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Contractual Issues in Hydro Electric Project Development, Shri R V Shahi, Former Secretary, Ministry of Power

If we analyse last 30 years of hydro electric power project development in the country, we will observe drastically declining trend of the proportion of these capacities in relation to the total installed capacity of power. Successive Governments, Committees and Task Forces of the Governments, the industry bodies, professionals and academics have all been stressing the need for according top priorities to the development of hydro electric projects. In spite of these the fossil fuel based power generation capacity has kept on increasing in proportion to the total capacity. The paradox of stated priority for hydro power and the realities of hydro proportion going down needs to be explained and understood. If we go deep into analysing as to how this phenomenon has happened, we would observe that our country has remained faced with ever increasing power shortages and therefore while the stated objective was to accord top priority to hydro, in actual practice what secured precedence was the technology which could fetch new power capacities with shortest possible gestation periods. This justifies the outcome. We cannot really question the implementation and therefore the outcome because this also was a priority that as much of electricity as possible needed to be brought to the grid in as short as possible a time frame. The real reason has been the excessively long gestation periods needed for developing hydro power projects.

Why do hydro electric projects invariably need long gestation periods of construction and commissioning? Though in the recent years there have been improvements, even now it becomes a matter of great news if a hydro electric project of even a medium size gets commissioned in five years. History of project development tells us that large number of these projects in the past took 7 to 8 years, in many cases more than even 10 years, to complete them. There are many reasons - some of them genuine caused on account of natural situations, while there are reasons which could have been within the control of project managements.

One of the important reasons in the latter category, which may also take care of some of the causes attributable to natural situations and circumstances, is in relation to inappropriate handling of the whole issue of structuring a proper contract to supply and construct and also its subsequent implementation. In this Paper we will focus on the contract management related issues - both structuring issues as well as implementation issues. The World Tunnel Congress, which is organised every year by the International Tunnelling and Underground Space Association (ITA), consisted of one week of Seminars, Conferences and Workshops between 19 to 25 September, 2008 at Agra and the theme was "Underground Facilities for Better Environment and Safety." The ITA was founded in 1974 and has 54 countries as Members, with it's headquarter in Switzerland. The aim of the ITA is to promote advances in Planning, Design, Construction, Maintenance and Safety of Tunnels and Underground Space. Under the main Conference there were two Plenary Sessions - (i) On issues concerning risk assessment, challenges in tunnel works and tunnels in urban metros and (ii) Contractual practices worldwide.

I had the privilege of chairing the Session on Contractual Issues in Construction of Underground Tunnels - for hydro projects, highways passing through mountains or under the rivers and for metro systems. As many as seven Experts - two from India and five from other countries (Brazil, Switzerland, France, Germany and Australia) presented various aspects of contracting for construction of tunnels. I propose to summarise and outline the highlights of presentation by each of them and also summarise in the end the takeaways of this Session.

The paper from Brazil brought out, on the basis of an accident that happened in a tunnel work that even if geology was predictable and properly predicted, it would be essential that this advantage was appropriately reinforced through good engineering, good procedure and proper contract management. Experiences show that in many cases it was not because of any surprise in geology that the execution was not proper or it met with serious issues of completion or led to unsafe working conditions, but it was because the contract was not properly structured or implementation of the contract was not properly handled.

The Expert from Switzerland presented the perspectives from the owner's point of view. He articulated that usually the problem of tunnel construction got complex because of our inability in judging, in a balanced way, how the risks should be apportioned. Invariably there would be exceptional circumstances which may not have been foreseen at the time when the design is conceptualised and detailed. During construction new situations arise which would need to be appropriately mitigated. Basically it needs to be appreciated that the ground belongs to the owner and therefore any situation which was not predicted in relation to the ground conditions should belong to the basket of the owner and therefore the associated risk should belong there. Similarly, any exceptional situation which gets created on account of means and methods of execution, which are in the preview of the contractor, should belong to the category of risks to be borne by the contractor. It was also articulated that most of the contracts in Switzerland were based on unit price and, therefore, it had the ability to handle variations on account of ground realities faced during execution. In brief, the presentation highlighted the following - (a) There is no substitute to a Good Design. Unless there is comprehensively formulated design, only contract structuring and its implementation cannot deliver the outcome. Good design therefore is the most important prerequisite, (b) Equally important is the structure of contract document bringing out clearly relative roles and responsibilities, method to handle emerging situations and mechanism of payment, (c) Fair Risk Sharing is an important requirement of a smooth contract execution. Risks have to be shared in an equitable and balanced fashion by both the contractors and the owner. Any desire on the part of the owner, that consequence of unpredicted geological happenings should be borne by the contractor, may lead to straining of relations. Similarly any expectation on the part of the contractor that the consequences of improper methods and means, adopted during construction, could also be borne by the owner, would lead to difficulty, (d) The implementation mechanism must provide for a rapid response system. Quite often the issues remain hanging without proper resolution and project gets into an unduly long and protracted cycle of construction, (e) There could be various options but experiences in Switzerland indicate that unit price mechanism delivers the best results, (f) Dispute Resolution Mechanism should constitute an integral part of the contract. It should have representation from both the parties and should be presided over by an independent Expert.

