Australia: Epc ContractrsIn The Renewable Energy Sector - South African Re Ipp Programme - Lessons Learned From Phases 1 And 2 (October 2012) Part 2

Last Updated: 27 October 2012

Unforeseeable Conduct

The term 'Unforeseeable Conduct' under the PPA is broadly equivalent to change in law risk. Like Force Majeure, the matters included in the definition of Unforeseeable Conduct are narrower than would generally be expected and, for example, do not extend to changes in law or tax that are not discriminatory to the project. The EPC Contract should be back to back with this definition.

Under clause 17.5 of the PPA, the Seller will be entitled to compensation or relief from the Buyer to restore the general economic position of the Seller but for the Unforeseeable Conduct. This may take the form of monetary compensation or an extension of time. Note also that if the Seller benefits as a result of the Unforeseeable Conduct, the Seller will be required to pay the value of any such benefit to the Buyer.

As with a Compensation Event, the PPA provides the Buyer with the option under clause 17.6 to pay monetary compensation for Unforeseeable Conduct as either a lump sum payment or in equal monthly instalments for the remainder of the Term. Please refer to our suggested clause above in the context of Compensation Events that addresses this issue.

Scheduled COD

Under clause 4.6 of the PPA, for every day that the Commercial Operation Date is delayed beyond the Scheduled COD (unless the delay is due to an event of Force Majeure, System Event, Compensation Event or Unforeseeable Conduct), the Operating Period will be reduced by an additional day and the Expiry Date will be brought forward by one day. As a result, the Seller will effectively lose 2 days for each day that the Commercial Operation Date is delayed beyond the Scheduled COD.

The quantum of delay liquidated damages in the EPC Contract must factor in the total loss or revenue to the project due to the reduced number of days, and should also be reviewed by the project technical advisors.

Achieved Capacity and Contracted Capacity

Under clause 4.8 of the PPA (save for the Landfill Gas PPA which is discussed in more detail below), if the Achieved Capacity of the Facility on the Commercial Operation Date is less than the Contracted Capacity for the Facility (being the anticipated capacity of the Facility), the Contracted Capacity will be permanently reduced to the Achieved Capacity of the Facility reached as at the Commercial Operation Date. Regardless of any further testing performed, the Seller will not be entitled to increase the installed capacity of the Facility above the new Contracted Capacity at any time in the future for any reason, and accordingly this restriction poses a substantial risk to a project's bankability.

To mitigate this risk, the schedule of the project and the timing of testing should be aligned with the Scheduled COD and Last COD dates under the PPA to ensure that adequate time is allowed for the Facility to achieve the Contracted Capacity by the Last COD under the PPA

The risk of the project company may also be mitigated by ensuring:

  • that the performance testing and performance guarantee framework aligns with the Contracted Capacity and the output capacity in the financial model; and
  • that the quantum of the Performance Liquidated Damages is sufficient to compensate the project company for the additional costs and lost revenue resulting from the under-performance of the Facility, and should be reviewed by the project technical advisers.

It is important to note that the PPA in respect of Landfill Gas ("LFG PPA") does not contain the same restrictive provisions (as set out in clause 4.8 of the PPAs for the other renewable energy technologies) in respect of the Achieved Capacity and the Contracted Capacity. Under the LFG PPA, the Contracted Capacity is the anticipated peak capacity of the Facility as a whole (including all Facilities in the Portfolio) achieved during the term of the PPA, and is not limited to the Achieved Capacity. This reflects the fact that LFG technology has a generation capacity that follows a bell curve ("P50 gas curve") rather than a linear generation capacity i.e. in reality LFG technology cannot attain the Contracted Capacity by the Last COD in the PPA as a landfill site's generation potential grows over time.

Performance Testing and Performance Guarantees

As a consequence of the PPA providing for the Achieved Capacity to be fixed at the Commercial Operation Date for all Facilities other than landfill gas Facilities (as discussed above), it is necessary to test (among other things) the Achieved Capacity of the Facility at Commercial Operation.

