Tuesday, September 27, 2016

Efficiency and integrity in public procurement in Nepal

This piece is adapted from the issue focus section of Macroeconomic Update Nepal, Vol.4, No.2, published by Asian Development Bank, Nepal Resident Mission.

I. Introduction

Many medium to large-scale development projects in Nepal are plagued by implementation delays and cost overruns. At the core of such recurrent hurdles is inefficient public procurement, contributed by a range of factors such as legal and policy complications, lack of required human resources to manage contracts, political intervention at management and operational levels, weak leadership by project directors and their high turnover, and prolonged delays by oversight and judicial agencies to clear contentious procurement. Consequently, project implementation is slow with cost and time overruns, quality of infrastructure construction is not up to the taxpayers’ expectation, and disbursement is slow and below target. These all result in low capital expenditure, insufficient jobs creation, and sluggish economic growth.

Efficiency and integrity in public procurement (of goods, works and services) enhance value for money and accelerate project implementation, which in turn stimulates private sector activities and innovations. Furthermore, if done in the right way and on time to maximize the value for taxpayers’ money, public procurement could be used as a strategic policy tool to address the myriad of economic, social and environmental challenges faced by the country.[1] Hence, efficiency and integrity in public procurement—equivalent to around 12% of GDP[2]— is vital to not only accelerate project implementation, but also to achieve medium-term goal of graduation from LDC category and long-term goal to be a middle income country by 2030, which also is the target date to achieve the Sustainable Development Goals (SGDs).

Public procurement is done when taxpayers’ money and/or grants and loans funded by development partners are used to finance public goods and services, including building of roads, airports, dry ports, hydroelectricity, irrigation canals, drinking water facilities, school and hospital buildings, and consultancy/advisory services. Unscrupulous procurement practices (resulting in wasteful capital spending in the last quarter of fiscal year) tends to increase recurrent spending in the next several years, since the sub-standard fixed assets need to be maintained more frequently. Furthermore, implementation delays unnecessarily prolong the project construction and completion, which ultimately is a drain of public funds. Hence, if done in the right way, efficient public procurement, which makes spending effective and has the potential to yield substantive savings (on whole-of-life cost basis),[3] contributes significantly to create the foundation for economic growth to take off on a high and sustainable path.

II. Key Highlights of the Amended PPA 2016

The recently amended Public Procurement Act (PPA) 2016, which has come about after prolonged revisions and delays, dictates public procurement in Nepal. In line with the amended PPA, procurement policy, operating guidelines and necessary administrative changes (including capacity enhancement) need to be rolled out to effectively implement it. The amended PPA includes procurement methods such as lump sum, catalogue shopping, limited tendering and buy back method (which is a new addition to the methods of procurement).

Preparation and approval of estimates: Cost estimate is not required, except works, for procurement up to NRs100,000. Regarding the approval of estimates, the officials involved in the design or estimation, checking or approval and the consultant involved, shall be responsible and subjected to legal action if the revised estimate is more than 25% of the initial estimate or due to defective design or abnormal estimation. In the previous version of the PPA, cost estimate was not required for procurement of up to NRs25,000.

Qualification of bidder or proposer: No qualification requirements is prescribed for the procurement of a construction work with cost estimate less than NRs 20 million  unless the procuring entity has decided that the work requires qualification criteria. In the previous version of the PPA, no qualification requirements were needed for the procurement of a construction work with cost estimate less than NRs 6 million.

Invitation to bid: A re-invitation with reduced submission period may be given if no bids/ proposals are submitted within the stipulated time or all the submitted bids/ proposals are non-responsive. The period shall be at least 15 days for national competitive  bidding and at least 21 days for international competitive bidding. However, in case no bids/ proposals are submitted during re-invitation period or all of the submitted bids/ proposals are non-responsive and there will be loss to the procuring entity (or some activity of the PE will be affected), then the procuring entity may re-invite the bid by giving at least seven day notice for national bidding. Else, it could procure following the methods specified under Section 8, with approval from one level higher authority. Furthermore, works within the prescribed estimate amount under national competitive bidding may be procured competitively only from domestic bidders. In the previous version of the PPA, in the case of procurement of construction work, preference was given according to the sub-section (1) of section 12 of the Construction Entrepreneur Act, 1958.

