Lease, concession and privatization of ports in Ukraine
23 June, 2017
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2016 year is coming to the end, while disputes concerning deadlock recovery of investments at the Ukrainian sea ports still continue. One say, no privatization, only lease or concession. The others contest any types of privatization of sea port property and activity. There are so many opinions that it is impossible to list all of them. Anyway, it is clear that one more year for developing reforms in port economy unfortunately has been lost, despite liberalization of investment activity in Ukraine! For twenty-five years of independent development of Ukraine, it got obvious that the state managed its ports ineffectively, while the situation is quite better in cases when private sector could fix its positions. It is clear that only port economy privatization may facilitate high effectiveness of its functioning.
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Of course Ukraine has a lot of acceptable and admissible legal mechanisms to organize the process of private investments: concession, cooperation, joint ventures, corporatization and many other schemes of privatizing property and activity in port sector of the Ukrainian economy. Meantime, in fact today the lease remains the only effective mechanism of investment.
Lately, the more attention has been drawn to concession and privatization. This article will describe advantages and disadvantages of the above schemes under today Ukrainian realia.
Lease
Today the real mechanism for attracting investments still remains the lease of state property. Meantime, lease is not a perfect mechanism for attracting investments. But under fair approach of both parties — the lessor and the lessee — lease operates as investment mechanism, as shown by main examples. The main disadvantage of lease for the investor is widespread in Ukraine failure to arrange the lessee’s rights on inseparable improvements and the right on reimbursement of investments therein. Such approach shall be changes, since investment platform may be based on state property. To launch such platform, reconstruction and depreciation of the worn-out state property shall be performed and reimbursement of investments shall be guaranteed. First, it will be a chance for state, remaining the state property owner, to attract investments into maritime industry development based on the current developed, understandable and common legal mechanism of lease.
So it is an inacceptable idea to refuse from the lease mechanism, as stated in mass media. Full rejection of lease may impede the process of port activity privatization. The Ministry of Infrastructure motivates such rejection by expected changes in the law on concession. In case of lease the law facilitates, without any changes, to create and to launch investment projects. According to Article 23 of the Law of Ukraine “On lease of state and public property” dd. 10.04.1992, the lessee is entitled, as agreed with the lessor, to perform reconstruction, technical re-equipment and improvement of state property at its own expense, so it would be fair to establish the lessee’s right on reimbursement of its investments.
Leased property improvement is prescribed by the Procedure of granting the lessor’s consent to the lessee on inseparable improvements of the leased state property, approved by the Order of the State Property Fund of Ukraine No. 1523 dd. 03.10.2006. According to Clause 4.4 of the Standard Lease Agreement upon the individually determined state-owned property (real estate or other), approved by the Order of the State Property Fund of Ukraine No. 1774 dd. 23.08.2000, in order to obtain the lessor’s consent on improvements the lessee shall submit a certain set of documents. The government body (Ministry of Infrastructure of Ukraine) shall only arrange such clauses at the stage of concluding the lease agreement. But in practice Commission of the Ministry of Infrastructure does not arrange such terms of lease. It means that further terms of the state property lease agreement depend on conclusions of the Commission of the State Property Department of the Ministry of Infrastructure of Ukraine. So the further investor, in order to obtain the lessor’s consent on improvement just at the stage of arranging tender terms of lease, shall prescribe in the Commission conclusions the right on inseparable improvements and the right on reimbursement of its investments into inseparable improvements, in particular, in case of lease agreement cancellation by the state. Such arrangement procedure is stipulated by the Methodological Recommendations upon consideration and conclusion regarding lease agreements on state property owned by enterprises, institutions and organizations managed by the Ministry of Infrastructure of Ukraine, as approved by the Order of the Ministry of Infrastructure of Ukraine No. 393 dd. 29.09.2011.
In general such approach has a priority for short-term prospect. Its advantage means that it does not provide any changes in the law but requires only political will of the Ministry of Infrastructure in lifting a ban on reimbursement in case of contract cancellation, including by the state. Such approach is the most profitable and optimal with regards to its performance period. Having executed the right on lease of state-owned property, most further investors will launch today their investment projects at sea ports without waiting for changes in legislative basis and occurrence of the new investment mechanisms.
State bears no risks, since state-owned property will remain in the state ownership and under the state control, while performance of such approach will not cause loss of time the investors and port industry are missing today.
As shown by lease practice, lease mechanism is reasonable and understandable for investors. From the financial aspect, investors will make lease payment to the budget for granting the right on lease of state-owned property.
In such case, state needs only to change the approach to lease of state-owned property by means of prescribing further lessee’s rights on inseparable improvements and the right on reimbursement of investments in such improvements in case of the lease agreement cancellation by the state, since it will indemnify the investor against groundless cancellation of such agreement by the state.
We believe that the today Ministry of Infrastructure will manage to change the current approach to governing lease relationship at ports in order to give a free hand to investors and to increase immediately the number of investment projects at sea ports, with positive effect not only for investors themselves but also for the whole port industry and economy of Ukraine.
Concession
In the view of the current discussion, let us highlight the main differences between lease and concession, since at first sight such institutes have many common features.
The concessionaire shall use the property granted as concession, since it obtains the right to create (construct) or operate the concession object solely when the business entity — concessionaire undertakes to create or to manage the object and bears proprietary responsibility and the possible business risk. Obviously, concession is an institute of commercial nature. Port infrastructure is a state ownership, so in fact only the state may be the lessor and the concessor regarding state ownership.
