General PPP framework
How has the concept of public-private partnership (PPP) developed in your jurisdiction? What types of transactions are permitted and commonly used in your jurisdiction?
The Chinese government officially adopted the PPP concept in 2014, although PPP has essentially applied in China from the early 1990s. The Ministry of Finance (MoF) and other ministries may have slightly different definitions of PPP. However, the key concept of PPP is shared between them, which is a partnership between government and the private parties that share both profits and risks in the projects. Currently, the most common types of PPP are build-operate-transfer (BOT), transfer-operate-transfer, build-own-operate, build-own-operate-transfer and design-build-finance-operate, with BOT being the most commonly used type in China.
What categories of public infrastructure are subject to PPP transactions in your jurisdiction?
There is a broad application of PPPs in China, which include the following:
- municipal infrastructure such as gas, power and water supply, heating and sewage and waste treatment;
- transport infrastructure such as road, rail, airport and urban rail transit;
- public service projects such as affordable housing projects, healthcare, hygiene, tourism, education, culture and elderly nursing; and
- other projects such as agriculture, forestry, science and technology, water conservancy, energy and environmental and ecological protection.
Is there a legislative framework for PPPs in your jurisdiction, or are PPPs undertaken pursuant to general government powers as one-off transactions?
Currently, China has no specific, fundamental law on PPP. The legislative framework of PPP mainly consists of relevant laws, regulations and regulatory documents.
Is there a centralised PPP authority or may each agency carry out its own programme?
PPPs are currently coordinated by the State Council, MoF and the National Development and Reform Commission (NDRC), which are the centralised PPP authorities. Additionally, according to the needs of different projects, the administrative authorities for different industries, such as construction, transportation, water resources, environmental protection, health, education, culture, civil aviation, land, agriculture and forestry, are responsible for project guidance, implementation and supervision.
Are PPPs procured only at the national level or may state, municipal or other subdivision government bodies enter into PPPs?
PPPs are encouraged by the national government and are currently implemented in every province and city of China. Municipal and other subdivisions of governments that are above county level may enter into PPP projects.
How is the private party in a PPP remunerated in your jurisdiction?
There are three payment mechanisms:
- government payments;
- user charges; and
- viability gap funding (VGF).
Government payments are commonly seen in public facilities and public service projects for which the government pays directly for the products and services. User charges are commonly used in projects that have charging bases and the operating income can completely cover the investment cost and provide reasonable gains to the private party. For VGF projects, the government would offer some economic subsidy to cover the gap between the user charges and the investment cost plus reasonable gains that come from the projects.
Sharing revenue and usage risk
May revenue risk or usage risk be shared between the private party and the government? How is risk shared?
The project revenue risk and usage risk result from numerous risks and are reasonably allocated between the private party and the government. The government bears the risks relating to land acquisition, project approval and permits, and political risks; and the private party bears the risks in financing, project investment and financial management, design, construction, operation and maintenance, approval and insurance. The force majeure risks are reasonably allocated between the parties.
Government payment obligations
In situations where the private party is compensated in whole or in part through availability or other periodic payments from the government, are the payment obligations of the government subject to the relevant legislative body approving budgetary funding in the future?
The private party can receive compensation from the government in government payments and VGF projects. According to China’s laws, the government’s payment obligations need to be taken into account in the long-term financial planning and must be included in the government’s annual budget. Besides, the relevant budgets are subject to the approval of the People’s Congress at the same level.
Rate of return caps
Is there any cap on the rate of return that may be earned by the private party in the PPP transaction?
The rate of return that may be earned by the private party in the PPP transaction must be ‘reasonable’. However, there is no precise definition of what constitutes ‘reasonable return’ in the legislative framework, and generally speaking it refers to the market return. Typically, in some circumstances, the PPP projects may achieve profits that highly exceed expectation resulting from the increase of user demands and charges. The government may put restrictions on the distribution of the profits that exceed expectation, and the private party may receive none, or a small portion, of the exceeded gain.
Restriction of ownership transfer
Is the transfer of direct or indirect ownership interests in the project company or other participants restricted?
In general, PPP projects restrict the changing of the ownership structure of the project company. For instance, a restriction period may be set, during which the equity of the project company cannot be transferred. Meanwhile, contract transfer is also restricted. For example, for such transfer to occur, certain conditions must be met, government approval must be received and the transferee must have the same qualifications, capital and capacity as the transferor.
