Summary
Recently, a contract was concluded in Croatia for the supply of a photovoltaic plant as an availability service. It is a contract under which the contractor delivers the availability of the facility in accordance with the availability standards set by the contracting entity. The contractor is obliged to purchase the plant, install, test, purchase and install finance and maintain a certain number of years (mainly up to 10 years). Life-cycle costing (LCC) was used in the contractor’s procurement process[1]) set out in Articles 287 and 288 of the Treaty on the Functioning of the European Union; of the Public Procurement Act. Since Croatia has not yet developed the practice of using contracts for the supply of the availability of plants, appliances, machinery and equipment, as well as the application of life-cycle costing criteria, this text considers the basic characteristics of the contract itself, the standards of availability, co-financing and the effects of capital assistance on the amount of compensation and the recording of transactions in the accounts of the contracting authority and the contractor.
1. Introduction
Public buyers can procure public investment projects (construction and non-construction – plants, equipment, appliances, etc.) in different ways. Each method has different effects on transparency, durability of quality in the life cycle, price, financial sustainability, availability of public service delivered by the project to citizens, etc. The most commonly used procurement method (or procurement model for public investment projects) by contracting authorities is traditional procurement of works. Under this procurement model, the contracting authority enters into a works contract with the contractor and pays for the delivered works from its own (budgetary) sources or from other sources of mainly debt financing. An important feature of this procurement model is that the contracting authority maintains the construction or installation throughout its life cycle by taking over the predominant part of the overall risks of the construction or installation during its life cycle.
Another model increasingly used by contracting authorities in the developed world is the purchase of the availability service of a building or plant. The difference of this procurement model for public investment projects is that the contracting authority does not only procure works, but also related maintenance. Therefore, in the case of the availability service procurement model, the works and maintenance are inextricably linked. Availability is understood as the obligation of the service provider of availability to keep the building or installation in its available (functional) condition in the contract period, which is usually between 20 and 30 years for buildings and between 5 and 15 years for plants. The contracting authority shall not pay for the works performed but shall periodically, during the contract period, pay for the availability services provided if, during the accounting period (month, quarter, half-year or year), the building or installation was available. In this sense, the service provider of availability, in addition to construction and maintenance, most often assumes the obligations of financing the construction of a public project.
One of the reasons for the more frequent application of the service availability procurement model is the specialization and more efficient organization of the delivery of public services. Indeed, contracting authorities are specialised in the delivery of public services (for example, education, medical treatment, illumination of public spaces, use of renewable energy, security, defence, etc.). Their core business is not to operate buildings or facilities (for example, schools, hospitals, public lighting, renewable energy plants, police and fire brigades, military buildings). They therefore assign the care of buildings and installations to specialised private sector entities which, through contracts for the supply of the availability of buildings or installations, engage in construction, maintenance, financing and, often, management. They will only pay for the use of buildings and installations and only if they are available to them for the delivery of their public services for which they exist.
Recently, for the first time in the Republic of Croatia, a contract was concluded for the supply of the service of availability of a photovoltaic plant. It is a contract between a municipality and a private entrepreneur under which the entrepreneur is obliged to draw up the project documentation of the plant, obtain permits, supply and install a rooftop plant owned by the municipality, purchase and install finance and maintain the plant for an appropriate number of years in a way that produces renewable energy continuously. If the facility is available (functional) in the manner specified by the agreed standards, the municipality will pay an availability fee for the previous month.
