19 August 2004
Both water activists and privatization advocates in the country and perhaps in the world are now focused on the beleaguered MWSS-Maynilad privatization. Keenly interested on whether government can pull off the water concessionaire bail out cum-reorganization scheme or whether government will assert a genuine takeover of the debt-ridden and mismanaged water company. This is a test case of whether the Philippine government will choose to loosen or tighten its grip on its water privatization policy.
The Freedom from Debt Coalition is almost sure that the government will continue to promote public-private partnerships in water, but it will certainly agonize over its decision not to explore non-privatization and government-led strategies to achieve universal access to water for its citizenry. Given Maynilad and even Manila Water’s performance in the delivery of far from efficient, progressively expensive water service, and its backlog in their rehabilitation and expansion targets the public-private water partnerships are bound to fail sooner or later in terms of providing water for all Filipino water consumers in their respective service areas.
After a almost a year of slow arbitration proceedings for an early termination of the Concession Agreement between the Metropolitan Waterworks and Sewerage System (MWSS) and the Maynilad Water Services Inc. (Maynilad), the latter’s moves to escape payment of due and outstanding concession fees and to prevent MWSS’s drawing on the $120 M performance have been rather swift and clever.
In less than four months since November 7, 2003 when the International Appeals Panel ruled on the MWSS-Maynilad dispute, Maynilad immediately filed for corporate rehabilitation and consequently placed itself under receivership resulting in the temporary prevention of drawing on the performance bond; two courts have been invoked (Regional Trial Court and the Supreme Court); several reorganization/rehabilitation plans have been crafted; a debt-to-equity scheme has been quietly hatched and neatly packaged into a second amendment of the Concession Agreement.
Only loud calls for transparency from Maynilad creditors, legislators, electoral candidates, and water privatization watchdogs could compel the local judge handling the case to open what would have otherwise remained the secret Amendment 2.
Now that Amendment 2 is being skinned to the core, it is unmistakably proving to be a grand plan to salvage a grossly mismanaged bankrupt company - the only way Government itself admits, as the only way not to reverse privatization.
A Brief Background
Since the last quarter of 2003, the viability of MWSS-Maynilad privatization arrangement has been severely challenged because of the corporate water concessionaire’s failure to meet performance and revenue targets. Both desirous to escape the consequences for what all indications pointed to as a failed privatization of the government’s public water utility, Maynilad and the MWSS fiercely challenged each other in international and local judicial bodies to prove the other party’s culpability in the premature termination of the concession agreement.
Giving credence to Maynilad’s wish to keep the proceedings under wraps, the International Appeals Panel (IAP) chose the route to an opaque dispute resolution process. With all doors closed to the hearings, intervention from the public and the water privatization watchdogs became very difficult. The only opening to monitor the complex dispute proceedings were through tiny bits of information squeezed from concerned insiders.
Then in November, newspaper headlines screamed about the IAP’s Decision and Award that there was “neither a Concessionaire’s nor a(n) MWSS Event of Termination under the Concession Agreement, as amended.”
The Panel further declared “that Concession Fees which should have been paid by the respondent to the Claimant according to the Concession Agreement are due and that they are payable 15 days after the receipt by the parties of this Award.”
It also denied “all other Claims for Relief by either party.”
Amendment 2: In Essence
• Amendment 2 provides the legal basis to implement what is basically a debt-to-equity scheme contained in Maynilad’s Urgent Manifestation and Omnibus Motion to revise its rehabilitation plan modifying or lifting the stay order and terminating the proceedings.