Withdrawal or modification of bid: A bidder has to make a sealed application 24 hours prior to the deadline for submission if it intends to modify or withdraw its bid unless the bid is submitted through electronic submission. In the previous version of the PPA, a bidder may, prior to expiry of the deadline for the submission of bids, make a sealed application for modification to or withdrawal of bid that a bidder has once submitted.

Acceptance of bid and procurement contract: A performance security of 5% is levied if the bid price is up to 15% below the estimate. An additional performance security equivalent to half the difference between the bid price and the amount that is 15% below the estimate is needed if the bid price is lower than 15% of the estimate.

Provision of advance: The procuring entity, after the agreement, may provide advance of up to 20% of the contract amount by getting a bank guarantee to the supplier, construction entrepreneur or service provider. Initially half of the advance is provided, and the other half is given based on the utilization of the initial advance. Moreover, except under the provision of Section 10(5), the payment for advance is made to a specially opened account for the contract. The contract may be terminated if the contractor misuses the advance payment.

Variation order: The variation of up to 5% may be done by gazette II class officer, up to 10% by Gazetted I class officer, up to 15% by department chief, between 15% and 25% by Secretary, and 25% and above by the Council of Ministers. However, for the procurement of amount less than NRs6 million, the department chief may approve the variation order in excess of 15%. In the previous version of the PPA, a variation order above  15%  was issued as per the decision by the Council of Ministers.

Price adjustment in procurement contract: Unless otherwise provided in the procurement contract, if price needs to be adjusted in the course of implementation of a procurement contract having duration exceeding 12 months, then the competent authority may adjust the price. In the previous version of the PPA, the duration period was 15 months. 

Mechanism for dispute settlement: Contract agreement will include provision of dispute settlement through prevailing law on arbitration if the dispute cannot be settled amicably.

Termination of contract and remedy: The procuring entity may terminate procurement contract if the supplier, consultant, service provider or construction entrepreneur does not perform as per contract, or its conduct is not as specified in section 62(2) or it misuses the advance payment. If the contract is terminated because the contractor did not start, abandoned or did not attain progress as per the agreement, the procuring entity may terminate the contract anytime. If the contract is terminated as per section 59(7), the full amount of performance security shall be forfeited. Any additional amount to complete the remaining work shall be recovered as amount due to the government. The remaining work after the termination of contract may be completed by inviting financial proposal from the remaining bidders selected under section 25 by giving 15 day notice. Meanwhile, the approval of one level higher authority is required prior to requesting for financial proposal as per section 59(9). In the previous version of the PPA, the procuring entity could terminate procurement contract if the supplier, consultant, service provider or construction entrepreneur did not perform as per the contract.

Blacklisting: If a bidder selected pursuant to section 27 or a consultant selected pursuant to section 38 does not come to sign the contract, then it may be blacklisted.

Hindrance of procurement process: The authority authorized to investigate is required to request any document from the procuring entity with due consideration to not hinder the procurement process as far as possible.

III. Implications for Public Procurement Management

The PPA has been amended after an iteration of discussion with a range of stakeholders. Overall, the added or amended provisions are in the right direction. For instance, the onus of timely and quality procurement is placed on the chief of the procuring entity (department, division or section of a project or program), including the completion of the task within the stipulated time. Additionally, in order to make procurement official more accountable, a provision on non-compliance is added. Specifically, the amended PPA has included a provision that  “Ensuring completion within the set time by conducting regular supervision, monitoring, and quality control measures to implement or to cause to implement the procurement agreement made under this act, will be the responsibility of the chief of the concerned public entity.” This opens up the possibility of prosecution of underperformers.

The other positive aspects of the amended PPA are that e-bidding is now explicitly mentioned and six additional direct procurement methods are added, facilitating the procurement by public enterprises. These include: (i) procurement of goods and services between two public entities; (ii) public entities/enterprises doing business by competing with private sector; (iii) procuring aviation, aircraft and associated equipment; (iv) procuring goods and services on rates fixed by international organizations; (v) procuring goods and services for organizing programs and promotional activities outside the country; and (vi) procuring goods and services by diplomatic mission.