Each model of procurement of public investment projects has advantages and disadvantages, and the task of public management is to determine whether the advantages are greater than disadvantages and in such a comparison process choose the one with which the highest probability of achieving value for money can be expected. Table 1 presents the advantages and disadvantages of the public project procurement model as an availability service:
Table 1: Advantages and disadvantages of the availability service procurement model
A great advantage of the application of the availability service procurement model is the achievement of the client's business situation in which the administration activity is focused on the delivery of a public service, and not on the construction or installation itself as a prerequisite for the delivery of a public service. When concluding an availability service contract, the public administration does not spend time and capacity for continuous maintenance of buildings and installations, but exclusively on the quality of the delivered public service and communication with users of the service delivered to citizens by the construction or installation. The construction or installation is carried out by an entrepreneur whose main business is that. The consequence of such a business situation (business model) is the transfer of the predominant part of the risk of a public project to an entrepreneur with the compensation of a premium for transferred risks (availability fee), which is expected to achieve a higher value of public services for the money paid. In addition, if the contract stipulates that the implementation of the project (capital value) is financed by an entrepreneur, then the contracting authority does not borrow or pay the capital value from the budget at the beginning of the implementation of the project, but successively in the contract period, from the operational budget, in the contract period. The data on the capital value of the project and the operating costs, as determined in the public procurement procedure, represent market values and as such are of great value in the preparation of future similar public projects. Databases with market values will contribute to reducing the risk of exceeding the budget of future projects, exceeding the implementation period and increasing the likelihood of achieving the planned effects. As a more experienced entity is involved in the preparation, implementation and use, contracting authorities with insufficient administrative capacity will be able to implement more complex public projects. However, in the near future, it will be of great importance that all the energy produced is from the municipality, which will allow it to form energy communities and freely share the energy produced with other public authorities, citizens and businesses.
However, since the availability contract is long-term, its preparation will be more complex. Also, since the contractor assumes a predominant part of the risk of the project, its preparation of the bid will require the engagement of a competent team that has its financial value. In the preparation process, all operators face several new terms such as: Allocation, risk identification and quantification matrices, availability service standards, life-cycle or total cost of living, payment mechanism, etc. This does not mean that these terms and analyses should not be used in works procurement procedures. Moreover, they should, but contracting authorities do not use them. For the preparation of such contracts, experts who possess the knowledge and skills sufficient to carry out the complete preparation process are needed.
2. Characteristics of the availability contract
The contract for the supply of the availability, in particular the availability of the photovoltaic plant, regulates the relations between the contracting authority (municipality) and the contractor (undertaking). The areas most frequently covered by the contract are: definitions of terms; introductory remarks; the definition of an installation; definition of the availability of installations; the rights and obligations of the parties; availability charge; calculation, payment and adjustment of the availability charge; the duration and modifications of the contract; financing, refinancing and co-financing procedures; termination of the contract; final provisions; attachments and the like.
The preliminary remarks determine the ownership of the property on which the installation is installed, the number of metering points, data on the conducted public procurement procedure, the power of the installation, the right to use renewable energy produced, etc. The concept of installation should be clearly defined in the contract. These are the obligations of preparation of the main project, obtaining electro-energy approval, procurement of plant parts and installation on the roof, maintenance, periodic inspections, obtaining approval for permanent operation, testing and the like. A particularly important part of the contract is the precise definition of the meaning of the concept of availability, i.e. the description of the status of an installation that may be available, partially available and unavailable. In the event of an availability condition, the contracting entity shall pay the availability fee in full. In the event of partial availability, a reduced fee will be paid, while in the event of unavailability, the payment of the fee will be suspended until the facility is restored to availability. The contract should provide for the risks assumed by the contracting parties, which are most often described in the so-called risk allocation matrix.
The defined compensation, given the long-term nature of the contract, is most often adjusted for inflation. The adjustment for inflation is carried out periodically according to the selected index, and the most commonly used is the harmonised index of consumer prices published by the Croatian Bureau of Statistics. A particularly important part of the contract is that relating to termination, the so-called termination clauses. Termination clauses shall set out the grounds on which the parties may terminate the contract related to the consequences of terminating the contract depending on the grounds. Since most often the contractor is obliged to finance the project, it is necessary to specify the obligation of financing and the rights and consequences of refinancing during the term of the contract. It is also important to define here the mechanism, the procedure in case of payment of a grant (capital aid) and the related reduction of the availability fee. The contract ends with a list of annexes, the most common being availability standards, a risk allocation matrix, a life-cycle cost projection, proof of ownership, etc.
3. Availability standards
Establishing trust and transparency in customer-contractor relations is crucial for the operationalization of the availability service, and in this context it is necessary to establish a platform that will enable verification of contract elements and agreed availability indicators. Availability in the solar industry refers to the technical ability of solar systems to produce energy in a given period.