• It spells out the terms of the quasi-reorganization and restructuring of Maynilad Water Services, Inc. as follows:
a) Quasi-Reorganization means that the concessionaire will enter into separate debt conversion an subscription agreements for the conversion of PhP8.333 B of Maynilad’s liabilities into shares of stock with the Development Bank of the Philippines (DBP) as trustee for MWSS, DBP, Equitable PCI Bank, East West Bank and Rizal Commercial Banking Corp. (collectively, the Local Banks), Metropolitan Bank and Trust company (MBTC), for itself and as Trustee of Benpres Holdings Corporation (BHC), and Suez Environnement and/or Suez S.A., according to the following scheme:
Shareholder Issued Value at Par (in Billions) Issued Capital (Value) (in Billions) % of Ownership
(a) Common Shares
BP, as Trustee of MWSS PhP1.6235 B PhP3.247 B 39%
Suez Environnement/ Suez S.A. PhP0.7915 B PhP1.583 B 19%
MBTC, for itself and BHC PhP0.0835 B PhP0.167 B 2%
Maynilad Employees (ESOP) PhP0.168 B PhP0.337 B 4%
Sub-Total PhP2.6665 B PhP5.333 B
(b) Convertible/Redeemable Preferred Shares
DBP, as Trustee of MWSS PhP1 B PhP2 B 24%
Local Banks PhP0.5 B PhP1 B 12%
Sub-Total PhP1.5 B PhP3 B
Total PhP4.1665 B PhP8.333 B 100%
According to Amendment 2, MWSS’ participation in the Quasi-Reorganization is expressly for purposes of its financial recovery of outstanding Concession Fees through a financial trust with DBP that can call for the eventual sale and liquidation of the shares through an initial public offering (IPO) or other means to re-privatize the ownership of the shares. The terms of the financial trust shall provide, among others, that MWSS shall at all times preserve its mandate as the regulatory body and shall not participate in decisions relating to the running of the business of the Concessionaire and MWSS shall not directly manage or make management decisions which shall be the function of the named representative in the Board of Directors of the Concessionaire as designated by the DBP in consultation with the Department of Finance (DOF).
b) Performance Bond. When Amendment 2 takes effect, MWSS shall immediately draw US$50 M on Maynilad’s existing US$120 M performance bond (in Stand By Letter of Credit or SBLC) as partial payment for outstanding Concession Fees, automatically reducing the SBLC to US$70 M. This shall be used to cover all past due concession fees and henceforth concession fees shall be paid on a current basis. After the drawing, Maynilad shall immediately negotiate for a loan facility agreement with the banks to pay up the US$50 M. It is also provided that MWSS will make no further drawings on the bond. In turn, the bond shall not be renewed upon the execution of a loan facility agreement with the SBLC Banks or upon expiration of the bond on July 31, 2004; and shall be automatically cancelled. This shall be implemented without prejudice on the Supreme Court’s ruling on the stay order on the drawing on the performance bond.
c) Tariff Implementation. Amendment 2 further provides that Maynilad can now collect the Rate Rebasing Adjustment of PhP26.34 per cubic meter decided by the MWSS Regulatory Office in December 2002, adjusted according to the Consumer Price Index. Whatever overcharges Maynilad collected through the Accelerated Extraordinary Price Adjustment (AEPA) and the Foreign Currency Differential Adjustment (FCDA) from January 1, 2003 to May 30, 2004 shall be set off against the potential collections through the Special Transitory Mechanism granted to Maynilad starting February 2003. Should the collections prove insufficient to cover Maynilad’s still unrecovered foreign exchange losses, Maynilad can still apply for further adjustment to the tariff rate.
d) Loan Restructuring. Amendment 2 allows restructuring of Maynilad’s various loans by negotiating separate loan facility agreements with the SBLC Banks, with the Bridge Banks, with Suez Environnement or Suez S.A. As regards Local Banks, in consideration of their conversion to convertible/preferred shares, Maynilad, with the consent of MWSS, shall pay the remaining balance due to the local banks within a period of six (6) months at an interest rate of Treasury Bills plus 1%.