However, a number of types of performance tests, including performance ratio tests for solar PV Facilities and power curve tests for wind Facilities, are only able to be performed after the relevant Facility has been operating for a specified period of time (often 1-2 years).

To accommodate this split, it is common under the RE IPP Programme to have a pre-COD and post-COD twostage performance testing process, with corresponding pre-COD and post-COD performance guarantees. There is also a split arrangement in terms of the remedies available if the contractor fails to achieve the pre-COD or postCOD performance guarantees.

The pre-COD performance guarantees are usually comprised of a Contracted Capacity guarantee. As discussed above, the restrictions under the PPA mean that if the Achieved Capacity of the Facility on the Commercial Operation Date is less than the Contracted Capacity for the Facility, the Contracted Capacity will be permanently reduced to the Achieved Capacity of the Facility reached as at the Commercial Operation Date. If the Contracted Capacity of the Facility is reduced, the Facility will not be able to generate energy at the rate that has been included the financial model for the project. To avoid creating a revenue shortfall, an appropriate remedy for a failure to meet the pre-COD performance guarantees is a reduction in the contract price paid to the contractor that is proportional to the amount by which the Contracted Capacity has been reduced.

As with other types of performance guarantees, performance liquidated damages are an appropriate remedy for a failure of the contractor to achieve the postCOD performance guarantees.

We have included sample testing, performance guarantee and liquidated damages schedules in Appendix 2 that indicate this split between pre-COD and post-COD testing, performance guarantees, reduction in contract price and performance liquidated damages.

Site risk

Under clause 3.2 of the PPA, all risk in relation to the project site (including hydrological, geotechnical and other risks) rests with the Seller.

Lenders will expect that this risk is fully passed through to the contractor under the EPC Contract. However, depending on the specific conditions or circumstances relating to a particular project site, the lenders may be able to obtain some comfort from appropriate site investigations being carried out before and after the Preferred Bidder selection process. If the contractor does not accept the full pass through of pre-existing site risk, the project company may need to provide some form of additional sponsor support.

Application of insurance proceeds

Under clause 19.2 of the PPA, the proceeds of any insurance claim (other than claims under any loss of revenue policies) must be applied by the Seller towards the reinstatement or repair of the Facility unless the Buyer otherwise agrees.

The main issue that arises is that lenders will want to control the application of insurance proceeds, particularly if those proceeds are of a certain threshold and if repairing the Facility is not economically viable. Steps that could be taken to mitigate this risk are to ensure that the lender is identified as a loss payee under the all risks insurance policy in relation to the project, and to provide the lender with a priority security interest over all assets of the project company including insurance proceeds.

Economic Development Obligations

The Seller must meet all Economic Development Obligations placed on it in relation to the project. These are set out in schedule 2 of the IA, and relate to job creation, local content, ownership element obligations, social development, preferential procurement and management control obligations.

If the Seller does not comply with the Economic Development Obligations, the Seller may have to pay an amount (set out in schedule 2 of the IA) to the DOE or accrue Termination Points. If the Seller accrues more than 9 Termination Points in a consecutive 12 month period, DOE may terminate the IA, which will also allow the PPA to be terminated.

Again, to avoid any gaps in liability arising the project company should seek to ensure that all relevant Economic Development Obligations are passed through to the contractor under the EPC Contract to the extent relevant, including exclusions from the cap on liability and from the exclusion of consequential loss in respect of liability arising out of any failure of the contractor to comply with the Economic Development Obligations that results in the project company being in breach of a Project Document.

In addition, the lenders will generally require a buffer period under the EPC Contract whereby a process will be triggered if the Owner accrues a certain number of Termination Points (for example, six Termination Points in a 12 month period) as a result of the Contractor failing to comply with the Economic Development Obligations. This threshold number should be set lower than the number of Termination Points that provide the DOE a right to terminate the IA, in order to provide a step in or cure period for the project company and/or the lenders to ensure that the relevant Economic Development Obligations are met.

