faced with negotiating project agreements withalmost 80 potential IPP developers. In addition, setting prices rather than bidding allowed forinefficiencies (e.g. projects which were too small and not least cost) and corruption opportunities onnon-price issues (e.g. securing the necessary fuelsupplies and WAPDA's transmission investments). In hindsight, the Government should have restricted the number of projects under the bulk tariff scheme,moved to competitive bidding and staggeredsolicitation over a few years so that changes ininternational investors’ assessment of country andcontract risks should have led to declining bid prices.Staggering IPP solicitation and competitive tenderingwould also have provided time to validate theeconomic and power demand growth expectationsbased on updated developments.
Large IPP programs need to be carefully managed.
The scale of the IPP program was perhaps ahead of its time given the country's state of development (interms of social, economic, political, and institutionalgovernance), and may have been better being pilotedbefore encouraging wider use. A power system can
accommodate a small IPP program without majorfinancial dislocation. Indeed, adding IPP capacity to a slow reforming sector can be a catalyst for reform.However, project economics still matter if thegovernment is assuming some risk and several lessonsemerge from the Pakistan experience including the need to:
tailor public financial support and guarantees tofacilitate an efficient investment program.Pakistan was successful in limiting Bank supportedpolitical risk guarantees to only two large projects andin providing subordinate debt under PSEDP I and II toonly four large or medium size IPPs. However, all 16IPPs received government support underImplementation Agreements whereby the governmentbackstopped the payment obligations of state-ownedpower utilities and the state-owned fuel suppliers. It isdoubtful whether any IPPs could have been financed inPakistan without government guarantees sinceperceptions of Pakistan's risk had limited financing toterms of 18-36 months. Nevertheless, such supportshould have been limited only to projects of clearpriority that could be afforded by the country. Inaddition, both private as well as public investment ingeneration should be consistent with an economic leastcost power supply plan.
have an efficient fuel supply policy particularly therational use of natural gas (electricity generation isusually one of the highest value uses of gas) and allowIPPs to procure fuels in competitive markets, bothforeign and domestic. This also links to the concept ofleast cost power mentioned above. It should be noted,however, that at the time the 1994 Private Power Policywas conceived, Pakistan did not think it had a lot ofdomestic natural gas available for power generation.
limit the size of the first IPP to enable readysubstitution if a key participant drops out and allow theBank to take a more hands-off role in the details of thetransaction. The 1,292 MW, US$1.6 billion Hub PowerProject was the first IPP transaction in Pakistan andentailed a complicated financing structure.8 The projectemanated from two unsolicited offers which weresubsequently consolidated and required six years to
8 The Hub financing package included seven senior debt facilities, most of which had a syndicate of commercial banks. There were more than70 financial institutions represented in the financing structure (including 43 international commercial banks, 9 local banks, several exportcredit agencies, etc.) This was in addition to the sponsor group and contractors.
14
reach financial close. The difficulties with the projectcan largely be attributed to its size. Until Pakistan haddeveloped a track record of GOP contractualperformance and successful implementation of powerprojects in the power sector, the Government shouldhave concentrated its efforts on modest-sized, and as aconsequence, more easily financeable projects.
create capacity to manage IPP contracts. WhilePakistan created institutional capacity to approve newIPPs, and the creation of PPIB as a “one stop shop” forinvestors is widely credited as a key advantage inpreventing bureaucratic delays, WAPDA did not put inplace an effective contract management unit tomanage their commercial contracts with the privatesector. Furthermore, WAPDA was conflicted as the solebuyer, system operator and competing power generatorwhich argues for unbundling, at least, transmission.
ensure efficient plant dispatch. Since fuel is themain element of WAPDA and IPP costs, the powersystem needs to be operated to ensure that the plantwith the lowest variable operating cost is dispatchedfirst, subject to location, transmission constraints, andthat undue preference is not given to any plant, publicor private. WAPDA's current dispatch facilities do notfully recognize all relevant factors.
Due Diligence by Other Lenders.