The presentation from the Expert from France dealt with the issue from the perspective of Design and Engineering sector. The thrust of the presentation was that the owner needs to be competent or it should be assisted by competent team of engineers and designers. In selection of the engineering team the criterion should be the competence and quality. Price he offers should be only the secondary consideration. Quite often the owner/client falls victim of an approach of favouring the lowest price Design Team which ultimately turns out to be a costly option. The experience of tunnel contract in France indicates that the systems of lump sum contract, but based on selected groups of tasks, have come out to be better as compared to unit price contract. In-built mechanism of incentive and disincentive together with flexibility to address the emerging ground conditions are important requirements to be built into the contract document. Another important requirement is the issue about stopping of the work. In a bilateral contract whether the owner should have the ultimate right to stop the work, or it should have another remedy, is a matter which needs proper consideration.

The presentation from the Expert from Germany highlighted the perspectives and concerns from the contractor's point of view. It emphasised that unless there was a spirit of cooperation between the owner and contractor, rather than confrontation, the smooth execution of the contract might be difficult to expect. The salient points brought out are outlined as follows - (a) Quite often the owners expect the contractors to respond to their tender enquiries within a time period which is unreasonably short. In such situations the bidders do respond but the quality of contract gets vitiated right from the beginning. It is necessary that bidders are allowed sufficient time to study and assess the site conditions, available logistics including transportation infrastructure, availability of required materials in the neighbourhood, availability of sub contractors with required capability etc., (b) There should be clear definition of the scope of work. Ambiguity in this regard leads to problems during execution and, therefore, delays the execution when these problems are not resolved in time, (c) Detailed description on types of situations that may not have been predicted, in a quantified manner, but may emerge, and the method to deal with them contractually and commercially needs to be incorporated in the contract, (d) There should be a method for participation of both parties on emerging situations, difficulties and coordination etc., (e) Rules for resolution of disputes should be comprehensively covered in the contract document, (f) It has been seen that quite often project is completed but contractors face difficulties in having the acceptance and takeover of the project. This not only entails their continued presence at the site with consequential cost to them but it also deprives them from the payments which are due on acceptance and takeovers.

The presentation also described a case which brought out that if different types of possible geological uncertainties were captured in the contract, with commercial formulation, and if the estimates were made keeping in view the likely occurrences of these situations, the incidences of excessive cost overruns would not be seen as we face in most cases. In the example presented it was highlighted that when the contract structure captured the likely eventualities, the actual cost of implementation came out to be 88% of the estimate.

The presentation from Australia re-emphasised the need for balanced allocation of risks between the contractor and the client and brought out that while structuring the contract there should be issues which were of universal nature but at the same time local conditions must be captured properly. Any text book type of contract structure, no doubt, will take care of all such issues and situations which are common in most cases but may not be able to cover specifics which could be very important and relevant considering the ground conditions. These ground conditions may relate to location of the project, the ease or difficulty of access, condition of road networks, availability of power supply, communication systems, availability of skilled manpower in the area, availability of construction materials in the area etc. Unless these are properly assessed and evaluated and appropriately captured in the contract structure, they may lead to new situations during execution and inevitably may lead to delays in resolution of these problems.

The Chairman and Managing Director of the Satluj Jal Vidyut Nigam made a detailed presentation on experience of dealing with the contract management of India's largest hydro electric project viz. Nathpa Jhakri Hydro Electric Project (1500 MW Capacity). The project consists of 6 Units of 250 MW each, has Francis Turbines designed for gross head of 486 meters and rated head of 428 meters. The annual generation for the 90% dependable year is about 7,000 million units. This project was constructed with four contract packages (it was not a turn key EPC contract for the whole project). The contract packages consisted of - (i) Dam, Intake and Desilting Chambers, (ii) 17 k.m. of Head Race Tunnel, (iii) 11 k.m. of Head Race Tunnel and Surge Shaft, (iv) Power House Cavern, Valve House, Transformer Cavern, Main Access Tunnel and Tail Race Tunnel. These were under the civil works : mechanical and electrical contracts were separate. This project underwent several uncertain situations of floods and geological problems. The presentations brought out that usually contractors quite often bring out highly inflated claims. In this project 142 claims made by contracting agencies amounted to Rs. 5710 million. Out of these 129 were decided as per the established procedure of Dispute Review Boards (DRB). It may be important to highlight that among the claims decided (129 Nos.) which amounted to Rs. 3360 million, the decision was to pay Rs. 920 million. This means that only one third of the claims made were acceptable. Therefore, there is a need that the contractors also take a reasonable position while dealing with their expectation on sharing of risks. The salient points of this paper include - (a) Contractor and owner should have mutual respect for each other and work as equal partners, (b) Good faith and trust in each other will go a long way in making the contract a smooth process of execution, (c) Owners need to have an approach to evaluate the demands of contractors objectively, (d) No agreements should be made which are harsh and difficult to follow, (e) Resolution of dispute should be completed in as expeditious a manner as possible.