• Compromise deal versus Concessionaire Event of Termination
FDC strongly questions MWSS’s concurrence to the debt-to-equity cum rehabilitation scheme because by Maynilad’s act of filing for corporate rehabilitation and consequently putting itself under receivership already provides grounds for MWSS to declare a Concessionaire Event of Termination. Under section 10.2 of the concession agreement, one of the grounds for Concessionaire Event of Termination is as follows:
(i) The Concessionaire shall make an assignment for the benefit of creditors, petition or apply to any tribunal for a receiver or a trustee for itself or of any judicial or other proceedings by reason of its financial difficulties under any reorganization, arrangement, readjustment of debt, dissolution, or liquidation law or statute of any jurisdiction, whether now or hereafter in effect; or there shall be commenced against such party any such proceeding which shall remain undismissed for a period of 60 days, or such party shall by any act indicate its consent to, approval of, or acquiescence in, any such proceeding or the appointment of any receiver of, or trustee for, it or any substantial part of its property, or shall suffer any such receivership or trusteeship to continue undischarged for a period of 60 days; or there shall be any reorganization, arrangement, readjustment of debt, dissolution, or liquidation with respect to such party which does not involve a judicial proceeding.
The compromise deal outlined in Amendment 2 is clearly anti-consumer. Aside from allowing Maynilad to implement the Rate Rebasing adjustment of PhP26.34 per cubic meter as decided by the MWSS Regulatory Office in December 2002 which represents an increase in water rates of PhP6.42 per cubic meter, it also permits further water tariff adjustments in case the potential collections from the STM from which the overcharges of FCDA and AEPA will not be enough.
Amendment 2 is completely silent about how to share in the responsibility of paying up the US$140 m in new MWSS loans which were used to pay up maturing obligations when Maynilad started defaulting on its payment of concession fees.
FDC cannot avoid thinking that there may have been some political intervention in the process of coming up with the compromise deal; yet concrete evidences have yet to be found.
• Lack of transparency in the MWSS-Maynilad negotiation for Amendment 2
FDC is of the position that MWSS and Maynilad secretly negotiated and crafted the debt-to-equity swap. Newspaper reports as early as November 2003 hinted at this secret deal but since no official pronouncements were made by either MWSS or Maynilad, interested parties such as the FDC were in no position to make effective intervention. Finally in late February 2004, FDC through an open letter to MWSS officials demanded for transparency in all ongoing negotiations. Starting November 7 when the International Appeals Panel came out with its Award that there was neither an MWSS nor a Maynilad Event of Termination, it was actually difficult to monitor the succeeding moves:
- 13 November – Maynilad filed a Petition for Rehabilitation before Branch 90, Regional Trial Court of Quezon City docketed as Special Proceeding Q-03-071.
- 17 November – The Regional Trial Court of Quezon City issued a Stay Order and in accordance with Section 6, Interim Rules of Procedure on Corporate Rehabilitation, appointed Atty. Rosario Bernaldo as Court Appointed Receiver.
- 24 November – MWSS issued a written certification/notice of draw to Citicorp International Limited with respect to the US120 M performance bond in the form of Stand By Letter of Credit.
- 27 November – The Regional Trial Court of Quezon City issued an order declaring that the act of MWSS to draw on the bond is covered by the Stay Order; thus, MWSS was ordered to withdraw its call on the performance bond under pain of contempt. MWSS has not withdrawn its call up to the present.
- 28 November – MWSS filed a Petition for Certiorari with prayer for issuance of a Temporary Restraining Order before the Supreme Court seeking legal guidance on whether or not the performance bond in the form of a Stand By Letter of Credit is rightfully covered by the Stay Order issued by the Regional Trial Court.
- 3 December – The Supreme Court issued a status quo sustaining the IAP’s decision for MWSS to draw on the performance bond.
- 4 December – Maynilad filed a Petition to Cite for Indirect Contempt the members of the Board of Trustees of MWSS for having notified in writing the SBLC banks despite the Stay order issued by the Regional Trial Court Branch 90.
- 4 December – MWSS and Maynilad filed a joint manifestation to suspend all court proceedings from December 4 to February 17, 2004 to allow time to explore out-of-court resolutions.