What procedures normally apply to a PPP procurement? What evaluation criteria are used to award a PPP transaction?
PPP project procurement methods include public bid invitation, invited bidding, competitive negotiation, competitive consultation and single-source procurement. An authorised project implementing organ shall choose the appropriate procurement method in accordance with the law in light of the characteristics of the procurement needs of the PPP project concerned.
Two evaluation criteria need to be satisfied in order to implement a PPP project. According to two circulars issued by the MoF, namely the Guidelines on the Value for Money Assessment and the Guidelines on the Feasibility Study of Fiscal Capabilities, the PPP mode should be more cost-effective than other modes and the proportion of the expenditure liability required to be included in the budget for all PPP projects each year shall not exceed 10 per cent of the general public expenditure budget.
As to the awarding of a PPP transaction to a candidate, generally the bid price, financing ability and professional competence are key factors for evaluation. No matter which procurement procedure is adopted, the evaluation criteria used must be disclosed in the tender documents.
Consideration of deviating proposals
May the government consider proposals to deviate from the scope or technical characteristics of the work included in the procurement documentation during the procurement process, without altering such terms with respect to other proponents? How are such deviations assessed?
In some cases, variant bids may be permitted. If variant bids are permitted this will be stated in the procurement documents and will apply to all parties. According to the MoF’s circular, Measures for Administration of Government Procurement in PPP Projects, where the competitive negotiation or competitive consultation procurement method is adopted, the project procurement documents shall also specify the contents that may be substantively changed by the evaluation team based on negotiations with private investors, including the technical and services requirements based on procurement needs and the terms of the draft project contract.
Meanwhile, according to the Implementing Regulations on the Tendering and Bidding Law, issued by the State Council, for projects with complex techniques or with technical specifications unable to be determined accurately, bid inviters may make bid invitation in two stages. In the first stage, bidders shall submit technical advice without price as required in the bid invitation notice or bid invitation, and bid inviters shall determine the technical standards and requirements and prepare the bid invitation documents based upon the technical advice submitted by the bidders. In the second stage, bid inviters shall provide bid invitation documents to the bidders providing technical advice from the first stage, and the bidders shall, based upon the requirements as set forth in the bid invitation documents, submit the bid documents including the final technical schemes and price offered.
May government parties consider unsolicited proposals for PPP transactions? How are these evaluated?
Unsolicited proposals for PPP transaction are permitted by law but very uncommon in practice. According to the circular, Interim Measures for the Fiscal Management of Public-Private Partnership Projects, issued by the MoF, the following procedures shall apply in the case of a PPP project initiated by private investors:
- the relevant private investor shall submit a written project proposal to the relevant competent industry department;
- after the written project proposal is examined and approved by the competent industry department, the private investor shall prepare a project implementation plan; and
- the project implementation agency authorised by the relevant people’s government at or above the county level shall request the finance department at the same level to carry out a value for money assessment and feasibility study of fiscal capabilities.
Does the government party provide a stipend for unsuccessful short-listed proponents or otherwise bear a portion of their costs?
The current PPP policy does not specify whether the government shall provide a stipend for unsuccessful short-listed proponents.
Does the government party require that proposals include financing commitments for the PPP transaction? If it does not, are there any mechanisms during the procurement process to ensure that the applicable PPP transaction, once awarded, is financeable?
The procurement documents usually contain financing requirements for the bidder and the financing ability and plan would be the government’s first concern. In most cases, the government would ask the private investor to bear joint liability with the project company for the project financing.
May the government ask its counsel to provide a legal opinion on the enforceability of the PPP agreement? May it provide representations as to the enforceability of the PPP agreement?
The government generally does not ask its counsel to provide opinions on the enforceability of PPP contracts, nor does it generally provide representations as to the enforceability. However, the project implementation agency is generally authorised by the relevant people’s government at or above the county level to sign and execute the PPP agreement, which in practice has been reviewed by the government’s legal department before signature.
Restrictions on foreign entities
Are there restrictions on participation in PPP projects by foreign entities? May foreign entities exercise control over the project company?
There are no different restrictions applied for foreign entities to participate in PPP projects or to exercise control over the project company. For any foreign entity to invest in China they must comply with the Catalogue for the Guidance of Foreign Investment Industries (revised in 2017) and the Special Management Measures for the Market Entry of Foreign Investment (Negative List) (2018 version) issued by the NDRC and the Ministry of Commerce, which prohibit or restrict foreign investment in certain industries or the controlling shareholding of a foreign investor in certain industries.