A presentation was made by the Chief Advisor of Jai Prakash Associates and it highlighted the need for a more positive and practical approach and mindset on the part of project owners towards genuine concerns of contracting agencies. After these seven presentations there were lively discussions on a number of issues. The questions and comments broadly covered the issues presented. I would like to summarise the main message, learning and takeaways of this Plenary Session which was attended by more than 500 participants including more than 300 delegates from outside India. It may be seen that the Session had the advantage of examining the approaches and practices in a large number of countries and had the benefit of a number of case studies not only relating to hydro project tunnel works but also to tunnels for metro systems. I now propose to outline the conclusions and recommendations of this Session before I also highlight the concluding remarks as a follow-up for expeditious execution of hydro electric projects.

  • Power project developers need to change their mindset and treat the contracting agencies as their partners in the process of project execution. Apart from the universality of this approach which, no doubt, is important by itself, in the changing scenario of a fast development process in India, we also need to recognise that we are now in the contractors market rather than owners market. It is hard to get good, credible and reliable contractors. Therefore, unless the owners change their age old approach of trying to have an upper hand and accommodate genuine concerns of contractors, in the manner these are deserved, project execution may not be smooth.

  • In Indian context, good investigations with predicted geological eventualities have been rather rare. During execution it is pointed out that those entrusted with this responsibility did not get adequate time to carryout comprehensive studies and investigations. As a matter of fact, more comprehensive the investigation, higher will be the level of confidence. Any shortcuts must be avoided, as there could be no substitute to detailed and proper investigations.

  • Good engineering, capturing all the details of investigations, is a sine-qua-non for structuring a good contract which could be the basis for smooth project construction. There are examples where geologists have highlighted that even the findings of geological studies were not duly captured during engineering and subsequently while formulating the contract.

  • Experienced contractors, who have handled different types of emerging situations, and, therefore, deploy proven methods and procedures to handle them, are as important as good engineering and good contract document. Risks associated with mishandling of methods and procedures during execution obviously come out of lack of experience on the part of the executing agency.

  • Fair Risk Sharing Approach is the single most important factor which must be respected. The obvious principle is that the risks should be allocated to the party which is best positioned to assess and manage that risk. Any disconnect from this approach is fraught with avoidable execution problems and therefore avoidable delays and costs.

  • The principle of Fair Risk Sharing has to inevitably get into details of laying down different types of possible unforeseen situations, prescribe, in detail, procedures for handling them, and prescribe their financial implications so that during execution if they were to happen remedies are already available in the contract document with obligations and entitlements of the parties. If we are able to capture more than 90% of the possible or likely eventualities, and provide, in contract document, automatic dispensation rather than trying to deal with them on a case to case basis as and when they arise, we would have made a big difference in making the execution a smooth affair.

  • Indian hydro electric sector, which has so far remained to the extent of more than 95% in the basket of either Central public sector or State public sector organisations, has demonstrated, in most cases, a very slow response system to the changing needs of geological difficulties during execution of tunnel works. A rapid response system, which should be sensitive to these problems almost instantaneously with the occurrence of the problem, with an in-built mechanism to evolve and implement the remedies, would be a must.

  • Opinions differ on whether package contract around three or four contracts or one composite Turn Key Contract is more likely to deliver good results. It is difficult to conclusively establish preference of one over the other in all situations. However, seeing the large scale delays in almost all cases, it appears that Turn Key Contracts with incentive/disincentive may lead to better results.

  • Dispute resolution mechanism has, no doubt, been provided in almost all cases of contracts in hydro electric projects, particularly being developed by public sector. However, where things seem to be going wrong are in relation to lack of respect to the decisions of the dispute resolution mechanism. They get into protracted process of examination and re-examination, quite often go to arbitration and even beyond arbitration to legal proceedings. In such a situation confidence over the dispute resolution mechanism provided in the contract gets into question.

  • In Indian context, particularly when we are dealing with Himalayan geology, geological surprises would continue to be a part of this process. No doubt, good investigations will lead to reducing the extent of uncertainties; yet, these uncertainties are bound to be experienced during execution. Apart from covering these through proper contract structure, as mentioned above, we also need to encourage innovative insurance instruments, approach insurance agencies to come out with relevant insurance products. These will take care of commercial ramifications. However, it must be underscored that even for insurance agencies it would be relevant to understand the extent of uncertainties. This process will definitely yield the right types of pressures from insurance agencies for better quality of investigations as may be needed. Thus, over a period of a few years, quality of project management will improve.

The model contract document being prepared by the Central Electricity Authority, it is expected, will be a comprehensive guideline on the subject. This document should capture, if it has already not done, these issues in the manner they have been brought out. It will be important for the Central and State Government public sector organisations to adopt these guidelines. It will be equally important that these guidelines have the necessary support of Audit and Vigilance Authorities. These are obviously going to take sometime before they get into the procedures of the Government power companies. Private sector organisations, however, could benefit immensely as they can implement them without having to go through the process as Government companies have to undergo.