Given the overall government guarantees providedthrough the Implementation Agreements, it appearsthat private sector lenders, export credit agencies andeven the IFC and the Bank primarily relied on the riskallocation framework as contained in the securitypackage, and discounted the potential country,macroeconomic and sector risks. The parties may havealso drawn undue comfort from the Bank Group'sinvolvement in the 1994 Private Power Policy. Thelesson is that the assumed future country conditions atappraisal can be substantially different from whatactually emerges. When substantial changes do occur,all parties should recognize and accept that re-negotiation may happen. (See further discussion on re-negotiation below.)
Contingent Liabilities.
Under Implementation Agreements signed with IPPs, theGovernment guaranteed the payment obligations of the
state-owned power offtaker (WAPDA or KESC) and thefuel supplier. In addition, GOP guaranteed theavailability and convertibility of payments in foreignexchange. While foreign investments have manybeneficial effects, they also entail at some point therepatriation of profits and the servicing of foreign debts.The capacity of a country to meet these new obligationsis necessarily related to its capacity to increase foreignexchange earnings through exports. Particularly in thecase of the power sector, where investments in excess ofUS$5 billion were made, the incremental foreignexchange outflow is on the order of US$800 million perannum, equivalent to eight percent of Pakistan's exports.The Bank did not investigate the matter until 1995 in thecontext of the due diligence process for the Uch partialrisk guarantee. The analysis concluded that under mostscenarios, Pakistan would have serious difficulties inmeeting the incremental foreign exchange obligations.Furthermore, given that contingent liabilities also arise inthe case of oil and gas development, Pakistan ought toput in place, possibly at the Central Bank, a monitoringsystem for contingent liabilities.
Bank’s Role in Dealing with CorruptionAllegations.
When corruption was alleged in some of the sub-projects(especially Hubco), the Bank initially found it difficult torespond given its multiple roles (i.e. advisor to theGovernment, lender to WAPDA, indirect lender to IPPsthrough the LTCF, and guarantor to commercial lendersthrough the partial risk guarantees). In the case of thefour IPPs financed under PSEDP I and II, and in particularthe Hub and Uch projects for which the Bank alsoprovided partial risk guarantees, the Bank was a party tothe private sector transaction and was looked upon byboth the Government and the private sector as having apositive role to play in resolving the dispute. StandardBank practice would dictate that the Bank not getinvolved in commercial disputes; however, the Bank hada responsibility to act once the partial risk guaranteeswere under threat of being called by the lenders as aresult of what was perceived to be government events of default.
The Bank had to maintain an “honest broker” role in asituation where different parts of the Bank Group at timesplayed conflicting roles: IFC as a lender to IPPs was tryingto mitigate its reputational risk vis-a-vis its syndicated Bloans; the Project Finance Group in the Bank which was
governments and governmental agencies should be encouraged to pursue corruption strictly accordingto law and internationally recognized due process, and in the meantime contractual obligations should be honored.
Renegotiating concession agreements is not unusual in the private sector, particularly when prevailingconditions substantially change (e.g. external macroshocks). However, negotiations will more likely result in a prompt and mutually acceptable solutions when they occur in a commercial atmosphere, free of coercion.
Lastly, in the context of future IPP solicitations, it may be useful to set out the principles of how the benefits or burdens of future debt refinancing or restructuringshould be shared among the parties involved. Includingsuch principles in future PPAs could: (a) facilitate therestructuring of debts in jeopardy situations, and/or (b)encourage IPPs to refinance debt in the event interestrates fall substantially and refinancing could lead tosignificantly lower cost of debt to the benefit of the boththe IPPs and the host country. Not having had at theoutset such “rules of the game” could be one of thereasons for the few incidents of debt refinancing orrestructuring among the Pakistan IPPs.
15
focusing on mitigating calls to the Bank's partial riskguarantee; the country economic team and energyteam were concerned about the macro impact andwere advising the Government on the reform agenda.Furthermore, IPP sponsors applied pressure on theBank through their Executive Directors, governmentsand legislators, whereas the Government appliedpressure on the Bank to live up to its zero tolerancepolicy on corruption and requested assistance in theircorruption investigation. Their argument for Bankassistance centered on the Bank's earlier, pervasive rolein putting the Hubco deal together and approving thedocumentation, in addition to being the main advisorto the Government in developing the IPP Policy. In all,this pushed Bank staff and management to play a moreproactive role than may have otherwise been the case.However, despite the varied interests of the World BankGroup in the dispute, the Bank Group's overallobjective remained the development of Pakistan andthis objective guided the Bank’s decision making.Overall, the Bank Group was recognized as playing apositive role in the resolution of the IPP disputes.
