Boundary lines: Where are they drawn between public service contracts and concessions after the Concession Contracts Regulations?

27 April 2016

Service concessions became subject to the EU procurement regime for the first time in domestic law on 18 April 2016. How will contracts for the management of car parks, leisure centres or sports stadia, or for waste disposal where the contractor receives payments from users of the service, be affected? Where is the line to be drawn between a service contract and a concession contract? What difference does this make in practice? And does it matter?

Background

The Concession Contracts Regulations 2016 came into force on 18 April 2016, implementing directive 2014/23/EU. Transitional provisions apply where the award procedure has already begun before that date - this may be through the publication of a contract notice under the Public Contracts Regulations 2006 or any other advert seeking offers or expressions of interest or contact with an economic operator for the same reason, or in response to an unsolicited expression of interest or offer.

Service concessions were outside the 2006 regulations and defined there as "a public services contract under which the consideration given by the contracting authority consists of or includes the right to exploit the service or services to be provided under the contract." It was recognised in the case of JBW Group Ltd v Ministry of Justice [2012] EWCA that this definition had to be read in accordance with the definition in Directive 2004/18/EC being a public services contract where "the consideration for the provision of services consists either solely in the right to exploit the service or in this right together with payment."

The new regulations implementing Directive 2014/23/EU replace and further expand the definition. A service concession is now clarified as a contract:

  • For pecuniary interest, concluded in writing by means of which one or more contracting authorities or utilities entrust the provision and the management of services to one or more economic operators. The consideration for this consists either solely in the right to exploit the services that are the subject of the contract or in that right together with payment.
  • Which, in the award of the contract, involves the transfer to the concessionaire of an operating risk in exploiting the services encompassing demand, or supply risk, or both.
  • Where the part of the risk transferred to the concessionaire involves real exposure to the vagaries of the market, such that any potential estimated loss incurred by the concessionaire shall not be merely nominal or negligible.

The Court of Appeal in the JBW Group case, having reviewed the case law of the European Court, saw a typical service contract as one where the contractor performs a service for the authority, is paid an agreed fee for that service and takes the risk of having priced the contract correctly. In contrast, a service concessionaire is put in possession of a business opportunity which it can exploit by providing services to third parties and charging them directly for those services. The concessionaire then bears the risks of running the business, which are typically greater than those involved in performing a service contract for a fixed fee. According to the Court of Appeal, there are usually four interrelated elements in a concession arrangement:

  1. the opportunity to develop and expand the service so as to maximise profits. The concessionaire is able, by its own endeavours, to increase the take up of the service and to fix the price to be charged to third parties, although some control over price is not inconsistent with a concession;
  2. a direct contractual relationship with third party clients or customers of the service who are charged directly by the concessionaire;
  3. the concessionaire has considerable control over the manner in which the service is provided and the authority takes a back seat; and
  4. although the contracting authority has an interest in the service being performed for the benefit of third parties, it does not itself directly benefit from its performance.

The JBW Group case concerned the provision of bailiff services where the Ministry of Justice (MoJ) had detailed control and supervision of the means of performance and there was no opportunity for the contractor to "grow" the business or alter the charges. The MoJ was the prime beneficiary of the service. The contractor had no contractual relationship with the defaulters but the defaulters' payments of fines and costs determined the sums received by the contractor. However, this factor was sufficient in the view of the Court to establish a concession. The MoJ were able to transfer the risk of the cost of the service entirely to the contractor who received no payment from the MoJ.

Classification following the 2016 regulations

This form of risk transfer may lead to a different outcome under the new regulations since there is no transfer of "an operating risk in exploiting the services encompassing demand or supply risk", or an "exposure to the vagaries of the market" (see points 2 and 3 above). The bailiff services contract entered into by the MoJ transferred collection risk to the contractor, which in turn derived, in part, from the performance levels achieved by the contractor from a fixed "customer" base. This is not enough to constitute a concession in the new world.

Factors which are therefore likely to figure significantly in the service contract v concession contract analysis include the following:

  • the transfer of operational and management responsibility to the contractor - so that limiting contractor discretion in the method of delivering service outputs may put the classification of the contract as a concession at risk. It suggests that such responsibility is not truly transferred;
  • payments from the contracting authority do not mean that the contract cannot be a concession, even if those payments amount to a guarantee of some of the potential income from users (e.g. at a leisure or waste disposal facility);
  • a concessionaire must take the risk of making a loss which is more than nominal or negligible, even where it performs the service satisfactorily and delivers any contractual outputs; and
  • contracts may change their risk and reward profiles over time, so that in the early years when an operation is being established the contractor benefits from income guarantees isolating it from loss. Such contracts may be able to retain their concession character depending on their analysis over the whole of the contract term, probably on a discounted cash flow basis. We do not read the definition in the regulations as needing to be satisfied for each year of the contract term.

Concessions and maximum length

The service v concession distinction has added importance because the 2016 regulations require the duration of the concession to be limited (unlike a service contract where there is no limit on the length of the term).

Where the concession is to be longer than five years, the term must not exceed the time that a concessionaire could reasonably be expected to take to recoup the investments made in operating the services together with a return on invested capital; taking into account the investments required to achieve the specific contractual objectives. Investment includes initial investment and investment during the life of the concession. Such investment might be in the facilities and equipment of either the concessionaire or the contracting authority required to operate the services.

An estimate needs to be made by the authority and this may not be able to be firmed up until after dialogue with bidders. It should be evidence based, but it is not obvious that such investment must be contractually committed, as long as the contractor retains the financial risk flowing from not making it.

Concession contracts morphing into service contracts during the procurement?

If the proposed contract is a concession, authorities do not have to choose between the procurement procedures set out in the Public Contracts Regulations 2015 - namely the open, restricted, competitive dialogue or competitive procedure with negotiation procedures (save for the limited cases where sole contractor negotiation is permitted).

Authorities may organise the procedure leading to the choice of concessionaire as they wish, subject to the specifics of the regulations. They will publish a contract notice containing the information prescribed by Directive 2004/18/EC which will include the conditions for participation in the competition, time limits for submission of applications or tenders, and the award criteria unless specified in other concession documents. The 2016 regulations refer to the award of the concession following the assessment of tenders received.

What happens then if the dialogue between the authority and candidates begins on the basis of a concession, but none or only one of the candidates is prepared to accept the risk transfer required to satisfy the concession test? Authorities may be reluctant to abandon a costly procurement and start again, and may not have the time to do so. Authorities should bear this possibility in mind in framing their procurement strategy and particularly their evaluation criteria. They should consider publishing contract notices both as a concession contract and a service contract - but emphasising the ambition to award a concession - and adopt a form of procurement which satisfies the 2015 regulations.


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