Another important amendment is the provisions to facilitate fast decision-making on matters related to cost variation. For instance, department heads can approve variation of up to 15%, between 15% and 25% by the concerned Secretary, and on and above 25% by the Cabinet. Although an additional layer of committee is added in this process, the overall amendment will likely speed up review and approval of variation, which is one of the most contentious issues in public procurement and has been delaying project implementation. A related positive amendment concerns the shortening of price adjustment applicable for contracts exceeding 12 months instead of 15 months in the previous version of the PPA. This price adjustment is applicable to the contract procured under the multi-year contract that is tendered.

On the institutional side, regulatory function of PPMO has been strengthened to include additional functions to (i) issue necessary manuals; work procedures; and technical notes required for procurement methods such as turnkey, EPC, schedule rate contract, and management contracts, etc.; (ii) review and cause to review after procurement, (iii) develop roaster of contractors, consultants, suppliers, and  service providers regarding their procurement qualification and experience, (iv) issue electronic procurement guidelines, (v)  certify/ accredit procurement experts, and (vi) forward case to competent authority for necessary action if the procurement carried out by the public entity is found to be contradicting with the PPA, its rules, work procedure, or guidelines. PPMO has been entrusted sole responsibility to maintain a national e-GP system and the PPA has provisioned that the method of submitting the bids through e-bidding shall be in accordance with the procedure approved by PPMO. Public entity may adopt only electronic- procurement procedure partially or completely in public procurement. In other words, public entity, based on the capacity, may phase out the paper based submission to obtain full benefit of the e-GP system.

Furthermore, the amended PPA has explicitly mentioned that the procurement process will not apply to the following methods and a separate working procedure to procure goods, services and works may be issued: (i) design and build; (ii) turn key/EPC; (iii) design, build and operate; (iv) public private partnership/build operate and transfer; (v) framework agreement; (vi) cost replacement; (vii) management agreement; (viii) exchange; (ix) installments; (x) buy on lease; (xi) buying land properties; and (xii) operation and maintenance or management procurement based on performance. These are an improvement because the previous version of the PPA was silent on these methods and had created confusion especially on the procurement related issues for public private partnership projects.

Remaining Gaps. While these amendments are expected to make procurement timely and efficient, thus helping to accelerate project implementation, a number of shortcomings also appear in the amended PPA. These need to be gradually addressed over time as it may slowdown the speed of project implementation.

The additional penalty (forfeiture of bid security and other financial penalties to the bidder) imposed in case the contract is not signed is impractical as merely putting a stringent provision may not help to get a good contractor. There is a need for concurrently improving the quality of selection. Specifically, any deficiencies of the bids (such as serious errors in a price bid) that may oblige the bidder to withdraw later, need to be detected and such bid be duly rejected. Similarly, reduced rebidding time, in case the first round of bidding fails, does not necessarily provide fare treatment to new bidders or lead to the most efficient selection of a contractor.

The amended PPA also provided clearer provision of dealing with the low bids, by specifying the level of additional performance guarantees. While this can provide clarity to deal with such circumstances, the issue of low price bidding needs to be dealt with by strengthening the technical evaluation, thereby effectively rejecting the insufficiently experienced and skilled bidders, which is one of the causes of the low price bidding. On this account, within the context of PPR amendment, PPMO is considering the introduction of one-stage two envelope (1S2E) selection process, in which technical and financial evaluation is separately undertaken. Likewise, there is a need for strengthening the disciplines of contract management for higher compliance with cost, time, and quality in executing the works after contract signing.     

The earlier draft PPA had included a provision of additional advance without bank guarantee, which could be used for the additional deployment of construction materials and equipment. The provision was entirely removed from the final PPA. This could have provided a basis for meeting such requirements, with specification of how the paid amount was to be guaranteed (through material valuation or bank guarantee).

Furthermore, the increase in threshold of works contract/tender without requiring bidders’ qualifications up to NRs 20 million (current threshold is NRs 6 million) may foster malpractice in the construction industry. First, entry of insufficiently experienced and skilled contractors can undermine the timeliness, quality, and cost of the works. Second, contractors may prefer to register a new firm every time they bid for a new contract whenever the firm’s past performance record was poor. This has the potential to undermine capacity development of the construction industry. Third, the absence of qualification for such contracts may result in irregular practices with political pressures.  Such system may best be introduced after establishment of sound registration and performance recording system of the contractors.

