Establishing Due Economic Advantage

For many years public procurement and state aid have been used by certain businessmen to get undue economic advantages. With the new parliamentary coalition, these issues are top priorities of pending reforms in the country. The EU — Ukraine Association agreement is an anchor for these changes. This month our expert panel discusses recent initiatives, application of best practices and expectations of primary changes.

 

To what extent does the recent On Public Procurement Act of Ukraine of 10 April 2014, No 1197-VII meet European standards? What are the main advantages of the new legislation?

Oleksandr Voznyuk, counsel, Asters

First of all, to ensure compliance of the On Public Procurement Act with EU requirements, one should not lock the focus on the textual approximation to EU regulation. Rather, the Act should duly reflect national factors, such as the specifics of legal, social and cultural realities of Ukraine as compared to the ones in the EU and should offset all the substantial differences which, unfortunately, is not the case.

Secondly, certain provisions of the Act are contrary to the ideas of EU directives on transparency and coherence of procurement procedures. Unlike Directive 2004/18/EC where the criteria for qualitative selection are clearly grouped by category (e.g. technical and/or professional ability, quality assurance standards) and described in detail, including the list of documents that should be furnished, the Act does not specify what supportive documents are required. This gives procuring entities a high degree of discretion and enables the establishing of qualification criteria in a way that would prevent participation of certain potential bidders. Furthermore, the smallest or formal inconsistency of documents with qualification requirements, such as failure to comply with an established form of some charts, may in practice serve as grounds for rejection of the tender offer.

As a result of such shortcomings, the Act does not fulfill its function and, unfortunately, even following its implementation, we fail to see any social benefit from the Act which can be seen in the EU, where tender prices may be 30-70% lower than regular prices.

 

How do you assess the initiative to introduce e-tenders to the public procurement system in Ukraine? How would it affect the area?

Igor Svitlyk, associate, Arzinger

It is currently unclear what the shape of electronic procurement system will be in Ukraine. The latest signals from the Presidential Administration indicate that Georgian expertise is planned for use as a basis. However, such an approach may lack consistency, considering upcoming approximation of Ukrainian and EU legislation. Unfortunately, there are still no draft acts shedding some light on this issue.

A certain framework may be established by the latest draft regulation developed by Ministry of Economic Development and Trade of Ukraine. If adopted, it will regulate the use of electronic means in public procurement. However, the document doesn’t provide answers to all the questions and contains rather general provisions than efficient instruments.

Surely, introducing an electronic procurement system will, to a certain extent, reduce corruption in this field. However, there are other major problems the state should deal with — tender documentation written to fit specific bidder, rejection of bids on formal grounds, uncontrolled inspections by the law enforcement authorities to name but a few. Thus, only  systematic approach in tackling problematic issues will bring us closer to transparent and efficient public procurement.

 

What successful experience of monitoring and conducting tenders by major private companies could be recommended to state-owned companies?

Nazar Chernyavsky, partner, Sayenko Kharenko

In all developed states public procurement is quite heavily regulated by law. The reason for this is that any distortion in the public procurement process can significantly affect competition in the market, given that the state is often the largest customer in the respective market.

At the same time, few people would argue that private companies are usually more competitive than state-owned ones, which could mean that the former use more efficient procedures in their operation. The question is, however, to what extent can such private procedures be used in the state sector?

If we retain transparency and competition in the centre of any proposed solution, one of the evident steps would be to replicate modern IT solutions used by private companies for their tenders: the ones which allow everyone at any time to see the ongoing tenders and submit their bids online through an easy process. This would greatly reduce the risk of certain tenders “being lost” in some low profile printed media and eliminate the technical barriers for submitting the bids (e.g. bureaucratic rules on binding and stitching the proposal in a particular fashion, handing it in a specific room at a specific time, lack of predefined forms which leaves room for excessive discretion during evaluation of bids).

Nevertheless, the first step which has to be taken by our legislator is to bring Ukrainian procurement procedures into line with EU rules (i.e. Directive 2004/18/EC), which have already proved themselves to be much better than existing rules in Ukraine. Following that, our rules could be improved further by using best private practices.

