Kazakhstan: Breif Review: Investing In The Power Sector Of Kazakhstan: Legal Aspects

Concession Agreement

• From a legal perspective, one of the possible options for implementing a project for the financing and construction of a power plant in the Republic of Kazakhstan (hereinafter - the 'Project') is the so-called 'concession' defined as: "activities aimed at the creation (reconstruction) and operation of concession objects and performed at the expense of the concessionaire or with co-finance by grantor" (Article 1.6 of the Concession Law).
• Concession has following advantages:

• adjusted and clear legal framework as well as certain, though not entirely positive, practical experience¹ of implementation of a concession agreement in Kazakhstan. 

• So-called 'state concession liabilities' are protected against sequestering (Article 110.7 of the Budget Code).

• concessionaires, who are subjects of the so-called 'natural monopoly', may enjoy special tariffs/rates for their services (which can be determined according to the specific calculation formulas specified in concession agreements) and will be exempted from the general tariff regulation of natural monopolies (i.e., a concessionaire will be more protected against the risk of default of its obligations to repay credit debt because of the lack of income from the Project due to, for instance, inadequate tariffs for thermal energy²) (Article 15-1.2-1 of the Natural Monopolies Law).

• In theory, as the sources of compensation for its costs and income generation a concessionaire may rely not only on the sale of goods produced, but also on (i) subsidies from the State in certain cases as stipulated by the laws of Kazakhstan and (ii) a fee for availability (availability payment) of a concession object, which includes payments from the budget to compensate for the investment and operating costs of the concessionaire (Article 7 of the Concession Law).

• Possibility to get one or more of the following forms of state support (Article 14 of the Concession Law):

1) state guarantees on infrastructure bonds issued within the framework of a concession agreement;

2) state guarantees on loans raised to finance concession projects;

3) transfer of exclusive rights to IP object owned by the state to a concessionaire;

4) in-kind grants provided in accordance with the laws of the Republic of Kazakhstan;

5) co-financing of concession projects;

6) guarantees of state consumption of a certain amount of goods (works, services), when a principal consumer of goods (works, services) produced by a concessionaire is the state.

• However, not all of the concession benefits listed above may be used to implement the Project in practice; besides, the concession itself involves certain disadvantages and risks, including:

• pursuant to Article 14.2 of the Concession Law, when a concession object not transferable to state ownership is created, state support measures provided in subparagraphs 1), 2) and 5) above cannot be granted to a concessionaire.

• guarantee of state consumption of a certain amount of goods as a measure of state support is still of a declarative nature, because, firstly, it is not clear when the principle consumer of goods is the state and, secondly, the mechanism for implementing such state support has not been determined.

• A mechanism for making availability payment for a concession objects has not been defined yet. Moreover, availability payment apparently cannot be applied for the Project's objectives in any case, because under Article 7.3 of the Concession Law, availability payment can be only made with respect of concession objects referred to as 'socially important' objects (one of the criteria is that the project must be, for instance, of municipal economy and result in the increase of the municipal economy facilities³). As we understand, socially important objects are projects with low rate of return, e.g. construction and operation of motorways, water pipe lines, schools, pre-schools, hospitals, clinics etc, but not, for instance, power plants.

• The tariff for sale of electric power, apparently, cannot be determined according to a specific formula given in a concession agreement by analogy with the tariff for thermal energy (i.e. heat), and , therefore, is subject to respective maximum, individual or calculated tariff.
• Please note that a company, which will act as a concessionaire under the Project, or if a potential concessionaire is a new legal entity established to implement the Project, then the Consortium (founders) will have to meet certain qualifications, including: (i) having an equity capital⁴ of at least ten percent of the cost of the concession object to be sold, or providing a bank guarantee for the amount of not less than ten percent of the cost of the concession object to be sold (ii) having a financial statement supported by audit reports for two entire previous financial years (Article18 of the Concession Law).
• Concession is less attractive from a project financing perspective, since a 'concession object' (i.e., power plant itself) cannot be a pledged subject during the term of validity (Article 5.5 of the Concession Law).
• Excessive settlement of concession relations and conditions of a concession agreement reduces the parties' flexibility in determining the conditions of the project.
• The process of granting concessions in Kazakhstan is still quite bureaucratic and time consuming (in practice, it takes approximately from at least one year to 2 years).
• Main disadvantage of concession, however, is requirement for the potential concessionaire to participate in a tender and inherent risk of not winning the tender and loosing the Project despite the time and resources spent.

Agreement for Construction of Generating Plants (Capacity Market)

• As an alternative for the concession for the implementation of the Project can be used so-called 'agreement for construction of generating plants' with the Ministry of Industry and New Technologies ('MINT') based on a new model of 'Capacity Market'.
• Pursuant to the prospects of the Government and MINT, up to 2015 so-called 'maximum' tariffs will be used in Kazakhstan, while from 2016 instead the so-called 'capacity market' would be introduced.
• It is expected that the capacity market will consist of two segments: (i) market of long-term contracts (for new power plants) and of short-term contracts (for existing power plants).
• New power plants are guaranteed the return on investment, because the system operator (state owned company JSC 'KEGOK') undertakes to procure certified capacity volumes (i.e. the equivalent of the availability payment) from them on a priority basis at prices specified by the tender, while existing plants will operate at the market without benefits and subject to limit tariffs.
• In particular, effective provisions of the legislation provide for the liability of KEGOK to develop on a yearly basis balance forecasts of electric power and capacity for the coming seven-year period by 15 October and place the forecast in the mass-media (Article 15-1.1 of the Electricity Law).
• Based on the KEGOK forecasts, the MINT will annually determine an anticipated deficit of electric power, as well as develop and approve a promising layout of electrical capacities with the placement thereof on its website. Moreover, to meet the anticipated deficit of electric power the MINT must hold tenders for the construction of generating plantsnewly commissioned (Article15-1 of the Electricity Law).
• The MINT signs the agreements for construction of newly commissioned generating plants,⁵ with the tender winner, where it provides for the date of commissioning of the generating plants and liability for the failure to perform or improper performance of undertakings of the tender winner.
• Within thirty calendar days of the signing of the agreement, KEGOK signs the agreement for purchasing services to maintain the availability of electric capacity⁶of the newly commissioned generating plants with the tender winner at a price, volume and for the terms established by the competent authority (Article15-1 of the Electricity Law).
• Accordingly, a potential investor may wish to check first with the MINT and KEGOK on the terms of the next tender and participation options with a view to implementing the Project.

Footnotes

1 As of the date hereof, there are three concession objects operating in Kazakhstan: (i) power line 'Northern Kazakhstan- Aktobe Region', (ii) railway 'Shar Line - Ust-Kamenogorsk', (iii) passender's terminal in Aktau airport.

2   The natural monopoly scope does not include generation of electric power but covers the services on production of thermal energy and transmission and (or) distribution of electric power (Article 4.1 of the Natural Monopolies Law)

3 Resolution No. 457

4   Aggregate equity capital of legal entities, founders, when a concessionaire is a new legal entity.

5   As per template agreement

6   As per template agreement

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.