The threshold applied to international bidders may violate WTO as well as procurement procedures of multilateral development banks (MDBs). Country system needs to be harmonized to MDBs procurement standard. This provision will restrict participation of international bidders in domestic market and may open up avenues for political pressure to frequently change the thresholds, which will lead to unpredictable procurement environment in the country.[4] Similarly, the provision to allow withdrawal of bid only before 24 hours of the deadline is impracticable. Bidders should be allowed to withdraw their bids at any point in time before the bid submission deadline.

IV. Way forward

Almost all of capital spending and some capital formation related components of recurrent spending (such as use of grant to local bodies to build local infrastructure, operation and maintenance, etc.) are subjected to public procurement in Nepal, which together amount to 12% of GDP. Efficiency and integrity in procurement for goods, services and works is vital to accelerate project implementation and enhance the quality of spending, which eventually leads to higher, sustainable and employment-centric inclusive economic growth. This in turn is essential to graduate from LDC category by 2022, and to become a middle income country by 2030 along with the achievement of the SDGs.

Public procurement is governed by the recently amended PPA 2016. While the amendments or addition of new provision are expected to lead to timely and efficient procurement, a number of shortcomings need to be gradually addressed over time. Additionally, timely implementation of the amended PPA by rolling out updated policy, regulations, operational guidelines and manuals, and institutional setup is equally important. For instance, fully rolling out e-bidding system is urgently required, given that the present system still requires that original bid security must be submitted on paper, which undermines the effectiveness of e-submission of bids.  This will help to make public procurement efficient, transparent and rules based. Similarly, the evaluation bids should be completed within the stipulated timeframe and payment of contract processed on time.

The government needs to ensure that transaction costs are not prohibitively high, which is a natural barrier for the participation of small and medium contractors, whose capacity needs to be enhanced. E-procurement, which creates a marketplace characterized by equal access and competition under a transparent framework, needs mainstreaming along with the capacity enhancement of implementing agencies, contractors, and other stakeholders. It lowers the likelihood of rent-seeking opportunities as it minimizes in-person contacts before bid submission and during bid evaluation. A rigged tendering process in the absence of e-procurement stifles competition, leading to lower quality of goods, works or services at higher cost.

The executing and implementing agencies need to boost their capacity on technical and administrative matters related to efficient procurement, including clarity about the scope and nature of work, contract management methodology, and the associated financial aspects of procurement design and processing. A lack of professionalism remains one of the major weaknesses. Public procurement is a specialized profession requiring effective integration of technical, financial, and legal requirements in its process of preparation, contractor selection, and execution. Competent human resources required for its efficient execution are critical. It essentially is a strategic policy lever/function of the government as opposed to mundane administrative service.

A careful procurement planning and effective performance monitoring yield value for taxpayers’ money used for public procurement. This is equally important throughout the procurement life cycle: preparation of bids, submission and evaluation of bids, awarding contracts and executing contracts with sound contract management, which is another critical subject for efficient execution of infrastructure investments in Nepal while duly controlling time, cost, and quality. (See Box 4.) Exception to the rule (bypassing the amended PPA) and breaching threshold procurement should be minimized in order to maximize the utility of taxpayer’s money and to leverage the bulk purchasing power of the government.
[1] OECD. 2016. Public Procurement for Sustainable and Inclusive Growth. Paris.
[2] Average of capital spending, grant/transfer to local bodies and use of goods and services over the last five years.
[3] It refers to (potential) cost savings throughout the lifetime of the projects despite the short-term cost being relatively higher. Exclusive focus on short-term savings, for instance awarding contract to those bidding under a reasonable cost estimate (in other words, below threshold procurement) and those with weak contract management, priority may lead to cost overruns and higher recurrent costs in the subsequent years. A combination of low cost and quality consideration in awarding contracts could result in long-term cost savings.
[4] For example, the proposed PPR amendment has provision that procurement of cost estimate from NRs 20 million ($200,000 equivalent) to NRs1 billion ($10 million equivalent), bidding may be among domestic contractors only.