Corrupt Acts

Under the IA, the Seller is required to warrant that, in entering into the Project Documents, that it has not committed any 'Corrupt Act', defined as any offence in respect of corruption or corrupt activities contemplated in the Prevention and Combating of Corrupt Activities Act, 2004. The consequence of the Seller (or any shareholder, contractor or affiliate of the Seller) admitting to or being convicted of a Corrupt Act is very serious, with the DoE having an immediate right to terminate the IA, which will have the effect of simultaneously terminating the PPA. As a result, the project company should require the EPC Contract to contain back to back termination rights and, given that the lenders will generally expect to be kept whole, exclusions from the cap on liability and from the exclusion of consequential loss in respect of liability arising out of Corrupt Acts.


Contractors will generally require a 'cap' or limit to be placed on their aggregate liability under the EPC Contract and for liability in respect of consequential or indirect loss to be excluded.

In our experience under the RE IPP Programme, such caps have generally been subject to number of exceptions, including where the liability arises as a result of (among other things):

  • a breach of any Project Document by the project company as a direct result of a breach by the contractor of its obligations under the EPC Contract (including in relation to a failure to meet the Economic Development Obligations or committing a Corrupt Act);
  • death, personal injury or cases of third party property damage, unless attributable to any negligence, wilful act or breach of the EPC Contract by the project company;
  • a breach of various indemnities provided by the contractor to the project company, including a breach the requirement to obtain and maintain all necessary consents or of any of the warranties provided in respect of intellectual property;
  • a breach of the confidentiality provisions of the EPC Contract; and
  • the fraud or wilful misconduct of the contractor, its personnel or its subcontractors.

Exclusion of special or consequential loss

Clause 28.1.2 of the PPA provides that neither party shall be liable to the other party for any Special Loss suffered as a result of any act or omission of the first party. 'Special Loss' is defined as any loss or damage which does not constitute a direct loss, including indirect losses, consequential or special losses and wasted or increased overheads.

In some instances, contractors may seek a broader exclusion of special or consequential loss than that provided under the PPA. To minimise the risk of gaps in liability arising, the project company should ensure that any exclusion provided is back to back with what is provided under the PPA.

As mentioned above in relation to caps on liability, typical exceptions to the broad exclusion of consequential loss provided under the RE IPP Programme include:

  • liability which arises from a breach of any project document by the project company as a direct result of a breach by the contractor of its obligations under the EPC Contract (other than liability for Special Loss as defined under the PPA);
  • wilful misconduct;
  • delay liquidated damages;
  • performance liquidated damages;
  • recovery of insurance proceeds;
  • a breach of various indemnities provided by the contractor to the project company, including a breach of the requirement to obtain and maintain all necessary consents or of any of the warranties provided in respect of intellectual property; and
  • a breach of the confidentiality provisions of the EPC Contract.

Grid connection and Self-Build

A key issue for the consideration of project companies is the extent to which additional works may be required to enable a Facilities to obtain adequate access to the Transmission System or the Distribution System, as relevant. These additional works may be comprised of connection works to be performed by Eskom and/or connection works to be performed by the project company (known as 'self-build' works). Some project companies in the RE IPP Programme have elected to pursue the selfbuild option due to a need to accelerate project works in line with the schedule.

The connection works are governed by a set of standard form documents. For example, the key documents for the connection of a Facility to the Distribution System are:

  • the Budget Quote (containing the terms and conditions for the connection works to be performed by Eskom to connect the Facility to the Distribution System);
  • the Distribution Connection Use of System Agreement (containing the terms and conditions of the connection of the Facility to the Distribution System, the access and use of the Distribution System and the delivery of electrical energy from the Facility); and
  • if applicable, the Self-Build Agreement (containing the terms and conditions for the self-build of Eskom Distribution Connection Assets by customers).

In selecting the self-build option, project companies need to consider the additional risks that may arise, including:

  • additional delays and costs incurred in procuring access land required to complete the self-build works;
  • delays in completing the self-build works that may delay other elements of the project works and potentially impact on the project company's right to receive compensation in respect of System Events under the PPA; and
  • other risks that may arise under the Self-Build Agreement itself.

Project companies also need to be aware that under the Self-Build Agreement there is a requirement that all 'Contract Works' (as defined in that agreement) are performed only by an Eskom Accredited Contractor.