Renegotiations.
Initially, the Bank had advised the Government toseparate the commercial and criminal issues in anattempt to bring the perception of an orderlyframework to resolving the IPP disputes. WAPDA was facing severe cashflow problems and was not in a position to honor its payment obligations under the PPAs. In addition, the country's foreign exchangereserves were dangerously low which jeopardized theGovernment's obligation under the ImplementationAgreements to convert rupees into foreign exchange.Some IPPs indicated a willingness to renegotiate inrecognition of the country's difficulties, but not underduress and coercive tactics. However, separating thecommercial and corruption issues proved difficult to do in practice in the case of Hubco, where theGovernment/WAPDA was of the view that the original commercial terms were fraudulently obtained.Ultimately, both Hubco and the Government/WAPDArequested the Bank to act as a facilitator in resolvingthe dispute since attempts by the parties to renegotiatethe commercial terms were continuously bogged downin corruption allegations and refutations. However, the Bank was not (and should not) be represented at the actual negotiating table as it is not a party to the contract. Overall, the lesson learned is that
16
ANNEX 1. PAKISTAN PRIVATE POWER PROJECTS
17
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
PROJECT NAME/LOCATION *
AES Lalpir LimitedLalpir
AES Pak Gen (Pvt) Co. Lalpir
Altern Energy LimitedFatch Hang, Attock
Fauji Kabirwala Power Co.Kabirwala, DistKhanewal
Gul Ahmed Energy Ltd,Korangi Town, Karachi
Habibullah Coastal Power Quetta
Japan Power GenerationOff Raiwind Rd, NearJia Baggo
Kohinoor Energy LimitedRaiwind – Manga Road
Liberty Power ProjectDaharki
Northern Electric Co. Ltd.Choa Saidan Shah,Chakwal
Rousch (Pakistan)Power LtdSidhnai Barrage Punjab
Saba Power Co. Ltd.9 km from Sheikhupura
Southern ElectricPower Co.Raiwind, Lahore
Tapal Energy Limited West Karachi
Uch Power LimitedDera Murad Jamali
TOTAL under 1994Policy
Hub Power Project Tehsil Hub, DistrictLasbela
TOTAL incl. Hub
NOTES
/a
/a
/d
/a/e
/a
/b
/d
/b
/d /e
/a /b /c
/b /c
TECHNOLOGY AND FUEL
Steam turbineson fuel oil
Steam turbineson fuel oil
Flared gas
Combined cycleon gas
Fuel oil
Combined cycle on naturalgas
Diesel engineson fuel oil
Diesel engineson fuel oil
Combined cycleon natural gas
Steam turbineson coal
CombinedCycle on fuel oil
Steam turbineson fuel oil
Diesel engineson fuel oil
Fuel oil
CombinedCycle on low Btu gas
Steam turbineson fuel oil
CAPACITYGROSS(MW)
362
365
14
157
136.17
140
120
131.44
235
6
412
114
115.2
126
586
3,020
1292
4,312
CAPACITYNET **(MW)
351.3*
343.9*
13
150*
128.5*
126*
107
126
211.9
5.5
355.1*
109
112.1*
125.5*
548*
2,813
1200
4,013
COMMERCIALOPERATIONSDATE
Nov. 6, 1997
Jan 2, 1998
Apr. 30, 2000
Oct. 21, 1999
Nov. 3. 1997
Sep. 11, 1999
Mar. 14, 2000
Jun. 20, 1997
Apr. 30, 2000
Jun. 30, 2003
Dec.11, 1999
Dec. 31, 1999
Jul. 12, 1999
Jun. 20, 1997
Oct. 18, 2000
Mar. 31, 1997
* Four IPPs were terminated after reaching financial close: (i) Davis Energen (Pvt) Ltd. (gas turbines on flared gas, 10.5 MW); (ii) Eshatech (Pvt) Ltd. (coal, 20 MW);(iii)Power Generation Systems (diesel engines on fuel oil, 116 MW); and (iv) Sabah Shipyard (fuel oil, 288.6 MW)
has included these issues in the ICC Arbitration. The Company had issued notices to WAPDA under the PPA which could result in the termination of the PPA. Corresponding notices had also been issued in respect of the Implementation Agreement(IA) and the Fuel Supply Agreement (FSA). Thesenotices could lead to the termination of the PPA and, as a consequence, of the IA which event would entitle the Company (and through theCompany the shareholders of the Company) tocompensation as set out in the IA. However, theoperation of these notices were subsequentlysuspended by the Supreme Court of Pakistan by an order passed on an application moved byWAPDA. The operation of the notices continues to be suspended to date.
