Early termination (including any compensation) risk

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Description (What is the Risk)

The risk of a project being terminated before the expiry of time and the monetary consequences of such termination.

Risk Allocation (Who typically bears the risk)

Allocation: Public Private Shared
Rationale

Where termination arises from a party's default, the defaulting party may be obliged to pay damages based on a mark to market assessment of the losses. Generally, however, the parties do not specify the calculation of termination payments and they preserve their rights to claim damages at law. For breach of the power purchase agreement. Generally, there are no termination payments where termination arises from force majeure, including political risk.

Mitigation Measures (What can be done to minimize the risk)

The Private partner may be able to mitigate its losses through insurance. Where the plant is able to generate, the Private Partner may be able to mitigate its losses by selling the energy produced to a spot market or an alternate buyer.

Comparison with Emerging Market

The early termination risk is more evenly shared between the parties, then the emerging market. Termination for default will give rise to a claim for damages for breach of the power purchase agreement.

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Description (What is the Risk)

The risk of a project being terminated before the expiry of time and the monetary consequences of such termination.

Risk Allocation (Who typically bears the risk)

Allocation: Public Private Shared
Rationale

The principal risk is born by the Contracting Authority.

The level of compensation payable on early termination will depend on the reasons for termination and typically for:

(1) Contracting Authority default, force majeure affecting the Contracting Authority and political force majeure - the Contracting Authority is obliged to purchase the plant and the Private Partner would be entitled to compensated for senior debt, junior debt, equity and a level of equity return for a specified period;

(2) Private Partner default - the Contracting Authority would have the option to purchase the plant and if exercised, it would compensate the Private Partner for the senior debt; and

(3) Natural force majeure affecting the Private Partner - often no obligation on the Contracting Authority to purchase the project.

It is common for the senior debt to be guaranteed as a minimum in every termination scenario where the plant is transferred to the Contracting Authority.

Mitigation Measures (What can be done to minimize the risk)

A key mitigant is to make sure the termination triggers are not hair triggers and that there are adequate well-defined routes for each party to remedy any alleged default.

Political risk insurance may be available to cover the risk of the Contracting Authority or Government guarantor defaulting on its payment obligation.

Government Support Arrangements (What other government measures may be needed to be taken)

The lenders will require direct agreements with the Contracting Authority giving the lenders step-in rights in the case of the Contracting Authority calling a default termination or in the event of the Private Partner being in default under the loan documentation. The lenders would typically be given a grace period to gather information, manage the project company and seek a resolution or ultimately novate the project documents to a suitable substitute concessionaire.

Depending on the credit rating of the Contracting Authority, Government support may be required to guarantee the termination payments under the power purchase agreement.

Comparison with Developed Market

The Contracting Authority makes comprehensive liquidated termination payments for its own default, political force majeure and natural force majeure affecting the Contracting Authority.

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