3.1. What are standards?
Availability standards are the basic measure of reliability and efficiency of solar systems. The specifics of sustainable energy sources should also be noted here, which is that, in addition to the availability of the energy production systems themselves, we also have the challenge of the availability of "energy sources". In traditional systems for generating energy (thermal power plants, aggregates, etc.), we can assume that if fuel is provided and available, the system will ensure continuous energy production in accordance with the installed power of the plant. In other words, production interruption occurs mainly due to failures or fuel switching[2] . In the case of sustainable energy sources (RES – solar and wind), this is, in nature, the statistical availability of energy products.[3]. An example of RES availability is shown in Figure 1, where seasonality of supply is clearly visible, both on an annual and daily basis. Therefore, it is essential for availability to have very precise information on energy sources and the establishment of a correlation between the availability of energy products and the energy produced by the installation.
Figure 1: Availability of RES
Another critical component necessary to determine availability is the availability and reliability of the energy network to which the installation is connected. The functioning of the photovoltaic plant must be aligned with the parameters of the energy network defined by HOPS (for large installations) or DSO (for smaller installations). Network parameters are defined by maximum voltages, frequency stability, etc. and, if the installation or network is not harmonised, the safety systems shall shut down the installation until the parameters are brought back into regular ranges. This can be a significant challenge, and can be seen in Table 2, which shows the lost production at one photovoltaic plant on the Croatian Littoral. In this case, the cause of the plant failure was too high network voltage at certain phases (voltage higher than 253 V), which caused the automatic shutdown of the plant.
Table 2: Lost production in the PV plant due to over-voltage of the network
The third key component of plant availability is the quality of the system itself, which consists of a large number of components[4] – each with its own level of reliability.
Scheme 1: Overview of photovoltaic plant system components
The quality of the plant begins with the design, which includes the selection of quality components, optimal installation of solar panels, and ensuring proper cooling and protection from adverse weather conditions. Solar panels, inverters and other parts of solar systems must meet certain quality standards to ensure long-term and reliable operation. One of the quality indicators may be certificates issued by relevant industry associations or international organisations.
Monitoring and control systems play a significant role in ensuring optimal operation of solar plants. Automation and remote monitoring systems enable quick problem identification and remote control of the system. Monitoring the performance of solar systems helps to identify and solve problems that may affect availability. Monitoring standards typically include measurement and analysis of energy production and monitoring of equipment performance. Finally, regular maintenance can have a major impact on the long-term and efficient operation of solar systems. Maintenance standards usually include regular cleaning of solar panels, inspection and testing of equipment, and replacement of parts that have reached the end of their lifespan. It is important to note that standards may vary depending on the region, technology and type of solar system, and availability management often requires an integrated approach that includes technical, operational and management strategies.
3.2. Why are standards the most important part of a contract?
Linking the standard to the contractual obligations of the service provider is essential to ensure that the supplier of the availability service meets certain quality, safety or any other relevant standards specified in the contract. The first step is to clearly define the standards that will apply to the service delivered. These may be industry standards, legislation, international standards or internal standards applied by the organisation. It is necessary to specify what specific requirements standards set and how these requirements will be integrated into the provision of services. For example, there may be a standard that specifies the necessary indicators or reporting obligations to the competent control authorities, some organisations have internal safety standards, for regular equipment maintenance or for staff training. Safety standards are particularly important if contracting authorities are public institutions (kindergartens, schools, hospitals) with specific requirements. Open communication between the customer and the service provider about the standards and their application is essential, i.e. that both contractual partners understand the expectations and obligations.
The operational implementation of standards is usually established through an availability monitoring platform that allows assessment and monitoring. Where standards are subject to changes or updates, it is necessary to ensure the flexibility of the contract and the platform that will allow for adaptation to new versions of the standards. The monitoring process may also include regular audits, performance reports or other evaluation methods. It is good practice to immediately identify the consequences of contractual non-compliance with the set standards. This may include punitive measures (penalties), procedures to correct problems or, in extreme cases, termination of the contract.