In aid of its request for arbitration, the Companyfiled suit in the High Court of Sindh in November1998, requesting the Court to direct WAPDA toproceed to ICC arbitration and restrain WAPDA from taking any proceedings except ICC arbitration.In March 22, 1999 WAPDA was directed to proceedto arbitration by the Court which was appealed by WAPDA. The Appellate Court suspended theearlier order and also restrained the Company from proceeding to arbitration. Challenges by the Company were filed and hearings on that issue concluded in June 1999 and judgment was reserved.
By an order on August 11, 1999 the Court stated that it would hear the Company applicationwith WAPDA's appeal and also continued therestraint on the Company to proceed with the ICC arbitration. The Company petitioned theSupreme Court against this order. The Company'spetition was converted to an appeal on October 27, 1999 and heard by a five member bench of the Supreme Court.
On June 14, 2000 the Company's appeal wasdismissed by the Supreme Court by a majority of 3 to 2 and the Company was restrained frominvoking the arbitration clause of the PPA for thepurpose of resolving its disputes with WAPDAthrough the agreed forum of ICC arbitration.
ANNEX 2. SUMMARY OF HUBCO LEGAL DISPUTES
On May 8, 1998 a pro bono publico constitutionalpetition was filed in the Lahore High Court (LHC)against the Company. The Petitioner challenged the decision of the Government and WAPDA to enter into the Power Purchase Agreement (PPA) on the grounds that the tariff was discriminatory in favor of the Company. The Petition also accuses the Government, WAPDA and the PPIB of having acted malafide and fixed a tariff which wasunjustifiable.
At the request of the Petitioner, the LHC issued interim orders, which were subsequently amended by the Supreme Court (SC), that prohibited theCompany from making distributions from reserves as of December 31, 1997 to shareholders andrestricted the fixed element of the tariff to a maximum of Rupees. 845 million per month plusbilling in respect of Energy Purchase Price. Althoughdirected by the SC to dispose of the matter by the end of 1998, the petition has not been fixed forhearing so far. The petition is being contested by the Company which believes that it is without merit.
In a related action on July 9, 1998, pursuant to the PPA, the Company filed a request for arbitration in the International Court of Arbitration of theInternational Chamber of Commerce (ICC for hearing in London seeking a declaration thatAmendment No. 2 to the PPA is valid and that WAPDA is bound by its terms. The Tribunal was fullyconstituted in mid-January 1999. The Tribunal first met on February 22, 1999 but could not proceed as the Company was restrained by a Pakistani court order from participating in the proceedings.Subsequent attempts to convene have also provedabortive for the same reason.
On October 11, 1998 WAPDA alleged that theSupplemental Deed dated November 16, 1993 and Amendments Nos. 1 and 2 of the PPA datedFebruary 24, 1994 and September 17, 1994,respectively are void ab initio because they were said to have been procured by unlawful means.WAPDA is claiming in addition the repayment ofRupees. 16 billion allegedly overpaid. The Companyhas rejected the allegations made by WAPDA and
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On July 10, 2000 the Company filed petition in theSupreme Court seeking a review and reversal of the majority judgment of June 14, 2000.
The above is summarized from Hub Power CompanyLimited Annual Report 2000. In December 2000, theparties agreed to a settlement whereby inter alia thetariff level was reduced and all criminal and civil caseswere to be dismissed.
2020
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