Design and construction in greenfield PPP projects
Form of contract
Does local law mandate that any particular form of contract govern design and construction activities? Does it mandate the choice of governing law?
There are suggestive contract forms that govern design and construction activities published by the Ministry of Housing and Urban-Rural Development and the NDRC. Additionally, the Contract Guidelines for PPP Projects, published by the MoF and the General Contract Guidelines for PPP Projects, published by the NDRC, also have relevant contents on design and construction activities in PPP projects. However, the parties to the contract may agree on the application of the law by themselves.
Design defect liability
Does local law impose liability for design defects and, if so, on what terms?
The design contractor is the party that usually has liability for design defects. In PPP projects, if the contractor is the general contractor for both design and construction, it has liability for design defects. However, if the project owner is responsible for project design activities, the contractor does not have liability for the design defects.
Does local law require the inclusion of specific warranties? Are there implied warranties in cases where the relevant contract is silent? Does local law mandate or regulate the duration of warranties?
In construction projects, the project owner, engineering investigation contractor, design contractor, construction contractor and supervision contractor are responsible for the quality of the project to the extent of their works. There are implied warranties for the construction activities, and the minimum duration of such warranties is mandated by regulations. Even if the particular PPP agreement does not include a warranty clause, the contractor is still under the liability of implied warranties for the project.
Damages for delay
Are liquidated damages for delay in construction enforceable? Are certain penalty clauses unenforceable?
The contracting parties may agree on the damages for delay in their agreements. However, according to Chinese contract laws, the damages are compensative rather than punitive.
Indirect or consequential damages
What restrictions are imposed by local law on the contractor’s ability to limit or disclaim liability for indirect or consequential damages?
The contracting parties may agree on the damages for breach of the contract in their agreements. The amount of the damages should be limited to the actual loss that results from the breach of contract, which includes the loss of opportunity. However, the amount of the damages for loss of opportunity should be reasonably foreseeable by the breaching party.
May a contractor suspend performance for non-payment?
Does local law restrict ‘pay if paid’ or ‘paid when paid’ clauses?
Are ‘equivalent project relief’ clauses enforceable under local law?
Equivalent project relief clauses are enforceable since they do not violate the mandatory rules in China’s laws and administrative regulations.
Expansion of scope of work
May the government party decide unilaterally to expand the scope of work under the PPP agreement?
Under PPP agreements, without the consent from the private party, the government cannot partially expand the scope of the project. The contracting parties may agree that when the government enlarges the scope of the project, they must pay reasonable compensation to the private party.
Does local law entitle either party to have a PPP agreement ‘rebalanced’ or set aside if it becomes unduly burdensome owing to unforeseen events? Can this be agreed to by the parties?
China’s laws do not entitle any parties in PPP projects to rebalance or set aside the project when it becomes unduly burdensome because of unforeseen events. However, if the unanticipated event is a statutory force majeure event, either party has the right to partially or entirely exempt themselves from the contract liability. The contracting parties can include solutions for the circumstance of other force majeure events or change of the law in their agreements.
Are statutory lien laws applicable to construction work performed in connection with a PPP agreement?
The Contract Law and Construction Law apply to construction work performed in connection with a PPP agreement. Under the laws, the construction contractor is entitled to the priority right of repayment in construction projects.
Other relevant provisions
Are there any other material provisions related to design and construction work that PPP agreements must address?
In practice, PPP agreements usually include the following terms:
- the scope of design;
- the allocation of design;
- the design requirements and standards;
- the construction standards;
- the construction duration; and
- the government supervision of the project.
Operation and maintenance
Are private parties’ obligations during the operating period required to be defined in detail or may the PPP agreement set forth performance criteria?
Private parties’ obligations during the operating period would normally be stipulated in the PPP agreement in principle with detailed performance criteria set forth in the schedules to the PPP agreement or to be drafted by the private party at a later stage after the execution of the PPP agreement, which should be agreed by the government. For some projects, such as sewage treatment, there are existing industry standards that would be a part of the performance criteria.
Failure to maintain
Are liquidated damages payable, or are deductions from availability payments possible, for the private party’s failure to operate and maintain the facility as agreed?