The lessee always obtains the finished property for temporary ownership and undertakes to perform only minor repair (or capital repair in cases provided by the law or by the contract). Investment into improvement of the leased property shall be performed with the lessor’s consent only, while the concessionaire is not only entitled but also obliged to invest and to improve the concession object. Lease object may be any property unless otherwise prohibited, while concession object may be only the property prescribed by the law.
In Ukraine concession is governed by the Commercial Code of Ukraine and by the Law of Ukraine “On concessions” dd. 16.07.1999. Concession one of the most important types of public-private partnership, pursuant to the Law of Ukraine “On public-private partnership” dd. 01.07.2010. After making amendments into the laws on PPP, in particular, into Article 7 of the Law of Ukraine “On public-private partnership”, the range of opportunities for concession relationship has been expanded essentially. Regulation on concession tenders and concession contracts upon the state and public property granted as concession, approved by the Order of the Cabinet of Ministers of Ukraine No. 642 dd. 12.04.2000, prescribes the contract conclusion procedure.
Legislation governing relationship upon concession payments has become more flexible. By the Order of the Cabinet of Ministers of Ukraine No. 130 dd. 04.02.2016, Methodology of calculating concession payments has been stated in new wording which provides four methods of calculating concession payments.
Since 2014, the Ministry of Infrastructure has the draft law on concessions at sea ports based on the European leading experience, although it has not been duly considered yet. The Committee of the Supreme Council of Ukraine upon transport and Communication had the draft law “On amendments into several legislative acts of Ukraine (concerning merchant shipping safety and development of the Ukrainian maritime industry potential)” No. 3239 registered on 13.09.2013. It proposed to add into Article 26 of the Law of Ukraine “On sea ports” dd. 17.05.2012 the mechanism of granting into concession port infrastructure objects, but it has not been adopted by the Supreme Council.
It should be noted that peculiarities of concession in Ukraine are set forth by Article 20 of the Law of Ukraine “On concession” which prescribed the legal regime of property granted into concession or created due to performance of the concession agreement. Concession neither facilitates transfer of title on such object to the concessionaire nor terminates the right of state or public ownership thereon. Property created under performance of the concession agreement shall be deemed as state or public property, while the concessionaire has a title on incomes received from management (operation) of the concession object and on products manufactured under performance of the concession agreement. It should be noted also that state or public ownership granted into concession shall not be privatized during validity period of the concession agreement without the concessionaire’s consent.
The main difference between lease and concession is that the concessionaire, apart from payment for the property use, is obliged to construct and/or to manage the concession object at its own expense.
Of course concession legislation needs further innovation. Our foreign partners are ready to help us in reforming the Ukrainian laws on concessions. World Bank and other investment banks are ready to finance innovation of the legislation on concession, for example by means of the program “Development of Modern Concessions Legal and Policy Framework in Ukraine”. It is quite reasonable to concentrate powers on performance of concession and other PPP projects within one or maximum two regulatory bodies. All the issues may be settled by the State Property Fund of Ukraine and by the Ministry of Infrastructure.
Privatization
The law governing privatization relationship is also imperfect. Port privatization is impossible without eliminating sea ports from the Law of Ukraine “On the list of non-privatized state ownership objects” dd. 07.07.1999. Amendments to the Law can be made solely by decision of the Supreme Council which has no political will.
We wrote a lot of articles about privatization at the Ukrainian and other sea ports. Worldwide experience in port facilities privatization shows that private enterprises providing port (in particular, stevedoring) services are usually much more effective than state enterprises. The main advantages of privatization are management efficiency, style of cooperation with clients and of course investments in development. Of course privatization has some risks — both strategic and tactical, for example, labour aspect. There is no doubt in excessive employment at the Ukrainian sea ports. But there remains a question: whether it will cause explosion of social tension or not, although in many cases port economy privatization did not face it.
One more significant risk in the instable political situation, especially threatening the military conflict, is a loss of state control over the port strategic infrastructure.
Anyway, the Law of Ukraine “On sea ports” dd. 17.05.2012 opened the door to privatization, since Article 25 thereof stipulates the port infrastructure objects which may be privatized pursuant to the laws on privatization. Grounds for sea port privatization already exist. By the Order of the Cabinet of Ministers of Ukraine “On transparent and competitive privatization in 2015 — 2017” dd. 12.05.2015, state-owned enterprises are included into “G” group of privatization objects.
Sea port privatization is a historically understandable legal and commercial structure, since many state-owned enterprises have been privatized for the period of Ukraine independence. The main feature is that privatization is able to attract large investments into maritime industry.
Conclusion
It should be noted that without legal innovations simplifying the process of lease, concession and privatization in Ukraine investment projects at the Ukrainian sea ports will be ineffective or impossible.
Such innovations will be possible when the government makes a decision to change the current approaches in regulating lease, concession and privatization at sea ports, which would give a large impulse to port industry and the Ukrainian economy development, since investors, under reasonable state approach, are always ready to perform investment projects at sea ports.
There are quite serious presumptions for this purpose. For example, there are signs of liberalizing the investment process (in particular, the foreign) having a favourable influence on the investment climate in Ukraine. As stated by the open sources, this august there was defined a law firm which won the tender on a new draft law on concession — Hogan Lovells Law Firm specialized in drafting and implementing PPP projects and similar legislative acts.
Translated from Russian of published article in “Ports of Ukraine” magazine, December 2016 issue.