- 10 December – Oral arguments conducted before the Supreme Court. MWSS and Maynilad’s petition for suspension was deemed submitted as of January 9, 2004.
- 12 January – Appeals Panel for Major Dispute issued the Final Award between Maynilad and MWSS terminating the arbitration proceedings.
It was only in the last week of March that FDC obtained unofficial copies of the Amendment 2. By that time, newspapers openly reported about Amendment 2. It was in March 24 that the presiding judge ordered the official distribution of Amendment 2 to interested parties. MWSS by then also conducted a public consultation on Amendment 2. In private talks with Department of Justice Undersecretary Manuel Teehankee Jr., he gave FDC until April 24 to come up with counter-proposals and/or comments on Amendment 2.
• Maynilad’s poor performance should nullify all grounds for a government bail out.
FDC disagrees with the impending second major bail out of Maynilad given its failure to meet performance and financial targets. When Maynilad won the right to operate the West Zone concession, it promised uninterrupted water supply to connected consumers at no less than 16 psi by year 2000, virtually universal water supply by 2006, increased water pressure to a level of 11 to 14 meters, and US$7.5B in new investments. These were not met. Water rates have increased by 400% from PhP4.96/cubic meter (the original bid price) to the current price of PhP19.92/cubic meter. If the new rate from the rate-rebasing process in 2002 is implemented, the price hike would then be equivalent to 600%. Maynilad’s capital expenditure of PhP4.385 B as of 2003 falls short of the target capital expenditure of PhP10.537 B as of 2001 (the latest data that FDC could obtain) according to its financial model.
• The transfer of majority shares to MWSS through the debt-equity-swap does not represent a genuine takeover of MWSS over Maynilad
Even as Amendment 2 provides for the conversion into equity of concession fee receivables up to PhP5.247 B broken into: PhP3.27 B common shares and PhP2 B preferred shares which translates into 63% percent ownership of Maynilad and 4 seats on the Maynilad Board of Directors, these do not mean government will now manage and operate the water utility. On the contrary, Amendment 2 explicitly states that “ MWSS shall not participate in decisions relating to the running of the business of the Concessionaire and shall not directly manage or make management decisions which shall be the function of the named representative in the Board of Directors of the Concessionaire as designated by the DBP in consultation with the Department of Finance (DOF).”
As such, the scheme is far from reverting management and control of the water utility to public hands.
• The debt-to-equity conversion is a scheme for Maynilad’s tax evasion
The Freedom from Debt Coalition’s scrutiny of the MWSS-Maynilad controversial Amendment 2 of the Concession Agreement reveals, among other findings, that the debt-to-equity scheme will save Maynilad from paying at least PhP600 M in capital gains and documentary stamp taxes.
Maynilad has gone at great length to explain to the public that Amendment 2 represents the “best arrangement” to settle the dispute with MWSS “ without violating the law and compromising national interests,” and that the “agreement completely wiped out the US$80 M investment of the Lopezes that it placed in Maynilad through the Benpres Holdings Corporation.
On the other hand, Amendment 2, particularly Annex A entitled Secretary’s Certificate spells out that Maynilad’s authorized capital of PhP6 B and its stockholders’equity will be reduced to zero and then in the same breath its authorized capital will be increased to PhP10 B.
There are irregularities arising from these resolutions: one, experts say that reducing equity to zero effectively dissolves the corporation. The Corporation Code provides that every director must own at least one share of the capital stock of the corporation of which he is a director, which share shall stand in his name on the books of the corporation.
Two, since authorized capital stock in lawful money no longer exists, no structure is therefore present to represent the corporation. The question then is what governing structure is present to decide to increase the authorized capital stock.
Annex B-1 entitled Debt Conversion and Subscription Agreement prescribes that a portion of Maynilad’s outstanding liabilities to MWSS in concession fees, amounting to PhP5.247 B, shall be converted into equity for MWSS. It also provides for the conversion of Maynilad’s debts to Suez amounting to PhP1.583 B into shares of stocks for Suez; and further Maynilad’s debts of PhP167 M to Benpres into shares of stocks for Benpres; and allows equity participation for Maynilad Employees of up to 4% or PhP336 M.