3.3. The need to establish a clear and transparent measurement system
Partner trust ensures that reliability measurements are transparent, which includes analysing and monitoring system or process performance to determine how often and to what extent it fulfils its functions without downtime or failures.
The first step in selecting and designing the system is certainly defining and harmonizing expectations between the client and the supplier. In doing so, it is important to understand the technological and financial effects of standardisation on the final price.[5]. Expectations materialise in the form of key performance indicators (KPIs) that allow measurement of reliability, such as downtime or maintenance intervals. In order to determine the KPI correctly and realistically, critical points in the system or key components that have the greatest impact on reliability should be identified, as well as failure scenarios or problems that could affect the reliability of the system.
The next step is to select the appropriate measurement method for each identified critical point or component, and what exactly we monitor (time of operation of the plant before the next failure, analysis of the causes of failures, maintenance monitoring, etc.). The collection of data for the purpose of measuring delivered standards should certainly be automated wherever possible in order to minimise human error and ensure data consistency.
An automated availability monitoring platform allows regular analysis of the collected data and identification of patterns, trends or potential system availability delays. This is done through reliability reports that provide an overview of key KPIs and performance indicators, and compare actual results with set (contracted) reliability targets. If there are discrepancies, the reasons are usually investigated and strategies for improvement are developed. Reliability measurement often requires an integrated approach involving technical, operational and management aspects. Regular monitoring and adjustment of measurement methods is essential to maintain a high reliability of a system or process.
3.4. Platform for Determining the Availability of a Photovoltaic Plant
Reliability measurement of a photovoltaic plant involves the use of various components and devices in order to properly monitor and evaluate the performance of the system. As already emphasized in the introduction to the chapter, the platform must ensure the measurement of a whole range of internal and external parameters, for which specific sensors and measuring equipment are used. Electricity generation, system efficiency and other key indicators shall be monitored by the energy generation and network quality monitoring components. For example, inverters convert direct current (DC) produced by solar panels into alternating current (AC) used in households or connected to the electricity grid. Monitoring the operation of the inverter helps to identify energy conversion problems. Voltage controllers and power monitoring systems ensure the optimal operating point of solar panels, which helps to increase the efficiency of the system. Current meters and sensors monitor the flow of electricity through the system, helping to identify deviations or problems with electricity (voltage or frequency).
The integration of these components enables systematic monitoring and analysis of the performance of photovoltaic plants, helping to maintain a reliable operation and identify potential problems in time. Today, monitoring and management of the photovoltaic plant via remote access is mandatory, which facilitates diagnostics and interventions in case of problems. A block diagram of the system used to monitor the agreed parameters of the installation which is the subject of this Article is shown in Schema 2:
Scheme 2: Structure and interrelationships of the Availability Monitoring System components
Finally, it should be emphasized the importance of algorithms for the analysis of data used to interpret data collected from different sensors and devices and for the identification of samples or anomalies that may indicate the unavailability of the plant.
4. Application of life-cycle costing (LCC) criteria
The provisions of Articles 287 and 288 of the Treaty on the Functioning of the European Union (TFEU) provide: The Public Procurement Act gives contracting authorities the possibility to assess the eligibility of tenders submitted by economic operators on the basis of information on life-cycle costs. This is useful information because the costs of a public investment project are determined not only by its capital value but also by various costs over a long period of use. When the client purchases the works, he maintains the building or plant and pays the maintenance costs. When purchasing a building or installation as an availability service, it does not maintain the building or installation but pays an availability fee which includes the purchase value, maintenance, financing and other costs depending on the contract and risk allocation.
It follows from the nature of the life-cycle costing criterion that it is not logical to apply it in cases of procurement of works other than for information purposes, since the risks and obligations arising from the declared in-service costs are assumed not by the tenderer but by the contracting authority. It is therefore logical that this criterion will be used mainly when applying the availability procurement model, in which case the tenderer assumes the obligations and risks for the costs declared. If the actual costs are lower than projected, the bidder will make a profit, and if they are higher than projected, the bidder will make a loss or lower profit than the one he planned when submitting the bid. This mechanism is also the basis of the meaning of economic ownership that is on the side of the contractor in the availability service procurement contract.