Project companies should also be aware that the definition of Force Majeure provided under the Self-Build Agreement is broader than the definition of Force Majeure under the PPA, which creates a potential gap in liability.

Early Operation and Staged Completion

The PPA provides a process for the 'early operation' of one or more units of the Facility to occur before (but no more than 180 days before) the Scheduled COD. Early Operating Energy Payments are available for any energy produced during the Early Operation Phase at a rate of 60% of the Commercial Energy Rate that is available after Commercial Operation of the Facility is achieved.

Although the project company is permitted to operate one or more units of the Facility under the 'Early Operation' provisions of the PPA, it is not permitted to have phased or staged completion or commissioning of the Facility. Although this is not specifically stated in the Project Documents, it has since been clarified by the DoE in Briefing Note 4.

Accordingly, the project company will not be entitled to apply for certification or to achieve Commercial Operation in respect of the Facility before the Scheduled COD. These limitations need to be taken into account in preparing the financial model and in considering any early completion bonuses that may be payable to the contractor.

Dispute resolution

Clauses 26 and 27 of the PPA set out the dispute resolution process to be followed in respect of any dispute arising in relation to or in connection with the PPA. It provides an escalating process from internal referral to litigation in the High Courts. It also provides for a 'fast track' dispute resolution process for disputes to be determined by an independent expert.

Given that many of the parties involved in the RE IPP Programme projects are international, in our experience there has been a strong preference for the use of arbitration (rather than litigation) as the preferred dispute resolution mechanism under EPC Contracts. In these circumstances, the project parties need to consider the implications of this potential mismatch and the extent to which the EPC Contract can be aligned with the PPA to allow the joinder of disputes where required. These issues should be considered on a case by case basis, depending on the identity of the relevant parties,

Other issues

In addition to the issues set out in this section that are specific to the RE IPP Programme, many of the issues set out in Part 2 are also relevant in the context of the RE IPP Programme.



The diagram below illustrates the basic contractual structure of a project financed renewable energy project using an EPC Contract.

The detailed contractual structure will vary from project to project. However, most projects will have the basic structure illustrated above.

We note that in some renewable energy projects, particularly wind farms or hydro plants, the EPC Contract may be split into an Equipment Supply Contract (such as a Wind Turbine Generator Supply Contract) and a Balance of Plant ("BOP") Contract, where the performance guarantee element is dealt with in a Warranty Operating and Maintenance Agreement ("WOM"). The principles are essentially the same as set out below and we will discuss specific components later in this paper.

As can be seen from the diagram, the project company will usually enter into agreements which cover the following elements:

  • An agreement which gives the project company the right to construct and operate the Facility and sell electricity generated by the Facility. Traditionally this was a Concession Agreement (or Project Agreement) with a relevant government entity granting the project company a concession to build and operate the Facility for a fixed period of time (usually between 15 and 25 years), after which it was handed back to the government. This is why these projects are sometimes referred to as Build Operate Transfer ("BOT") or Build Own Operate Transfer ("BOOT") Projects.
  • However, following the deregulation of electricity industries in many countries, merchant facilities are now being planned and constructed. A merchant power project is a project which sells electricity into an electricity market and takes the market price for that electricity. Merchant power projects do not normally require an agreement between the project company and a government entity to be constructed. Instead, they need simply obtain the necessary planning, environmental and building approvals. The nature and extent of these approvals will vary from place to place. In addition, the project company will need to obtain the necessary approvals and licences to sell electricity into the market.