Liquidated damages and deductions from availability payments are both possible for the private party’s failure to operate and maintain the facility as agreed, depending on how the parties agree in the PPP agreement. In practice, the private party is often required to submit an operation bond, which is usually issued by a bank and is payable at sight. The government may forfeit a certain portion of the bond at its discretion based on the degree of fault of the private party.
Refurbishment of vacated facilities
Are there any legal or customary requirements that facilities be refurbished before they are handed back to the government party at the end of the term?
There are customary requirements that the parties to the PPP agreement would agree to regarding when and to what extent such facilities should be refurbished. Normally, before the handover to the government, the facilities would be fixed, adjusted and replaced so that they are in good order.
How is the risk of delays in commercial or financial closing customarily allocated between the parties?
The risk allocation is agreed by the parties and varies from project to project. The private party customarily takes the risk of delays in commercial or financial closing, unless the government’s failure in performing its obligations, including obtaining approval and permits of the project, has caused the delay.
How is the risk of delay in obtaining the necessary permits customarily allocated between the parties?
Typically, the risk is shared by the parties and its allocation varies from project to project. The government is customarily responsible for obtaining permits related to the PPP procedure, such as approval of the project implementation programme, value for money evaluation and assessment of financial affordability. The private party is customarily responsible for obtaining permits related to the construction, including the builder’s licence and operating licence.
How are force majeure and geotechnical, environmental and weather risks customarily allocated between the parties? Is force majeure treated as a general concept relating to acts outside the parties’ control or is it defined with reference to specific enumerated events?
The risk allocation is agreed by the parties. The PPP agreement usually includes a force majeure concept that is treated both as a general concept relating to acts outside the parties’ control and as a list of specific enumerated events that have satisfied the particular definition of force majeure. The government and the private party customarily share the force majeure risks. Occurrence of a force majeure event typically entitles the private party to relief in the form of an extension of the time to perform its obligations. The parties then customarily have the right to negotiate a solution for compensation in a certain period or to terminate the PPP agreement.
Third party risk
How is risk for acts of third parties customarily allocated between parties to a PPP agreement?
The risk allocation is not prescribed by law, but will be provided in the relevant contract. The private party customarily takes the risk for acts of third parties, unless the government’s failure in performing its obligations has contributed to the acts of third parties. Meanwhile, the private party cannot ask for any economic compensation or extension of the time to perform its obligations.
Political, legal and macroeconomic risks
How are political, legal and macroeconomic risks customarily allocated between the parties? What protection is afforded to the private party against discriminatory change of law or regulation?
The risk allocation is not prescribed by law, but will be provided in the relevant contract. The government customarily takes the political and legal risks. The occurrence of such events typically entitles the private party to an extension of time to perform its obligations and to economic compensation for additional costs.
The private party customarily takes the macroeconomic risk, such as inflation and change of interest rate; however, there may be price adjustment mechanism terms for inflation and change of interest rate in the PPP agreement. PPP agreements may prohibit any discriminatory change of law or regulation.
What events entitle the private party to extensions of time to perform its obligations?
Such events are agreed by the parties and vary from project to project. Typically, events that entitle the private party to an extension of time to perform its obligations may include the following:
- government defaults;
- force majeure;
- geotechnical, environmental and weather conditions;
- political or legal changes;
- failure of the government to perform its obligations, including obtaining approval and permits for the project; and
- other events agreed by the parties.
To successfully apply for extensions of time to perform its obligations, the private party must demonstrate that it could not have mitigated the effects of the event without material expenditure and that the event has caused the delay.
What events entitle the private party to additional compensation?
The events of additional compensation are prescribed in PPP agreements on a case-by-case basis, which usually include government defaults and discriminatory changes of law, inflation or market interest rate.
How is compensation calculated and paid?
The calculation of compensation is prescribed in PPP agreements on a case-by-case basis and to a large extent is dependent on the chosen PPP model and the scale of the PPP project. There are two customary calculation methods: a lump sum payment or payment of a fixed proportion of the project’s total cost.
Are there any legal or customary requirements for project agreements to specify a programme of insurance? Which party mandatorily or customarily bears the risk of insurance becoming unavailable on commercially reasonable terms?
There are no legal requirements for project agreements to specify a programme of insurance. Customarily, PPP agreements provide a programme of insurance for each party to carry out, which may take different forms on a case-by-case basis. Typically, the party that failed to satisfy its insurance obligations according to the PPP agreement should bear the risk of the occurrence of specific events that were not covered by insurance policies. In China, the risk of insurance becoming unavailable on commercially reasonable terms is rarely dealt with.