Life-cycle costing is usually an integral part of the most economically advantageous tender. In the procurement documents, the contracting authority shall oblige interested economic operators to indicate, for that purpose, in a given table, the values of the costs and risks which they assume and for which they will charge, inter alia, an availability charge during the contract period. The costs so indicated shall be reduced to their present value in accordance with a single discount rate published by the contracting authority in the procurement documents. On the example of life-cycle costs in Table 3, their present value at a discount rate of 5% it amounts to €269.213 per year and this value will be assessed.
5. Co-financing and impact of capital assistance in case of acquisition of an availability service
The procedure for co-financing or awarding capital assistance in procedures for the procurement of works is generally clear to contracting authorities. The procedure usually comes down to the pre-financing of works and the payment of capital aid upon completion of works. The amount of pre-financing is often used to settle the remaining principal of the pre-financing amount.
However, in the case of availability contracting, the procedure is somewhat different. Two variants are possible. In the first variant, the contracting authority publishes the amount of capital assistance and the method and time of payment, as a result of which tenderers offer their offer of availability allowances, including in the calculations the payment of capital assistance. The second variant will be implemented in cases where contracting authorities do not know the amount of capital assistance at the time of publication of the procurement, but count on a high probability of granting capital assistance. The second method procedure consists of the following processes: (i) the projection of the total costs in the contract period (tender of the winning bidder), (ii) the calculation of the financial rate of return of the FRR(C) project based on the availability fee and costs offered in the contract period, (iii) the calculation of the increased rate of return of the FRR(C) project after the simulation of the capital assistance disbursement, (iv) the calculation of the reduced fee in the period after the capital assistance disbursement. These steps will be illustrated by calculations:
(i) The successful tenderer submitted a projection of its costs during the contract period
In the procurement procedure, economic operators attach a table with a projection of the expected construction and maintenance costs. The data in this table provide the basis for applying LCC as one of the most economically advantageous tender (MEAT) criteria:
Table 3: Projection of costs in the contract period
(ii) Calculation of the financial rate of return of the FRR(C) offer
The procuring entity shall include in the cost projection table, which is an integral part of the contract, the contracted fee projection resulting in the calculation of the financial rate of return of the FRR(C) project bid:
Table 4: Calculation of the FRR(C) offer
The successful tenderer offered a monthly availability fee of EUR 4,655. When this remuneration (the bidder’s revenues) is included in the projection, it results that the financial rate of return of the FRR(C) project is 7.22.% annually.
(iii) Calculation of the impact of the disbursement of capital assistance (increase in the financial rate of return of the project)
The payment of capital assistance, in addition to the projected operating costs and the agreed availability fee, represents additional, extra income for the contractor. This means that its financial rate of return for the project will increase. In the case of the example and with the capital assistance of 100,000 euros paid in January of year 3, FRR(C) will increase from the nominal value of 7.22% 29.96% yearly as shown in Table 5:
Table 5: Increase in FRR(C) due to disbursement of capital assistance
In principle, capital assistance is granted to the client in order to achieve the financial sustainability of the project or affordability in the implementation of a public investment project. Therefore, capital assistance should act neutrally on the enforcer. All benefits of capital assistance are allocated to the client and this principle should be maintained when contracting the availability service.
(iv) Calculation of the reduced compensation for the period after the capital assistance has been paid
Once the capital assistance has been disbursed, a new (reduced) value of the availability allowance should be established. The criterion of equalization of FRR(C) of the contractor to the value before the payment of the grant will be used, and in the case from the example this value is 7.22% annually. Thus, the availability fee for the period between the disbursement of the capital assistance and the end of the contract should have the value with which the contractor will achieve a project return rate of 7.22.%:
Table 6: Calculation of the new availability allowance due to the disbursement of capital assistance
In the period from February 3rd year until the end of the contract, the monthly availability fee will be reduced from EUR 4,655 per month to EUR 2,534 per month. With the new availability fee and capital assistance paid, the contractor will achieve a FRR(C) of 7.22 by the end of the contract.% annually.