This section of Amendment 2 effects the transfer of equity shares from Maynilad to MWSS, Suez, Benpres, and the Maynilad Employees, without having to bear the required capital gains or donor and documentary stamp taxes that go with a normal turn-over of stocks either through sale or donation.
At the minimum, capital gains tax of 10% of the paid up capital of PhP5.251 billion easily translates to PhP525 million plus documentary stamp tax of PhP39M. This the minimum tax that Maynilad is spared from. As this contravenes the Corporation Code of the Philippines, this is tantamount to tax evasion with complicity of the MWSS Board, as the latter has already approved the proposed Amendment 2.
Amendment 2 not only frees a mismanaged company from its financial obligations such as unpaid concession fees and outstanding loans to creditor-banks, it also provides a clever way for the ailing firm from shelling out precious cash to pay for taxes as required by law. This should be one reason or MWSS to reconsider its concurrence to Amendment 2. This is another aspect of the bailout of a government-favored private corporate entity. It also sets a dangerous precedent in corporate dissolutions.
Amendment 2 is disadvantageous to public interest! It also deprives the government of significant revenues that could help cut its severe fiscal deficit!
• Amendment 2 does not give a comprehensive picture of Maynilad’s financial situation
Documents related to the debt-to-equity conversion that have been made public such as the Maynilad’s 2004 Rehabilitation Plan, the Joint Maynilad-MWSS Reorganization Plan and Amendment 2, at best, provides a scanty picture of Maynilad’s financial condition. The only financial data available are Maynilad’s paid capital of PhP5.251 B, accumulated losses of PhP6.008 B, total outstanding liabilities of PhP19.1 B as of December 31, 2003, total loans from MWSS and majority creditors of PhP14 B.
From Maynilad’s financial documents submitted to the Securities and Exchange Commission in 1998, 2000 and 2002, FDC found out that Maynilad has only been submitting its cash flow statement and balance sheet but not its income statement. FDC’s financial analysts’ closer scrutiny of the documents revealed that Maynilad’s operating costs and expenses and water revenues are capitalized as costs of development. This was done on the premise that the company considers itself still in the rehabilitation phase, a period that should have lasted for only three years after commencement of the MWSS privatization in August 1997. It’s financial model shows that it should be earning on its third year of operations. According to FDC’s financial analysts, Maynilad could claim neither earning nor losing from the business by its practice of capitalizing development costs. This practice, analysts observed, is parallel to what Enron did in 2002.
A convenient way for Maynilad to conceal its earnings was to integrate them into two major items namely pre-operating expenses and development costs. These items still appear in their 2002 financial statement. One assumes that they have not gone beyond the pre-operating stage.
FDC’s financial analysts further noted that based on these documents alone, no conclusions can be made whether the concessionaire is earning or losing.
• Amendment 2 frees the Benpres Holdings Corporation of its financial obligations to MWSS, its bank creditors, the SBLC banks and Suez.
The debt-to-equity scheme cleverly spares the Benpres Holdings from shelling out precious cash to pay up its financial obligations. It portrays itself as a martyr and benevolent donor by writing off its PhP5.251 B paid-in capital and receivables of PhP757 M. In truth, it must be gleefully smiling to part with what may be considered loose change in exchange for relief from its humongous debts! Amendment 2 also saves Benpres from declaring bankruptcy which would mar its credit-worthiness to local and international banks.
• Amendment 2 further frees the Benpres Holding Corporation from its responsibility as guarantor of its 60% share of the US$120 M performance bond.