What changes with respect to subsidies in various sectors of Ukraine’s economy should be expected in the near future as the EU — Ukraine Association Agreement is enacted?

Tetiana Gryn, senior associate, Asters

According to Note Verbale, SGS14/12029, Ukraine and the General Secretariat of the Council of Europe have agreed to apply certain parts of the EU-Ukraine Association Agreement as of 1 November 2014, which, inter alia, include Title V of the EU-Ukraine Association Agreement (the Agreement), related to economic and sectoral cooperation.

According to the Agreement, Ukraine should undertake to implement reforms in various sectors of the economy, particularly in the energy sector. Regulatory cooperation, under the Agreement, should include measures to protect Ukrainian customers from unfair sales practices in the energy sector, and access to affordable energy for consumers, including for the most vulnerable citizens. As we see, Ukraine is starting to implement reforms, including protection measures for customers. This should mean that targeted budget subsidies to customers, especially vulnerable citizens, should significantly increase.

On a separate note, Ukraine should establish an effective mechanism to address a potential energy crisis. We can expect that Ukraine should start modernization and enhancement of existing energy infrastructures and progressive integration of the Ukrainian electricity network into the European electricity network.

We may outline that Asters, as a legal advisor, already participates in several projects which contemplate cooperation with the EU on the import of electricity and natural gas as well as export of electricity to the EU. In this regard, we may outline that new procedures related to the import of energy resources (e.g. tenders on import licenses) are on the timetable of the Ukrainian government.

Certain reforms should be implemented in the mining extraction sector, in particular, sectoral budget subsidies in the coal mining industry should be decreased and the saved funds should be redirected to developing plants and enterprises in the coal extraction and peat extraction sectors. The main aim should be to bring the coal mining sector of Ukraine to a non-loss level within the next 4-5 years.

Furthermore, Ukraine assumes obligations on progress towards an attractive and stable investment climate by addressing institutional, legal, fiscal, tax and other conditions. Ukraine, inter alia, undertakes to gradually approximate its tax legislation to EU legislation, namely: Council Directive 2006/112/EC, related to VAT system, within 5 years, Council Directive 92/83/EEC related to excise duties within 5 years, restructuring of the tax system for energy products and electricity within 5 years, etc.

According to Igor Bilous, the head of the State Fiscal Service, tax benefits should be abolished in certain sectors of the economy, in particular: energy sector, by implementing energy saving projects; water and heating supply; shipbuilding and aircraft manufacturing, etc. Instead, tax benefits should be applied to oil and gas extraction, machine-building in the agro sector. All these measures should accelerate the economy’s restructuring and expedite reforms in Ukraine in line with EU legislation, whose reforms should approximate Ukraine to EU standards.

What are the tax benefits for agricultural producers? What is your opinion of their changes in the future?

Hennadiy Voytsitskyi, partner, Kiev office of Baker & McKenzie

As an initial comment, the total arable land bank of Ukraine is about 32.5 million hectares, making it the largest one in Europe. The agricultural sector is naturally destined to play a leading role in the Ukrainian economy.
1. The Ukrainian government has historically favored this sector with special treatment, including through various sectoral tax incentives. The range of benefits is quite wide, from special Fixed Agricultural Tax (FAT) regime, special “subsidy“ VAT regime to Corporate Income Tax (CIT) deductions for Land Tax if not the full Land Tax exemption for newly-created farming businesses.
2. On the one hand, the privileged tax regime is warranted from the economic point of view as the agrarian sector is one of a few up for fierce competition on the European market and beyond. At the same time, tax incentives should, by definition, serve as a stimulus for further growth, innovation and efficiency of business, while in reality the main benefits are reaped by a few of the largest agro groups. Such a situation distorts public finances and results in unjustified losses for public finances with margins being largely siphoned out of the country.
3. The reform of the tax regime for the agricultural sector is long overdue. The recently signed Coalition Agreement pledges to implement a new system of taxation for agribusiness starting from 1 January 2018, which means that the existing one would remain intact for another three years.