  • In traditional project financed power projects (as opposed to merchant power projects) there is a PowerPurchase Agreement ("PPA") between the project company and the local government authority, where the local government authority undertakes to pay for a set amount of electricity every year of the concession, subject to availability, regardless of whether it actually takes that amount of electricity (referred to as a "take or pay" obligation). The project company will in turn undertake to produce a minimum quantity of electricity and, in some circumstances, green products (such as carbon or renewable energy credits). Sometimes a Tolling Agreement is used instead of a PPA. A Tolling Agreement is an agreement under which the power purchaser directs how the plant is to be operated and despatched. In addition, the power purchaser is responsible for the provision of fuel. This eliminates one risk variable for the project company but also limits its operational flexibility.
  • In the absence of a PPA, project companies developing a merchant power plant, and lenders, do not have the same certainty of cash flow as they would if there was a PPA. Therefore, merchant power projects are generally considered higher risk than non-merchant projects. This risk can be mitigated by entering into hedge agreements. Project companies developing merchant power projects often enter into synthetic PPAs or hedge agreements to provide some certainty of revenue. These agreements are financial hedges as opposed to physical sales contracts. Their impact on the EPC Contract is discussed in more detail below.

  • A Connection Agreement for connection of the Facility generation equipment into the relevant electricity distribution network ("Network") between the project company and the owner of the Network, who will be either a transmission company, a distribution company, an electrical utility or a small grid owner/operator. The Connection Agreement will broadly cover the construction and installation of connection facilities by the owner of the Network and the terms and conditions by which electricity is to be delivered to the generation equipment at the Facility from the Network ("import electricity") and delivered into the Network once generated by the Facility ("export electricity").
  • A construction contract governing various elements of the construction of the Facility, from manufacture and assembly of the key equipment to construction of the balance of the plant comprising civil and electrical works. There are a number of contractual approaches that can be taken to construct a Facility. An EPC Contract is one approach. Another option, as outlined above, is to have a supply contract for key items of equipment such as wind turbines, solar panels or hydro turbines, a design agreement and construction contract with or without a project management agreement. The choice of contracting approach will depend on a number of factors including the time available, the lenders' requirements, and the identity of the contractor(s). The major advantage of the EPC Contract over the other possible approaches is that it provides for a single point of responsibility. This is discussed in more detail below.
  • Interestingly, on large project financed projects the contractor is increasingly becoming one of the sponsors - i.e. an equity participant in the project company. Contractors will ordinarily sell down their interest after financial close because, generally speaking, contractors will not wish to tie up their capital in operating projects. In addition, once construction is complete the rationale for having the contractor included in the ownership consortium no longer exists. Similarly, once construction is complete a project will normally be reviewed as lower risk than a project in construction; therefore, all other things being equal, the contractor should achieve a good return on its investments.

    In our experience most projects and almost all large, private sector, facilities use an EPC Contract.

  • An agreement governing the operation and maintenance of the facilities. This is usually a longterm Operating and Maintenance Agreement ("O&M Agreement") with an operator for the operation and maintenance of the Facility. The term of the O&M Agreement will vary from project to project. The operator will usually be a sponsor, especially if one of the sponsors is an RE IPP or utility company whose main business is operating facilities. Therefore, the term of the O&M Agreement will likely match the term of the Concession Agreement or the PPA. In some financing structures the lenders will require the project company itself to operate the Facility. In those circumstances the O&M Contract will be replaced with a Technical Services Agreement under which the project company is supplied with the know how necessary for its own employees to operate the Facility. In other circumstances the project company will enter into a fixed short term O&M Agreement with the manufacturer and supplier of the major equipment supplied, for example, in the case of a wind farm, the wind turbine generators, during which the appointed operator will train the staff of the project company. The project company will take over operation of the Facility on expiry of the O&M Agreement and will perform all functions of the operator save for some support functions being retained by the manufacturer.
  • Financing and security agreements with the lenders to finance the development of the project.

Accordingly, the construction contract is only one of a suite of documents relating to a Facility. Importantly, the project company operates the project and earns revenues under contracts other than the construction contract. Therefore, the construction contract must, where practical, be tailored so as to be consistent with the requirements of the other project documents. As a result, it is vital to properly manage the interfaces between the various types of agreements. These interface issues are discussed in more detail later.

© DLA Piper

This publication is intended as a general overview and discussion of the subjects dealt with. It is not intended to be, and should not used as, a substitute for taking legal advice in any specific situation. DLA Piper Australia will accept no responsibility for any actions taken or not taken on the basis of this publication.

DLA Piper Australia is part of DLA Piper, a global law firm, operating through various separate and distinct legal entities. For further information, please refer to

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