6. Registration of the transaction on the accounts of the client and the contractor
One of the specificities of the transaction that is the subject of this text is the separation of the so-called legal and economic ownership. The legal owner is the one who is registered in the ownership documents while the economic owner of the project is the one who exploits the property and gains benefits and bears the risks of the business. The question arises as to how to record such transactions in the accounts of the contracting parties. The source for the records is ESA 2010, paragraphs 20.287 and 20.288[6]. If the transaction separates ownership into legal and economic ownership, then the assets and liabilities will be gradually established (recorded) in the accounts of the contracting parties with the aim that at the end of the contract the contracting authority becomes both legal and economic owner. Recommendations from ESA 2010 are adapted to Croatian regulations in the area of budget and budgetary accounting. Entries in the accounts of the contracting parties are possible as shown in schemas 3 and 4. By way of illustration, the capital value of the assets is assumed to be EUR 1,000, the annual availability fee to be EUR 130, the annual depreciation of EUR 100 and the market value of the plant at the end of the contract to be EUR 600.
Scheme 3: Recording of the transaction in the contractor’s accounts
The contractor is obliged to obtain the necessary sources of financing for the purpose of settling the capital value of the project (1). During the exploitation of the project (use period), the contractor successively delivers an invoice to the client for the service of plant availability provided (2). The executor calculates the depreciation of the investment on someone else's property (3) and closes the receivables from the collected account (4).
Scheme 4: Recording of the transaction in the client's accounts
The contracting entity, being the legal owner of the plant, records the plant off-balance sheet at capital value[7] (1). During the term of the contract, off-balance sheet items will decrease by 1/10 of the purchase value of the plant each year (1a1, 1a2,...1a10). From the current (operational) budget, it records successively, as it receives a periodic invoice for the availability service obtained, on expenditures and liabilities (2). Payment of invoices closes obligations (3). Upon maturity of the contract at market (estimated) value, the plant will be recorded in the accounts of non-financial assets and social capital (4).
7. Concluding observations
Procurement of the service of availability of facilities, devices or equipment to contracting authorities could be an acceptable procurement model because there is a high probability of achieving better value for money, procurement does not have to be recorded in the public debt, there are generally no initial payments and administrative supervision and records are significantly simplified during the contract period. This should be complemented by the benefit for those contracting entities that do not have the administrative capacity to acquire more complex facilities, devices or equipment.
This text presents the possibilities of applying life-cycle costing (LCC) criteria, the procedure of co-financing capital assistance contracts and the procedure of recording transactions in the accounts of clients and contractors.
Authors:
- Prof.dr.sc. Davor Vasiček, University of Rijeka, Faculty of Economics and Business. davor.vasicek@uniri.hr.
- dr.sc. Damir Juričić, University of Rijeka, Support Center for Smart and Sustainable Cities. damir.juricic@uniri.hr.
- M.Sc. Damir Medved, University of Rijeka, Support Center for Smart and Sustainable Cities.damir.medved@uniri.hr.
[1] Eng. Life Cycle Costs.
[2] An interesting example is the Krško nuclear power plant, which has refuelling cycles every 18 months – most of the time it operates at practically nominal power.
[3] Source: https://www.nature.com/articles/s41467-021-26355-z
[4]Source: https://www.researchgate.net/publication/331968857_Reliability_Availability_and_Maintainability_Analysis_for_Grid-Connected_Solar_Photovoltaic_Systems_Accepted_for_publication_in_energies_Mar_22_2019 (11.11.2023.)
[5] For example, if you want to achieve more than 99.99% availability of the system during the year may require the installation of additional redundant systems and a repeated increase in the cost of the lined up (is such functionality really needed?)
[6] https://ec.europa.eu/eurostat/documents/3859598/5925693/KS-02-13-269-EN.PDF/44cd9d01-bc64-40e5-bd40-d17df0c69334 (8.11.2023.)
[7] In the procurement procedure, each tenderer shall report the capital value of the installation in the life cycle cost projection table.
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