Default and termination
What remedies are available to the government party for breach by the private party?
PPP agreements typically stipulate that various securities shall be submitted by the private party to guarantee its contractual performance during different phases of the project, either by way of a cash deposit or bank guarantee. In case of breach by the private party, the government party may cash in such securities. The government party may also withhold payment, impose penalties, exercise its step-in rights by performing or asking a third party to perform the PPP agreement at the cost of the private party, and eventually terminate the PPP agreement.
On what grounds may the PPP agreement be terminated?
The government party may terminate the PPP agreement in case of material breach by the private party, such as the following:
- violation of its warranties;
- non-submission of performance guarantees;
- abandonment of the project;
- transfer or creation of encumbrances on the project without consent from the government party; or
- defaults that cause major damage to public interest.
The private party may terminate the PPP agreement in case of material breach by the government party, such as violation of its warranties or non-payment within the stipulated time period. In addition, the PPP agreement may be terminated on grounds of force majeure, change of law or by mutual agreement of the parties.
Is there a possibility of termination for convenience?
The government party does not enjoy any right of termination for convenience by law. In some cases, the government party may insist on stipulating a clause conferring the right of unilateral termination for matters of public interest and subject to compensation, which is not a typical termination for convenience clause that gives the government right to unilaterally terminate the contract with or without reason.
If the PPP agreement is terminated, is compensation available?
Compensation is available, but differs in calculation for different grounds of termination. The formula for calculation is one of the main points of negotiation between the parties and varies from case to case. Typically, if the termination is owing to force majeure events or change of law without with the control of the government party, the private party may recover its investment; if the termination is owing to the government party’s default, the private party may recover its investment and get paid for a portion of expected gains; however, if the termination is owing to its own default, the private party may only recover a portion of its investment.
Does the government provide debt financing or guarantees for PPP projects? On what terms? Which agencies are responsible?
No debt financing or guarantees for PPP projects are directly provided by the government. Sometimes, shareholders designated by the government may provide debt financing or guarantees for PPP projects.
Privity of contract
Are lenders afforded privity of contract with the government party through direct agreements or similar mechanisms? What rights will lenders typically have under these agreements?
The lender is not afforded privity of contract with the government party. Lenders have a direct contract with the private party or the project company that is used to finance the project.
Is there a mechanism under which lenders may exercise step-in rights or take over the PPP project? Are lenders able to obtain a security interest in the PPP agreement itself?
The PPP agreements or financing agreements will grant lenders step-in rights in case of breach of contract by the project company. Lenders commonly obtain security interest through the loan agreements instead of the PPP agreements.
Are lenders expressly afforded cure rights beyond those available to the project company or are they permitted to cure only during the same period and under the same conditions as the project company?
This matter is not regulated by the Chinese PPP framework. This may vary from project to project.
If the private party refinances the PPP project at a lower cost of funds, is there any requirement that the gains from such refinancing be shared with the government? Are there any restrictions on refinancing?
There is no specific regulation in respect of this matter in the PPP framework. This is a matter to be solved in the agreement itself, and there is usually no obligation to share gains with the government because they reward the private party for its efficiency. The PPP agreement will commonly require government consent for refinancing.
Governing law and dispute resolution
Local law governance
What key project agreements must be governed by local law?
All contracts that are to be executed in China must be governed by the laws of China.
Under local law, what immunities does the government party enjoy in PPP transactions? Which of these immunities can be waived by the government?
The government party does not enjoy any immunity in PPP transactions.
Availability of arbitration
Is arbitration available to settle disputes under the project agreement between the government and the private party? If not, what regime applies?
Arbitration is available as the resolution of disputes. However, the Supreme People’s Court has been reticent in accepting binding arbitration, making government concession agreements as administrative agreements, subject to the jurisdiction of local courts.
Alternative dispute resolution
Is there a requirement to enter into mediation or other preliminary dispute resolution procedures as a condition to seeking arbitration or other binding resolution?
There is no general requirement to enter into mediation or other preliminary dispute resolution procedures as a condition for seeking arbitration or other binding resolutions; however, there may be specific contractual obligations of the project agreement compelling parties to do so. Preliminary steps to resolve disputes through negotiation are often required in PPP contracts.
Is there a special mechanism to deal with technical disputes?
There is no particular uniform mechanism throughout China as it always depends on what the parties have agreed.