Drawing partially from the performance bond appears to be an improvement over the rehabilitation court-issued stay order and appears to punish Maynilad’s owners—Benpres and Ondeo. On the other hand, what remains unsaid is that the US$50 M to be drawn is not free money being handed over to MWSS. The 2004 Rehabilitation Plan includes a provision for loan facility agreement that the US$50 M is a term loan that will be repaid by the new owners of Maynilad (and therefore the government as majority stockholder). Further, unknown to many the US$50 M will be charged not to Benpres but to Ondeo only. The remaining US$70 M of the performance will be left to expire. Benpres goes scot-free from the guarantee bond for this amount.
In their desire to swiftly come up with Amendment 2, MWSS and Maynilad even misrepresented the thirteen local and foreign banks that make up the SBLC consortium that they have already agreed to the compromise deal. In a Business World news article dated April 14, 2004, the SBLC banks clearly stated that they “are not a party to, nor were they involved in the drafting or execution of, nor have they consented to or concurred with, Amendment 2.”
The SBLC bank also refused to release Maynilad’s parent company, Benpres Holdings, from its guaranty of the bond. Banks stressed that if the US$50 M will be drawn without an agreement on the payment terms “they will be constrained to call on the respective guarantees of Benpres and Ondeo, as provided under the SBLC facility agreement.”
The banks claim that Benpres is itself cash-strapped and is scrambling to restructure over US$500 million in debts.
• Data inconsistencies
Various parties have so far raised questions on material discrepancies of figures being released by Maynilad.
o Maynilad’s claim of inheriting US$800 M from MWSS loans was belied by MWSS Administrator Hondrade who revealed in a Senate hearing that actual MWSS loans that were “passed on” to Maynilad at the time of the hand-over of the water concession amounted to only US$254 M. MWSS Deputy Administrator Macra Cruz claimed to have repeatedly called Maynilad’s attention to the erroneous figure but the company refused to make the necessary correction. Maynilad’s paid newspaper advertisement in early April continued to carry the US$800 M figure.
• Failure of due diligence on the part of Maynilad
Maynilad’s ranting that the length of water pipes in the west zone turned out to be 3,700 kilometers instead of the MWSS estimate of 2,500 kilometers cannot be given much weight now – seven years after the handing over of the water utility to Maynilad. Such discrepancy could have been avoided had Maynilad done its homework prior to privatization. It could have only been of haste to bag the west zone water privatization deal that led this failure of due diligence.
• Role of the IFC in the water privatization fiasco
Knowing that the World Bank through the International Finance Corporation was instrumental in engineering the MWSS privatization, we similarly hold it politically and morally responsible for this failed model of water privatization in Metro Manila. It is not that FDC had wanted to see the water privatization succeed but it is more towards establishing the accountability of these international financial institutions in their financial and technical transactions with client governments and countries, especially the vulnerable ones in the south. At the very least, multilateral financial institutions, which sell themselves as development agencies, should be able to give sound advice, to ensure the least damage to their client governments and their citizens, as they proceed with their water privatization social experiments. What is happening now to MWSS-Maynilad privatization is that aside from not being able to deliver the promised benefits of improved, more efficient, more accessible water and sanitation services, and bringing in the needed financing, the MWSS is left with heavier debt burdens than before.
FDC has no illusions that big business water corporations can solve the problems of water and sanitation in poor countries, including the Philippines. Yet, if international financial institutions like the WB-IFC do admit to a sense of social responsibility in their technical and financial assistance contracts, (not to mention their wholesale neoliberal policy prescriptions) the client governments should at least get value for their money, in terms of meeting expectations that technical and financial models, and business plans that it evaluated and approved should at least work. It is now a big wonder why the MWSS-Maynilad concession is falling apart so soon. Maynilad blames much of its financial difficulties to the “flawed” original contract which did not anticipate the Asian financial crisis which led to unanticipated changes in the foreign exchange rates. (Of course it neglects to mention that Amendment # 1 took care of this in terms of various water rate adjustment mechanisms.)
The question then is what good did the Philippine government get in exchange for the hefty US$6.2 M retainer’s fee and a bonus of US$1 M upon hand-over of the MWSS to the private operators that it paid to the IFC?