THE GOVERNMENT’s move to revoke the extension of its agreement with the country’s largest water concessionaires Manila Water Co., Inc. and Maynilad Water Services, Inc. shows the “high regulatory risk” faced by the private sector in contracting with the state, a UK-based research firm said on Monday.

“It also highlights deficiencies in the due diligence and contracting processes in the past and present, and we believe other deals signed between the government and the private sector are also at risk of scrutiny,” said Fitch Solutions Macro Research, a unit of UK company Fitch Solutions Group Ltd.

“Overall, we expect investor confidence to take a hit in the short term, but to gradually improve over the long term, as the Philippines continues to improve on frameworks for public-private partnerships (PPPs).”

The report comes after the Metropolitan Waterworks and Sewerage System (MWSS) tried to ease speculations on the fate of the two companies by saying that their contracts remain valid and subsisting.

Share prices of listed companies concerned recovered on Monday, but were still below levels on Dec. 3, when President Rodrigo R. Duterte railed against the concessionaires over what he described as onerous provisions in their deals with the government. Manila Water shares climbed 15.19% to end P8.57 apiece, though still about half their P16.90 finish on Dec. 3, while those of Metro Pacific Investments Corp. (which owns more than half of Maynilad) rose 4.91% to P3.42, still 22.1% below P4.39 on Dec. 3 and DMCI Holdings, Inc. edged up 0.31% to P6.40 each, 1.54% lower than its P6.50 closing price on Dec. 3.

MWSS said what was revoked were previous resolutions that extended their separate concession period beyond 2022, or until 2037. Concessions for the provision of water and waste services for Metro Manila were awarded to Manila Water and Maynilad in 1997.

“However, a lengthy legal dispute between the aforementioned companies and the government, and years of sub-par services which in some cases, led to water crises within Metro Manila, had invoked the attention of the Philippine government,” Fitch Solutions said in its report.

Mr. Duterte had ordered the renegotiation of the deals and threatened the concessionaires’ owners and government officials who had a hand in their agreements with the charge of economic sabotage, which is non-bailable.

MWSS officials told lawmakers in a Dec. 11 hearing that the regulator’s board of trustees had revoked a resolution issued in 2008 and 2009 that approved the extension of the concessions.

“The sudden revocation of the concession agreements derails any long-term plans which these companies have devised, and in the short-term, will create a high degree of financial difficulties, in aspects such as borrowing and attracting new capital, due to revenue uncertainty,” the Fitch Solutions report said.

Citing its proprietary Project Risk Index (PRI), Fitch Solutions said the Philippines has one of the biggest regulatory risks compared to other major markets in the region.

The index measures the risk of carrying out an infrastructure project in terms of financing, construction and operation.

On regulation, it said the Philippines’ PRI score of 48.2 is lower than those of other Southeast Asian markets such as Vietnam (59.4), Indonesia (49.1) and Malaysia (70.2).

“The risks of retroactive changes in government policy and, more pertinently, government intervention in deals which had previously been signed between public and private stakeholders is comparatively higher in the Philippines,” the report said.

It said that risk would undermine investor confidence, “especially that of foreign companies who are less familiar with the Philippine regulatory and business environment, possibly leading to a higher cost of doing business and deterring inflows of foreign direct investment.”

Fitch Solutions also questioned the basis for the government’s revocation of the water concessions’s extension. Officials of the Department of Justice earlier pointed to supposed “onerous” provisions in the contract in calling for a review and renegotiation of concession agreements.

“While this may suggest that such concessions lack robust, well-thought-out provisions and pricing mechanisms, as well as provisions which allow for reviews in the event the mechanics and details of these provisions become outdated, similar — though inadequate — provisions were actually present in the agreement between MWSS and the two companies,” the report said.

It cited Section 9 of the concession deal, which has various provisions allowing the review and adjustment of prices, which Manila Water exercised in 2005 as it attempted to raise water rates, only to be stopped by MWSS.

“Though such provisions exist, it highlights the lack of thorough review of contracts upon expiry, which may have led to authorities agreeing to concession extensions based on ‘onerous’ provision,” it said.

“Similar agreements signed between the government and private companies may come under the spotlight, as the water concession revocation case paves the way for the review [of] other, possibly ‘disadvantageous’ agreements, putting long-term financial viability of companies relying on such contracts at risk,” it added.

Fitch Solutions said the cancellation of water concessions shows that the government “is willing to exercise executive power which overrides contractual agreements, if it deems necessary.”

“We believe investors will be concerned over the possibility of similar instances of government intervention, which would create uncertainty for their business operations. As such, as mentioned earlier, there is a possibility that foreign direct investments may take a hit in the short term,” it said.

“This incident also shows that the government has acknowledged the weaknesses in the current contracting process, especially for PPPs. Authorities will be able to gain experience and move up the learning curve, and improve on processes and frameworks to allow for fairer, more transparent and flexible agreements in the future.” — Victor V. Saulon

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